BUSINESSALLSTARS.COM
Presents
Accounting Principles &
Creative Accounting
Techniques
Copyright © 2006 by Gainbridge University
All right reserved
This material may not be used or reproduced
without permission of Gainbridge University
BusinessAllstars.com
1
ADEQUATE DISCLOSURE
means there is enough information
in financial statements and
footnotes for stakeholders to make
informed decisions.
CONSISTENCY requires
applying the same recording
methods and procedures from
period to period.
2
CONSERVATISM provides that
accounting for a business should
be fair and reasonable and
neither overstates nor
understates the results of
operation.
OBJECTIVITY EVIDENCE
means there is independent
documentation to support
accounting entries.
3
MATCHING requires the
recognition of all costs that are
directly associated with the
revenue reported within a period.
INDEPENDENT ENTITY is
that accounting and reporting
relate only to the activities of
a specific business entity and
not to the owners of the entity.
4
MATERIALITY is the magnitude
of a change to accounting
information that would influence
the decisions of a reasonable
person.
GOING CONCERN is the
underlying assumption that the
business will remain in
existence for many years into
the future.
5
Creative Accounting
Techniques
Management’s
Violation of
Accounting
Principles
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CAT 1- “The Big Bath"
A company sets up a large restructuring charge
which "cleans up" their balance sheet -- giving
them a so-called "big bath.” They might write-off
an asset they don’t think is worth anything. The
charge is "conservatively estimated" or padded
with an extra cushion. When future earnings fall
short, the cushion or excess is reversed and
ends up as income. This violates Consistency
and is a manipulation of Conservatism.
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CAT 2- “In-Process Charges”
Some companies classify a large portion of the
price to purchase another company as "inprocess" Research and Development, which can
be written off in a "one-time" charge -- removing
any future earnings drag. Sometimes, large
liabilities for future operating expenses are
created to protect future earnings. This violates
the Consistency principle.
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CAT 3- “Cookie Jar Reserves"
Some companies estimate excessive liabilities
for such items as sales returns, loan losses or
warranty costs. They may even set up excessive
allowances for bad debts. In doing so, they stash
accruals in "cookie jars" during the good times
and reach into them when needed in the bad
times. This violates the Consistency principle.
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Cookie Jar Accounting
Balance Sheet
Asset
Claims
$200,000
$203,000
$200,000
$203,000
Income Statement
Revenue $18,000
Expenses -17,000
-20,000
3,000
Net Inc.
- 1,000
2,000
By taking too much expense in the past and
artificially lowering either asset or liabilities, you
can now reverse a portion of that entry and
improve the current net income.
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CAT 4- "Materiality"
Some companies misuse the concept of
materiality. They “intentionally” record errors
within a defined percentage ceiling. This is
justified on the basis that the effect on the profit
is too small to matter. When management is
questioned about these clear violations of
accounting principles, they answer sheepishly,
“It doesn't matter. It's immaterial.” This is a
manipulation of Materiality.
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CAT 5- Revenue (expense) recognition
Some companies try to boost earnings by
manipulating the recognition of revenue. They
recognize Revenue before a sale is complete,
before the product is delivered to a customer, or
at a time when the customer still has the option
to terminate, void or delay the sale. This violates
the Matching and Consistency principles.
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CAT 5- Recognition (continued)
Rather than recognizing revenue early, some
companies boost earnings by delaying the
recognition of an expense, often pushing it into a
future year. This is easy to do because invoices
are sometimes not received until long after the
year is over. This violates the Matching and
Consistency principles.
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Revenue/Expense Recognition
Revenue Expense
By shifting Revenue or
Expenses from one
year to the next, one
year looks great, but
the next year is
terrible.
JAN
FEB
MAR
APR
MAY
JUN
JUL
AUG
SEP
OCT
NOV
DEC
2,000
2,000
2,000
2,000
2,000
2,000
2,000
2,000
2,000
2,000
2,000
4,000
2,000
1,500
1,500
1,500
1,500
1,500
1,500
1,500
1,500
1,500
1.500
1,500
1,500
0
JAN
FEB
2,000
0
2,000
3,000
1,500
1,500
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CAT 6- “Off Balance Sheet” Accounting
Some companies own Fixed Assets, but finance
them using an operating lease. Since the asset
is leased it does not appear as an asset or a
liability on the Balance Sheet. The economic
reality is that the asset is in fact owned by the
company and should be treated as such. This
violates the Adequate Disclosure principle.
