DC Circuit Dismisses PCAOB Proceeding For Constitutional Error

The PCAOB excluded from a witness interview an expert accountant assisting counsel for the witness. The Board cited a rule which authorizes it to limit those in attendance at an interview. The DC Circuit granted a petition for review, remanded the proceedings to the SEC and vacated the Board’s underlying orders and sanctions. Laccetti v. Securities and Exchange Commission, No. 16-1368 (March 23, 2018).

The PCAOB investigated an audit conducted by Ernst & Young. Mark Laccetti was the partner in charge of the audit. During the investigation Mr. Laccetti was interviewed by the Board. At the interview he was represented by an attorney employed by Ernst & Young. The Board refused to permit an expert accountant, also from the audit firm, to assist counsel during the interview. The Board charged Mr. Laccetti with violating its rules and auditing standards. He was suspended for a period of two years and directed to pay a fine of $85,000. The SEC affirmed.

Board investigations must be conducted in accord with “fair procedures” under 15 U.S.C. section 7215(a), the Circuit Court began. That same section provides that any person compelled to testify has the right to be represented by counsel. Mr. Laccetti argued that the exclusion of an expert to assist his counsel during the interview violated his right to counsel. The Court agreed.

The Circuit Court offered three reasons to support its conclusion. First, the arbitrary and capricious standard requires that “an agency’s action be reasonable and reasonably explained. Here, the Board’s explanation for denying Laccetti’s request was not reasonable.” The Board’s rational for excluding the accountant is that it did not want Ernst & Young personnel to be present. This “makes no sense here” the Court found. The attorney representing Mr. Laccetti was employed by the audit firm which is consistent with the applicable rules. The Board offered no good response on this point in its papers or at oral argument except to repeat over and over that it had the right to exclude the person. Indeed, this is not a case where the Board sought to exclude “all company-affiliated personnel from the interview on the ground that Laccetti wished to keep his testimony confidential from the company . . .”

Second, even if the Board wanted to bar an Ernst & Young affiliated accounting expert “that explanation would not justify the Board’s denying Laccetti any accounting expert.” (emphasis original). If this were the case the Board could have told Mr. Laccetti that a non-firm expert could assist him. It did not. Rather, it “flatly stated that ‘the presence of a technical expert consultant’ is ‘not appropriate at this time,’” quoting from a Board letter to Mr. Lacccetti. While the Board tried to argue that the letter was not a blanket exclusion the Court flatly rejected this reading of the document, concluding that the Board’s rationale for excluding the expert was not justified.

Third, the Board’s rules “establish that the Board could not bar Laccetti from using an accounting expert to assist his counsel in these circumstances.” In SEC v. Whitman, 613 F. Supp. 48 (D.D.C. 1985) the Court was faced with virtually the identical issue presented here. Interpreting Section 555(b) of the APA, the Court rejected the SEC’s claim that it could exclude an accountant there to assist the witness’ counsel.

While the Board does not challenge Whitman it tries to claim the situation here is different because it is based on a Board rule, not the APA. The Court rejected this contention: “We disagree that the right to counsel guaranteed by the Board’s rules can reasonably be read to be less than the right to counsel guaranteed by the APA.” The Board’s rules do give it the right to exclude persons. That does not mean it can infringe on the right to counsel. The Board can change its rules, subject to constitutional and statutory constraints, but at present it does not have the right to exclude an accountant assisting counsel. This, the Court noted, means that its holding is narrow since it is keyed to the current rule.

Finally, the Court rejected a claim that any error was harmless. Regardless of whether the error was structural and not subject to the harmless error rule, here the Commission conceded that the decision to institute proceedings may have been based in part on the testimony of Mr. Laccetti. Therefore the error was not harmless and “the only reasonable remedy is for the Board, if it chooses and if the law otherwise permits, to open a new disciplinary proceeding against Laccetti and, if it chooses to re-interview Laccetti, to do so without violating his right to counsel . . . Infringement of . . . [the right to counsel[ is a serious matter. We cannot sweep that violation under the rug . . .”

Program: Insights Into SEC Enforcement, is roundtable discussion of the Former Directors of the SEC’s Division of Enforcement that will be held on April 3, 2018 beginning a 4:30 p.m. at Georgetown University Law School. The program will be followed by a reception. Registration is available here without charge. The program is sponsored by the SEC Historical Society, the Federal Bar Association, and the Association of SEC Alumni.