FTX's Auditors Settle SEC Charges for Misleading Investors

The SEC obtained a Final Judgment against an audit firm and its affiliated professional services firm for conducting deficient audits that contributed to a large crypto-related fraud.

In the Final Judgment, the US District Court for the Southern District of New York approved a settlement of SEC charges for misconduct concerning the audits of crypto asset trading platform, FTX, and violations of auditor independence obligations. In its Complaint, the SEC alleged that the accounting firm with misleading investors by falsely claiming its audits were conducted "in accordance with auditing standards generally accepted in the United States." The SEC alleged that the audits failed to meet these standards, resulting in the concealment of significant financial risks, particularly as to the crypto platform's relationship with a crypto hedge fund trading firm controlled by the platform's CEO. The SEC said the platform used this relationship to misappropriate billions in customer assets, which ultimately led to its collapse in November 2022.

In the Complaint, the SEC highlighted multiple failures in the firm's audit process, including that: (i) the audit team "lacked the competence, experience, and knowledge" to audit a large and complex crypto trading platform; (ii) the firm "rush[ed] to accept" the platform as a client, without conducting adequate due diligence; (iii) the firm failed to understand and properly audit the relationship between the crypto platform and the related hedge fund trading firm; (iv) the audit team failed to investigate whether billions in customer assets held by the trading firm on behalf of the platform were being properly accounted for or segregated; and (v) the audit firm failed to perform sufficient testing to confirm the accuracy of its financial statements. The SEC alleged that the firm also ignored several red flags during the audit, including large, round-number transactions between the platform and the hedge fund trading firm, and the rapid increase in related-party loans, which grew to $1.2 billion. The SEC said the audit team documented this relationship with a one-line workpaper and failed to follow up on the significant borrowing activity. The SEC said that this neglect of basic auditing procedures led to false audit reports intended to assure investors the platform's financial statements were accurate.

Further, after the platform's collapse, the SEC charged that the firm attempted to erase its involvement, removing references to the audit from its website. The SEC argued that this conduct, along with the firm's failure to finalize its audit workpapers until after the collapse, "operated as a fraud or deceit" on the platform's investors, who relied on the audit reports to evaluate the platform's financial health.

Under the Final Judgment: (i) the firm agreed to pay $172,728.19 in disgorgement, $27,486.64 in prejudgment interest, and a $980,000 civil penalty, for a total of $1,180,214.83; (ii) the affiliated professional services firm agreed to pay $3,868.90 in disgorgement, $916.27 in prejudgment interest, and a $20,000 civil penalty, for a total of $24,785.17; (iii) both entities were permanently enjoined from violating auditor independence requirements under applicable regulations and securities laws; (iv) both entities were enjoined from aiding and abetting violations of various provisions, including SEA Sections 13(a) ("Periodical and other reports"), 15(d) ("Registration and regulation of brokers and dealers") and 17(a) ("Records and Reports") as well as IAA Section 206(4) ("Prohibited transactions by investment advisers"); and (v) both entities were prohibited from issuing misleading audit reports or violating independence standards in their future audit work for clients filing with the SEC.