Don’t mess with the U.S. audit regulator, or accountants could find themselves heading to prison.
That’s just one lesson for the accounting profession as David Middendorf, former KPMG LLP national managing partner, and Jeffrey Wada, a former inspections leader for the Public Company Accounting Oversight Board, face decades in prison after they were found guilty of fraud charges this week.
The March 11 convictions bring to five the auditors who now face prison time for a plot to use stolen records from the PCAOB to improve KPMG’s annual inspection results.
“It underscores the fact that PCAOB inspections are really the cornerstone of the audit oversight system that Congress put in place,” said Dan Goelzer, an original member of the board. “Anybody who compromises the integrity of the inspections process is appropriately going to face serious consequences.”
The 2002 Sarbanes Oxley Act created the PCAOB to restore trust in financial reporting after a series of accounting scandals led to the collapse of Enron Corp., WorldCom Inc., and audit firm Arthur Andersen.
In a statement to Bloomberg Tax, board Chairman William Duhnke said that protecting the integrity of confidential PCAOB information plays a crucial role in fulfilling its statutory mission.
“The misconduct that led to the trial directly contradicts the public’s expectations of the auditing profession, as well as the mission, vision, and values of the PCAOB,” Duhnke said.
KPMG, one of the four largest accounting firms in the U.S., declined to comment.
The firm’s audit staff poached PCAOB employees, accessed confidential records related to the board’s inspection plans, and used that ill-gotten information to revamp the work papers for audits firm leaders knew would be scrutinized, according to court records.
A ‘Sobering Reminder’
The plot to cheat on the firm’s regulatory review is considered an outlier, not a symptom of a wider problem of firms looking to buy access or otherwise subvert their regulator, several industry watchers said.
Still the episode represents a major embarrassment that could erode investors’ trust in the profession and in the value of the audit, said Jeff Johanns,a former PwC LLP audit partner who now teaches at the University of Texas at Austin.
“I think for everyone it’s a sobering reminder,” Johanns said. “The most important things that someone in public accounting can do is live to the standards of the profession for integrity, objectivity, and independence.”
KPMG and the PCAOB have already responded to the failures, most notably by bringing in new leadership and overhauling policies and procedures.
But the case exposed weaknesses in the board’s inspection process, which grades firm performance against compliance with the text of the board’s own rules, not whether the financial reports were materially accurate, Johanns said.
Jim Peterson, an author and former staff attorney for now defunct Arthur Andersen, said the board’s inspection process offers little transparency into the true quality of the auditing.
“The entire structure is not set up to inspire confidence and credibility in the process,” he said.
Under new leadership, the PCAOB plans to address such criticisms.
The board has said it wants to shorten the turnaround time to release its inspection reports. It wants to write those reports so investors have an easier time reading them and to provide a more even-handed look at the effectiveness of the audit.
The board also plans to upgrade its rules for how the firms patrol their own staff and audit work.