Cuomo lashes out at Ernst & Young

By Felix Salmon
December 21, 2010
complaint:

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Say what you like about Andrew Cuomo, he gives good complaint:

E&Y substantially assisted Lehman Brothers Holdings Inc., now bankrupt, to engage in a massive accounting fraud, involving the surreptitious removal of tens of billions of dollars of securities from Lehman’s balance sheet in order to create a false impression of Lehman’s liquidity, thereby defrauding the investing public…

Not only were the transactions concealed, but Lehman’s financial statements affirmatively, and falsely, stated that the only securities subject to repurchase (“repo”) agreements were “collateralized agreements and financings” (i.e., loans), even though, as E&Y well knew, Lehman was treating the transfer of tens of billions of dollars of securities in Repo 105 transactions as “sales,” not “loans.” Rather than expose this fraud as auditors must, E&Y expressly “approved” this practice..

As the financial crisis deepened in 2007 and 2008 and Lehman’s liquidity problems intensified, E&Y was aware that Lehman was dramatically increasing the Repo 105 transactions in a desperate effort to stave off collapse. At a time when it was critical for investors to make informed decisions as to whether to keep or buy Lehman stock, E&Y assisted Lehman in defrauding the public about the Company’s deteriorating financial condition, particularly its leverage…

As the public auditor for Lehman, E&Y had the absolute obligation to ensure that Lehman’s financial statements complied with GAAP and did not mislead the public. Instead of fulfilling this obligation, E&Y gave a clean opinion each year, erroneously stating that Lehman’s financial statements complied with GAAP. E&Y sat by silently while Lehman deceived the public by concealing the Repo 105 transactions and misrepresenting the Company’s leverage. By doing so, E&Y directly facilitated a major accounting fraud, and helped Lehman mislead the public as to its true financial condition. E&Y, which reaped over $150 million in fees from Lehman, must be held accountable for its role in this fraud.

E&Y knew this was coming—we all did—but despite that fact, its only public reaction so far has been to refuse to comment. That doesn’t look good, and it forces us back to what the company said in the wake of the Valukas report—that its work as Lehman auditor “met all applicable professional standards,” whatever that’s supposed to mean.

If I had to guess, I’d wager that there will be a large settlement—more than $150 million, anyway—and that E&Y will avoid admitting blame and also avoid criminal prosecution. One notable thing about the complaint is that the only defendant is Ernst & Young LLP; there are no named individuals on the list. So E&Y’s partners are probably safe too. Sadly.

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