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CAT 6- “Off Balance Sheet” (continued)
Some companies set up Special Purpose Entities and
transfer assets and liabilities to a subsidiary company
that are never shown on the parent company’s books. If
the parent company is still at risk then the SPE should
be disclosed. SPV or Special Purpose Vehicle is a
synonym for SPE. VIE or Variable Interest Entity is now
the term used by the FASB in place of SPE. Not
disclosing VIES is a violation of the Adequate Disclosure
principle.
http://www.fei.org/rf/download/SPEIssuesAlert.pdf
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Off Balance Sheet
Balance Sheet
Asset
Claims
$200,000
$170,000
30,000
$200,000
$170,000
30,000
Income Statement
Revenue $18,000
Expenses -16,000
Net Inc.
2,000
By taking the asset and liability off the books the
performance (net income per assets) is higher.
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CAT 7- “Manipulating Cash-flow”
Some companies manipulate the
categorization of investing, and financing
cash-flows on the Statement of CashFlows to improve operating cash-flow.
They even sell Accounts Receivable,
dump inventory, or hold off paying
Accounts Payable to improve operating
cash-flow.
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Case #1: Enron
Enron officials used complex structures, straw men, hidden
payments, and secret loans to appearance that entities they
funded and controlled were independent of Enron. They
moved their interests in these entities off Enron’s balance
sheet when they should have been consolidated into the
company’s financial statements. As a result, Enron engaged
in various transactions with these entities that were
designed to improve its apparent financial results.
Executives exploited the fiction that these entities were
independent to misappropriate millions of dollars
representing undisclosed fees and other illegal profits.
http://www.sec.gov/news/press/2002-126.htm
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Enron SPE Deception
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Case #2: Adelphia
According to the SEC complaint, filed on July 24, 2002,
Adelphia, at the direction of the individual defendants:
(i) fraudulently excluded billions of dollars in liabilities
from its consolidated financial statements; (ii) falsified
operations statistics and inflated Adelphia's earnings to
meet Wall Street's expectations; and (iii) concealed
rampant self-dealing by the Rigas Family that founded
and controlled Adelphia.
http://www.sec.gov/litigation/litreleases/lr17837.htm
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Case #3: Bristol-Myers
Bristol-Myers inflated its results primarily by: (1) stuffing
its distribution channels with excess inventory near the
end of every quarter---to meet sales and earnings
targets ("channel-stuffing"); and (2) improperly
recognized about $1.5 billion in revenue from sales
associated with the channel-stuffing. When BristolMyers' results fell short of the Wall Street analysts'
earnings estimates, the Company used improper
accounting, including "cookie jar" reserves, to further
inflate its earnings.
http://www.sec.gov/litigation/litreleases/lr18822.htm
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Case #4: Symbol Technologies
[Symbol Technologies, Inc.] used fraudulent schemes: (a) a
"Tango sheet" process where baseless accounting entries
were made to conform quarterly results to projections; (b)
the fabrication and misuse of restructuring and other nonrecurring charges to artificially reduce operating expenses
and create "cookie jar" reserves; (c) channel stuffing and
other revenue recognition schemes, involving both product
sales and customer services; and (d) manipulate inventory
levels and accounts receivable data to conceal the adverse
side effects of the revenue recognition schemes.
http://www.sec.gov/litigation/litreleases/lr18734.htm
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Case #5: Del
Del improperly (1) recognized revenue when it prematurely
shipped products to third-party warehouses, and recorded
sales on products not yet manufactured; (2) accounted for
inventory by recording obsolete inventory at full value and
overstating certain engineering work-in-process values; and
(3) characterized certain ordinary expenses as capital
expenditures. These actions resulted in the overstatement
of Del's reported pre-tax income by at least $3.7 million
(110%) in fiscal year 1997, $5.2 million (161%) in fiscal year
1998, and $7.9 million (466%) in fiscal year 1999.
http://www.sec.gov/litigation/litreleases/lr18732.htm
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Case #6: Lucent
Lucent improperly granted, and/or failed to disclose,
various side agreements, credits and other incentives
(collectively "extra-contractual commitments") to induce
Lucent's customers to purchase the company's
products. These extra-contractual commitments were
made in at least ten transactions in fiscal 2000, and
Lucent violated GAAP by recognizing revenue on these
transactions both in circumstances: (a) where it could
not be recognized under GAAP; and (b) by recording
the revenue earlier than was permitted under GAAP.
http://www.sec.gov/news/press/2004-67.htm
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Case #7: Dynegy
Dynegy negligently failed to disclose that increases in
energy trading volume, revenue and notional trading
value were materially attributable to “round-trip trades.”
