Getting It Right --- Finally! 

By Bill Singer,bsinger@rrbdlaw.com 

The Securities and Exchange Commission (SEC) is in the midst of prosecuting an administrative case in which it has alleged that the nation's third largest accounting firm, Ernst & Young, maintained an improper business relationship with PeopleSoft Inc, an audit client.   The SEC cites Ernst & Young's involvement in an audit of PeopleSoft Inc. while simultaneously developing/marketing software with that client (allegedly, Ernst & Young's internal controls were inadequate to ensure the integrity of the audit process).  

The SEC Staff has asked the Administrative Law Judge to order Ernst & Young to forfeit up to $1.7 million dollars in fees plus interest attributed to its auditing of PeopleSoft Inc. Ho-hum. I doubt that will even cause a hiccup.   However, the Staff then took an innovative turn.  It also asked that the accounting firm be banned from accepting new public-company audit clients for six months; and that said ban be extended should the firm fail to demonstrate it has satisfactory policies and procedures in place to prevent a recurrence of the alleged violations.  

Some commentators have cautioned that the Staff's six-month ban could cripple Ernst & Young ( effectively stampeding Ernst & Young's current clients to seek audits elsewhere), deplete the once Big Eight and now Big Four accounting firms to an even lesser number, and disrupt the stability of the accounting profession.  Many point with concern to the collapse of Arthur Andersen.

You know what folks?  In a word.  Tough!  Maybe it's time that large national and multi-national firms are held to the same standards as their smaller brethren.  Maybe it's time that you no longer get a free pass because of your sheer size (and all the political connections implied).  And maybe --- just maybe --- the powers that be will realize that integrity and ethics can be nurtured in a modest-sized environment; whereas, those same attributes often get diluted in a larger one.  I, for one, could care less if there is a redistribution within the accounting profession and a trend towards more compact (dare I say local or regional?) firms.  Bigger isn't always better.

The humongous conglomerates cast  ever-lengthening, chilling shadows over their smaller competitors.   Everything in that darkness either dies or withers.  And do the supposed impartial regulators trim the branches to let the sunlight in?  Yeah, right.  No, they do what government generally does:  They pound the little guys because they're easy targets, vulnerable and powerless. Our nation's securities regulators must remedy the generations of unfair enforcement, which manifested itself in the selective prosecution and the imposition of disproportionately heavy-handed sanctions on smaller, local companies and on individuals. Fairplay?  Congressional watchdogs?  Fuggedaboutit.  

Let me point to a clear example.  About a year ago in May 2002, the National Association of Securities Dealers (NASD),a self-regulatory organization, entered into a settlement with member firm Hornblower & Weeks, Inc. and its President, John Rooney.  NASD  found that the firm and Rooney issued a research report recommending the common stock of MyTurn.com as a "strong buy" when, in fact, the report contained what NASD has characterized as baseless projections, misleading and exaggerated statements and omitted important facts, in violation of NASD antifraud and advertising rules, as well as the antifraud provisions of the federal securities laws. I'm sure you'll agree that those findings seem awfully similar to those made in the recent global settlement among the regulatory community and the nation's top ten broker-dealers.  In settling, Hornblower (without admitting or denying the findings) agreed to a Censure, $100,000 fine, a suspension of its research activities for six months and, before resuming research reports, to retain an outside consultant to review and make recommendations concerning the firm's procedures relating to research reports.  Additionally, Hornblower’s, CEO Rooney (without admitting or denying the findings) agreed to a $85,000 fine, a suspension from associating with any NASD member firm for three months in all capacities, and for an additional four months in a supervisory or principal capacity, and a requalification through examination as a principal before again serving in that capacity.

See, here's what I don't get.  With all the recent tough talk from Wall Street's regulators, how come the much publicized Global Settlement with Wall Street's largest firms didn't impose a sanction even remotely resembling what the NASD got from Hornblower & Weeks or the SEC now proposes for Ernst & Young?  Remember all the press about how they nailed the top ten broker-dealers to the wall --- really showed them --- sent them a message they'll not soon forget?  Remember all that?  Funny, little Hornblower & Weeks had its research activities suspended for six months and, before resuming research reports, was required to retain an outside consultant (not to mention similarly harsh sanctions on the firm's CEO).  Odd, isn't it, how less than a year later when the biggest broker-dealers were forced to account for similar misconduct that we didn't see any suspension of their research activities.  How is that?

C'mon, let's be blunt.  Why didn't they shut down Merrill's or Salomon's research departments for six months --- like the NASD did with Hornblower?  Certainly, that would have hit them in the pocketbook.  Certainly, their shadow would have been trimmed back a bit and maybe, just maybe, some smaller competitors could have developed a niche market and made some money and hired some of Wall Street's recently unemployed.  But for some reason those draconian sanctions so easily meted out on the small fry just don't seem to get imposed upon the sharks and whales --- not by the SEC, not by the states, and not by the NASD.  

We all know how the double standard works.  The powerful companies get to write checks --- typically using funds that rightfully belong to their public shareholders or defrauded public investors.  And then the regulators eventually get around to naming some upper management types (often those who are no longer employed by the firm or who have been designated as the sacrificial lamb) --- just to reassure us that they're holding some human being accountable. Of course, we all shake our heads in disbelief because the top bosses are never, ever named.

But, let's hope that the SEC has started to get it right.  Finally.  

SINGER’S DISCORDANT NOTES
  Copyright 2003 by Bill Singer