On Friday, September 29, 2023, the Securities and Exchange Commission’s Division of Enforcement (SEC) lodged a civil case in a U.S. district court (S.D. Florida, Case No. 1:23-cv- 23723) against two audit firms, Prager Metis CPAs, LLC, and Prager Metis CPAs LLP, known collectively as the Audit Firms. The SEC alleges that the firms were not independent while conducting 62 audits, 11 examinations, and 144 reviews due to the indemnification provision included in their 87 engagement letters, which is claimed to violate the auditor assessments. Full details can be found on JD Supra.
The SEC claims seem to revolve around a staff-created rule which, as per the litigation analysis, was ‘violated’ by the CPA firms. It is yet to be seen how the litigious situation unfolds and what impacts this could have on business operations of the CPA firms and other entities with similar legal provisions in their engagement letters.
Formulating an argument for or against the ‘independence’ of an auditor based on its contractual agreements can be a complex task. With the SEC stepping up its enforcement actions, it is imperative for audit firms to ensure their engagement letters and audit procedures adhere to regulatory demands and do not raise any possible issues concerning independence.
This scenario serves as a worthy reminder to legal practitioners in corporations and law firms about the potential risks of non-compliance with staff-created rules. Curating indemnity clauses on an agreement may seem usual business, but scrutiny from bodies like SEC may pose significant challenges. Hence, it is essential to intensify the focus on compliance with regulatory rules.
As this case unfolds, it is strongly advised for companies and their legal departments to revisit their professional relationships and their inherent agreements to ensure they are not unknowingly falling into a similar pitfall.