Because the round-trip trades lacked economic
substance, Dynegy's statements were materially
misleading to the investing public. This case was the
first enforcement action resulting from an energy trading
company's misleading disclosures regarding use of
"round-trip" or "wash" trades.
http://www.sec.gov/news/press/2002-140.htm
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Case #8: U.S.Foodservices
U.S. Foodservices carried out a fraudulent scheme by
improperly inflating promotional allowance income. A
significant portion of operating income was based on
payments by its suppliers, referred to as promotional
allowances. Typically, USF would pay the full wholesale
price for a product, then receive rebates of a portion of
that price from the supplier if certain purchase volume
and other conditions were met. They "booked to budget"
by, recording fictitious promotional allowances sufficient
to cover shortfalls to budgeted earnings.
http://www.sec.gov/news/press/2004-100.htm
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Case #9: Netopia, Inc.
Netopia, Inc. an Emeryville, California corporation
provided broadband and wireless products and
services. In 2002 and again in 2003, Netopia improperly
reported revenue on two major software deals with a
thinly capitalized customer who did not have the legal
obligation to pay for the software. As a result, Netopia
reported inflated revenue in two fiscal quarters and
posted its first profitable quarter in over three years.
Mar. 29, 2006
http://www.sec.gov/litigation/complaints/comp19630.pdf
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Case #10: StarMedia Network, Inc.
StarMedia Network, Inc. a former New York City-based
Internet portal, during 2000 and the first two quarters of
2001, utilized (1) certain barter transactions, (2) certain
round trip transactions; and (3) certain other sales
transactions that had undisclosed contingencies or side
agreements to inflate it’s revenue by over $18 million, in
order to meet the company’s revenue projections and
persuade corporate investors to purchase $35 million in
convertible preferred shares.
Mar. 29, 2006
http://www.sec.gov/litigation/complaints/comp19627.pdf
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Case #11: AremisSoft
AremisSoft Corporation engaged in a number of
fraudulent practices to make it appear as if AremisSoft
was an international software company with
accelerating sales growth. AremisSoft booked fictitious
sales and accounts receivable and overstated earnings
in two Cyprus-based sybsidiaries. In its 2000 Annual
Report it reported that $97.5 million of its 123.6 million
in revenues (nearly 80%) came from these two
subsidiaries, when in fact the two combined had just
$1.7 million in revenues for the year.,.
Mar. 22, 2006
http://www.sec.gov/litigation/complaints/comp19622.pdf
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Case #12: NetEase,com, Inc.
NetEase improperly recorded revenue from transactions,
recognizing revenue for unperformed advertising and e-commerce
contracts and for other agreements that lacked economic
substance. NetEase prematurely recognized revenue by artificially
bifurcating advertising contracts, a technique that its employees
referred to as “revenue-brought-forward.” For example, a six-month
contract would be documented in two separate agreements, one
with a three-month term and another “bonus contract” pursuant to
which NetEase supposedly would provide free services for three
additional months. According to the complaint, NetEase concealed
the “bonus” contracts from its independent auditors and recognized
revenue over the 3-month term instead of the true 6-month term.
Feb. 27, 2006
http://www.sec.gov/litigation/complaints/comp19578.pdf
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Case #13: AIG, Inc.
In Dec. 2000 and Mar. 2001, American International Group, inc. (AIG)
entered into two sham reinsurance transactions that had no economic
substance but were designed to improperly add a total of $500 million in
phony loss reserves to its balance sheet. The transactions were initiated to
quell analysts’ criticism of a prior reduction of the reserves. In addition, in
2000, AIG engaged in a transaction to conceal approximately $200 million
in underwriting losses in its general insurance business by improperly
converting them to capital (or investment) losses to make those losses less
embarrassing to AIG. In 1991, AIG established Union Excess Reinsurance
Company Ltd. an offshore reinsurer, to which it ultimately ceded
approximately 50 reinsurance contracts for its own benefit. Although AIG
controlled Union Excess, it failed to consolidate Union Excess’s financial
results with its own, and took steps to conceal its control over Union
Excess from its auditors and regulators. As a result AIG fraudulently
improved its financial results.
