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HealthSouth Auditors Facing Federal Probe

Mar 28, 2003 | FT.COM

Federal investigators are poised to ask Ernst & Young how the auditor failed to spot a large, fake increase in the amount of cash on HealthSouth's balance sheet.

The healthcare company and some of its executives stand accused of a long-running fraud that saw revenues and earnings inflated by hundreds of millions of dollars.

On Wednesday its chief financial officer admitted his part in the scheme.

But court filings by investigators have so far made clear that the company deliberately massaged its numbers in such a way as to avoid suspicion at E&Y.

E&Y, HealthSouth's longstanding auditor, has said it is outraged at the scandal and that neither the firm nor any of its people "are the subject or target of any investigation".

However, the Securities and Exchange Commission and the Department of Justice almost always call in the auditor in financial fraud investigations. People close to the probes said the plan was to ask E&Y how a sudden and large increase in cash, one of the simplest items to check, had gone unchallenged.

HealthSouth's balance sheet at the end of the second quarter of 2002, according to regulatory filings now disowned by the company, recorded cash at $545m. That amount, the Department of Justice said this week, "was overstated by more than $300m". At the end of 2001, in a financial statement signed off by E&Y, the cash balance was $278m. At the end of the first quarter of 2002, it had dropped to $236m before leaping more than $300m in the next three months. Although accountants do not conduct an audit on quarterly numbers, they do review the accounts and discuss them with the company and independent directors.

Jack Coffee, securities expert at Columbia University, said: "This is going to raise a serious problemfor the auditors."

Robert Willens, an accounting analyst at Lehman Brothers, said auditors were supposed to obtain confirmation from a sample of banks of cash balances.

"It's one of the easiest things to audit and it does seem a little amazing.

"But a sample may have led them to conclude that everything was in order."

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