A Securities and Exchange Commission rule that allows auditors to have business-related affiliations with audit clients only "as a consumer in the normal course of business" — which isn’t clearly defined — is the impetus behind an SEC investigation into Ernst & Young’s relationships with three audit clients.
The SEC’s enforcement division is looking into auditor-independence issues surrounding travel service relationships Ernst has had with American Express, AMR Corp.’s American Airlines and Continental Airlines. Ernst’s contracts with the travel services companies came to light recently as part of a lawsuit in Arkansas state circuit court where Ernst and other accounting firms are fighting allegations of overbilling audit clients for travel expenses, the Wall Street Journal reported.
"We will fully cooperate with the SEC in its review of this matter," Ernst said in a statement, confirming the agency's identity. An SEC spokesman declined to comment to the Journal.
At the heart of the matter is whether Ernst’s relationships with the three travel services firms were appropriate under federal auditor independence rules. In another matter, the SEC is seeking to prohibit Ernst from accepting auditing engagements with publicly traded companies for six months in an auditor-independence matter with PeopleSoft.
The Journal reported that an October 1996 contract called for American Express, as Ernst's exclusive travel agent, to receive commissions on all Ernst airfare, hotel rooms and car rentals and return a portion to Ernst. A section called "profit sharing" said Ernst would receive 53 percent and American Express 47 percent "of the net profit of Total Commission Revenue and pooled expenses." Ernst also received portions of commissions paid to American Express on leisure travel booked by Ernst employees.
Ernst concedes that the "profit sharing" language was unfortunate but that the true nature of the contracts did not affect independence and that current American Express contracts do not include the language. Such agreements for accounting firms and audit clients to share revenue are forbidden under the auditor independence rules.
An American Express spokesman referred to the company's previous statements that the contracts used "very standard travel-management industry language" and "don't describe in substance or in actuality a revenue-sharing or profit-generating business," according to the Journal.
The other companies involved also told the Journal they are confident the SEC’s investigation will find that the dealings are "within the normal course of business," as stated by AMR.