Exclusive: Ernst & Young tightropes between audit, advocacy
WASHINGTON (Reuters) - Corporate audit giant Ernst & Young <ERNY.UL} operates a lobbying firm in Washington, D.C., that has been hired in recent years by several corporations that were at the same time E&Y audit clients, prompting two senior lawmakers to demand closer regulatory scrutiny.
Amgen Inc (AMGN.O), CVS Caremark Corp (CVS.N) and Verizon Communications Inc (VZ.N) have ongoing lobbying contracts with Washington Council Ernst & Young, an E&Y unit, while also using the audit firm to review the corporations' books, according to documents reviewed by Reuters.
The same arrangement occurred in the past with E&Y, its lobbying unit and AT&T Inc (T.N), Fortress Investment Group LLC (FIG.N) and Transocean Ltd (RIG.N), records show. Those lobbying contracts ended between 2006 and 2011.
U.S. rules on "auditor independence" include one that bars auditors from serving in an "advocacy role" for audit clients. The rule is focused on legal advocacy, such as providing expert witness testimony, but several accountants said the general prohibition on advocacy may cover lobbying, as well.
The rules, which were beefed up nearly a decade ago after the Enron-era accounting scandals, are designed to ensure auditors are impartial when they review clients' books.
Ernst & Young said Washington Council's work complied with independence rules. It was pre-approved by clients' audit committees and it was limited to tax-related issues, E&Y spokesman Charles Perkins said in an e-mailed statement.
The firm does not solicit votes on legislation for E&Y audit clients, Perkins said.
"We assist clients in monitoring public policy, analyzing legislation and educating Treasury officials, the IRS, legislators, other policy makers and their staffs about the potential consequences of legislation," Perkins said.
Accounting experts said the issue may turn on the type of work lobbyists do and whether it crosses a line into advocacy.
The market-regulating U.S. Securities and Exchange Commission (SEC) has not definitively said when lobbying could compromise an auditor's independence.
"Lobbying members of Congress on behalf of audit clients would make the auditor an advocate for the client," said Douglas Carmichael, former chief auditor for the Public Company Accounting Oversight Board (PCAOB), a watchdog panel that regulates the auditing industry.
Washington Council Ernst & Young reported taking in $12.2 million in fees from 72 lobbying clients in 2011. The unit's annual fee income has held steady since E&Y acquired the unit in 2000. Its revenue is a tiny fraction of the audit firm's global revenue of $22.9 billion for the year ending June 30, 2011.
SENATORS URGE SCRUTINY
Democratic Senator Carl Levin, a supporter of stricter auditor independence rules, called for scrutiny by the PCAOB in a statement sent in response to questions from Reuters.
"The PCAOB should look into whether lobbying by an accounting firm -- either directly or through a related entity on behalf of an audit client -- is the type of service that is or should be banned under the auditor independence law," he said.
Spokespersons for the PCAOB and the SEC, which oversees the PCAOB and appoints its members, both declined to comment on whether the two organizations are looking into the matter.
Ernst & Young is one of the Big Four of the global corporate audit industry. The others are Deloitte [DLTE.UL>, KPMG KPMG.UL and PricewaterhouseCoopers [PWC.UL}. All monitor legislation for clients, but E&Y alone says that its work includes educating policy-makers on behalf of audit clients.
To determine whether E&Y's work counts as "advocacy," the SEC could draw on two definitions of lobbying elsewhere in U.S. law. The Lobbying Disclosure Act says that making contact with government officials counts as lobbying, with some exceptions. It makes no exception for education. The tax code says that activity is not lobbying unless it has the purpose of influencing legislation.
Clarification is needed from the SEC, which interprets and enforces the rules, Democratic Senator Jack Reed told Reuters.
"You will get people who will argue that lobbying does involve a degree of advocacy ... and others will say it is just simply factual education," Reed, the chairman of a subcommittee with jurisdiction over auditors, said in an interview.
"What is the scope of this advocacy prohibition? ... The only definitive answer will come from the SEC."
The Lobbying Disclosure Act requires a lobbying firm to notify Congress when a new client hires the firm, if the firm expects to make more than one contact on the client's behalf and to spend 20 percent or more of its time for the client on lobbying activities.
Then, a lobbying firm must file disclosure reports every calendar quarter. Those reports detail how much money the firm collected in fees, the issues it worked on, the lobbyists involved and the agencies it contacted.
The reports do not say when and where lobbying meetings took place, or the lawmakers or government staff members who attended.
AT&T, FORTRESS WERE CLIENTS
In 2006, Ernst & Young was registered as a lobbyist for AT&T on corporate and international tax issues. The same year, E&Y audited the giant telecommunications company's books, SEC filings show.
