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U.K. regulator criticizes PwC over BHS audit before retailer’s collapse

The U.K.'s Financial Reporting Council condemned PricewaterhouseCoopers for mishandling an audit three years prior to retailer BHS' collapse that left two of BHS' pension funds with a combined 571 million ($728 million) deficit.

The FRC, the independent disciplinary body for the accountancy and actuarial professions in the U.K., said Wednesday the negligence relates to the year ended Aug. 30, 2014, when BHS' auditor Stephen Denison, who was with PwC at the time of the audit, failed to identify that BHS had lost money for several years and was being supported by its then owner, Taveta Group.

In June, PwC was fined 6.5 million fine by the Financial Reporting Council following a settlement.

In a document outlining the misconduct, the FRC named several other factors that should have been apparent to the auditors to cast significant doubt on BHS' ability to continue to operate and that required further investigation, the watchdog said, in particular, that BHS had significant net liabilities and its turnover had been decreasing for several years.

Also, the FRC said: "The proposed sale (of BHS) should have appeared to the auditors to cast serious doubt on the continued support of Taveta and, therefore, in the absence of audit evidence as to alternative financing, on the going concern assumption."

In addition, the FRC said Mr. Denison provided services to Taveta Group in connection with a pension transfer incentive. The auditor took fees for the pension incentive, which were contingent upon the number of pension fund participants accepting their employer's incentive to transfer out of the defined benefit funds.

However, according to the FRC's code of ethics, "contingent fee arrangements for non-audit work provided (by an auditor) can create significant self-interest threats to the auditor's objectivity and independence as the auditor may have, or may appear to have, an interest in the outcome of the non-audit service."

"The (auditor's) failures are particularly striking in relation to the contingency fee arrangement above given that contingency fee arrangements of that nature contravened guidance issued by the Pensions Regulator and by PwC itself," the FRC said.

According to FRC document, the BHS management had taken steps that appeared to improve BHS' earnings. "Many of these adjustments were unsupported by audit evidence and some appeared to be incorrect. For example, management included 12 million annually from profit held in Arcadia. The audit team understood profit held in Arcadia to comprise profits made by concessionaires. On this basis, it should have been included in the accounts of the concessionaires and not attributed to BHS."

A PwC spokesman said in an emailed statement: "We are sorry that our work fell well below the professional standards expected of us and that we demand of ourselves. This is unacceptable, and we agreed to the settlement, recognizing that it is important to learn the necessary lessons. Our audit methodology was not followed in this instance. We have taken steps to bolster the supervision and review of our audits. ... Whilst the failings did not contribute to the collapse of BHS over one year later, they were serious, and this is reflected in the Financial Reporting Council settlement. We are confident that this incident is not representative of PwC's high-quality work. ... At PwC, we take our responsibilities extremely seriously and expect our people to adhere to our values and to professional standards."

BHS owners could not be reached to comment about the FRC's position.