KPMG Pays $22 Million To Settle Sec Litigation Relating To Xerox Audits

Washington, D.C., April 19, 2005 - The Securities and Exchange Commission announced today that KPMG LLP has agreed to settle the SEC's charges against it in connection with the audits of Xerox Corp. from 1997 through 2000. As part of the settlement, KPMG consented to the entry of a final judgment in the SEC's civil litigation against it pending in the U.S. District Court for the Southern District of New York. The final judgment, which is subject to approval by the Honorable Denise L. Cote, orders KPMG to pay disgorgement of $9,800,000 (representing its audit fees for the 1997-2000 Xerox audits), prejudgment interest thereon in the amount of $2,675,000, and a $10,000,000 civil penalty, for a total payment of $22.475 million. The final judgment also orders KPMG to undertake a series of reforms designed to prevent future violations of the securities laws.

In addition, the SEC today entered an Order finding that KPMG caused and willfully aided and abetted Xerox's violations of the anti-fraud, reporting, recordkeeping and internal controls provisions of the federal securities laws. The Order also finds that KPMG violated its obligations to disclose to Xerox illegal acts that came to its attention during the Xerox audits. The Order censures KPMG and orders it to cease and desist from committing or causing these violations. KPMG consented to the entry of the Order without admitting or denying the SEC's findings.

"This settlement results in significant relief that will serve to deter and prevent future auditor misconduct, and the significant monetary relief will provide a source of future funds which can be distributed to injured Xerox investors," said Stephen M. Cutler, the SEC's Director of the Division of Enforcement.

"Audit firms play a critical role in the financial reporting process," said Paul R. Berger, an Associate Director of Enforcement. "The investing public deserves to know that auditors will be held accountable when they fail to perform their duties with the degree of professional care required of the auditing profession."

The SEC's Order finds that from 1997 through 2000, KPMG permitted Xerox to manipulate its accounting practices to close a $3 billion "gap" between actual operating results and results reported to the investing public. During this period, Xerox used topside accounting actions at the end of financial reporting periods to increase equipment revenue and earnings through the improper acceleration of revenue from long term leases of Xerox copiers and through manipulation of excess or "cookie jar" reserves. Most of Xerox's topside accounting actions violated generally accepted accounting principles (GAAP) and all of them inflated and distorted Xerox's performance but were not disclosed to investors. These undisclosed actions overstated Xerox's true equipment revenues by at least $3 billion and overstated its true earnings by approximately $1.5 billion during the four-year period.

According to the Order, in each of the years 1997-2000, KPMG issued audit reports containing unqualified opinions stating that KPMG had applied generally accepted auditing standards (GAAS) to its review of Xerox's accounting, that Xerox's financial reporting was consistent with GAAP and that Xerox's reported results fairly represented the financial condition of the company. However, the Order finds that throughout this period KPMG failed to comply with GAAS and allowed Xerox to utilize accounting actions that did not comply with GAAP. By doing so, KPMG allowed Xerox to manipulate its accounting practices to distort the company's financial results, failed to insist that Xerox disclose those practices and their financial impacts in the company's annual and quarterly reports, and allowed Xerox to falsify its books and records and to fail to maintain adequate internal controls over its accounting.

The Order finds that KPMG was intimately familiar with the accounting actions Xerox used on a quarterly and annual basis to increase reported revenues and earnings during 1997-2000. KPMG's audit partners received many warnings from member firms of KPMG International in Europe, Brazil, Canada and Japan that methods adopted by Xerox to "close the gap" between actual and desired results were not based on adequate evidentiary support. Even KPMG's U.S. office in Rochester, N.Y., where Xerox had a major manufacturing and administrative center, warned that topside adjustments were creating unnecessary internal accounting control weaknesses. Nevertheless, from at least 1997 through 2000, KPMG ignored these warnings and did not demand evidence sufficient to establish that these accounting actions and the assumptions Xerox asserted to justify their use were in fact grounded in business realities or fairly reflected the company's performance.

Although KPMG at times suggested to Xerox management that it test the assumptions and results of its accounting adjustments to ensure they accurately portrayed Xerox's business, year after year Xerox management ignored KPMG's requests, and KPMG exerted no pressure on its client to perform such testing. KPMG did not demand that Xerox test, and KPMG itself never adequately tested, the assumptions Xerox used to justify its topside accounting actions. Nor did KPMG test -- or demand that Xerox test -- to determine if the topside accounting actions Xerox used resulted in financial statements which fairly presented Xerox's financial results.

In addition, the Order finds that during its audits of Xerox's 1997-2000 financial statements, KPMG became aware of information indicating that illegal acts had or may have occurred as a result of Xerox's use of accounting actions. Although KPMG at times raised concerns to Xerox's management about certain of these accounting actions, KPMG failed prior to the SEC's investigation in this matter to inform Xerox's board of directors or its audit committee about these illegal acts. Moreover, in 1999 when Xerox complained to KPMG's chairman about the performance of KPMG's audit engagement partner, KPMG replaced the partner after completion of the 1999 audit.

As a result of these findings, the SEC's Order finds that KPMG willfully violated Section 10A of the Securities Exchange Act of 1934 (Exchange Act) and caused and willfully aided and abetted Xerox's violations of Section 17(a)(2) and (3) of the Securities Act of 1933 and Sections 13(a) and 13(b)(2)(A) and (B) of the Exchange Act and Rules 12b-20, 13a-1, 13a-13 and 13b2-1 promulgated thereunder. The SEC ordered KPMG to cease and desist from committing or causing these violations and censured the firm pursuant to Rule 102(e)(1)(iii) of the Commission's Rules of Practice.