TIAA-CREF's handling of an auditor independence issue that led to the resignations of two company trustees last December was "ultimately successful, although there were substantial missteps" along the way, according to a report released Thursday.
The conflict arose from a business relationship between TIAA-CREF's outgoing independent auditor, Ernst & Young, William H. Waltrip, a former trustee of the Teachers Insurance and Annuity Association of America, and Professor Stephen A. Ross, a former trustee of the College Retirement Equities Fund.
"I have seen no evidence of bad faith or intentional misconduct," concluded a 52-page report by former U.S. Attorney General Nicholas deB. Katzenbach, whom the company hired to investigate TIAA-CREF's handling of the issue.
Katzenbach placed most of the blame for the issue on Ross, Waltrip, and especially E&Y, which was replaced as TIAA-CREF's auditor by PricewaterhouseCoopers.
"E&Y bore primary responsibility for assuring its own independence," the report said, adding, "Substantial responsibility also lies with Dr. Ross and Mr. Waltrip."
In a statement responding to the report, Ernst & Young said, "At the time, our independence procedures were not comprehensive enough to prevent such a situation from occurring. Since then we have aggressively reexamined our independence policies and procedures and have implemented a wide range of improvements designed to help ensure our independence. As a result, we are confident that such a mistake would not occur today."
Katzenbach criticized TIAA-CREF for not "actively" investigating the facts, for being "lenient in its initial dealings with the trustees" and for relying "far too heavily on E&Y, both with respect to ascertaining the facts and communicating with the staff of the Securities and Exchange Commission."
According to the report, TIAA-CREF's biggest shortcoming in its response was "its consistent reliance" on E&Y for information and advice. "The organization's deference to E&Y was particularly ill-advised in light of E&Y's checkered history on independence matters," Katzenbach wrote. The Big Four firm was previously barred by the SEC from accepting new audit clients for six months because of an earlier business venture with former audit client PeopleSoft Inc.
The report noted that TIAA-CREF also delayed notifying its overseers and "appears to have misread the likely and, for a time, the actual reactions of the SEC's staff."
Waltrip and Ross resigned in early December, when it was revealed that a deal made in August 2003 between E&Y's valuation practice and a company owned by the two trustees had created a conflict. The relationship, which was created to develop intellectual property and related services to value corporate stock options, was terminated in August 2004, weeks after E&Y informed TIAA-CREF that the relationship between the companies violated the SEC's auditor independence standards.
"In sum, TIAA-CREF did not appreciate the seriousness of the independence issue. While its personnel recognized that there was a theoretical possibility of drastic consequences, they saw it as a technical violation that would almost certainly be resolved promptly and without difficulty," Katzenbach wrote.
Katzenbach noted that if the company had handled the situation better, it "likely would have yielded the same result. But it likely would have done so more quickly, with less resulting internal strife and with little or no adverse publicity."
Katzenbach recommended that the pension giant overhaul its governance structure, which he said presents a "problem of power-sharing."
TIAA's board of overseers will "continue to consider with care the governance questions and suggestions" raised in the report, said Dr. Stanley O. Ikenberry, president of the TIAA Board of Overseers, in a statement.
Ikenberry noted that the company obtained sign-off from the SEC for its 2003 and 2004 financial statements, separated itself from the auditor and trustees who had generated the independence problem, and improved its trustee questionnaire. "Most importantly, the issue did not touch on the quality of TIAA-CREF's management of investor funds or the integrity of its financial statements," he added.
TIAA-CREF chairman and chief executive Herb M. Allison said that he is "pleased with the report's overall conclusions."
