UNITED STATES OF AMERICA
In the Matter of
|ORDER INSTITUTING PUBLIC ADMINISTRATIVE PROCEEDINGS AND OPINION AND ORDER PURSUANT TO RULE 102(e) OF THE COMMISSION'S RULES OF PRACTICE|
The Securities and Exchange Commission ("Commission") deems it appropriate and in the public interest to institute public administrative proceedings against KPMG LLP pursuant to Rule 102(e)1 of the Commission's Rules of Practice.
In anticipation of the institution of these proceedings, KPMG has submitted an Offer of Settlement, which the Commission has determined to accept. Solely for the purpose of these proceedings and any other proceedings brought by or on behalf of the Commission, or to which the Commission is a party, and without admitting or denying the facts, findings, or conclusions herein, except that KPMG admits the Commission's jurisdiction over it and the subject matter of these proceedings, KPMG consents to the entry of this Order Instituting Public Administrative Proceedings and Opinion and Order Pursuant to Rule 102(e) of the Commission's Rules of Practice ("Order").
The Commission finds that:2
KPMG LLP is a limited liability partnership headquartered in New York, New York, with administrative offices in Montvale, New Jersey. KPMG is engaged in the business of providing, among other things, accounting and auditing services.
B. Other Relevant Entities
AIM Funds ("AIM") is a family of mutual funds managed by AIM Management
Group, Inc., which is headquartered in Houston, Texas, and its various subsidiaries. AIM offers more than 50 different funds and portfolios to both retail and institutional clients, and has approximately $141 billion in assets under management.
Short-Term Investments Trust ("STIT") is a money market fund within the AIM family of funds. STIT is a business trust organized under the laws of Delaware, and is registered with the Commission pursuant to Section 8 of the Investment Company Act of 1940 as an open-end, diversified management investment company within the meaning of Sections 4 and 5 of the Act. STIT is comprised of three different money market portfolios: the Government & Agency Portfolio, the Treasury Portfolio, and the Government Tax Advantage Portfolio, each of which was separately audited by KPMG during the relevant period.
Until December 2000, KPMG had been AIM's principal outside auditor since the mutual fund company began its operations in 1976. In recent years, KPMG audited the financial statements of between 45 and 50 different AIM funds and portfolios, many of which are comprised of several different "classes" that report separately to their shareholders and file reports and forms separately with the Commission.
Among the many AIM funds and portfolios audited by KPMG was the Government & Agency Portfolio (GAP), one of the three constituent portfolios of STIT. The GAP portfolio is a money market fund offered only to AIM's institutional clients. Although such institutional clients can open accounts directly with AIM, some become shareholders through "subaccounts" opened with brokerage firms or other intermediaries. One of the intermediaries authorized to solicit and open such subaccounts is SunTrust Equitable Securities Corporation ("SunTrust"), the broker-dealer subsidiary of SunTrust Bank.
2. KPMG's Investment With AIM
In late April 2000, KPMG renewed its revolving credit facility with a consortium of lenders, one of which was SunTrust Bank. In connection with that renewal, a SunTrust Bank representative approached KPMG's then-Treasurer3 and requested that KPMG consider investing some of its excess operating cash with SunTrust. The Treasurer, who oversaw KPMG's borrowing activities as well as its investments of surplus cash, told the SunTrust Bank representative that if SunTrust had an appropriate investment, the representative should contact KPMG's Cash Manager, who reported directly to the Treasurer. The Treasurer thereafter told his Cash Manager to expect a call from SunTrust seeking to open an account for the investment of surplus cash. At the time, KPMG had eight other money market accounts at various institutions for the investment of its surplus cash.
Within a few days, in late April or early May 2000, a representative of SunTrust contacted KPMG's Cash Manager to discuss KPMG's potential investment in a government money market fund offered through SunTrust. One of the options they discussed was an AIM government money market fund that offered a competitive rate of return and was consistent with KPMG's investment criteria. After several discussions, the SunTrust representative faxed the Cash Manager a "subaccount" application to be completed and returned before an account could be opened. The application prominently displayed the words "AIM Institutional Funds" in large letters beside the SunTrust logo at the top of the first page, and offered six investment options from which KPMG was to choose, prefaced by the words: "We wish to establish an account(s) in the following AIM Institutional Funds (the `Fund')." Other sections of the application, including a trading authorization section and an indemnification clause, likewise identified the various funds and their management company as being affiliated with AIM.
