RBC settles with OSC over deficiencies in accounting for software

Regulator did not allege or find evidence of dishonest or abusive conduct

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Royal Bank of Canada paid $2-million to settle Ontario Securities Commission allegations that the bank did not properly record costs related to internal development of software, part of a crackdown on the accounting treatment by three regulators in Canada and the United States.

A public hearing was held by videoconference before the Capital Markets Tribunal on November 3. during which a settlement agreement reached between the OSC and Canada’s biggest bank was approved.

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“For an extended time, RBC recorded the costs of its internally developed software projects in a manner that was inconsistent with applicable accounting standards and contrary to Ontario securities law,” said Jeff Kehoe, director of enforcement at the OSC, in a Nov. 2 statement. 

“The books and records requirements are a critical component of our compliance and enforcement work, and longstanding failures such as these undermine investor confidence in Ontario’s capital markets.”

The regulator said it did not allege, and has not found any evidence of dishonest or abusive conduct by RBC, adding that the bank has taken corrective actions designed to address the deficiencies and prevent the re-occurrence of similar events in the future.

SEC settled matter on Nov. 2

“Additionally, the investigation did not uncover evidence of harm or loss to investors, and there was no material impact on RBC’s financial statements,” the regulator said. 

The OSC acknowledged assistance from Quebec’s Autorité des marchés financiers and the U.S. Securities and Exchange Commission, which announced related settlements on Nov. 2. The SEC imposed an $8-million (US$6 million) penalty to resolve the U.S. regulator’s allegations the bank violated the books and records and internal accounting controls provisions of U.S. securities laws, with the amount to be reduced by the Canadian settlements, which included $2 million to settle the Quebec regulator’s allegations and the $2 million OSC settlement.

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An RBC spokesperson said the bank is pleased to resolve the matter. 

“While it was not large enough to be material to our financial statements, we thoroughly investigated and took action to remediate our processes,” Gillian McArdle said in an emailed statement. 

“We hold ourselves to the highest standards when it comes our financial governance and controls to ensure that we meet or exceed our regulators’ expectations and the expectations we have for ourselves.”

In what is known as a “no contest” settlement agreement, RBC neither admitted or denied the accuracy of the facts or the conclusions of the OSC. OSC staff took the position that the regulator’s conclusions were “reasonable” based on its investigation and supported by evidence reviewed.

The three-person tribunal panel chaired by OSC commissioner Tim Moseley noted that the allegations were serious and would warrant “significant” sanctions if proven, but agreed with the settling parties that the combined monetary payment by RBC “adequately addresses the important principle of deterrence.”

In the statement of allegations, which was not adjudicated by the OSC tribunal as a result of the settlement, OSC staff said RBC had a number of control and process deficiencies in a pool method of accounting for aggregated costs of smaller software projects.

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“From 2008 through 2020, RBC included projects in the pool that were ineligible for capitalization,” OSC staff said in a statement of allegations made public Nov 2. 

In addition,  Canada’s largest capital markets regulator alleged that from 2008 to 2016, RBC estimated the capitalization rate for the projects to be 78 per cent with limited supporting analysis. The bank instituted a “rate study” in 2017 to support the method, but the studies were “unreliable and did not provide sufficient support for the 78 per cent capitalization rate due to a number of deficiencies with respect to key inputs into the study and the lack of documentation to support project costs.”

Larger issues with other projects

The regulator further alleged that Canada’s largest bank had issues with its larger software development projects. A lack of effective impairment and amortization controls and procedures resulted in RBC carrying capitalized internally developed software assets in the large programs on its balance sheet at full book value when those assets should have been amortized over time commencing when they became available for use or written off, if they were impaired, the OSC said.

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According to the regulator, under accounting rules, certain costs associated with creating such internally developed software may be eligible for capitalization and recorded as intangible assets on RBC’s balance sheet rather than being recorded as expenses. However, these costs must meet certain criteria, including that they relate to the development of assets that are expected to generate future economic benefits.

“RBC failed to keep such books and records as are necessary to properly record the business transactions and financial affairs of RBC as they relate to IDS (internally developed software),” contrary to the Securities Act,” the OSC alleged.

“The maintenance of appropriate books and records requires that reporting issuers prepare and maintain those books and records in compliance with applicable accounting standards and their related internal accounting policies.”

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The regulator said it is also essential that companies “remediate” identified noncompliance with their internal accounting policies to ensure compliance with Ontario securities law. 

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