While lawyers representing Livent co-founders Garth Drabinsky and Myron Gottlieb were trying to convince a criminal court judge that their clients were not guilty of criminal fraud charges in connection with the collapse of the theatre company, a second set of lawyers representing the auditors from Deloitte & Touche were in a courtroom of another sort trying to overturn the decision of a panel of accounting judges who ruled their clients’ handling of Livent’s audit amounted to professional misconduct.
Over the past week lawyers representing former Livent auditors Douglas Barrington, Claudio Russo and Anthony Power have been arguing before the Institute of Chartered Accountants of Ontario Appeals Committee that a rulingby the ICAO disciplinary panel last February erred in finding their clients guilty of professional misconduct.
The panel ruled that the accountants failed to exercise the required professional skepticism when they continued to rely on the representations of the company’s senior managers even after company officials lied to them. “The auditors said that their skepticism was `sky high,`” the panel ruled last year. “However, with respect to the impugned conduct, the evidence disclosed that the auditors failed to exercise the professional skepticism required.”
The panel could have thrown the men out of the accounting profession, but instead ordered the three receive written reprimands and pay fines and penaltiesof more than $1.25 million the highest fine ever meted out by the Institute that oversees the professional conduct of Ontario’s chartered accountants. Two of the Deloitte auditors Douglas Barrington and Anthony Power have retired. Only Claudio Russo remains employed with Deloitte.
The accountants were never charged with failing to detect the alleged massive fraud that ultimately destroyed the once high-flying theatre company. However, the appeal touches on some of the most contentious and important issues regarding how auditors deal with company managers, namely: just how much trust should accountants place in the representations of managements and how should auditors react once it has been proven that managers have lied to their auditors?
Besides a host of legal and procedural grounds, the appeal of the accountants essentially boils down to three main issues: first, the accountants were found guilty of conduct for misbehaviour that was not included in the original charges; second, that the panel ignored the evidence of experts who testified that the accountants did act appropriately and lastly, that the panel’s finding that the auditors reach “a correct conclusion” in their audit work is incompatible with the legal definition of professional misconduct. The accountants are asking the panel to set aside the decision, as well as to strike down the fines levied against them.
Much of the evidence in the original disciplinary panel ruling, as well as the appeal, centres on how the Deloitte accountants dealt with the issue of a secret “Put Agreement” between Livent and Dundee Realtyregarding redevelopment of the Pantages Theatrein Toronto that allowed Dundee to pull out of the project ahead of other investors. Livent managers told Deloitte the agreement had been cancelled since the agreement would disqualify Livent from booking any revenue associated with the project until a later time. However, Deloitte accountants auditing Dundee”s books learned the agreement had not been cancelled and was, in fact, still in place.
The accountants demanded letters of explanation from Livent co-founder Myron Gottlieb (who was also a member of the audit committee of Dundee Realty’s parent company), and Dundee and Livent’s outside lawyers. All three provided letters that said the agreement had already been cancelled. However, explanations as to when and how the agreement was dropped differed significantly. Those inconsistencies should have cast doubt on all of the assertions of Livent’s managers and caused Deloitte to increase its scrutiny of the company, the panel ruled. “The auditors failed to consider the broader implications of the admitted deception, including the representations made by management throughout the audit,” the panel said in their original ruling.
But considerations about the Dundee agreement should not have been used to determine professional misconduct since the original charges made no mention of it, lawyers for the accountants argue. “By making the Put Agreement, an aspect of the fraud and a matter that was not a subject of the Charges, `fundamentally important` to its decision the Panel materially changed the case against [the accountants] and unjustly denied them a fair hearing,” lawyers for the accountants argue.
And even if the panel does choose to consider the impact of the Put Agreement, there is not enough evidence to prove that the agreement was still in effect at the time of the audit, the lawyers contend. After all, there was no evidence that Livent managers were lying about the cancellation of the put and even a re-audit of Livent’s books after the massive alleged fraud was uncovered, failed to determine once and for all whether the agreement was still in force or not.
Lawyers representing the ICAO’s professional standards committee argue just the opposite. There was not enough evidence for the auditors to conclude the put was cancelled in the first place. The fact that accountants who re-audited the books after the fraud was discovered could not determine whether the Put Agreement was in force or not proves the original auditors did not have enough evidence to allow Livent to recognize the revenue in the first place. “The appellants did not have sufficient appropriate audit evidence to conclude that the representations of management were true,” committee lawyers write (wrote?) in their response to the accountants’ appeal. “Notwithstanding the lack of audit evidence they released their audit opinion based upon the representations of management.”
The fact that managers lied should have caused a reasonable accountant to re-assess every decision made in the audit that was based on representations of management, professional committee lawyers say. “(They) did not revisit the representations of management as required by generally accepted standards of practice of the profession.”
The put agreement was not included in the original charges because the accused accountants themselves introduced most of the evidence relating to the agreement hoping it would bolster their case that they were innocently duped by Livent’s managers. However, the disciplinary committee saw it as evidence that the accountants failed to live up to their professional obligation and are entitled to consider the evidence in their decision, the professional standards committee says.
That failure to question management occurs again and again during the Livent audit when auditors accepted the verbal assurances of the company’s senior managers regarding invoices that were booked to the company’s fixed assets with no supporting documentation to a whopping $27.5 million write-off of pre-production costs that Livent managers insisted upon after the accountants had completed their work. “All of these facts should have heightened the level of concern of the auditors with respect to the veracity of management representations,” the professional committee states.
It is interesting to note that while the Dundee Put Agreement is the mainstay of the ICAO’s case against Deloitte, it is not mentioned once in the crown’s criminal fraud charges against Drabinsky and Gottlieb. It appears, when it comes to Livent, there is enough alleged fraud to go around for everyone.
It could be several months before the ICAO appeal committee delivers its decision. Who knows, by then there may be a decision in the Livent criminal trial as well.
(Note: A previous blog post suggested that ICAO fines could only be collected from current members of the Institute. This is not the case. In fact, fines may be filed and collected through the Ontario court. The post has been corrected.)