After completing the subaccount application and choosing the GAP portfolio of STIT as the investment option, KPMG's Cash Manager gave the application to the administrative assistant for KPMG's Chief Financial Officer with a request that the CFO execute the application on behalf of the firm. The CFO thereafter signed the account application without reviewing the document. After obtaining the CFO's signature, the Cash Manager faxed the completed application to SunTrust and the account was opened. The Cash Manager, who had authority to direct funds to any money market account previously approved by the firm's CFO in amounts up to $200 million, instructed a subordinate to make an initial investment of $25 million in the new account on May 5, 2000.
After the initial investment of $25 million, KPMG made eleven additional investments over the course of the next two months so that, from July 6, 2000, through September 18, 2000, KPMG's account balance in STIT represented approximately 35% of KPMG's total invested surplus cash and constituted approximately 15% of STIT's net assets. KPMG redemptions in September and early October brought the account balance down to an amount that represented approximately 18% of KPMG's total invested surplus cash, where it remained until shortly before the account was closed in late December. Each time KPMG either purchased or redeemed shares, a KPMG Treasury Department employee effectuated the transaction by calling the toll-free "800" telephone number for AIM shareholder services, which routinely answered each caller with the greeting "AIM Funds, this is [name]." Each time, the funds would be wired later in the day and AIM would mail KPMG its trade confirmation addressed to the attention of KPMG's Treasurer. AIM also sent its monthly account statements to KPMG's Treasurer. The trade confirmations and account statements were on AIM letterhead, but were not reviewed by KPMG's Treasurer because, on receipt, they apparently were directed by an administrative assistant to the Assistant Cash Manager.
In November 2000, KPMG's Department of Professional Practice ("DPP") requested that the firm's Treasurer help compile a complete list of the firm's investments as part of the SEC's voluntary "look back" program.4 At the Treasurer's direction, one of his subordinates prepared a list from the firm's Treasury Department, which in its last iteration included an investment identified as "AIM Institutional Funds/Suntrust Bank." On November 17, this list was e-mailed to KPMG's Treasurer, Cash Manager, and several other KPMG employees, including an individual in the firm's DPP. Notwithstanding the circulation of this list to recipients in both KPMG's Treasury Department and its DPP, no one at KPMG noticed that one of the listed investments was with one of the firm's audit clients.
On December 19, 2000, an AIM employee was performing a routine check of large redemptions and came across KPMG's name as an investor in STIT. Recognizing KPMG as AIM's outside auditor, the employee brought this information to the attention of AIM management, and AIM alerted a member of the KPMG audit team. No member of the KPMG audit team had any prior knowledge that KPMG had an investment in an AIM fund. After it was alerted by AIM, KPMG immediately liquidated its remaining investment in STIT. Ultimately, KPMG resigned from all of its AIM fund audit engagements,5 and AIM retained another accounting firm to reaudit the financial statements that were to be included in filings due from each of the three STIT portfolios on December 29, 2000.6 In contemporaneous filings for other AIM funds, AIM included KPMG's audit reports for the financial statements of those funds, accompanied by a disclosure regarding the firm's independence issue with STIT.
3. KPMG Audited STIT While Its Independence Was Impaired
As described above, KPMG had a substantial investment in STIT throughout the period from May 5, 2000 through December 19, 2000. That time period overlapped with some portion of the fiscal years of all three constituent portfolios of STIT -- for which KPMG issued audit reports that were included in semi-annual reports sent by AIM to STIT shareholders and filed by AIM with the Commission during the second half of 2000. For example, on November 9, 2000, STIT made 16 separate filings on Form N-30D (semi-annual reports to shareholders for the period ended August 31, 2000), one for each of the individual classes of its three constituent portfolios. Each of those filings contained a KPMG audit report for STIT dated October 6, 2000.
In addition to issuing audit reports while its independence was impaired, KPMG repeatedly confirmed its putative independence from the AIM funds it audited, including STIT, during the period in which it was invested in STIT. Pursuant to Independence Standards Board Standard ("ISB") No. 1, Independence Discussions With Audit Committees, KPMG sent letters to AIM's audit committee dated May 30, 2000, September 1, 2000, and November 1, 2000, each time assuring the committee that the firm was "not aware of any relationships between [KPMG] and the [AIM] Funds that, in our professional judgment, may reasonably be thought to bear on our independence," and confirming to the committee that KPMG's auditors were "independent accountants with respect to the [AIM] Funds, within the meaning of the Securities Acts administered by the Securities and Exchange Commission and the requirements of the Independence Standards Board." KPMG similarly confirmed its independence in oral discussions with AIM's audit committee during the period in which it lacked independence.