Feb. 9, 2006
http://www.sec.gov/litigation/complaints/comp19560.pdf
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Case #14: Applix, Inc.
Applix prematurely recognized $898,000 in revenue for the year ended
December 31, 2001. The revenue, generated in a December 31, 2001
transaction, enabled Applix to meet its publicly announced year-end
revenue goal of $40 million. The company recognized the revenue during
2001 despite knowing it was prohibited from doing so under generally
accepted accounting principles. Officers received year-end bonuses based
on the company's falsely inflated financial results. The company also
improperly reported $341,000 in revenue from a transaction with a German
customer for the quarter ended June 30, 2002. The company did so even
though it knew the customer had a six-month right to return the software
product and that no revenue should have been recorded until the customer
had definitively accepted the product. By reporting this revenue, Applix
falsely trumpet a "74% improvement in Net Loss."
Jan. 4, 2006
http://www.sec.gov/litigation/litreleases/lr19521.htm
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Case #15: McAfee, Inc.
McAfee defrauded investors into believing that it had legitimately met or
exceeded its revenue projections and Wall Street earnings estimates
during the 1998 through 2000 period. McAfee engaging in “channel
stuffing,” and improperly recorded sales to distributors as revenue. McAfee
offered its distributors lucrative sales incentives that included deep price
discounts and rebates in an effort to persuade the distributors to continue
to buy and stockpile McAfee products. McAfee also secretly paid
distributors millions of dollars to hold the excess inventory, rather than
return it to McAfee for a refund and consequent reduction in McAfee’s
revenues. McAfee also used an undisclosed, wholly-owned subsidiary, Net
Tools, Inc., to repurchase inventory that McAfee had oversold to its
distributors. All of these actions were inconsistent with Generally Accepted
Accounting Principles and led to McAfee’s October 2003 restatement of its
financial results for 1997 through 2003.
Jan. 4, 2006
http://www.sec.gov/litigation/litreleases/lr19520.htm
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Case #16: Friedman’s, inc.
From at least fiscal year-ended 2001 through September 2003, Friedman’s
systematically inflated earnings to meet Wall Street’s expectations, while
concealing the fact that a growing percentage of its credit accounts
receivable were likely not collectible. Friedman’s made material
misrepresentations concerning its credit program and its write-off policy,
and systematically under-reserved for bad debts using various non-GAAP
accounting practices. Friedman’s also used certain “one-off” actions to
manipulate its earnings and improve the appearance of its balance sheet,
including, among others: (i) prematurely recognizing as a reduction in its
cost of sales merchandise discounts that it received from its suppliers; (ii)
failing to account properly for the sale of receivables that Friedman’s had
written off; and (iii) using certain related party transactions to capitalize
expenses that Friedman’s should have recognized immediately.
Nov. 30, 2005
http://www.sec.gov/litigation/litreleases/lr19477.htm
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Case #17: Arthur Anderson, LLP.
During its fiscal year 2000, American Tissue fraudulently inflated reported
assets and earnings by improperly capitalizing $15.6 million of previously
expensed supplies and overvaluing its finished goods inventory by at least
$12.5 million. Arthur Anderson auditors reviewed and approved the audit of
American Tissue's fiscal year 2000 financial statements and failed to
request sufficient accounting documentation to verify the financial
information provided by the company or to conduct required testing of
American Tissue's finished goods inventory figures. Consequently, they
knew or were reckless in not knowing that American Tissue's finished
goods inventory was overstated. They issued an unqualified audit report
on the company's fiscal 2000 financial statements, failing to exercise the
due professional care and skepticism required by generally accepted
auditing standards. They also knew, or were reckless in not knowing, that
supplies that American Tissue used in its manufacturing processes had
been improperly classified as inventory instead of as expenses.
Oct. 6, 2005
http://www.sec.gov/litigation/complaints/comp19630.pdf
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Case #18: Metropolitan Mortgage
and Securities company, Inc.
