On September 19, 2014, the Ontario Securities Commission released a Notice of Hearing, advising a hearing has been
scheduled for late September to consider whether it is in the
public interest for the Commission to approve a Settlement
Agreement entered into by OSC Staff and Ernst & Young LLP
("Ernst & Young"). The Settlement Agreement relates
to allegations concerning audits conducted by Ernst & Young of
two now-bankrupt Chinese companies, Sino-Forest Corp.
("Sino-Forest") and Zungui Haixi Corp.
("Zungui"). The Settlement Agreement is noteworthy in
that it has been entered into with the audit firm on a no-contest
basis. This will mark the first no-contest settlement considered by
the OSC since it introduced its amended Credit for Cooperation
Program in March 2014, and highlights the increased risk now faced
by gatekeepers, including auditors, from regulatory
The allegations against Sino-Forest were initially filed in
December 2012, when OSC Staff issued a statement of allegations alleging that Ernst
& Young had failed to perform sufficient audit work to verify
the ownership and existence of Sino-Forest's most significant
assets. OSC Staff also alleged that Ernst & Young had failed to
undertake their audit work on Sino-Forest with a sufficient level
of professional skepticism. Roughly six months later, in June 2013,
OSC Staff issued another statement of allegations against the audit
firm, this time alleging that Ernst & Young had failed to
conduct audit work for Zungui in accordance with industry
standards, and that Ernst & Young relied on audit results that
raised more questions than they answered.
Ernst & Young also faced civil liability exposure with
regard to both audits, reaching settlement in two related
class-action lawsuits filed by investors of both companies relating
to claims arising from its audit practices. In December 2012, Ernst
& Young announced a $117 million settlement with Sino-Forest
investors, which settlement was ultimately approved by the Ontario Superior Court of
Justice in March 2013. That decision was appealed to the
Supreme Court of Canada, where leave was denied. In May 2013, Ernst &
Young also obtained court approval of a settlement
whereby it agreed to pay $2 million to settle audit claims with
The exact terms of any no-contest Settlement Agreement with
Ernst & Young will not be disclosed until and unless approval
is granted by the Commission in late September. If the Settlement
Agreement moves forward, it would mark the first no contest
settlement considered by the OSC since launch the enforcement tool.
No-contest settlements were introduced by the OSC in March 2014,
when the OSC amended its Credit for Cooperation Program to permit,
in "limited circumstances", alleged wrongdoers to settle
cases launched against them without admitting to any "facts or
liability". No-contest settlements are common south of the
border, however, as previously discussed on this blog, success has
been mixed and debate surrounds the role of court approval and review.
The enforcement action taken by the OSC against Ernst &
Young reflects a trend of increased scrutiny by Canadian regulators
at corporate gatekeepers, including auditors. This increased
scrutiny is particularly acute in cases involving an alleged
corporate fraud that results in an insolvency, where regulators
have turned their focus towards directors, officers and auditors.
Indeed, OSC Staff have been open about their intention to hold
gatekeepers accountable for their role in protecting investors. In
a December 2012 release, Tom Atkinson, the
OSC's Director of Enforcement, stated "investors rely on
auditors to conduct their audits in accordance with professional
standards, particularly when foreign companies are listing on
Canadian exchanges. If auditors fail to abide by Canadian auditing
standards and securities law, we will hold them accountable".
Audit firms must, therefore, be live to the risk of not only civil
liability in conducting their audits, but also the increasing risk
of parallel regulatory proceedings. We will continue to closely
monitor the OSC's progress with their no-contest settlement
program, and watch with interest the direction provided by the
Commission following the Ernst & Young hearing.
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guide to the subject matter. Specialist advice should be sought
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Pursuant to several recent legislative amendments and enactments, Ontario corporations holding a legal or beneficial interest in real property in Ontario are now subject to more onerous record-keeping requirements.
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