Watchdog drops Lehman case against Ernst & Young

The accounting watchdog has abandoned the case against Ernst & Young (E&Y) over its role as auditor of the collapsed investment bank Lehman Brothers, whose demise made a significant contribution to the global financial crisis.

The Financial Reporting Council (FRC) also said it would take no action against individuals in connection with Lehman's meltdown, as it reported on an eagerly awaited investigation into how the Big Four accounting firm audited the bank's London-based European arm.

"Following the conclusion of the investigation, the FRC's executive counsel, Gareth Rees, has decided that no action should be taken against E&Y or any individuals in connection with their conduct in this matter," an FRC spokesman said.

An E&Y spokesman responded that the decision "confirms our belief that the quality of our audit work met with the appropriate professional standards".

However, FRC said it decided not to take action against E&Y despite finding that after Lehman failed in September 2008, its administrators identified a "significant shortfall in the pool of money held on trust for clients".

UK rules in force at the time of the Lehman collapse already required banks to segregate funds that could be handed back to customers in the event of a failure, and the watchdog said E&Y had signed off to the effect that Lehman had complied with these rules.

A key issue was whether money relating to Lehman's "prime brokerage", or major wholesale clients, required segregation.

The FRC called in an expert to consider the issue but concluded there was no realistic prospect of proving a case and decided to end the matter.