4. KPMG Lacked Adequate Policies and Procedures Designed to Prevent and Detect the Independence Problem That Occurred With AIM
Until AIM brought the matter to KPMG's attention in December 2000, KPMG was unaware that a significant portion of the firm's surplus cash had been invested for more than seven months with one of its audit clients. This impairment of KPMG's independence occurred primarily because the firm lacked adequate policies or procedures to prevent or detect this independence problem, and because the steps that KPMG personnel usually took before initiating similar firm investments were not taken here. For example, although KPMG Treasury Department personnel were generally aware of the firm's policy to avoid investing firm funds in restricted entities, KPMG had not prepared or distributed a written set of procedures required to be taken by Treasury Department personnel to avoid independence-impairing relationships. In particular, KPMG had no specific procedure directing its Treasury Department personnel to check the firm's "restricted entity list" to confirm that a proposed investment was not restricted.7 Typically, before opening a new money market account for the firm, KPMG's Cash Manager reviewed the most recent prospectus available for the fund to confirm that KPMG was not identified as the auditor. She apparently failed to take this precaution with STIT because she mistakenly believed, based on her contact with SunTrust in opening the account, that the fund in question was a SunTrust fund, and because she understood that SunTrust Bank, as one of KPMG's lenders, was not a restricted entity.8
KPMG also had no specific policies or procedures requiring any participation by a KPMG partner in the investigation and selection of money market investments before the firm opened a new account for the investment of surplus cash. The Treasury Department's written investment policy memorandum, which was reviewed annually by the firm's Chief Financial Officer, included a list of money market funds approved for the investment of the firm's surplus cash, and required written approval from the Chief Financial Officer for investment in any money market funds that were not on the list.9 In the case of STIT, KPMG's Cash Manager, a clerical employee with neither an accounting background nor any formal training regarding auditor independence, opened a new investment account on behalf of KPMG with no significant oversight by either the firm's Treasurer or its Chief Financial Officer. The Chief Financial Officer apparently signed the account application form on the firm's behalf without reviewing it.
Finally, KPMG had no policies or procedures designed to put KPMG audit professionals on notice of where the firm's cash was invested, or requiring them to check a listing of the firm's investments, prior to accepting new audit engagements or confirming the firm's independence from audit clients in accordance with ISB No. 1. KPMG had no requirement that its Treasury Department issue a firm-wide notice when it initiated a new investment on behalf of the firm, and the firm did not maintain a comprehensive list of its investments. As a result, there was no procedure available to KPMG audit engagement partners that would have allowed them to confirm the firm's independence before having communications with audit clients as required by ISB No. 1.
D. Legal Analysis
Section 30 of the Investment Company Act requires that all financial statements included in annual reports sent to investment company shareholders, or filed with the Commission, be accompanied by a "certificate of independent public accountants." 15 U.S.C. § 80a-30(i). Section 2-01 of Regulation S-X, both before and after the Commission's recent amendments thereto, clearly states that the Commission does not consider an accountant to be "independent" from its client if the accountant has any direct financial interest or material indirect financial interest in the client. Section 602.02.b.i of the Commission's Codification of Financial Reporting Policies states that "[t]he ownership of a financial interest in an audit client or its affiliates is one of the principal factors having an adverse effect on the independence of accountants." See also Revision of the Commission's Auditor Independence Requirements, Rel. Nos. 33-7919, 34-43602; 35-27279; IC-24744; IA-1911; FR-56 (Nov. 21, 2000) (adopting revised auditor independence requirements and reiterating importance of auditor independence).
Section 2-02 of Regulation S-X requires an accountant's audit report to state "whether the audit was made in accordance with generally accepted auditing standards." Here, KPMG's audit reports on the financial statements of the STIT portfolios for the fiscal year ended August 31, 2000 stated that the audits were conducted in accordance with GAAS, when in fact they were not. Consistent with the Commission's rules and pronouncements, GAAS requires auditors to maintain strict independence from their audit clients. Statement on Auditing Standards No. 1, Codification of Auditing Standards and Procedures (commonly referred to as "SAS No. 1"), explains the independence requirement as follows:
It is of utmost importance to the profession that the general public maintain confidence in the independence of independent auditors. Public confidence would be impaired by evidence that independence was actually lacking, and it might also be impaired by the existence of circumstances which reasonable people might believe likely to influence independence. To be independent, the auditor must be intellectually honest; to be recognized as independent, he must be free from any obligation to or interest in the client, its management, or its owners. . . . Independent auditors should not only be independent in fact; they should avoid situations that may lead outsiders to doubt their independence.
As described above, KPMG lacked adequate policies and procedures designed to prevent and detect independence problems caused by investments of the firm's surplus cash. This failure constituted an extreme departure from the standards of ordinary care, and resulted in violations of the auditor independence requirements imposed by the Commission's rules and by GAAS.
