A prominent US audit firm, Prager Metis CPAs recently agreed to pay $1.95 million to settle charges with the U.S. Securities and Exchange Commission (SEC). The firm was accused of auditor negligence and violating auditor independence standards in its work with the now-collapsed cryptocurrency exchange FTX. The charges made reference to the following failings:

1. Failing to conduct proper due diligence and assess the risks associated with auditing FTX

2. Failing to follow Generally Accepted Auditing Standards (GAAS) while issuing audit reports.

3. Lacking the necessary competence and resources to properly audit FTX.

4. Misrepresenting compliance with auditing standards in audit reports for FTX.

5. Violating auditor independence rules in more than 200 audits by including improper indemnification provisions in engagement letters.

6. Failing to follow its own policies and procedures, leading to quality control failures in the audit process.

7. Being charged with negligence-based fraud, with the SEC citing that the firm’s audit failures contributed to investor losses in FTX.

8. Continuing the use of improper indemnification clauses in engagement letters despite being warned by regulators that it violated auditor independence rules.

The settlement, which Prager Metis accepted without admitting or denying the allegations, includes a civil penalty and a requirement to improve its audit practices.

Key Lessons Leant for Accountants

The case offers valuable insights for accountants, especially those involved in high-risk industries like cryptocurrency:

1. Conduct Thorough Due Diligence

   Prager Metis failed to properly assess the complexities of FTX’s operations, including its ties to Alameda Research. Accountants must ensure they fully understand their clients’ business models, risks, and industry-specific factors before conducting audits.

2. Understand Industry Risks

   Auditing in high-risk sectors like cryptocurrency requires a deep understanding of market volatility and regulatory challenges. South African accountants should be alert to such risks and apply greater scrutiny when auditing in complex or emerging industries.

3. Exercise Professional Skepticism
   Accountants must always apply professional skepticism, questioning assumptions and critically evaluating evidence. This is especially crucial in high-risk environments, where the potential for fraud or misrepresentation is heightened.

4. Ensure Auditor Independence
   Auditor independence is a cornerstone of professional ethics. Prager Metis’s violation of these standards compromised its objectivity. Accountants must avoid conflicts of interest and adhere strictly to independence requirements in every audit engagement.