KPMG – Were They Threats or Desperate Pleas?

I have weighed in before on KPMG and its problems. Although I have many friends and former colleagues there, all good people, I will reiterate. I think KPMG is closest to the precipice. They are no more deserving of this precarious position than any of the other Big 4, but closest and still teetering.

I have to reprint most of this article from Bloomberg. Most reports you’ll see are short. This one has some unbelievably juicy quotes that the men on both sides are now trying to deny, given the fact that they naively thought they would never be public. Not sure why they may have thought that, given the ongoing litigation with the KPMG Tax partners and others related to that case. There’s a hearing on July 2 in Manhattan in that matter. I may decide to take a trip to the Big Apple and see the drama for myself.

It’s either that or watch the Family Secrets trial getting started here in Chicago. I am not sure how to decide. Both will tell us where some of the bodies were buried.

KPMG Weighed Bankruptcy as U.S. Threatened Charges, Memos Say

“KPMG LLP, anticipating criminal charges would be a “nuclear bomb” that would wipe out the accounting firm, pleaded with federal officials in 2005 not to indict it for selling fraudulent tax shelters, newly released internal documents show. Expecting the worst, KPMG partners sought advice from bankruptcy lawyers, the internal documents show. The firm’s attorneys told prosecutors that KPMG’s demise would disrupt capital markets, leaving more than 1,000 companies without an auditor.

The argument was dismissed as “ridiculous” by David Kelley, then the U.S. attorney in New York in charge of the case. “You are not the only firm in trouble and not just from criminal exposure,” Kelley said, according to the memos. “The industry is going to crap.” …In the end, the documents reveal, the U.S. Justice Department’s top two officials interceded, and KPMG avoided the fate of Arthur Andersen LLP …The papers came to light only because of a related criminal case against 18 individuals, mostly former KPMG employees. They are asking U.S. District Judge Lewis Kaplan to throw out the charges on grounds the government violated their constitutional rights by pressuring KPMG to cut off legal support for the former employees. Kaplan will hold a hearing on the issue July 2 in federal court in Manhattan.

…Indicting KPMG, one of the remaining four big U.S. accounting firms, would have the same effect, its attorney, Robert Bennett, told prosecutors at a March 2, 2005, meeting, the memos show.

“A death spiral is going to start, and KPMG will be out of business,” Bennett said.

…To help pay any fine, O’Kelly said that the New York-based firm had withheld about $40,000 from each partner’s salary, which averaged $570,000 a year. Bennett promised cooperation to “help you indict” those involved in wrongdoing.

Bennett, in an interview, said he doesn’t remember saying the firm would help prosecutors indict the ex-partners. “What I meant was, we are not going to hide the ball,” he said. “We were not protecting these people, that’s for sure. If they committed a fraud, they should go to jail.”

U.S. Attorney Kelley, who has since left government for private practice, told KPMG he wasn’t very concerned about the “collateral consequences” of an indictment, according to one memo.

Joseph Barloon, a KPMG defense lawyer, said in a note written after meeting with Kelley that the prosecutor “indicated that it might be preferable for the industry if KPMG were to go out of business” because the firm was “infected with corruption.”
Kelley, in an interview, said he didn’t recall using the words attributed to him in the memos. “It doesn’t sound like language I would use,” he said, adding that the issues mentioned in the documents were discussed during settlement talks.

…As for a financial penalty, Weddle was thinking big. “One billion? That would send a message,” he said, according to Barloon’s memo.

The talks with the government reached a turning point on June 13, 2005, when KPMG partners and lawyers met with the then- No. 2 official at the Justice Department, Deputy Attorney General James Comey, to appeal Kelley’s decision to seek an indictment.

The firm was represented by a team that included Bennett, new Chairman Timothy Flynn and Sven Erik Holmes, a former federal judge hired by the firm to be its top in-house lawyer. “We cannot enter a plea,” Bennett said, according to a memo. “We’re not saying that in a macho way. We simply can’t do it and survive.”

