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Olympus's
logo is seen through its waterproof housing at an electronics
shop in Tokyo
October 20, 2011. (Credit: Reuters/Kim Kyung-Hoon)
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(Reuters) -
Olympus Corp's use of accounting tricks to hide big losses has raised questions
about whether its auditors, the Japanese arms of global giants KPMG and Ernst
& Young, should have done more to follow up on red flags.
The
Japanese maker of cameras and medical equipment shocked investors on Tuesday,
admitting it had used payments to merger advisors and venture capital funds to
cover up securities losses dating back decades.
Japan's
Financial Services Agency will investigate whether Olympus's auditors knew
about the hidden losses or were negligent in their checks, a source with
knowledge of the matter told Reuters.
Ernst &
Young ShinNihon LLC, which took over as Olympus auditor in 2009, declined to
comment, citing client confidentiality. KPMG AZSA LLC, which audited Olympus
for several years through to 2009, also declined to comment.
A severe
penalty would send shivers through the auditing industry in Japan, still
reeling from a series of scandals that led to a two-month suspension of
ChuoAoyama Pricewaterhouse Coopers in 2006 and the disbanding of its successor
firm in 2007.
Ernst &
Young ShinNihon is Japan's largest auditor with more than 4,000 clients and
3,000 certified public accountants.
"If it
(suspension of an audit firm) happens because they did look over the
misstatement intentionally or without due care, its impact would be
enormous," said Yoshinori Kawamura, accounting professor at Waseda
University's School of Commerce.
"However,
regulators now have more moderate regulatory tools for false audits, which did
not exist in 2006," Kawamura added, noting that a 2008 law change meant
auditors could escape suspension and face heavy fines instead.
Olympus has
provided few details of its accounting maneuvers but says the original scheme
to hide investment losses went back to at least the 1990s, when it was being
audited by Asahi & Co. Olympus says an independent investigation
commissioned by the company is continuing.
Asahi was
the Japanese affiliate of Arthur Andersen before Andersen collapsed amid a U.S.
accounting scandal. Asahi became a member firm of KPMG International in 2003
and then merged with AZSA & Co in 2004 to form KPMG AZSA LLC.
AUDITORS
RAISED RED FLAGS
Olympus
removed KPMG AZSA as its group auditor in 2009 after a dispute over how to
account for some controversial acquisitions. The camera-maker decided not to
disclose this to the stock market, an internal document obtained by Reuters
showed.
Instead, Olympus
told investors at the time that KPMG's audit contract had expired and it was
hiring Ernst & Young.
The
problems at Olympus burst into the open when ousted chief executive Michael
Woodford said he had questioned excessive advisory payments made by Olympus for
its $2.2 billion acquisition of British medical device firm Gyrus in 2008.
Olympus paid $687 million in advisory fees, about one third of the purchase
price, versus investment banking norms of about 1 to 2 percent.
Olympus on
Tuesday said some of those fees were "used in part" to help hide
losses on investment securities.
KPMG's
British arm, which audited the subsidiary accounts of Gyrus, questioned the
accounting treatment of some of the fees and whether Cayman Islands-based AXAM
Investments Ltd, which received a big part of the fees, was a related party to
Olympus.
However,
KPMG AZSA signed off on Olympus's group accounts without qualifications.
When it
took over, Ernst & Young also raised questions about AXAM in auditing
Gyrus's accounts but gave Olympus group a clean bill of health.
It is not
unusual for an auditor to qualify a subsidiary's accounts in one country and
give the parent located elsewhere an unqualified green light if the issue
raised is not deemed material to the consolidated accounts, accounting experts
said.
But some
accounting and legal experts said the inflated advisory fees should have
prompted a more critical review of Olympus accounts.
"Maybe
KPMG AZSA accountants thought it wasn't important," said Shinji Hatta, a
professor at Aoyama Gakuin University's Graduate School of Professional
Accountancy in Tokyo.
"But
it was important, and overlooking this in my opinion is a grave issue in terms
of auditing."
ASIA A KEY
AUDIT MARKET
Both Ernst
& Young and KPMG have grappled with problem clients before.
KPMG paid
multi-million-dollar settlements over its audits of New Century Financial, a
mortgage lender that collapsed during the U.S. housing crisis, and Xerox, a
copier-maker accused of manipulating its accounting in the late 1990s.
Ernst &
Young has been sued over its audits of China-based Sino-Forest, once the
biggest forestry company listed on the Toronto Stock Exchange.
It also
still faces a lawsuit by the New York attorney general alleging it helped
Lehman Brothers engage in a massive accounting fraud before its 2008 bankruptcy
helped trigger the 2008-2009 global financial crisis. Ernst & Young says it
acted properly.
In that
case, Ernst & Young is accused of standing by while Lehman repeatedly moved
up to $50 billion off its balance sheet at quarter ends. The maneuver, dubbed
"Repo 105," helped hide Lehman's financial problems before its
downfall, New York prosecutors allege.
The Olympus
scandal also renews long-standing questions about the structure of audit firms,
which brand themselves as global networks but in fact are made up of legally
separate firms to limit liability when one member gets in trouble.
The main
auditor watchdog in the United States has been looking into whether the global
networks are properly supervising their disparate arms and ensuring quality.
"We
have been spending a lot of time on our inspection process as we look at the
global-firm audit in determining how seamless it is," James Doty, chairman
of the Public Company Accounting Oversight Board, said on Tuesday.
Japanese politicians
are also taking renewed interest in the audit industry in light of the Olympus
scandal.
"We
may need to reassess the accounting system as a whole if auditors were unable
to fully point out problems their clients were involved in," said Natsuo Yamaguchi,
head of New Komeito, Japan's second-largest opposition party.
(Additional
reporting by Rachel Armstrong, Nathan Layne, Noriyuki Hirata and Yuko Yoshikawa
in TOKYO, and Alexandra Alper in WASHINGTON; Editing by Howard Goller and Mark Bendeich)
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