KPMG Should Be Tougher on Testing, PCAOB Finds

The Big Four audit firm was cited for not ramping up its tests of some clients' assumptions and internal controls.

KPMG did not show enough skepticism toward clients last year, according to the Public Company Accounting Oversight Board, which cited the Big Four accounting firm for deficiencies related to audits it performed on nine companies. The deficiencies were detailed in an inspection report released last week by the PCAOB that covered KPMG’s 2008 audit season.

The shortcomings focused mostly on a lack of proper evidence provided by KPMG to support its audit opinions on pension plans and securities valuations. But in some instances, the firm was cited for weak testing of internal controls over financial reporting and the application of generally accepted accounting principles.

In a response letter from KPMG that was included in the inspection report, the audit firm asserted that none of the issues identified by the PCAOB required client companies to restate their financials. The firm also contended, as it had done in responses to previous inspection reports, that “professional judgments” are part of the audit as well as the PCAOB’s inspection process.

In addition, KPMG asserted that its views and those of the PCAOB sometimes diverge, particularly with regard to “the assessment of audit risk, the materiality of particular issues…resulting conclusions, and/or required documentation.”

For its part, the PCAOB made clear that inspection reports are not based on a review of all of the audits a firm completes in a year, but rather on a sampling of audits. As a result, the deficiencies raised in the annual inspection reports don’t necessarily apply across a broad swath of the firm’s audits. Nor do the reports catch all the deficiencies that might be present, the board added.

Although client names aren’t disclosed by the PCAOB and certain portions of the report are redacted, general details about the deficiencies are released. For example, the PCAOB found that KPMG did not have “sufficient” information on the pension plans of three clients to support the audit opinions it rendered.

In one instance, the audit lacked evidence about whether the pension plans contained subprime assets. In another case, the PCAOB noted, the audit firm didn’t collect enough supporting material to gain an understanding of how the trustee gauged the fair values of the assets when no quoted market prices were available.

The PCAOB, which inspects the largest public accounting firms on an annual basis, also found that three other KPMG audits were shy an appropriate amount of internal-controls testing related to loan-loss allowances, securities valuations, and financing receivables.

In one audit, KPMG accepted its client’s data on nonperforming loans without determining whether the information was “supportable and appropriate.” In another case, KPMG “failed to perform sufficient audit procedures” with regard to the valuation of hard-to-price financial instruments.

In still another case, the PCAOB found that KPMG “failed to identify” that a client’s revised accounting of an outsourcing deal was not in compliance with GAAP because some of the deferred costs failed to meet the definition of an asset — and the costs did not represent a probably future economic benefit for the client.

 

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