Called to Account: At Deloitte, the problems with audit quality and professionalism start at the top
Back in 2002, a Brazilian auditor for Deloitte at the peak of his career questioned the firm’s Italian office about large, unusual balances between Italian dairy company Parmalat’s Brazilian operation and a Cayman Islands subsidiary called Bonlat.
Fourteen years on, that onetime whistleblower, Wanderley Olivetti, is being stripped of his responsibilities, as the most senior of 12 Deloitte partners sanctioned this week by the Public Company Accounting Oversight Board (PCAOB), the U.S. audit regulator. The board accused Olivetti of lying to it about faulty audits and a subsequent cover-up among senior partners.
‘There can be a real difference among audit deficiency findings for the firms in the United States and what we see at their affiliates around the globe.’
Deloitte is the brand under which hundreds of thousands of professionals all over the world work in member firms of Deloitte Touche Tohmatsu Ltd., a U.K. private company. Each member firm is independent and provides services in particular geographic areas subject to the laws and professional regulations of a particular country or countries in which it operates. But any member audit firm that participates in the audit of U.S. public companies also falls under the jurisdiction of U.S. regulators.
Olivetti became the latest entry on a roster of Deloitte professionals at the highest levels of the firm to be singled out as having broken rules, violated laws or otherwise failed to set the example for professionalism the industry and the public should expect.
MarketWatch reviewed U.S. regulatory actions against Deloitte dating as far back as 2002. That analysis shows that Deloitte partners have frequently been the reason that the Big 4 global audit firms are thriving financially, but audit quality and professionalism are not.
In a speech in October, PCAOB board member Steven Harris said the financial crises of the past few decades have put the accounting profession under a harsh spotlight and sparked questions about its independence and the quality of its work. “After each crisis, investors questioned whether the auditors were more concerned with maintaining their client relationships than serving the public,” Harris said.
The PCAOB was established by the Sarbanes-Oxley Act of 2002 as an independent audit regulator, replacing the self-regulatory structure that led to the failure of energy giant Enron and the demise of its audit firm, Arthur Andersen. Lawmakers sought to restore investor confidence by creating an independent regulator that would enforce auditor independence and hold auditors accountable for frauds that occurred on their watch.
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That’s why, said Harris, the first words of the Sarbanes-Oxley Act are “to protect investors” and why the law sought to remind auditors that investors, not company executives, are their true clients.
The Big 4’s record for audit quality, especially catching frauds before companies fail and investors lose their money, has been questioned. In an op-ed for MarketWatch, PCAOB board member Lew Ferguson wrote that an audit firm’s inspection results in the U.S. do not necessarily speak to the quality of its global network.
“There can be a real difference among audit deficiency findings for the firms in the United States and what we see at their affiliates around the globe,” wrote Ferguson, using Deloitte’s most recent results as an example.
Deloitte runs neck and neck with fellow Big 4 firm PricewaterhouseCoopers each year for the title of largest accounting firm in the world. MarketWatch’s review of enforcement actions against Deloitte by U.S. regulators since 2002 shows that problems with auditor independence and audit quality haven’t gone away but have become more challenging.
The largest global firms have regrown their consulting practices since the Sarbanes-Oxley Act was passed and all but Deloitte sold them. At that time the firms expected stronger rules about conflicts to make it impossible for consulting to coexist with audit but now are faced with economic incentives that arguably make audit quality a lesser priority.
Deloitte was the first Big 4 firm to be sanctioned by the PCAOB after it was established for its audit of Ligand Pharmaceuticals LGND, +0.88% , and it holds the record for the largest-ever fine imposed on an auditor by the Securities and Exchange Commission. Deloitte is also the only Big 4 firm to have the private portion of PCAOB inspection reports made public by the regulator twice, after failing to remediate concerns on a timely basis for two inspection years.
Deloitte has had two very senior partners, including a vice chairman, charged with insider trading, and its former chief risk officer was charged with accepting a loan of gambling chips from an audit client, Caesars Entertainment Corp. CZR, -2.35% .
On Monday, the PCAOB fined the Deloitte Brazil firm $8 million to settle charges that it issued materially false audit reports and attempted to cover up the violations by improperly falsifying documents and providing untrue testimony to the regulator.
That action adds another dubious honor to Deloitte’s list: the largest ever fine imposed by the PCAOB. The fine was for actions that had never before been alleged against a global audit firm. Deloitte Brazil also admitted that it violated quality-control standards and failed to cooperate with a PCAOB inspection and investigation, the first time a Big 4 global network firm has agreed to admit wrongdoing to the regulator.
