WSJ article re increase in reporting of caps on auditor liability

By:  Cydney Posner

In an article on June 22, 2006, WSJ describes the increase in the number of companies disclosing caps on auditor liability contained in their auditor engagement letters. (See postings 3/7/06 and 2/13/06.) The article reports that almost all of the companies that have disclosed these provisions are clients of EY or KPMG and that most of the provisions either prohibit punitive damages or mandate ADR. Note that the SEC has a long-held position that indemnity agreements that seek to provide the accountant immunity from liability for his or her own negligent acts, whether of omission or commission, impair the accountant's independence. In addition, the SEC has stated that including in engagement letters a clause that a registrant would release, indemnify or hold harmless from any liability and costs resulting from knowing misrepresentations by management would also impair the firm’s independence. (See my email of 12/15/04.)

Of course, the accounting firms reject the impairment contention, and there is otherwise some debate over whether these types of provisions (other than indemnification) impair independence. The article quotes an EY spokesman who argued that ADR is "a widely accepted process to resolve disputes," but added that EY recently stopped including punitive damage waivers in agreements with U.S. clients. PwC and KPMG are reported to have a nominal number of agreements that restrict their right to assign or transfer a claim against the auditor to a new entity if the company is bought or merged, a provision that some have categorized as a type of limitation on liability.

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