Metropolitan's management falsified 2002 financial results by reporting
profits from circular real estate sales where Metropolitan purported to sell
property to buyers who, in fact, received all of the money to pay for the
purchase from Metropolitan or its affiliates. The fraud made Metropolitan
appear profitable - facilitating further sales of its bonds and preferred stock
to investors. The bogus deals - known internally as "rabbits" (as in, pulling
a rabbit out of a hat) - all materialized in the final days of Metropolitan's
fiscal year 2002, allowing the company to report a profit rather than the
loss it had anticipated. In the largest of these deals, Metropolitan and a
customer agreed to make it appear that a property was being purchased
by an unrelated third party, in reality a shell company set up by an eighteen
year old high school student, the son of the customer’s creditor, in
exchange for a motorcycle.
Sep. 26, 2005
http://www.sec.gov/litigation/litreleases/lr19394.htm
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Case #19: WRC Media, Inc.
WRC fraudulently recognized $1.2 million in revenue from a purported
fourth quarter 2002 sale of educational software to the Monroe City,
Louisiana School District. At the time, WRC was millions of dollars behind
its fourth quarter 2002 revenue expectations and was in danger of
defaulting on its public debt covenants. To facilitate the fraud, the CEO
procured an unauthorized sales contract from the superintendent of the
Monroe City School District that was contingent upon approval by the
entire school board. The contract failed to reflect the school board
contingency. The CEO concealed the contingency from WRC's internal
accountants and independent auditors so they would not reject fourth
quarter 2002 revenue recognition. After learning that the school district
would not proceed with the transaction, the CEO permitted WRC to record
a bad debt reserve for the purported Monroe receivable in the first quarter
of 2003, when it should have restated fourth quarter 2002 results.
Sep. 13, 2005
http://www.sec.gov/litigation/litreleases/lr19373.htm
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Case #20: Kmart
Former Kmart executives caused Kmart to issue materially false financial
statements by improperly accounting for millions of dollars worth of vendor
"allowances." Kmart obtained allowances from its vendors for various
promotional and marketing activities. According to the Commission,
defendants caused Kmart to recognize allowances prematurely on the
basis of false information provided to the company's accounting
department. Vendor representatives participated in the violations by cosigning false and misleading accounting documents. As a result, Kmart's
net income for the fourth quarter and fiscal year ended January 31, 2001,
was overstated by approximately $4.8 million as originally reported. The
company restated its financial statements after filing for bankruptcy to
correct these and other accounting errors.
Aug. 30, 2005
http://www.sec.gov/litigation/litreleases/lr19353.htm
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Case #21: Gerber Scientific, Inc.
In June 2000, while Gerber was finalizing its annual report on Form 10-K
for fiscal year 2000, executives learned that, due to a clerical error, the
company had failed to record approximately $1.5 million of a required $6
million inventory write-down. Instead of correcting the mistake, the
company went ahead and filed its Form 10-K, which contained materially
inaccurate financial statements and related disclosures. Then, without
disclosure, the executives sought to eliminate the error by improperly
amortizing the $1.5 million charge over the next four fiscal quarters. As a
result, Gerber's reported earnings for the fourth quarter of fiscal 2000 were
overstated by 100% and reported earnings for the year were overstated by
3.5%. After discovering the $1.5 million error the CEO signed a
subsequent events letter to the company's auditor that omitted any
reference to the error.
Jul. 26, 2005
http://www.sec.gov/litigation/litreleases/lr19310.htm
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Case #22: Roadhouse Grill, Inc.
During Roadhouse Grill's 1999 and 2000 fiscal years, the CFO caused
Roadhouse Grill to inflate its earnings by understating various accrual
accounts. Accrual accounts contain provisions for anticipated expenses
that companies expect to incur within a fiscal year. At the end of certain
periods during the 1999 and 2000 fiscal years, he made improper
reductions in these accrual accounts in order to improve the earnings.
The CFO also caused Roadhouse Grill to overstate its fiscal 2000 net
income by recording a non-existent rebate receivable from one of the
company's suppliers. This rebate never existed and Roadhouse Grill never
received it. Based on these various improper entries, The CFO caused
Roadhouse Grill to overstate its fiscal 1999 net income by 5% and its fiscal
2000 net income by 35%. In both of those fiscal years, Roadhouse Grill
met the expectations set by the Wall Street analyst.
Jul. 25, 2005
http://www.sec.gov/litigation/litreleases/lr19309.htm
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Case #23: i2 Technologies, Inc.
