E&Y to Pay £1.3m Penalty for Audit Failure

Thursday, February 9, 2012 Print Email

Ernst & Young have been ordered to pay £1.3m ($2m) to settle charges following a disciplinary over three audits of a US company, Medicis Pharmaceutical Corporation.

The order follows a consultation, stemming from an internal audit quality review, conducted by the firm.

The matter came to light following an inspection by the PCAOB in 2008, during which E&Y’s acceptance of its client’s accounting for its sales returns reserve was questioned. The audit firm was found to have failed to properly evaluate the company’s sales returns reserve figures in the 2005, 2006 and 2007 financial statements.

The board also found that during the audit periods in question, E&Y and its responsible partners failed to comply with PCAOB standards in evaluating Medicis's practice of reserving for most of its estimated product returns at the cost of replacing the product, instead of at gross sales price.

In addition, partners at E&Y were found to have violated PCAOB standards by accepting the company's basis for reserving at replacement cost when the auditors knew, or should have known, that it was not supported by the audit evidence.

During an internal audit quality review two months later, of the audit for financial year ended 31 December 2005, E&Y personnel - not associated with the audit - identified the rationale as conflicting with both GAAP and E&Y's internal accounting guidance that specifically addressed revenue recognition for sales with rights of return. But instead of appropriately addressing this material departure from GAAP, E&Y and its personnel wrongly decided, in an internal consultation, that another flawed accounting rationale supported the company's existing practice of reserving for most of its product returns at replacement cost.

The PCAOB also found that E&Y and its responsible partners violated PCAOB standards in auditing the company's new methodology for calculating its year-end product returns reserve estimates for 2006 and 2007. E&Y failed to sufficiently audit key assumptions and placed undue reliance on management's representation that those assumptions were reasonable.

‘Accounting firms and their personnel must continually evaluate their clients' accounting and related disclosures, putting themselves in investors' shoes,’ said PCAOB director of enforcement and investigations, Claudius Modesti.

The board barred E&Y partner Jeffrey Anderson from associating with a PCAOB-registered firm and fined him $50,000 (£32,000); E&Y partner Robert Thibault was also barred and fined $25,000 (£16,000); partner Ronald Butler, was also censured and given a $25,000 (£16,000) fine while. E&Y partner Thomas Christie was censured. E&Y will settle the charges without admitting or denying the findings.

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