KPMG employed 20,000 people “whose lives will be destroyed,” he said. “We’re asking you to use a smart bomb, not a nuclear bomb.”

As for cooperating with the investigation, Bennett said the firm had done something “never heard of before”: agreeing to pay attorneys’ fees for its employees only if they assisted the prosecution.

“We said we’d pressure — although we didn’t use that word — our employees to cooperate,” Bennett said. Whether that pressure violated the rights of the indicted former employees will be argued before Judge Kaplan next month.

As for indicting KPMG, Comey told the firm’s representatives at the June 13 meeting that he had already consulted with Attorney General Alberto Gonzales about the case.

Comey said he was “struck by the scope of the wrongdoing,” according to the internal documents. He also expressed concern that audit firms after the Andersen case might believe they were immune from prosecution.
Does the notion of corporate criminal liability mean anything for the Big 4?” Comey asked.

About two weeks after meeting with Comey, the KPMG legal team met in New York with Kelley and his aides and got the good news: Comey and Gonzales decided against an indictment of the firm, the papers show…details of the deal that would be announced at a Gonzales news conference on Aug. 29, 2005, at the Justice Department’s Washington headquarters.

The resolution, Gonzales said, “reflects the reality that the conviction of an organization can affect innocent workers and others associated with the organization, and can even have an impact on the national economy.”

12 replies
  1. Anonymous
    Anonymous says:

    Francine – do you still think that KPMG will fall next? What about Deloitte? Rumor has it that Deloitte’s handling of the Bear Stearn audit is a big case against it.

  2. Francine McKenna
    Francine McKenna says:


    I’m going to address this question on a blog post hopefully tomorrow. Many asking about Deloitte’s future given insider trading issue and subprime client losses and litigation and others asking where a new grad should go given the issues all the firms have.

    So many things to write about…

Trackbacks & Pingbacks

  1. […] sued Flanagan to assuage its clients. I would expect that’s next. If KPMG’s behavior during the 2005 tax shelter scandal is any indication, Scott London will be completely abandoned, not just fired, as long as he’s not […]

  2. […] is Flynn the director most vulnerable to pressure from regulators and prosecutors? He’s the guy who threw his own partners under the bus and agreed to pay almost $500 million to save KPMG when it […]

  3. […] distance themselves from the “rogue” partners and firms, sometimes going so far as to pull their legal support or sue them in order to save their own […]

  4. […] KPMG knows that being under the thumb of a federally mandated monitor in the event of a near-death by litigation is the lesser of two evils. Their leadership decided quickly who was at fault in their tax shelter scandal, threw their own partners under the bus – and withheld funds for their defense – then cut a deal with the Department of Justice. They’ve survived to thrive. […]

  5. […] paid to settle Tyco ($225 million) and be less than what KPMG paid ($456 million) to settle their near fatal tax shelter sins or what EY paid a few years ago to settle Cendant ($335 […]

  6. […] the US Treasury, via the IRS, was scaring the living daylights out of KPMG over tax shelter abuses in 2005 and the Department of Justice was considering indicting the firm, […]

  7. […] policy was first voiced by Attorney General Alberto Gonzalez when he let “KPMG the firm” off the hook for tax shelter transgressions in 2005. KPMG […]

  8. […] be a rat to the profession, but Mother Deloitte also deserves to be tried, and not allowed to throw its babies under a bus. Thanks for subscribing to the re: The Auditors feed. Please tell a colleague […]

  9. […] My next question is: Where is the SEC on this issue? When will they force the Big 4 to publicly disclose how much they have in reserve to protect the investor public, their other clients, their employees and partners, their business communities and their vendors from a nuclear bomb? […]

  10. […] at PCAOB is even cold?   Even the SEC has stricter rules. Remember, Mr. Ray was at the PCAOB when KPMG escaped the guillotine in the tax shelter case.   Mr. Ray presided over investigations of partner misconduct at Deloitte. […]

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