US regulators suing Ernst & Young for $2bn
By Gary Silverman and Adrian Michaels in New York
Published: November 2 2002 0:16 | Last Updated: November 2 2002 0:16
A US banking regulator on Friday filed a $2bn suit against Ernst & Young for its role in a bank failure, saying the firm covered up improper accounting work so it could "buy time" for the sale of its consulting arm to Cap Gemini of France.
The suit filed by the Federal Deposit Insurance Corporation stems from the failure of Superior Bank, based in the Chicago suburb of Hinsdale, Illlinois, in July 2001. The failure cost the FDIC $750m.
Superior specialised in making mortgage loans to customers with tarnished credit histories - so-called "subprime" borrowers. It then used the expected cash flows from the loans to back bonds that were sold to investors.
Such business models - involving what is known as securitisation - have proved dangerous because the lender books its profits based on its estimate of expected returns.
If borrowers fail to pay as much as expected - either through default or prepayment - the lender's earnings disappear, making proper accounting crucial.
The FDIC said Superior Bank failed "as a direct result of E&Y's gross mistatement of Superior's assets."
It said E&Y knew its work was "improper and grossly misleading" and failed to disclose that fact because it was trying to sell its consulting practice to Cap Gemini.
"E&Y's fraud went to the highest level of E&Y - its national office in New York," the FDIC's complaint said.
The complaint said the E&Y's auditing arm brought in its consulting division "to give the appearance of an independent, conservative and reasonable review of the valuation of Superior's securitisation assets." It added: "The 'review', however, was designed from the outset to be cursory in scope."
The complaint said: "Over the last approximately 11 years, E&Y has engaged in a pattern of repeatedly failing to adhere to established accounting and auditing standards."
E&Y said the FDIC complaint "flies in the face of the agency's own earlier conclusions". It said the FDIC had told legislators in February that Superior's failure was "directly attributable" to the bank's board and executives ignoring sound risk management principles.
E&Y has already been in trouble with lawsuits and regulatory scrutiny over its role as auditor to CUC, which later became Cendant. It has paid $335m to settle shareholder litigation in connection with fraud at the franchising and marketing group.
The lawsuit comes as public confidence in the audit profession has sunk to an all-time low. Andersen's role in the Enron scandal led to a federal criminal trial and its collapse. E&Y is one of only four global accounting firms left. |
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