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US Securities and Exchange Commission

Securities Regulator Charges Accounting Firm Prager Metis with Widespread Auditor Violations

Soyoung Ho  Senior Editor, Accounting and Compliance Alert

· 6 minute read

Soyoung Ho  Senior Editor, Accounting and Compliance Alert

· 6 minute read

The SEC charged accounting firm Prager Metis CPAs, LLC and its California professional services firm, Prager Metis CPAs LLP, for allegedly violating auditor independence rules.

“Prager improperly included indemnification provisions in engagement letters for more than 200 audits, reviews, and exams,” the SEC said. As a result, “Prager was not independent from its clients for those engagements, as required under the federal securities laws.”

The agency filed the charges against the two firms (collectively, Prager Metis) on Sept. 29, 2023, with the U.S. District Court for the Southern District of Florida.

The SEC is seeking a permanent injunction, disgorgement plus prejudgment interest and a civil penalty against Prager Metis, which made headlines late last year as it was one of the two auditors of failed cryptocurrency exchange FTX founded by Sam Bankman-Fried.

In particular, Prager allegedly failed to comply with auditor independence Rule 2-01 of Regulation S-X in 62 audits, 11 examinations and 144 reviews under 87 engagement letters from around December 2017 to October 2020, according to the SEC’s complaint.

These engagements affected 62 companies that are registered with the commission, comprised of 54 publicly traded companies, four broker-dealers and four investment advisers, from which Prager collectively made more than $3 million in fees. The complaint does not name the clients.

The SEC alleged that Prager Metis continued to sign engagement letters containing indemnification provisions. And Prager Metis issued “accountant’s reports,” purporting to be independent in connection with its audits and exams even though senior partners repeatedly were warned that the inclusion of indemnification provisions in engagement letters rendered Prager Metis not independent.

The agency said that many of Prager Metis’ clients included those “accountant’s reports” in their filings with the SEC.

“Defendants had been on notice of their independence impairment since at least early January 2019 when a new partner who recently had joined Prager raised the issue with senior Prager partners,” the complaint stated.

For example, the new engagement partner, who performed broker-dealer audits, allegedly emailed the partner in charge of assurance, copying the partner in charge of Prager’s public company practice that “there is a section called ‘indemnity’—I thought those were supposed to be removed from PCAOB letters as that can impair independence. In the [Broker-Dealer 3] letter that I had previously sent to you, I removed that entire section.”

Then the new partner in the email allegedly wrote: “Here is the guidance from the BD PPC template – x An auditor would not be considered independent if a client has agreed to indemnify the auditor against liability from an engagement, whether that liability arises from the auditor’s own negligence or material misrepresentations made by management. Therefore, the engagement letter should not include an indemnification clause or language of that nature.”

But Prager Metis entered into 51 additional engagement letters containing indemnification provisions after January 2019, according to the SEC’s complaint.

Further, in June 2019, a new issuer engagement partner also allegedly notified senior leaders: “As I recall, for issuer clients an indemnity clause may be a problem with the PCAOB/SEC.”

In addition, the SEC alleged that Prager Metis did not advise its clients of its violations even though the PCAOB informed that the indemnification provisions violated the independence rules under the federal securities laws.

“Auditor independence is critical to both protecting the integrity of financial reporting and promoting public trust,” Eric Bustillo, director of the SEC’s Miami Regional Office, said in a statement. “As alleged in our complaint, over a period of nearly three years, Prager’s audits, reviews, and exams fell short of these fundamental principles. Our complaint is an important reminder that auditor independence is crucial to investor protection.”

However, Prager Metis denied the SEC’s allegations.

“We strongly disagree with the SEC’s allegations because we always acted in a way that was independent of our clients,” Prager Metis said in an emailed statement. “These allegations arise solely from template indemnification language used several years ago that was never enforced or sought to be enforced, and the SEC does not allege this language affected the quality of our audits. Prager takes its independence obligations seriously and intends to vigorously defend itself in this litigation.”

Prager Metis CPAs, LLC is headquartered in New York, and it has been registered with the PCAOB since 2003. It has 18 offices around the world.

Prager Metis CPAs LLP is headquartered in El Segundo, California and has five offices in the state. It has been registered with the audit regulatory board since 2010.

Prager Metis CPAs, LLC formed Prager Metis CPAs LLP to perform professional services in California, but all employees are employed by Prager Metis CPAs, LLC, which has a service agreement with Prager Metis CPAs LLP, according to the complaint.

In the meantime, the SEC interpreted that indemnification provisions impair auditor independence since at least 1982 when the commission created the Codification of Financial Reporting Policies, which codified certain existing Accounting Series Releases.

Section 602.02.f.i. of the Codification states:

  • “When an accountant and his client, directly or through an affiliate, have entered into an agreement of indemnity which seeks to assure to the accountant immunity from liability for his own negligent acts, whether of omission or commission, one of the major stimuli to objective and unbiased consideration of the problems encountered in a particular engagement is removed or greatly weakened. Such condition must frequently induce a departure from the standards of objectivity and impartiality which the concept of independence implies. In such difficult matters, for example, as the determination of the scope of audit necessary, existence of such an agreement may easily lead to the use of less extensive or thorough procedures than would otherwise be followed. In other cases it may result in a failure to appraise with professional acumen the information disclosed by the examination. Consequently, the accountant cannot be recognized as independent for the purpose of certifying the financial statements of the corporation.”


This article originally appeared in the October 2, 2023 edition of Accounting & Compliance Alert, available on Checkpoint.

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