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Accounting Firm Caused Custody Rule Violations

The SEC censured and fined an accounting firm and its engagement partner for improper audits that caused the client to violate the Advisers Act’s custody rule (206(4)-2).  The SEC maintains that the audits failed the independence requirements because the accounting firm prepared the work papers that it audited.  The SEC also asserts that the firm delivered an unmodified audit opinion despite knowing about related party transactions.  The SEC also charges the firm with failing to meet professional auditing standards because the audit team had limited experience, knowledge and training in SEC requirements.  The SEC previously charged the audit firm’s asset management client.  

Only retain service providers that have specialized knowledge and experience in asset management.  You wouldn’t hire a family physician to perform surgery, so why would you hire a general practice accounting firm to conduct specialized regulatory audits?  The same rationale applies to your lawyers, administrators, and compliance consultants. 

Accounting Firm Followed the Wrong Independence Standards

 An accounting firm was fined and barred from any engagement arising from an SEC rule because it violated independence rules by auditing funds and firms for which it also prepared financial statements.  The SEC charges that the accounting firm prepared financials including preparing draft statements for management review, converting from cash to GAAP accounting, proposing accounting adjustments, and drafting notes.  Regulation S-X prohibits a firm that provides bookkeeping or other accounting services from auditing the same financial statements.  According to the SEC, the firm wrongly applied AICPA independence rules rather than Regulation S-X, which applies to private fund and broker-dealer audits.  The SEC charges the firm with causing its clients violations of the securities laws.

OUR TAKE: Performing audits of registered advisers, broker-dealer, or public companies involves a thorough understanding of the applicable securities laws and accounting standards.  Accounting firms should not undertake engagements without retaining a compli-pro that can help navigate the regulatory waters.  Advisers and broker-dealers should not retain a firm that lacks a track record of practicing in this area.

SEC Sues Audit Engagement Partner for Ignoring Client Misconduct

calculator-smashed

The SEC has instituted enforcement proceedings against an audit firm engagement partner for failing to follow professional standards, thereby allowing a venture fund manager to loot the fund by taking unearned management fees.  The SEC alleges that the venture fund manager, in order to meet cash needs for affiliates, advanced unearned management fees in amounts that would never be earned.  The SEC charges that the respondent and the audit team knew about the unearned fees but failed to fully investigate the payments and further failed to properly disclose the payments in the financial statements.  Instead, the audit firm issued unqualified opinions over a 4-year period.  The SEC also asserts that the audit partner removed relevant financial statement disclosure when management objected.

OUR TAKE: As a key securities market gatekeeper, the auditor performs a critical control function upon which investors rely.  The SEC will hold audit firms and their senior personnel accountable when clients engage in observable unlawful behavior.  The same rationale will apply to other gatekeepers including administrators, lawyers, and consultants.

http://www.sec.gov/litigation/admin/2016/34-79193.pdf