The Securities and Exchange Commission (SEC) has reached a $4.07 million settlement with Big 4 auditor Ernst & Young for improper advocacy relating to the political activities of one of its subsidiaries. The fine includes the disgorgement of $1.24 million, $2.48 million in penalties, and pre-judgement interest, the regulator announced today.

SEC filings SEC Enforcement

Ernst & Young represented itself as ‘independent’ despite advocacy services

“Auditor independence is critical to the integrity of the financial reporting process.  When an auditor acts as an advocate for its audit client, that independence is compromised,” said Scott W. Friestad, associate director in the SEC’s Division of Enforcement.  “Ernst & Young engaged in lobbying activities that constituted improper advocacy and clearly violated the rules.”

The SEC found that Ernst & Young’s subsidiary Washington Council EY engaged in a number of activities that are expressly forbidden including passing letters from Ernst & Young audit clients to congressional staff; requesting language favorable to Ernst & Young audit clients be inserted into legislation; and asking third parties to meet with a US senator to push for an Ernst & Young audit client’s interests. Ernst & Young then continued to represent itself as ‘independent’ in the client’s audit reports.

SEC didn’t say which audits were impacted in its announcement

The SEC says that Ernst & Young had an independence clause in place that was supposed to guarantee that Washington Council EY wouldn’t overstep the bounds into improper advocacy, but that WCEY employees didn’t have any training specifically related to the policy. For a major auditor to not train its lobbying arm on how to avoid conflicts of interest seems like a staggering oversight, but the SEC order also commented that Ernst & Young cooperated with the investigation and has taken remedial actions during the course of the investigation.

The accounting firm issued new guidance in June 2012 and final guidance in May 2013 that is meant to prevent such conflicts from happening in the future, and while the SEC didn’t specifically mention it you would hope that the rules against improper advocacy are now a standard part of employee training.

The SEC hasn’t alleged that Ernst & Young misrepresented any of its clients’ financial statements, but it seems like investors should have the right to know which audits were presented with undisclosed conflicts of interest.