Based on the foregoing and on KPMG's Offer of Settlement, the Commission finds that KPMG engaged in improper professional conduct within the meaning of Rule 102(e)(1)(ii) of the Commission's Rules of Practice.
Accordingly, the Commission hereby accepts KPMG's Offer of Settlement and orders, effective immediately, that:
A. KPMG is censured pursuant to Rule 102(e)(1); and
B. KPMG shall comply (within 90 days of this Order unless otherwise specified below) with the following undertakings, as set forth in its Offer of Settlement, designed to prevent and detect independence violations caused by financial relationships with, and investments in, audit clients:
(1) KPMG will designate at least one partner in its Department of Professional Practice ("DPP") with full-time responsibility for ensuring the firm's compliance with the Commission's auditor independence requirements, including without limitation the adoption, implementation, and oversight of firm policies and procedures designed to ensure such compliance;
(2) KPMG will require all of its Treasury Department personnel to undergo training regarding auditor independence at least once every 12 months;10
(3) KPMG will adopt and implement written procedures to provide reasonable assurance that investments of firm funds will not be made in entities from which KPMG is required to maintain independence, including:
(i) procedures requiring Treasury Department personnel, prior to making any investment of firm funds, to obtain conclusive evidence that the investment is not a restricted investment by, at a minimum, verifying that the prospective investee is not identified as a restricted entity on KPMG's Restricted Entity List or its most current automated or electronic database of restricted entities, and that KPMG is not identified as the auditor for the prospective investee in any prospectus available for the investment; and
(ii) procedures requiring Treasury Department personnel to document the steps taken to ascertain that the investment under consideration is not restricted; requiring that such documentation be reviewed by KPMG's Chief Financial Officer, and by a partner in KPMG's DPP having responsibility for auditor independence matters, before the investment is made; and requiring KPMG's Chief Financial Officer to confirm the DPP partner's approval of the investment and to document that confirmation as well as the CFO's own review of the documentation prepared by Treasury Department personnel;
(4) KPMG will create and maintain a listing, in its most current automated or electronic system for independence compliance, identifying all financial relationships entered into and investments held by KPMG, in a form sufficient to provide automated notice to the appropriate Treasury Department personnel and to the Chief Financial Officer in the event that an entity with which KPMG has a financial relationship, or in which KPMG has an investment, becomes restricted (in which case KPMG shall sever the financial relationship or divest itself of the investment as soon as practicable and in any event within ten (10) business days of receipt of such notice);
(5) KPMG will, prior to confirming the firm's independence from audit clients in accordance with Independence Standards Board Standard No. 1, Independence Discussions with Audit Committees, or otherwise, perform and document procedures designed to establish that KPMG does not have a financial relationship with, or an investment in, the audit client that would impair KPMG's independence from that client; and
(6) KPMG will distribute a copy of this Order to all of its audit professionals and Treasury Department personnel within 10 business days after entry of the Order.
By the Commission.
Jonathan G. Katz
|1|| Rule 102(e)(1) of the Commission's Rules of Practice, 17 C.F.R. § 201.102(e), provides in pertinent part:
|2||The findings herein are not binding on anyone other than KPMG.|
|3||After all of the events described herein, KPMG replaced its Treasurer.|
|4||The "look back" program, announced in June 2000, required each participating accounting firm (including KPMG and the other "big five" firms), among other things, to review certain independence procedures and violations. See generally SEC Press Release No. 2000-77 (June 7, 2000).|
|5||The Commission's recent amendments to its auditor independence rules, which in relevant part became effective in February 2001, explicitly require an auditor of any fund within a mutual fund family to maintain independence as to all funds within the family. KPMG resigned from its relationship with AIM before the effective date of these amendments.|
|6||KPMG reimbursed AIM for the cost of the reaudit and its related expenses.|
|7||A firm's "restricted entity list" typically identifies all entities (most notably its audit clients) with which the firm, its partners, and certain employees are restricted from making investments or entering into certain other financial relationships.|
|8||In late December 2000, when her supervisors asked KPMG's Cash Manager to review the Treasury Department file for this investment to determine the circumstances surrounding the investment, the Cash Manager discovered that she had no file for the investment. Indeed, the Cash Manager could not find a copy of the account opening form or the prospectus, and had to call her contact at SunTrust to request that she fax KPMG a copy of the account opening form.|
|9||KPMG's Cash Manager was authorized to make investments of up to $200 million in any single money market fund previously approved by the Chief financial officer without further supervisory approval.|
|10||Such training shall commence within 30 days of the date of this Order for all personnel who have not undergone such training since January 2001. For other personnel, such training shall commence for each employee no later than 12 months after that employee's most recent training regarding auditor independence.|
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