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The Canadian Public Accountability Board said two unnamed members of the 'Big Four' – Deloitte LLP, Ernst & Young LLP, KPMG LLP and PwC LLP – exceeded their targets for problem audits.HANNAH MCKAY/Reuters

Audit problems at many of Canada’s biggest accounting firms led the country’s regulator to launch a record number of enforcement actions in 2021 – something it expects will continue this year.

The Canadian Public Accountability Board, which oversees the firms that audit publicly traded companies, said two unnamed members of the “Big Four” – Deloitte LLP, Ernst & Young LLP, KPMG LLP and PwC LLP – exceeded CPAB’s targets for problem audits. CPAB said all of the seven other large firms it inspects annually exceeded the targets.

“This year, we reached a record number of enforcement decisions arising from 2020 audit-firm inspections and investigations,” CPAB said in its report on 2021 inspection results. And while CPAB “observed some improvements,” it said “the quality of audit files continues to be inconsistent, and in some cases significant improvement is required. We expect a continued high level of enforcement and other regulatory intervention in 2022.”

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All public accounting firms that audit public companies must register with CPAB, and any firm that audits at least 100 public companies gets reviewed annually. CPAB picks some of each accounting firm’s audits for review based on its assessment of high-risk factors. These include complex or emerging companies such as cryptocurrency or cannabis, or areas in which the audit firm may lack some expertise.

CPAB’s key performance metric is what it calls a “significant finding” – where an accounting firm falls short of accepted auditing standards for a material part of a company’s financial statements and has to go back and do additional work to support its audit opinion. CPAB says the most common recurring findings relate to auditing estimates involving significant assumptions or judgments about future conditions or events. CPAB’s target for large firms is to have significant findings in no more than 10 per cent of audits.

Specifically, CPAB said it found in some cases that “auditors did not demonstrate an understanding of the business rationale for unusual transactions, and contradictory evidence, when identified, was either dismissed or rationalized. Auditors need to be open and alert to the possibility that unusual material transactions may have been entered into to engage in fraudulent financial reporting or to conceal misappropriation of assets.”

CPAB does not identify firm-specific inspection results, owing to its rules and enabling federal legislation. But CPAB is considering disclosing more about the problematic audits it finds and the names of the accounting firms that perform them, and is reviewing public feedback about the concepts. It’s received pushback from the firms smaller than the Big Four, as well as from Quebec’s accounting regulator.

CPAB says one firm that missed the target in 2020 inspections missed the goal once again in 2021. It had significant findings in 12 per cent of its audits inspected that year. While the firm “showed improvement,” CPAB imposed regulatory requirements on it last year that are still in place.

Another Big Four firm that met the goal in 2020 missed it in the 2021 inspections with findings in 12.5 per cent of audits. CPAB says it required both firms to update their quality action plans designed to improve their audits.

The regulatory actions for the two unnamed firms are separate from the public censures and fines CPAB announced for Deloitte in 2021 and PwC earlier this year. Deloitte employees falsified time stamps on audit work papers, while more than 1,000 PwC employees shared answers on training exams, including one for ethics.

The Globe and Mail asked each of the Big Four firms if they were one of the two with the high findings rate. All declined to comment, with some citing the confidentiality rules of the CPAB inspection process. Deloitte and KPMG provided statements about their commitment to quality audits, while Ernst & Young sent a statement expressing support for CPAB and the disclosure of findings by individual firm.

CPAB said it has “serious concern” about the inspection findings for the seven other firms it inspects annually – Davidson & Co. LLP, DMCL LLP, Manning Elliott LLP, McGovern Hurley LLP, MNP LLP, Raymond Chabot Grant Thornton LLP and Smythe LLP. These firms are inspected annually because they audit more than 100 Canadian public companies.

CPAB said four of the seven had significant findings in more than 50 per cent of their audit files inspected, while the other three firms had significant findings in more than 25 per cent of files.

CPAB says it’s now taken enforcement action against four of the seven firms “with unacceptably high levels of significant findings over several years.” (They are not necessarily the four firms that exceeded the 50-per-cent threshold in the 2021 inspections.) CPAB has restricted three of the seven firms from taking on new public-company audit clients it deems “high risk,” while one of the seven firms is restricted from taking on any new public-company audit clients at all.

Representatives from DMCL, MNP and Raymond Chabot Grant Thornton declined to comment, while the other four did not respond to questions e-mailed to the firms’ managing partners or general inboxes.

All told, including 13 other firms smaller than the 11 it inspects annually, CPAB inspected 134 audit files and identified significant findings in 38 files, or 28 per cent, versus 29 per cent across 119 files in 2020. The 11 firms inspected annually audit about 97.1 per cent of all Canadian public companies as measured by market capitalization.

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