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Ex-KPMG Partner’s Fraud Trial: Opening Arguments

A jury heard opening arguments in a Manhattan courtroom on Feb. 12 in the trial of a former high-ranking audit partner at KPMG who was charged with conspiracy and wire fraud for his role in a scheme to cheat the Public Company Accounting Oversight Board inspection process.

David Middendorf and co-defendant Jeffrey Wada, a former PCAOB employee who was also charged with conspiracy and wire fraud in connection with the scandal, are pleading not guilty to both charges.

Their trial, which began on Monday, is scheduled to resume today.

According to a Law360 report, federal prosecutors told the jury yesterday about how Middendorf, who was KPMG’s national managing partner for audit quality and professional practice, and other top executives at the Big 4 firm obtained leaked information from rogue PCAOB staffers in order to improve its dismal inspection results.

Prosecutors said the case is about “cheating and corruption”:

“It’s about how high level executives at KPMG, a major accounting firm, conspired to steal secret information. Now why did they do it? So they could cheat,” Assistant U.S. Attorney Jordan Estes told the panel. “Instead of playing by the rules, they decided to game the system.”

I wrote earlier that KPMG’s inspection results were dismal. I should have said their inspection results were “abysmal,” because that’s what they were in 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, something had to be done, Estes told the jury, according to Law360:

“They wanted an edge, a secret edge, an end run around the regulatory system that Congress put in place in the wake of past accounting scandals,” Estes said. “And in looking for that edge, they crossed a line, a criminal line.”

As we’ve reported, Cynthia Holder, who was a PCAOB inspections leader before joining KPMG in 2015, used her position with the audit regulator to share confidential information about certain pending inspections with Brian Sweet, a partner at KPMG at that time and a former associate director at the PCAOB. She did this while simultaneously seeking employment with the accounting firm.

Once she left the PCAOB to become an executive director at KPMG, Holder took some more intel out the door with her and gave it to Sweet, her new boss.

Authorities said Holder received confidential PCAOB information on audit selections for KPMG from Wada in both 2016 and 2017. In both instances, she shared this information with Sweet, who passed it along to Middendorf, as well as to Thomas Whittle, national partner-in-charge for inspections at KPMG, and David Britt, co-leader of KPMG’s Banking and Capital Markets Group, so extra attention would be placed on these audits before they were inspected by the PCAOB.

Authorities have said that Wada was willing to share inspection information with Holder because he, too, wanted a job at the House of Klynveld.

The six conspirators was indicted by federal authorities in late January 2018 and accused of participating in a scheme to defraud the PCAOB and the U.S. Securities and Exchange Commission.

According to Law360, SEC Chief Accountant Wesley Bricker took the stand on Tuesday and talked about meetings he had with Middendorf in 2015 and 2016, where the former KPMG audit partner mentioned the “challenges” the firm was having with the PCAOB’s inspections of its audits.

Nelson Boxer, an attorney with Petrillo Klein & Boxer, which is representing Middendorf, told the jury Sweet is mostly to blame for the mess KPMG got into and claims his client “blew the whistle to KPMG’s compliance department when he learned of the scope of Sweet’s misdeeds,” according to Law360. Boxer added that poor judgment or making a bad decision isn’t a federal crime and that Middendorf “did not have an intent to commit the crime charged here, which is fraud.”

Stephen Cook, an attorney with Brown Rudnick, the law firm representing Wada, told the jury that KPMG was getting confidential PCAOB information from several sources, including current and former PCAOB employees, but said there’s no evidence that Wada was the source of the stolen inspection lists.

On Oct. 16, 2018, Holder pleaded guilty in Manhattan federal court to one count of conspiracy to defraud the United States, one count of conspiracy to commit wire fraud, and two counts of wire fraud. She is expected to be sentenced on April 5 and could face up to 20 years in prison.

Nearly two weeks later, Whittle pleaded guilty to wire fraud and conspiracy charges, pursuant to a plea agreement with the government, in Manhattan federal court. He is expected to be sentenced on Sept. 13.

Sweet pled guilty to conspiracy and wire fraud charges in early January 2018 and is said to be cooperating with the government. Britt’s trial will reportedly begin in October.