The Ontario Securities Commission (OSC) has alleged Ernst & Young (E&Y) failed to perform audits in compliance with Canadian accounting standards (GAAS) in relation to Chinese footwear manufacturer Zungui Haixi Corporation.
Zungui Haixi Corporation completed its IPO, raising C$39.8m ($38.0m), on the Toronto Stock Exchange in 2008, but the company’s shares were suspended in 2011 after E&Y resigned as auditor.
The OSC said in a hearing notice the IPO Audit carried out by E&Y was not in accordance with GAAS as it was, "relying on certain audit results that raised more questions than they answered".
Similar allegations were made by the OSC in relation to E&Y’s audit carried out for the fiscal year 2010.
The OSC said GAAS requires an auditor to plan and perform audits using professional skepticism, however it believes E&Y failed to do so in this case.
"Professional skepticism is a questioning attitude that is alert to conditions which may indicate possible misstatement due to error or fraud. During the IPO audit, however, E&Y encountered problematic evidence on multiple occasions, but failed to skeptically analyze the evidence or its implications," the OSC said.
The allegations also state E&Y failed to conduct a sufficient review of the audit evidence, leaving the review of key evidence in the hands of a staff member with limited experience.
The OSC said the firm’s China Market Group partner, "did not review any of the underlying evidence gathered during the audit, instead limiting her review to summary documents" and that the original senior manger on the assignment for the IPO audit "did not understand Chinese and had no experience with audits of China-based companies".
In response to OSC’s allegations, E&Y Canada told Reuters it will "vigorously defend" itself against the allegations.
"Issues concerning Zungui Haixi came to light as a result of actions we took during our 2011 audit," a spokeswoman for E&Y told Reuters. "We brought these issues to the attention of the audit committee and management, and eventually resigned as auditor. We have cooperated with the OSC throughout its subsequent investigation."
A formal hearing is to be held 15 July.