Friday, August 10, 2012

CFO Settles SEC Action Alleging Misleading of Independent Auditors as Part of Fraudulent Earnings Scheme

A company’s chief financial officer, also a CPA, was barred from appearing or practicing before the SEC for at least five years in the wake of an SEC enforcement action charging him with knowingly participating in two schemes to manipulate the company’s reported revenues and earnings. The SEC alleged that the company artificially inflated reported revenues by approximately $20 million in connection with a software sale to America Online, Inc. (AOL) in 2000. According to the complaint, the CFO applied an accounting treatment to the transaction that did not comply with GAAP and concealed the true nature of the transaction with AOL from the independent auditors, which allowed the company to artificially inflate its reported revenue. The CFO settled the enforcement action without admitting or denying the SEC’s allegations and settled the administrative proceeding without admitting or denying the findings. SEC v. Leslie, et al., ND Calif., AAER No. 3397; In the Matter of Lonchar, AAER No.3398.

After five years, the CPA can apply for reinstatement. The application must satisfy the SEC that the CPA or the firm he is associated with is registered with the PCAOB and that no Board inspection of the firm identified any defects in the firm’s quality controls indicating that the CPA would not be appropriately supervised.

The SEC enforcement action further alleged that from at least 2000 until his resignation in 2002, the CFO and others also applied three non-GAAP accounting practices to smooth the company’s financial results and then concealed these manipulations from the company’s independent auditors. The SEC said that the defendants lied to and failed to disclose material information to the independent auditors in violation of the federal securities laws. The Commission alleged that the CFO participated in preparing and submitting documentation to the outside auditors that concealed the true nature of the AOL transaction.

The SEC also alleged that the CFO, along with the company’s CEO, gave the independent auditors a materially misleading representation letter that failed to disclose a number of important items. Instead, they represented that, with regard to all the software transactions, they had disclosed all sales terms to the company’s auditors and that the sales agreements represented the entire arrangements and were not supplemented by either written or oral agreements. The SEC said that the CFO failed to disclose the parties’ oral agreement to modify the payment terms under the contracts to require simultaneous wire transfer. The Commission further alleged that at an audit committee meeting at which the AOL transactions was discussed with the independent auditors the CFO and CEO failed to inform the auditors of the contingent nature of the software sale.