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NEWS ANALYSIS
KPMG, a Proud Old Lion, Brought to
Heel
By FLOYD NORRIS
Published: August 30, 2005
No major accounting firm was more certain of its own righteousness, or
more scornful of government efforts to control it, than was KPMG.
It told the Securities and Exchange Commission that the commission
had no right to interfere in the firm's choice of business activities, and
added that the commission was wrong when it fined the Xerox
Corporation for improper accounting that KPMG had
And while it was not unique among
auditing firms in selling aggressive tax
shelters, KPMG did it the longest and
showed the least regard for efforts by the
Internal Revenue Service to find out what
was happening and to force shelter
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Of all the major accounting firms, it was
the one with the strongest sense that it
alone should determine both the quality of
its work and the rules it should follow.
Proud and confident, it brooked no
criticism from regulators.
Stephen Crowley/The New York Times
Page 1 of 5
Alberto R. Gonzales, the attorney general,
announced the indictments Monday in Washington.
By late 2003, the chief executive of another Big Four accounting firm
was quietly, and privately, expressing concern that KPMG might end up
being forced out of business as Arthur Andersen had been. He could not,
he said, understand why KPMG did not understand the need to settle.
That was the old KPMG. Under new leadership, the firm announced
yesterday that it had settled with the Justice Department over the tax
shelters. It will pay $456 million, and some former partners will face
criminal charges. Richard C. Breeden, a former chairman of the S.E.C.,
will be brought in to monitor the firm's operations.
KPMG had already been forced to grovel, as it realized that its continued
existence might be in question if the Justice Department chose to file
criminal charges against it. Even before the settlement was issued, it had
said it took "full responsibility for the unlawful conduct by former
KPMG partners."
With regard to Xerox, three years ago it said, "We are not aware of any
facts" that would justify the S.E.C.'s actions, adding, "We continue to
stand behind our audit work." This spring, it settled with the S.E.C.,
paying $23.5 million in penalties and interest and agreeing to new
procedures. The commission said the evidence showed KPMG had
allowed Xerox to violate accounting rules even after KPMG's own
personnel warned of the violations.
When the I.R.S. became angered by the aggressive corporate tax shelters
being sold by accounting firms, other firms decided to pull back, and
ended up reaching settlements with the I.R.S. that cost relatively little
money. KPMG defiantly insisted it had done nothing wrong and
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defended its actions at a contentious Senate hearing.
The new KPMG, in saving itself, has not been able to save the people
who helped to run the firm. The partners involved in the Xerox case
were not covered by the S.E.C. settlement, and their trial on civil fraud
allegations by the S.E.C. is scheduled for next March. The former
partners indicted yesterday in the tax shelter case could face prison
terms.
In 2000, when the S.E.C. was trying to impose rules to assure that
auditors were independent of their clients, KPMG argued forcefully that
there was nothing in the law that gave the commission such authority.
But the S.E.C. had long exercised the right to prevent an accountant
from practicing before it, meaning that accountant could not take part in
an audit of a public company. If a firm was barred, it would effectively
be out of business, at least for a major part of its work.
Barring a major firm such as KPMG from such audits would be all but
unthinkable, and KPMG took the position that the commission had no
right to control how it conducted its business. It viewed accounting as a
self-regulated profession that should not face government control.
In 2000, KPMG first resisted but finally acceded to the deal reached by
other firms with the S.E.C., imposing relatively mild limits on nonaudit
services it could perform for audit clients. In 2002, those rules were
tightened by the Sarbanes-Oxley law, which also set up a new agency,
the Public Company Accounting Oversight Board, with authority over
the profession.
In 1998, when some accounting firms, under S.E.C. pressure, were
agreeing to reduce their consulting efforts, KPMG dug in its heels,
refusing to sell its consulting practice. "They ultimately accepted the
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same terms a couple of years later, and sold the practice in a public
offering, at a reduced price that I recall cost their partners hundreds of
millions," because the market value of such practices had declined, said
Lynn E. Turner, who was the S.E.C.'s chief accountant in the late 1990's.
The tax shelters that KPMG sold have still not been definitively ruled
illegal by courts. But the government claims that KPMG intentionally
failed to register the shelters, as required, with one internal memo saying
the profits from selling the shelters were enough to offset the risks of
civil penalties for failing to register them.
Major auditing firms have what amounts to a public franchise, since the
law requires publicly traded companies to get independent audits. The
cost of that franchise, in part, is to not come across as too hostile to the
government, whether in its efforts to administer the tax law or to prevent
accounting fraud. KPMG ignored that reality, to its eventual cost.
KPMG's determination was not unique in the auditing industry. Arthur
Andersen, which also questioned the S.E.C.'s authority over accountants,
bitterly resisted an S.E.C. enforcement action that included civil fraud
allegations over its audit of Waste Management, although it eventually
settled. But in the year after that settlement, it did not appear to change
the practices that had offended the commission, a fact that left it in a
very bad position when Enron, an Andersen audit client, collapsed.
Andersen might have failed even if criminal charges had not been filed,
but those charges sealed its fate.
Had KPMG been less certain that only it knew what was right, the cost
of its actions would have been far lower. It is fortunate for KPMG,
however, that Andersen failed first, leaving regulators fearful of what
would happen if the demise of KPMG left only a Big Three in
Page 4 of 5
accounting. But for that worry, KPMG itself might now be under
indictment.
Page 5 of 5