PCAOB finds fault with half of Ernst and Young Canada audits inspected

TORONTO, February 25, 2024 – Big Four accounting firm Ernst and Young had multiple deficiencies in half the audits inspected by the Public Company Accounting Oversight Board in the United States in 2022. The PCAOB inspected four EY Canada audits — three in which the firm was the principal auditor — and found deficiencies in two (50% with Part I.A deficiencies). The US audit watchdog also inspected four EY Canada audits in 2020 and found deficiencies in half the engagements. 

Under the Sarbanes-Oxley Act, registered firms outside the US are subject to PCAOB inspections in the same manner as US firms. Since the inception of the PCAOB's international inspection program in 2004, the PCAOB has conducted inspections of one or more registered firms located in more than 50 non-U.S. jurisdictions, including Canada. In both 2020 and 2022, EY Canada was the principal auditor of 30 public companies (“issuer audit clients”), under oversight of the PCAOB. 

Multiple deficiencies in audits of two issuers

The inspection report highlights two companies described as Issuer A and Issuer B. The PCAOB focused its attention primarily on “revenue and related accounts” and the “use of other auditors.” Issuer A used an IT system to process certain transactions related to revenue. The PCAOB found the firm’s testing of automated and IT-dependent controls was not sufficient, which also impaired its appropriate revenue recognition, particularly involving standalone selling price. 

For Issuer B, an industrials company, the PCAOB identified deficiencies in connection with the firm’s role in the financial statement and controls related to revenue, accounts receivable, and other liabilities. Part of the company (“a component of the issuer”) entered into contracts with customers in which revenue was recognized over time based on the extent of progress towards completion of the performance obligation. 

The report details in length the failings of EY Canada to adequately perform any substantive testing procedures, instead relying on “software-assisted” auditing, and failure to test and test controls related to contract listings and invoices. Overall, the firm did not comply with PCAOB rules related to audit documentation and communications with audit committees in several of its audits. 

Financial relationships between partners, teams and issuers

During its inspection, EY Canada disclosed to the PCAOB a number of potential areas of non-compliance related to independence, particularly related to financial relationships. For example, the firm reported 13 instances of potential non-compliance with a rule regarding financial relationships, “all but two of which occurred at the firm or involved its personnel.” 

Some of these related to related to investments in broad-based funds in which the company was included. Some related to non-audit services (such as legal services) to the audit client. One involved a member of an engagement team “engaging in substantive employment discussions with, and accepting an offer of employment from, the audit client for an accounting role.” 

The four largest accounting firms (Deloitte, Ernst & Young, KPMG, and PwC) audit 90 per cent of public companies by market capitalization in Canada. These are typically corporations listed on the Toronto Stock Exchange — names familiar to many Canadians — and the PCAOB has issued six Big Four inspection reports in the past two years. PwC Canada had a 63 per cent deficiency rate in its 2023 report, after receiving a clean inspection report (no deficiencies) from the PCAOB in 2022.

In 2023, the US audit watchdog censured an EY Canada partner for deficiencies related to the 2019 audit of Just Energy, and the firm agreed to pay $1.5 million to settle a class action lawsuit later in the year.

Colin Ellis is a contributing editor to Canadian Accountant. The inspection reports for Ernst and Young Canadaand Manning Elliott (Canada) were published on the PCAOB website on December 7, 2023.