Olivetti, the Brazilian firm’s national professional practice director and a member of its governing board, has now been stripped of his leadership positions and placed on administrative leave. The Deloitte Brazil firm did not make Olivetti available for comment.
Young professionals may think that finding problems and bringing them to their boss’s attention will be rewarded. Olivetti’s questions, however, angered Fausto Tonna, the chief financial officer of Parmalat, and threatened to expose the massive fraud Tonna was using to cover up losses from Parmalat’s expansion strategy around the world, including in Brazil.
In internal emails made public as a result of lawsuits, Tonno wrote, “I don’t want to hear another word about Olivetti. I’m not willing to compromise with him and we will choose other auditors immediately.”
In 2003, Parmalat collapsed in bankruptcy when it had difficulty making a $231.7 million bond payment despite financial statements saying it had several billion dollars in Cayman Islands accounts. Deloitte’s Italian and U.S. firms, and its international coordinating firm, eventually settled with shareholders and creditors for close to $158 million.
Olivetti rose to the top of Deloitte Brazil because of, or perhaps despite, his apparent demonstration of integrity in the Parmalat case. However, in May 2002, documents made public as a result of the lawsuits against the Deloitte firms showed that Olivetti agreed to soften the wording of his objections so that Deloitte Italy would not have to issue a negative audit opinion.
Fifteen years later, the PCAOB says in its complaint against Olivetti that he knew in early 2014 that his colleagues had provided the PCAOB inspectors with improperly altered versions of the 2010 workpapers for its audit of airline Gol Linhas Aéreas Inteligentes S.A. GOL, +10.13% . Olivetti was also aware that Deloitte Brazil was continuing to obstruct the PCAOB’s investigation in June 2014.
“The firm leaders who participated in the misconduct not only set a tone of disregard for compliance with PCAOB rules, standards and oversight, but also actively subverted that oversight,” said PCAOB Enforcement Director Claudius Modesti in a press release about the action.
The same day that the Brazilian action was announced, the PCAOB also announced actions against Deloitte Mexico. That member firm was censured and will pay a $750,000 penalty for failing to effectively implement quality-control policies and procedures for audit documentation. Two former Deloitte Mexico partners and another former auditor were also sanctioned. A spokeswoman for Deloitte Mexico declined to comment on the matter.
In 1990, the judge writing the opinion in a court case related to the failure of Continental Illinois National Bank expressed the common belief, and the frequent legal defense of firms and partners today, that an audit firm and its partners will, above all, think about the firm’s reputation and their own reputations when faced with the temptation to conspire with clients and others in frauds or to cover up the frauds of others.
“An accountant’s greatest asset is his reputation for honesty, followed closely by his reputation for careful work. … [C]overing up fraud and imposing large damages on the partnership will bring a halt to the most promising career,” the judge wrote.
The PCAOB’s Modesti told an audience Tuesday at the American Institute of Certified Public Accountants conference that policies and procedures promoting integrity or PowerPoint presentations about a culture of integrity are not enough. Firms must make a “thorough self-examination and a daily commitment” to focus on integrity and honesty in all aspects of their work and especially when dealing with regulators.
A spokesman for Deloitte Brazil told MarketWatch in an email that the firm had effected the exits of the involved individuals as soon as it “became aware of inappropriate conduct; none of the individuals at issue remains with the firm.” Additionally, Deloitte Brazil disclosed the matter to the Brazilian regulator and has reached a settlement agreement, he said.
“The new Deloitte Brazil leadership that took office on 1 June 2016 has worked aggressively to uphold the highest standards of professionalism, and we have full confidence in the quality of our audits,” the Deloitte Brazil spokesman said.
A spokeswoman at Deloitte’s global headquarters provided a statement to MarketWatch: “Integrity in delivering high-quality services is critical to our business, our clients and the public interest; it is non-negotiable at Deloitte. A limited number of individuals in member firms have acted in ways that are inconsistent with this fundamental requirement. This is wholly unacceptable, and in each instance, the member firm has worked diligently with regulators to address and resolve the issues through appropriate compliance, quality control and personnel actions.
“We have enhanced our global focus on appropriate compliance and quality control measures with enhanced training, communications, monitoring and discipline. The lessons learned from these matters have already made our culture stronger.”