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Mattel Probe Refreshes Questions About PwC Auditor Independence

Nov. 14, 2019, 11:00 AM

Mattel Inc.'s criticism of PwC LLP while electing to retain its outside auditor adds to questions about the accounting giant’s ability to remain independent of its audit clients.

The toymaker’s audit committee found that PwC’s lead audit partner violated conflict of interest rules and provided bad advice on how to handle an income tax expense error. And now—roughly a month after settling a $7.9 million auditor independence case with the Securities and Exchange Commission—the firm is facing another independence-related probe, this time from the Public Company Accounting Oversight Board.

The firm said it responded swiftly after receiving a whistleblower complaint Aug. 2, informing Mattel, and launching its own internal review. The firm said that it dug through thousands of records as part of its own probe and swapped out members of the engagement team. The lead partner overseeing the Mattel audit is no longer with the firm, PwC told Bloomberg tax.

“We will continue to take the appropriate actions in response to any allegations of misconduct. PwC takes its role as an independent auditor seriously,” the firm said in a written statement.

Fresh Questions

Mattel should have replaced PwC, in addition to the other steps it announced to correct its own accounting and internal controls failures, said Jon Baumunk, a former investment analyst who now teaches accounting ethics at San Diego State University. That would have sent a clear message to PwC and other audit firms, he said.

Details shared by Mattel didn’t make clear why PwC’s audit staff didn’t inform the company’s leaders about a material error to the toymaker’s income tax expense, which ultimately resulted in a restatement that the company announced Oct. 29.

An auditor who is truly independent would have insisted that the CEO and the audit committee be told about the error, Baumunk said.

Auditors make mistakes, but the problem uncovered was far bigger than the $109 million value of the under-reported tax expense, which artificially inflated the toymaker’s third quarter revenue in 2017, he said.

Investors look for whether a company has control over its operations, whether it is being frank with investors and if they can trust the numbers. More importantly, Mattel is prone to quarterly swings in its earnings and stock price and the ability to track those quarterly patterns is crucial to investors, he said.

The HR Rule

Auditors aren’t supposed to audit their own work, and that’s why SEC independence rules specifically state that auditors can’t advise their client on hiring a specific candidate for a specific job, said Cathy Allen, founder of the ethics consulting firm Audit Conduct.

Mattel’s investigation found that the lead audit partner did just that by recommending candidates for senior finance positions at the company, which brought in a new controller and senior vice president for tax, and outsourced its internal audit staff, after wrapping up its 2017 fiscal year.

Auditors are allowed to give advice and feedback to their clients from accounting policies to internal controls— even on the overall competence and skill level of the client’s finance team.

But the company’s accountants are expected to be capable of deciding how to write those policies, how to structure those controls and whether gaps in the skills of its finance and accounting staff exposes it to vulnerabilities in those safeguards.

If the audit committee asks, the auditor could offer his or her input on the capability of a group of candidates or even interview them. Still, auditors should tread lightly, Allen said.

“I think that’s a really slippery slope too and I think firms have to be really careful in terms of how involved they get in that because that is also a management function,” she said.

“This is what makes independence so tough,” she said. “People think there is a complete ban on so many different types of consulting services. But actually even under SEC, there are shades of gray.”

Rocky Relationship

The 45-year relationship between PwC and Mattel is not only strained, but in transition.

The lead audit partner and chief financial officer are both being replaced. Mattel could still opt to change auditors, as well, and is likely considering whether to pursue audit liability claims against PwC, said Christopher Johnson, a securities and accountant liability lawyer at McKool Smith. Any legal disputes between the two parties would likely take place out of the public eye through arbitration, Johnson said.

He cheered the whistleblower who exposed the accounting errors and challenged the behavior of the audit partner.

“You hope that that kind of behavior is not occurring elsewhere. But we have no way of knowing,” he said.

To contact the reporter on this story: Amanda Iacone in Washington at

To contact the editors responsible for this story: Jeff Harrington at; Bernie Kohn at