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Ex-KPMG Partner David Middendorf Was Spared a Lengthy Prison Sentence

A second member of the “KPMG 5” will serve jail time for his involvement in an information-stealing scheme to cheat the PCAOB inspection process.

David Middendorf

David Middendorf, former national managing partner for audit quality and professional practice at KPMG, was sentenced this morning in Manhattan federal court to one year and one day in federal prison, exactly six months after he was convicted by a jury on three counts of wire fraud and one count of conspiracy to commit wire fraud.

According to Bloomberg, U.S. District Judge J. Paul Oetken gave Middendorf a year and a day because a sentence of more than 12 months allows a prisoner to get credit for good behavior. So there’s a good chance Middendorf will only spend about 10 months in jail.

Often, people who are convicted of wire fraud get sentenced to 57 months in prison; prosecutors reportedly were pushing for a three-year sentence for Middendorf. Not that I expected him to be in jail for four or five years, but given his position in KPMG’s audit practice and how he was involved in orchestrating the whole thing, I was thinking Middendorf would get somewhere in the ballpark of two to three years.

In his ruling, Oetken said he considered the fact that Middendorf’s fraud was not a typical one where a defendant lined his own pockets, but rather a crime to benefit his employer, Law360 reported.

The catalyst for the scheme was KPMG’s piss-poor performance in PCAOB inspection reports for 2013 and 2014. In KPMG’s 2013 inspection report, the firm had deficiencies in 46% of audits inspected by the PCAOB; in 2014’s report, the PCAOB found deficiencies in more than half (54%) of audits inspected. So, the KPMG executives put a plan in place to cheat the regulatory system and better the firm’s scores.

Still, Oetken said Middendorf’s participation in the scheme necessitated jail time, according to Law360.

“The criminal conduct in this case was serious,” the judge said. “It was serious because it involved the corruption of a regulatory process.”

Middendorf, who is free on bail while he appeals his conviction, reportedly admitted to the court that he made mistakes but never imagined those mistakes would lead to jail time.

Geoffrey Berman, U.S. attorney for the Southern District of New York, had this to say about Middendorf’s sentencing:

“As the head of the KPMG department responsible for the quality of its audits, David Middendorf was at the top of a chain of corruption that threatened to corrupt KPMG and the PCAOB’s inspections process.  Today’s sentence recognizes the harm this fraudulent scheme caused to the PCAOB and the auditing profession more generally.”

Middendorf, 55, was one of five KPMG executives who were indicted for their role in the scandal in which PCAOB insiders fed KPMG leaders secret plans on which of the Big 4 firm’s public company audits the regulator would be inspecting.

Cynthia Holder, a former PCAOB inspections leader who later worked as an executive director at KPMG, was sentenced to eight months in federal prison on Aug. 9. She was ordered to report to prison on Oct. 15.

Two other former KPMG partners have pleaded guilty for their roles in the cheating scandal. Thomas Whittle, national partner-in-charge of inspections at KPMG, pleaded guilty last Oct. 29 to wire fraud and conspiracy charges as part of a plea agreement with the government. He is expected to be sentenced later this month.

Ex-KPMG partner Brian Sweet pleaded guilty to conspiracy and wire fraud charges in January 2018. A fifth ex-KPMG executive, David Britt, co-leader of the firm’s Banking and Capital Markets Group, is expected to go on trial on Oct. 21.

Sweet and Whittle testified against Middendorf, whom they reported to. Holder did not testify.

In addition, ex-PCAOB staffer Jeffrey Wada, who provided Holder, a former colleague at the PCAOB, with confidential information on which KPMG clients would be inspected by the audit regulator in 2016 and 2017, was convicted of one count of conspiracy to commit wire fraud and two counts of wire fraud during the same jury trial as Middendorf’s. Both Wada and Middendorf were acquitted of conspiracy to defraud the U.S.

I asked Michael Shaub, accounting professor at Texas A&M University, if he thought Wada and the other KPMG partners would receive sentences similar to those handed out to Holder and Middendorf. He said it’s probably unlikely that anyone else in the case will get a longer sentence.

The SEC announced a settlement with KPMG on June 17 in which the firm will pay a $50 million fine and take  “significant remedial actions” to improve its ethics and integrity, not only because of the PCAOB cheating scandal, but also because several KPMG auditors, at all levels of seniority, were found to have cheated on internal training exams by improperly sharing answers and manipulating test results.