An AT&T spokeswoman defended the relationship, saying that Ernst & Young did not act as a lobbyist for the company.
The lobbying disclosure reports were "not actually necessary given the scope of services," AT&T spokeswoman McCall Butler said in an e-mailed response to questions.
The services were "limited to information and advisory services regarding legislative and tax issues," and AT&T's audit committee approved them, she said. She did not say why E&Y filed the reports if they were unnecessary.
Donley Ritchey, who was AT&T's audit committee chairman in 2006, declined to comment and referred questions to AT&T. Lobbying disclosure reports say without elaboration that the AT&T-E&Y relationship ended in October 2006.
Ernst & Young was auditor to private-equity firm and asset manager Fortress Investment Group in 2007. In that same year, Fortress paid $340,000 to Washington Council Ernst & Young for tax-related work, according to lobbying disclosure reports.
Fortress board member Douglas Jacobs, chairman of the group's audit committee, said the committee approved the hiring of Ernst & Young to monitor developments in Washington. The committee acted appropriately, he said.
He said he could not answer questions about the day-to-day details of the Fortress-E&Y relationship. He referred those to Fortress management. A Fortress spokesman declined to comment.
Transocean spokesman Guy Cantwell said E&Y monitored tax issues for the offshore drilling rig operator. "Monitoring and reporting on tax matters are permitted services under the independence rules," he said, adding that he did not know whether E&Y was engaged in educating lawmakers.
Drugmaker Amgen, pharmacy firm CVS Caremark and phone company Verizon declined to comment. Audit committee chairmen for those companies and Transocean could not be reached.
RULES SHIELD INDEPENDENCE
Auditor independence rules are meant to prevent auditors from getting too cozy with the management of an audit client. The rules are based on the idea that auditors are watchdogs for investors and should not be promoting management's interests.
The SEC has long held that the appearance of independence is as important as being independent in fact.
"The rules say you cannot act as an advocate for an audit client, and what constitutes advocacy really depends on specific facts and circumstances," SEC Chief Accountant Jim Kroeker said.
"There are certain types of lobbying that would clearly be advocacy," he told Reuters.
The SEC requires board audit committees to review non-audit services provided by an auditor to ensure independence is protected. Companies in the past have sought guidance from the SEC to be sure certain activities would not violate the rules.
Ernst & Young declined to comment on whether it consulted the SEC before registering as a lobbyist for audit clients, but said it took "appropriate steps" to be sure it complied with independence rules.
Auditor independence has been under renewed scrutiny since the 2007-2009 credit crisis, when auditors were widely criticized for not flagging risks at major banks and financial firms that failed or had to be propped up with government funds.
U.S. and EU regulators are considering sweeping changes designed to ensure auditors are more skeptical.
E&Y SUSPENDED IN 2004
Independence is an especially sensitive issue for Ernst & Young, which was suspended in 2004 from accepting new public company audit clients for six months because of alleged violations of independence rules.
The suspension stemmed from a joint venture Ernst had in the 1990s with business software provider PeopleSoft, now part of Oracle Corp ORCL.O, when Ernst was also auditing PeopleSoft's books.
An SEC administrative law judge ordered Ernst & Young to disgorge $1.7 million in audit fees and issued a cease-and-desist order against future independence violations.
Independent lobbying firms that hire out lobbyists to clients are commonplace in Washington, D.C. In 2000, Ernst & Young bought one of them, then known as Washington Counsel, and changed its name to Washington Council Ernst & Young.
Deloitte has a legislative affairs group that monitors tax proposals in Washington, but it does not offer lobbying services of any kind, said Deloitte spokeswoman Kathryn Metcalfe. It has no registered lobbying clients.
KPMG advertises legislative services such as analysis and briefings on pending bills. The firm has one registered lobbying client, a coalition related to fisheries issues.
"We do only a small amount of tax lobbying for firm clients and it is always disclosed in full compliance with the law," KPMG spokesman Jim McGann said.
Compared with E&Y, PricewaterhouseCoopers sells lobbying services on a smaller scale. It cut back on the business line in 2002, selling its lobbying arm, Federal Policy Group, as audit firms came under scrutiny for non-audit work.
PwC collected $1.8 million from 11 lobbying clients in 2011. Most of them were trade associations and industry coalitions.
"As a matter of firm policy and, in part, due to auditor independence requirements, PwC does not lobby for audit clients," said Laura Cox Kaplan, head of government, regulatory affairs and public policy at PricewaterhouseCoopers.
(Reporting by Dena Aubin in New York, with Sarah N. Lynch, David Ingram and Kevin Drawbaugh in Washington; Editing by Kevin Drawbaugh and Howard Goller)
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