U.S. Securities & Exchange Commission
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U.S. Securities and Exchange Commission

Washington, DC

Securities Exchange Act of 1934
Release No. 45964 / May 20, 2002

Accounting and Auditing Enforcement
Release No. 1558 / May 20, 2002

Administrative Proceeding
File No. 3-10786

SEC Institutes Proceedings Against Ernst & Young to Resolve Auditor Independence Allegations
Division of Enforcement and Office of Chief Accountant Charge Firm with Violations Stemming from Joint Business Relationships with Audit Client

On May 20, 2002, the Commission instituted public administrative proceedings against Ernst & Young LLP ("E&Y") in an auditor independence case arising from E&Y's joint business relationships with one of its audit clients. As reflected in the order instituting the proceedings, the Commission's Division of Enforcement (the "Division") and Office of Chief Accountant ("OCA") have alleged that E&Y violated the auditor independence requirements imposed by the Commission's rules and by generally accepted auditing standards in connection with E&Y's audits of the financial statements of PeopleSoft Inc. from 1994 through 2000, which occurred during the same period as the joint business relationships. According to the allegations made by the Division and OCA, E&Y violated Rule 2-02(b) of Commission Regulation S-X and caused PeopleSoft to file reports with the Commission throughout the relevant period that failed to include independently audited financial statements as required. The Division and OCA are seeking an order requiring E&Y to cease and desist from committing or causing such violations, requiring E&Y to disgorge the audit fees it was paid for the audits in question, and sanctioning E&Y pursuant to Commission Rule 102(e) for engaging in improper professional conduct.

Among other things, the Division and OCA allege that, while E&Y was serving as PeopleSoft's auditor, E&Y and PeopleSoft jointly developed and marketed a software product called "EY/GEMS for PeopleSoft," which incorporated certain components of PeopleSoft's proprietary source code into software previously developed and marketed by E&Y's tax department. According to the allegations, E&Y sought to gain a competitive advantage by incorporating PeopleSoft's source code into its product, and agreed to pay PeopleSoft royalties ranging from 15% to 30% from each sale of the resulting product, with a guaranteed minimum royalty of $300,000. In addition, the Division and OCA allege that, throughout the relevant period, E&Y earned hundreds of millions of dollars in consulting revenues from implementing PeopleSoft software for third parties pursuant to an "Implementation Partners Agreement" it had with PeopleSoft. In doing so, the Division and OCA allege, E&Y closely coordinated and jointly marketed its implementation services with PeopleSoft, including reciprocal endorsements of each other, links to each other's websites, holding themselves out as "business partners" of one another, and sharing customer information, customer leads, and "target accounts."

As noted in the Commission's order, this is the second auditor independence case the Commission has commenced against E&Y. In 1991, the Commission filed a complaint in federal court charging that E&Y, by failing to maintain its independence, caused and aided and abetted violations by two other audit clients of Exchange Act Sections 13(a) and 14(a) and Rules 12b-20, 13a-1, 14a-3, and 14a-9. That case was settled in 1995 with E&Y consenting to a Final Order directing E&Y to comply with an undertaking to comply with applicable auditor independence standards and guidelines. (See Litigation Release Nos. 12,885 (June 13, 1991) and 14,442 (March 15, 1995).)

A hearing in the present case will be scheduled before an administrative law judge to determine whether the allegations contained in the order are true, to afford E&Y an opportunity to establish any defenses, and to determine what remedial actions or sanctions, if any, should be imposed against E&Y.


Modified: 05/22/2002