Why was KPMG India pulled up by the US audit regulator PCAOB?

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Earlier this month, the Public Company Accounting Oversight Board (PCAOB) announced seven settled disciplinary orders, sanctioning firms and individuals from KPMG’s global network for violations of professional auditing standards, quality control standards, and PCAOB rules, totalling $7.7 million in penalties.

One of these cases also included KPMG India and engagement partner Sagar Pravin Lakhani. Both were slapped with civil money penalties of $1 million and $75,000, respectively.

So, what exactly happened, and what were the triggers? Has the Indian arm of a Big 4 firm been sanctioned like this before?

Let’s break it down for you.

For starters, who or what is the PCAOB?

The PCAOB is a US-based non-profit corporation established by Congress to oversee the audits of public companies in order to protect investors and further public interest in the preparation of informative, accurate, and independent audit reports. It also oversees the audits of brokers and dealers, including compliance reports filed pursuant to federal securities laws.

So, essentially the PCAOB is an American accounting watchdog. Can it cover audit firms in other countries or jurisdictions?

Though it is a US-based authority, it can cover firms auditing those corporates which are also listed in the US and file financial reports with the SEC (Securities & Exchange Commission), the US stock market regulator. For instance, KPMG Columbia and KPMG UK were also pulled up along with KPMG India as part of the December 6 announcement.

Cool. What exactly is a settled disciplinary order?

Sure. In the case of a ‘settled disciplinary order’, in anticipation of disciplinary proceedings being instituted by the PCAOB in a matter, the respondents (in this case, KPMG India and Sagar Pravin Lakhani) submit an offer of settlement, without admitting or denying the findings, which is accepted by the PCAOB.

According to a senior chartered accountant, a similar concept is not available in India under the regime of the ICAI (Institute of Chartered Accountants of India ) or the NFRA ( National Financial Reporting Authority).

This concept can loosely be compared to ‘consent orders’ passed by the Securities and Exchange Board of India (Sebi) in India. This order settles an ongoing administrative or civil proceeding between the regulator and the party concerned, based on certain terms and conditions, with no admission or denial of guilt by the said party. Importantly, it is up to Sebi to entertain or reject applications for such consent orders. In the case of KPMG India and Lakhani, the PCAOB agreed to accept their settlement offer.

Got it. Smoke the peace pipe and move on. Ok, now back to the case details. Which Indian firm’s audit by KPMG India came under the PCAOB lens?

The name of the Indian firm has not been revealed in the PCAOB order, which was reviewed by Moneycontrol. It is referred to as Issuer A and the order states that it is “a company organised under the laws of India with headquarters in Mumbai, India. Issuer A is a banking company whose principal business activities are retail banking, wholesale banking, and treasury services.”

KPMG India served as Issuer A’s auditor for the 2017 fiscal year, and Lakhani served as the firm’s engagement partner for the 2017 Issuer A audit, according to the PCAOB.

Ok, go on…Let’s get to the meat of it….

The PCAOB found that, in the course of that audit, Lakhani and other members of the KPMG India engagement team signed on dozens of blank work papers. The papers were replaced with completed work papers, in many cases after the issuance of the audit report, but the sign-off dates were not updated. As a result, the work papers did not appropriately reflect the dates on which the audit work was actually completed and reviewed.

By signing on blank work papers and failing to appropriately supervise engagement team members, who, he knew were doing the same, Lakhani violated PCAOB documentation and supervision standards and failed to act with due professional care.

Did Lakhani face any other strictures, over and above the $75,000 penalty?

Yes, the PCAOB suspended Lakhani for one year from the date of the order(Dec 6) from being an ‘associated person of a registered public accounting firm.’

What does the order say about KPMG India?

“KPMG India was aware that its audit software allowed personnel to modify or update audit documentation without modifying the sign off date. In addition, KPMG India violated PCAOB quality control standards because its policies and procedures failed to provide adequate assurance that its personnel would document audit work in compliance with PCAOB standards.”

Any damage control undertaken by KPMG India?

Yes. According to the fine print of the PCAOB order, KPMG India has represented to the Board that since the events described in this order, the firm has disciplined some of its personnel and has established and implemented the following changes to its quality control policies and procedures:

a. Transitioned all electronic audit work paper master files to an online KPMG server (as opposed to hosting them on individual engagement team members’ laptops);

b. Implemented a firm requirement that a complete and final set of audit documentation must be assembled for retention within 14 days of the report release date for all issuer audits;

c. Prohibited the use of hard copy work papers for all audit engagements performed after December 31, 2018;

d. Sent guidance to all associated persons concerning the scope of permissible activities between the release of an audit report and the documentation completion date;

e. Instituted additional training on audit documentation for associated persons who perform audits under PCAOB standards.

Has the PCAOB penalised any Indian arm of a Big 4 firm earlier?

Yes. One high-profile case from 2011 comes to mind. Lovelock & Lewes and Price Waterhouse Bangalore agreed to pay the PCAOB a penalty of $1.5 million for their violations of PCAOB rules and standards in relation to the Satyam audit engagement, following a confession of fraud by the IT company’s chairman Ramalinga Raju.

Back home, have the desi authorities -- Sebi, ICAI and NFRA -- connected with KPMG India made any enquiries after the PCAOB action ? Is Lakhani still on the rolls of KPMG India?

Here is the audit firm’s response to these queries from Moneycontrol. “KPMG in India has reached a settlement with the PCAOB regarding this matter. As a firm, we are focused on delivering high quality audits and the conclusion of this matter, along with the enhancements we have made to our quality control systems, enables us to move forward. We remain committed to a culture built on quality and integrity in line with KPMG’s values, building public trust and delivering high-quality professional services to fulfil our important role in the capital markets. Partner working on the audit is no longer with KPMG in India.”