OSC allegations against E&Y in Sino-Forest case could sharpen focus on gatekeepers

Lawyers in the Sino-Forest shareholder class action announced Monday a $117-million settlement with Ernst & Young LLP on the same day the Ontario Securities Commissioned issued allegations against the auditor of breaching the Securities Act in relation to its work for the Canadian-listed forestry company.

Ernst & Young was Sino-Forest Corp.’s auditor from Aug. 16, 2007 until its resignation April 4, 2012. The class action alleges Sino-Forest, misled investors concerning the business and accounting at the collapsed timber trader.

The settlement is the largest by an auditor in Canadian history and is one of the largest-ever auditor settlements worldwide.

“We are proud of this historic settlement,” said plaintiff’s counsel Dimitri Lascaris of Siskinds LLP, “it provides direct and immediate benefits to the class members.”

“Our clients are pleased with this result and we look forward to aggressively prosecuting the action against the remaining defendants,” said Koskie Minsky LLP’s Kirk Baert, who also represented plaintiffs in the class.

The OSC alleges Ernst & Young breached the Ontario Securities Act by failing to conduct its audits in accordance with relevant industry standards. The audits related to the 2007, 2008, 2009, and 2010 consolidated financial statements of Sino-Forest.

“Our investigation into Sino-Forest is a complex international investigation, and a major focus has been on whether gatekeepers such as auditors and other corporate advisors properly performed their role in protecting investors,” said Tom Atkinson, director of enforcement with the OSC. “Investors rely on auditors to conduct their audits in accordance with professional standards, particularly when foreign companies are listing on Canadian exchanges. If auditors fail to abide by Canadian auditing standards and securities laws, we will hold them accountable.”

The OSC alleges E&Y failed to perform sufficient audit work to verify the ownership and existence of Sino-Forest’s most significant assets; and failed to undertake audit work on Sino-Forest with a sufficient level of professional skepticism.

On May 22, 2012, the OSC issued allegations of fraud against Sino-Forest and former senior executives. Those proceedings are ongoing.

“The OSC Allegations against Ernst & Young LLP are not unexpected in light of Tom Atkinson’s prior statements that OSC Staff intended to focus future enforcement efforts on gatekeepers,” says Janice Wright, a partner with Rueter Scargall Bennett LLP.

Wright says the OSC’s allegations against E&Y could trigger a greater focus on all professional services firms providing audit functions.

“This case most certainly will increase pressure on all gatekeepers, who will now become aware of the alleged so-called standard of ‘professional skepticism.’ I do note that, at least at this juncture, the OSC has chosen to make allegations against the firm but has not named any individuals.”

That said, it’s not out of the realm of possibility that the investigation could broaden in the future, adds Wright.

“The OSC has stated publicly that at this time it does not intend to initiate further allegations against additional parties in the Sino-Forest matter. But it has also stated that its investigation is on-going. So one cannot say unequivocally that further allegations are out of the question, but based on the evidence the OSC currently has no further allegations are pending at this time.”

The litigation continues against former Sino-Forest CEO Allen T.Y. Chan, and others including BDO Ltd, Credit Suisse Securities (Canada), Inc., TD Securities Inc., Dundee Securities Corp., RBC Dominion Securities Inc., Scotia Capital Inc., CIBC World Markets Inc., Merrill Lynch Canada Inc., Canaccord Financial Ltd., Maison Placements Canada Inc., Credit Suisse Securities (USA) LLC and Merrill Lynch, Pierce, Fenner & Smith Incorporated.

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