Nov 08
Saturday
re: The AuditorsDeloitte - A Culture of Non-Compliance?
Late, late, Thursday night, October 30th, I received two text messages from a known source:
“We @ Deloitte got a vmail today warning us that a Chicago partner is under SEC investigation for insider trading. Deloitte is suing him.”
“We were told not to talk to the media. I should have said ex-Partner because he resigned suddenly in Sept. Tom Flanagan.”
I didn’t see the messages until Friday morning, Halloween. I immediately Googled the name and looked for SEC or other info on the case.
I Twittered what I found out.
Bruce Carton over at Securities Docket picked up my Twitters and reported it on his blog, on the 31st and with a copy of the complaint on November 4th.
And then yesterday, Bruce and I finally saw a report in an online publication that’s a little more widely distributed than either of our blogs, The Huffington Post. Ryan Blitstein, based in Chicago, told me he had heard about the case from an industry source. He, like Bruce and I, could not believe that no one else had picked up the story.
Ryan did some digging and saw what I had seen. This Flanagan guy was no “bean counter.” He was a big muckety-muck in Deloitte, in Chiciago, regionally, and nationally, and a Kellogg MBA. Ryan obtained a statement for Deloitte’s PR Chief, Deb Harrington, also.
Now, this isn’t some junior accountant who violated minor rules. Flanagan was a major player at Deloitte’s Chicago office, and the subject of a fawning Q&A in the Tribune last spring. The former Army infantryman currently serves on the board of the Boys & Girls Clubs of America and is ex-chairman of its Midwest region. (A Boys & Girls Clubs spokeswoman said Flanagan voluntarily resigned on October 31, a day after the organization became aware of the allegations.) He received Deloitte’s Community Impact Award in 2003, according to a Google cache of a page from the firm’s Web site (removed sometime during the past few weeks).
I‘ll let Ryan and others dig into the motivations, the Elliott Spitzer type tragic character flaw, that would drive a guy like this to supposedly commit a transgression like this. These are no infractions. He could not be ignorant of policy. Deloitte’s portrays the acts as egregious, willful violations of the most basic rules that anyone, including non-accountants, who chooses to work for the audit firms has to follow. The rules are onerous, but thousands agree to abide by them in exchange for the privilege of working for the firms and, in doing so, do their small part in upholding the Independence and objectivity of the external audit process.
Until someone flouts the rules. This is not the first time this has happened recently and it won’t be the last. Bruce Carton at Securities Docket.com is working on a survey of cases in the Big 4. You see, these cases get the hush-hush treatment most of the time. This one sat stewing, until Deloitte had no choice but to alert their staff. Pressure was brought to bear by the SEC investigation and probably by their clients, who were most likely complaining of calls from the SEC regarding Deloitte and threatening to fire them as their auditors.
I’m sure that killed Deloitte. But just like when one of their clients is made aware of an SEC investigation, Deloitte has a legal obligation to preserve documents and such and to make sure no one in the firm blabs about something they shouldn’t to the press or otherwise.
Based on the complaint, it seems Mr. Flanagan has been a prickly, incorrigible sort with regard to this issue.
3. Compounding his wrongdoing, Flanagan repeatedly lied about his clandestine activities in annual written certifications, going so far as to conceal the existence of a number of his brokerage accounts to avoid detection of his improper conduct…Flanagan still has not disclosed to Deloitte all the relevant details of his trading activities in violation of his obligations to the Partnership.
The complaint goes on to describe the process by which partners, and I am assuming others in the firm, certify their compliance with Deloitte’s policies on independence and avoidance of conflict of interest. These policies are required by SEC rules, and now PCAOB rules, that have been in existence for a long time. The PCAOB recently updated and codified these rules when they took responsibility for regulating the audit firms under Sarbanes-Oxley.
I see a problem with what I’ve read.
Why didn’t Deloitte see this issue earlier?
It seems, based on the complaint, that they were not aware until, presumably, the SEC started asking them and their clients a lot of questions.
Well…
I think they were aware of this guy’s rule-breaking. In my experience, when someone like this 30-year “elder statesman” is flouting the rules so egregiously, they usually can’t help blustering about it. He may have complained to others, at all levels, about the “SOB, dumbass, rule-jockey, non-client service, idiot, loser, dweebs” who were bugging him to respond to their inquiries about his annual certifications.
He may be the type that couldn’t help boasting about his success in the stock market and the lifestyle it afforded him. He worked for thirty years. His clients have been getting rich all along. He deserved it. He probably also liked being the sugar-daddy for all the charities he was involved in. That money doesn’t grow on trees.
I am also surprised that Deloitte doesn’t appear to have a process in place that most other firms I’m aware of, including PwC, have. PwC, for example, has a whole team of auditors in their Jersey City office whose only job is to request tax returns, brokerage, bank and other investment statements from folks that either come up for review based on a “random sample” or are high risk like Mr. Flanagan. They have this process because their colleagues at Coopers and Lybrand had screwed up on this stuff so badly before PriceWaterhouse bought them and they were forced to put it in place.
Mr. Flanagan was in a position where there wasn’t much he or his family could invest in. As a leader in Chicago, the region and for his practice, he was restricted from investing in anything audited by these groups. It’s tough. These guys and gals now really have to be careful. They can’t even have a checking account with an overdraft protection service at any banks that the firm audits.
Why didn’t Mr. Flanagan get audited, in hard copy, with requirements for internal Deloitte compliance folks to see his statements and match this information to his and his families’ tax returns, every year, and to the “restricted entity” lists?
Or maybe Mr. Flanagan did get audited. Maybe they asked for this info and he blew them off. Or maybe they were given documents that didn’t match up or were incomplete. Or maybe he kept putting them off. Or maybe he had been called on flouting of the rules many times but no one in the partnership was willing to call him into the Principal’s office and whack his knuckles with a big ruler once and for all.
In my experience, a partner with so many years on the job, so many years of service before the independence requirements, before all the compliance requirements, before government regulation of the profession, is a partner who says to the the rest of the firm, “Stick it in your ear!”
Or words to that effect.
No one can touch me.
And they didn’t.
I hope the SEC looks carefully at the Deloitte internal compliance function:
-How they pick their samples of who to audit more thoroughly and frequently for independence compliance;
-Whether they select guys who are high risk for hard copy documentation on a frequent basis;
-Whether very senior partners are involved in enforcing the rules, in insuring follow-up on missing documentation, and in bringing in partners who blow off the internal compliance team.
What type of followup process and discipline process does Deloitte have? The other Big 4 had to beef these processes up only after similar cases forced Department of Justice consent decrees, forcing the cleanup and strengthening of internal compliance policies and procedures. If Deloitte has escaped with “Compliance Lite,” then the firm is clearly at fault and should be in a weaker position, unable to sit on a high horse and portray Flanagan as a “rogue” partner.
He may be a rat to the profession, but Mother Deloitte also deserves to be tried, and not allowed to throw its babies under a bus.
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