McGladrey & Pullen and a firm it acquired four years ago have agreed to pay the Commodity Futures Trading Commission a total of $1.7 million for their audits of the bankrupt Sentinel Management Group.
Under the settlement, McGladrey & Pullen will pay $400,000 in restitution to Sentinels customers, plus $150,000 in penalties, while the acquired firm, Altschuler Melvoin & Glasser, will pay $800,000 in restitution and $350,000 in penalties.
Altschuler also made a settlement with the Securities and Exchange Commission, agreeing to pay disgorgement of $18,700 in fees collected from 2002 through 2006, along with interest of $5,476. The SEC also censured a McGladrey director, G. Victor Johnson II, who worked at Altschuler Melvoin and Glasser at the time of the Sentinel audits.
McGladrey acquired Altschulers assets in November 2006. Altschuler is currently in liquidation, but is contractually required to complete any pending engagements, sign-off on report reissuance and consents, and defend malpractice claims. A McGladrey spokesperson declined to comment.
Sentinel, a cash management firm based in Northbrook, Ill., filed for bankruptcy in August 2007 after the National Futures Association visited its offices and found that it failed to maintain adequate books and records, including records to demonstrate the location of some accounts. At the time, Sentinel managed approximately 180 accounts for around 70 clients and had approximately $1.4 billion in assets under management.
From 2002 through 2006, Sentinel was required by the SECs custody rule to have an independent public accountant verify all of its client funds and securities by surprise examination at least once each calendar year. Altschuler was the independent public accounting firm that Sentinel retained to perform its surprise examinations from 2002 through 2006, and Johnson, who is a CPA, was the engagement partner overseeing the Sentinel surprise examinations for every year except 2004. However, he failed to conduct the examinations in accordance with the professional standards applicable to examinations, according to the SEC, thereby causing Sentinel to violate the custody rule and the Advisers Act. Johnson, 69, was also denied the privilege of appearing or practicing before the SEC as an accountant.
While conducting the examinations, Altschuler and Johnson negligently failed to meet the AICPA attestation standard requiring due professional care, according to the SEC. The SEC said he knew in 2002 of Sentinels loan from a custodian. He also was informed that Sentinel regularly transferred securities, originally purchased for the securities pools, from segregated accounts held at the custodian to Sentinels collateral account at the custodian.
In addition, Altschuler and Johnson obtained documents from the custodian during each of the surprise examinations (e.g., collateral account statement confirmations from the custodian) that reflected securities purportedly owned by the securities pools were held in Sentinels collateral account at the custodian, which Johnson knew or should have known also contained Sentinel owned securities.
Although the collateral account statements they received from the custodian were in Sentinels name and the securities in the account were not marked for the benefit of the securities pools, Altschuler and Johnson included the securities in this account in their reconciliations of the custodians records to the advisers records. Altschuler and Johnson should have recognized that Sentinel was holding some securities purportedly owned by the securities pools in a Sentinel account at the custodian.
Moreover, certain securities were shown in Sentinels records as being held in the securities pools segregated accounts, whereas the securities were shown in the custodians records as being held only in Sentinels collateral account. The examination work papers further reveal that Altschuler and Johnson obtained certain schedules (including account statements of investors in the securities pools) that showed Sentinel was using as collateral for its loan certain Securities Pools securities which were maintained in Sentinels collateral account, commingled with Sentinels own assets.
Nonetheless, based primarily on oral statements from Sentinels management, Altschuler and Johnson had reached the conclusion that Sentinel owned the securities used to collateralize the loan, contrary to documentary evidence in the examination work papers and elsewhere, and therefore they failed to follow up adequately on the inconsistencies or to design procedures to discover whether the securities pools securities were being commingled.
In addition, from 2002-2006, Johnson (for every year other than 2004) and Altschuler issued unqualified attestation opinions that stated that Sentinels assertions regarding its compliance with Rule 206(4)-2(a)(1) of the Advisers Act for the examination periods were fairly stated in all material respects. However, as a result of procedures performed and evidence obtained, Altschuler and Johnson should have known that Sentinel was not complying with Rule 206(4)-2(a)(1) because Sentinel was commingling the securities pools securities in its collateral account. Therefore, Altschuler and/or Johnson should not have issued unqualified attestation opinions, said the SEC.
In addition, contrary to the custody rule, Altschuler and Johnson failed to conduct all of their examinations of Sentinel by surprise either by providing prior notice of the examination or in one instance allowing Sentinel to choose the date of the exam.
Finally, Johnson also failed to provide sufficient supervision to the Altschuler staff members that were tasked to complete the surprise examinations. Johnson billed only 1.5 hours a year on the examinations and during that time provided little apparent guidance to the staff members carrying out the examinations. Such inadequate guidance and poor supervision fall short of the requirement of the AICPA Attestation Standards first standard of field work that assistants, if any, shall be properly supervised," the SEC noted.
The CFTC order found that, for the years 2004 through 2006, Sentinels financial statements were materially misstated and that there was a material inadequacy in Sentinels internal controls. Johnson was the partner responsible for each of the audits. The respondents audits of Sentinel were deficient in several areas that related directly to their failure to recognize and respond appropriately to the material misstatements in Sentinels financial statements and the material inadequacy in Sentinels internal controls, according to the CFTC order.
Additionally, the accounting firms and Johnson failed to conduct Sentinels audits in accordance with generally accepted auditing standards, as required by CFTC regulations. Further, the order found that, the deficiencies in the audits were directly related to Johnsons and the engagement teams failures to follow GAAS.
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