KPMG’s 29-year SVB stint stirs independence debate
March 16, 2023
The bank’s failure — two weeks after it effectively got a clean bill of financial health — is reigniting some concerns that cozy client-auditor ties may jeopardize audit rigor.
There are two notable dates that stand out to corporate finance experts who have been following the collapse of Silicon Valley Bank and looking for clues as to whether or how KPMG — one of the so-called Big Four audit firms — may have slipped up in failing to flag risks that led to the biggest U.S. bank failure since 2008.
The first is Feb. 24, the date of the 10-K filing that included KPMG’s latest auditing opinion, which was just about two weeks ahead of the bank’s March 10 collapse.
While KPMG did identify an issue related to credit losses and unfunded loan commitments as a critical audit matter it discussed with the company’s audit committee, it did not flag risks related to the ability of the bank’s parent, SVB Financial Group, to continue as a “going concern,” according to a review of the filing.
The short window between the audit and the bank run immediately raised questions of how SVB’s auditors could have missed the signs of its impending doom so close to the collapse. It also recalled the specter of the drama — though not the same accounting issues — of the Lehman Brothers 2008 bankruptcy filing which came roughly eight months after Ernst & Young’s audit opinion failed to warn of serious risks about the company’s ability to continue operating, known as a going concern warning, according to Jack Castonguay, an accounting professor at Hofstra University in New York.
The second key date, which doesn’t fit as neatly into the narrative of the speedy and social-media-accelerated collapse, is tucked in a line at the bottom of the KPMG’s report to SVB stockholders: “We have served as the Company’s auditor since 1994,” it states. That decades-long relationship between the bank and its auditor is stirring back up a long-simmering debate over whether there should be limits on how long an auditor can serve a client without a too-cozy relationship jeopardizing an audit’s rigor.
“I suspect that having the same auditor for such a long time didn’t help as auditors tend to follow the same audit procedures from the previous year: roll work papers forward,” Kate Suslava, an assistant professor of accounting at Bucknell University wrote in an email in response to questions about the length of the KPMG-SVB relationship.
KPMG stands by its audit
KPMG has defended its work, including as the auditor of New York-based Signature Bank which failed two days after SVB. On Tuesday at an event, Paul Knopp, chief executive of KPMG US, said the company stood behind the reports it issued and believes it followed all professional standards, according to The Financial Times.
In an emailed statement, KPMG company spokesperson Russ Grote wrote that the company did not have any specific comment on the SVB matter, citing client confidentiality. However, he asserted KPMG conducts its audits in accordance with professional standards and noted that audit opinions are based on evidence available up to and at the date of the opinion.
“Any unanticipated events or actions taken by management after the date of an opinion could not be contemplated as part of the audit,” Grote stated.
Castonguay, writing on LinkedIn this week, agreed that KPMG was not “really wrong” for giving SVB a clean audit opinion. While SVB did have a customer concentration risk due to so many of its largest depositors being in the technology space, he said it wasn’t enough to warrant a so-called “GC” or going concern opinion.
“The classic example taught in audit classes is if you sign an audit on Feb. 24 and the client’s only factory burns down on Feb. 25, you were right,” he said in an interview. But it’s impossible to know what auditors knew while preparing an audit unless the audit papers come out, something that typically only happens if an auditor ends up in court, he said.
KPMG’s long tenure working for SVB is not unusual. There are currently no regulations in the U.S. that limit the number of years that auditors can provide their services to clients. The U.S. lets audit firms remain in place indefinitely although they are required to tap a new engagement partner every five years, CFO Dive previously reported.
The Big Four firm rotated in a new “engagement partner” for SVB in 2021, according to Benedikt Quosigk, an accounting professor at Kennesaw State University in Keenesaw, Georgia who reviewed filings on the matter made with the Public Company Accounting Oversight Board.
Two camps on firm rotation
U.S. regulators have long contemplated limiting how long auditing firms can serve a certain client, but concerns about the economic cost of requiring auditors to step away have led to significant pushback.
Audit tenures vary greatly with the average length of such assignments for companies in the Russell 3000 clocking in at 16.8 years, with a few “extremely long audit tenures causing the average to skew high,” according to a Feb. 3 2022 report from Audit Analytics. For example, Deloitte has been Procter & Gamble’s auditor since 1890, the report states.
There are two schools of thought when it comes to auditor tenure — and when fresh auditing eyes are in order, Quosigk, who has studied the impact of lengthy tenures on auditor independence, told CFO Dive.
“There’s the opinion in the literature that the longer the client relationship is you might start cutting corners or have a blind eye or brush things over or you might be just so comfortable with them that you fall for whatever [the client is] saying because you like them so much,” Quosigk said, adding that he has no opinion as to whether that was the case with SVB.
The other school of thought is that longer auditor tenure can be helpful when it comes to expertise because you know the client better, you know what they’re doing and so, if you’re dealing with a complex business, the thinking is that it might actually improve audit quality and certainly lower costs for the client, he said.
If regulations were put in place requiring auditors to switch, some academics say care would need to be taken in determining how often it would make sense to require the change.
Less than seven years probably adds more cost than is necessary for businesses but keeping the same auditor in place more than 10 years won’t cure the problem should one exist, Erik Gordon, a professor at the University of Michigan’s Ross School of Business in Ann Arbor, Mich., wrote in an email. Still, companies should be able to take steps to prepare and make the transition as smooth as possible.
“Switching auditors on a set schedule has some appealing points, until you get to the year of the switch,” Gordon wrote. “No CFO will be happy that year.”
[CFO Dive]
