The U.K.’s Financial Reporting Council sanctioned Deloitte and two of its former partners Thursday for their audits of the software company Autonomy prior to its acquisition by Hewlett-Packard, fining the firm a record penalty of £15 million ($19.4 million).
The audits were for financial statements between Jan. 2009 and June 2011. Along with the fine, the U.K. accounting regulator “severely reprimanded” the firm. Deloitte has agreed to provide a root cause analysis of the reasons for the misconduct, why the firm’s processes and controls didn’t prevent the misconduct and whether the firm’s current processes would lead to a different outcome.
One of the former audit partners, Richard Knights, has been excluded from membership in the Institute of Chartered Accountants for England and Wales for five years and has been fined £500,000 ($647,160). The other former partner, Nigel Mercer, has been fined £250,000 ($323,580) and also received a severe reprimand.
HP acquired Autonomy in 2011 for $10.3 billion, but soon discovered that its executives had been hiding major losses on computer hardware sales by categorizing them as marketing costs, and Autonomy’s sales of software licences to value-added resellers were also questionable. HP had to write down $8.8 billion for the acquisition the following year and accused Autonomy CEO MIke Lynch of misstating the financials (see story). He has since faced lawsuits in the U.K. and the U.S. HP later sold much of the Autonomy business to a U.K. company, Micro Focus. The FRC said Deloitte’s auditors in Cambridge had become too friendly with Lynch and other Autonomy executives and came to rely on their business.
The FRC’s tribunal found that Deloitte, Knights and to a lesser extent Mercer were culpable of serious and serial failures in discharge of this public interest duty. The tribunal made a number of findings of misconduct, saying Knights, and therefore Deloitte, were liable for failures to act with integrity and objectivity, and that they failed to act with competence, due care and professional skepticism.
“It is the wholesale nature of the failure of professional skepticism in relation to the accounting for the hardware sales and the VAR transactions as well as our findings of misconduct and of breaches of fundamental principles that make this case so serious,” said the FRC.
The tribunal ordered Deloitte to pay all the costs of the investigation claimed by the FRC’s executive counsel, amounting to £5,635,014.53 ($7,293,756), along with the costs of the tribunal.
“The significant sanctions imposed by the independent tribunal and announced today reflect the gravity and extent of the failings by Deloitte and two of its former partners in discharging their public interest duty concerning Autonomy’s audits,” said FRC executive counsel Elizabeth Barrett in a statement. “The identified failures to act with integrity, objectivity, skepticism and professional competence go to the heart of audit. After lengthy, fully contested proceedings, the tribunal concluded that the audit work fell significantly short of the standards expected of an audit firm and its partners. The decision serves as an important reminder of the need for auditors to ensure that they conduct audits in compliance with these key audit and ethical requirements and of the consequences when they fail to do so.”
Deloitte said it has improved its practices since a decade ago. “We regret that the FRC tribunal has ruled that aspects of our audit work on Autonomy between 2009 and 2011 fell below professional standards required,” a spokesperson for Deloitte’s U.K. firm said in a statement. “Our audit practices and processes have evolved significantly since this work was performed over a decade ago and we continue to transform our audit by investing in firm-wide controls, technology and processes. We remain committed to playing our role in delivering change that embraces audit quality, improves choice and restores trust in the profession.”
Knights and Mercer released a joint statement through a spokesperson, saying, “We are disappointed that the tribunal has criticized our conduct and certain judgments we made in 2009 to 2011. At all times we believe we acted professionally, diligently and in good faith and we disagree with the findings. We are grateful for the full and unwavering support of Deloitte in this matter.”