PwC agreed to the most minimal disclosure of Barclays' potential
settlement in the annual report released in March. Barclays "attempted
to manipulate and made false reports concerning both benchmark interest
rates to benefit the bank's derivatives trading positions by either
increasing its profits or minimizing its losses," according to the Commodity Futures Trading Commission. PricewaterhouseCoopers missed, or maybe looked the other way at conduct that was "regular and pervasive."
The CFTC enforcement order
says Barclays based its Libor submissions on the requests of Barclays'
swaps traders, who were attempting to influence the official published
London interbank offered rate and the profitability of their own trades.
In addition, certain Barclays swaps traders "coordinated with, and
aided and abetted traders at certain other banks to influence the
Euribor submissions of multiple banks, including Barclays." Barclays
also systematically suppressed its submissions to the Libor committee regarding its borrowing costs to mitigate perceptions of its weakness during the 2008 crisis.
PwC could have caught the faults twice. The auditor should have
identified and warned shareholders and the public about increased risk
at Barclays. An audit firm has an obligation, according to standards enforced by the Public Company Accounting Oversight Board,
the profession's U.S. regulator, to audit disclosures. Generally
Accepted Accounting Principles and International Financial Reporting
Standards require disclosure of information about risk. (Barclays is
subject to the latter set of rules.) If disclosures are materially
incomplete or inaccurate, an auditor should not issue a clean opinion.
The "management discussion and analysis" of results for a financial
institution must include discussion of: liquidity; capital resources;
results of operations; off-balance sheet arrangements; and contractual
obligations. Although auditors' obligations are more limited here, the
auditor should read this information and consider whether it, or the
manner of its presentation, is materially inconsistent with information
appearing in the financial statements.
Second, when a bank must comply with Section 404 of the
Sarbanes-Oxley Act (and Barclays must, despite being a foreign entity,
since its American Depository Receipts trade on the New York Stock
Exchange), the auditor expresses an opinion on the effectiveness of the
company's internal control over financial reporting. PCAOB's Auditing Standard No. 5
says, "When auditing internal controls over financial reporting, the
auditor may become aware of fraud or possible illegal acts. In such
circumstances, the auditor must determine his or her responsibilities."
Controls over values created using models, third-party pricing
services, and use of market inputs are supposedly supported by elaborate
compliance systems to make sure valuations meet accounting standards.
Basic assumptions used to assign values such as benchmark interest rates
should not be vulnerable to manipulation or collusion. Banks must
comply with legal and regulatory requirements to ensure the integrity of
data critical to the functioning of the capital markets.
According to the regulators, Barclays had no specific internal
controls or procedures, written or otherwise, regarding how Libor
submissions should be determined or monitored, and Barclays also did not
require documentation of the submitters' Libor determinations.
The CFTC order requires Barclays not only to beef up its compliance
processes but to "take on a role as an advocate for increased oversight
for the industry," according to the Financial Times.
Auditor PwC gave Barclays – along with JPMorgan Chase and MF Global –
clean opinions on internal controls over financial reporting while we
know now, from regulators' disclosures, that those controls were
seriously deficient.
More than a dozen other banks are under investigation by U.S., Asian
and European regulators for collusion in setting interbank lending
rates. It will be interesting to see if KPMG, Ernst & Young and
Deloitte's banking clients also manipulated Libor – as Barclays
suspected – and if those banks also allowed derivatives desks to set the
rates.
If so, Barclays has a big job ahead as industry advocate for being good.
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