Earlier this week, New York Attorney General Andrew Cuomo filed
civil-fraud charges against the country's second-largest accounting
firm, Ernst & Young, in the first major legal action arising from
the collapse of Lehman Brothers two years ago. The lawsuit accuses Ernst
& Young of approving Lehman's use of an accounting trick known as
Repo 105, which enabled the investment bank to move assets off its balance sheet temporarily and thereby
conceal its financial distress from investors.
week, auditors like Ernst & Young had largely escaped scrutiny in the ongoing investigation of the economic meltdown's root causes. Yet, as The Wall Street
Journal points out,
the other three major accounting firms--PricewaterhouseCoopers, KPMG,
and Deloitte & Touche--all had clients that failed, sought
government assistance, or behaved questionably during the financial
Do accounting firms bear some of the responsibility
for the Great Recession, and does the Ernst & Young case herald
more sweeping allegations against the industry?
Complicated, states Michael Rapoport at The Wall Street Journal. On the
one hand, "auditors weren't involved in a lot of the primary causes of
the crisis: bad lending and investing decisions; a lack of
understanding of risk; and flaws in the credit-rating system. Auditing
isn't meant to stop companies from making dumb business moves--just to
make sure those moves are properly disclosed." On the other hand, "auditors had to
pass judgment on some of the practices that caused the big losses that
led to government bailouts." The Ernst suit, Rapoport explains, uncovers concerns about the efficacy of accounting rules implemented
during the last financial crisis, in the wake of the Enron and WorldCom
- And There's Legal Ambiguity, adds
Colin Barr at Fortune. Ernst & Young will argue that it "was just a
gatekeeper hired to vouch for Lehman's books, something it will claim
it did well within the confines of the law," he notes.
- Audit Firms May Be Poised to Fall, claims
Matt Taibbi at Rolling Stone: "My guess is that this suit is the
beginning of the end for Ernst and Young and, who knows, may be the
beginning of a series of investigations that ultimately take down the
auditors and ratings agencies that made the financial crisis possible.
Without accountants and raters signing off on all the bogus derivative
math and bad bookkeeping, a lot of this mess would never have happened."
- No, They Won't Be Allowed to Fall Regulators will pursue fines and penalties, argues
Allan Sloan at Fortune, but they are not going to indict Ernst & Young or any of the "Big Four"
accounting outfits,. Why? Because, like the nation's banks, he says, 're too big to fail. An Ernst & Young collapse would
exacerbate an already unhealthy concentration among the country's audit
In the accounting world, being indicted puts you out of business as customers and partners flee, and you lose some of your licenses that allow you to do business. And I don't think any sentient regulator wants to run the risk of E&Y going out of business.
Call it the Arthur Andersen effect. Andersen, you may recall, was indicted and convicted in 2002 for its role in the collapse of Enron. Just being indicted destroyed the firm, because partners and clients fled. By the time Andersen won on appeal, it was a husk of its former self, and what had been the Big Five accounting firms had become the Final Four.
- That's True, But It's Depressing, responds Jonathan Weil at Bloomberg: Fear of another Arthur Andersen-like collapse permits accounting firms "to plod along, fending off one regulator after another, knowing they will be allowed to carry on no matter how much they offend the public's sense of decency."