Certain i2 software products (vaporware) lacked functionality essential to
the needs of i2's customers. Executives knew that i2 was recording
material software license revenues on transactions involving the nonfunctional software, in violation of generally accepted accounting principals
("GAAP"). Also, i2 sold Enron a $10 million software license during the first
quarter of 2000 while simultaneously agreeing to buy an identical amount
of broadband services from an Enron subsidiary. Executives knew they
could not properly recognize this entire license revenue in the first quarter
of 2000, but caused the company to do so, without disclosure to the public
about the true nature of the transaction. i2's concealed these maters from
the external auditors and the audit committee of i2's board of directors, for
fear that disclosing them would cause i2's stock price to decline, thereby
damaging defendants' ability to exercise lucrative stock options.
Jul. 18, 2005
http://www.sec.gov/litigation/litreleases/lr19306.htm
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Case #24: Worldcom, Inc.
In its sixth civil enforcement action related to the WorldCom fraud the SEC
alleges that Ebbers, along with other WorldCom senior officers, caused
numerous fraudulent adjustments and entries in WorldCom's books and
records, often in the hundreds of millions of dollars, in furtherance of a
scheme to make the Company's publicly reported financial results appear
to meet Wall Street's expectations. The complaint further alleges that these
market expectations were based on financial performance targets set by
Ebbers that Ebbers knew could not be attained by legitimate means. In
addition, the Commission alleged that Ebbers made numerous false and
misleading public statements about WorldCom's financial condition and
performance, and signed multiple SEC filings that contained false and
misleading material information.
Jul. 13, 2005
http://www.sec.gov/litigation/litreleases/lr19301.htm
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Case #25: Suprema Specialties, Inc.
Suprema engaged in fraudulent "round-tripping" transactions that resulted
in total misstatements of Suprema's reported revenue of between
approximately 35% and over 60% in each of the 1999, 2000, 2001, and
2002. The scheme resulted in total misstatements of Suprema's reported
accounts receivable of 60% or more in each of the fiscal years.
The transactions were effectuated through "circles" of entities, each of
which included Suprema, a third-party "customer," and a related "vendor."
The customer and vendor in each circle tended to have a common owner.
False paperwork was created documenting the fictitious transactions, and
checks were circulated in purported payment for the transactions.
Participants received a kick-back or "commission" on each transaction, the
funds for which were generally drawn from Suprema's line of credit, which
increased as Suprema's accounts receivable grew. No goods were actually
sold, purchased, or exchanged in these transactions.
Aug. 30, 2005
http://www.sec.gov/litigation/litreleases/lr19353.htm
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Case #26: aaiPharma, Inc.
Prior to aaiPharma's 2003 fiscal third quarter end, the chief operating
officer arranged three fraudulent sales transactions with customers to
create the illusion that aaiPharma had met or exceeded its sales goals for
the quarter. Although the sales the COO arranged were either consignment
sales or other types of non-final sales, aaiPharma falsely recorded the
sales as final. These fraudulent sales, totaling approximately $20.6 million,
were reflected in aaiPharma's financial statements included in filings made
with the Commission and publicly disseminated in November 2003 and
February 2004.
Jun. 30, 2005
http://www.sec.gov/litigation/litreleases/lr19290.htm
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Case #27: Take-Two, Inc.
Take-Two systematically recognized sales revenue from approximately 180
"parking" transactions in which the company, at or near the end of fiscal
quarters or year end, shipped hundreds of thousands of video games to
distributors who had no obligation to pay for the product, fraudulently
recorded the shipments as if they were sales, and then accepted return of
the games in subsequent reporting periods. In many cases, Take-Two
created fraudulent invoices to disguise the returns as "purchases of
assorted product." Take-Two also improperly recognized sales revenue for
games that were still being manufactured and could not in fact be shipped,
and in fiscal year 2000, improperly accounted for the acquisition of two
video game publishers. In addition, from fiscal year 2000 through the third
quarter of fiscal year 2003, Take-Two failed to establish proper reserves for
reductions in the prices of its games at the retail level (referred to in the
industry as "price protection" or "price concessions").
Jun. 9, 2005
http://www.sec.gov/litigation/litreleases/lr19260.htm
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Case #28: Fischer Imaging, Corp.
Executives were responsible for Fischer’s improper recognition of revenue
on sales of equipment that Fischer had not delivered to customers, but
instead had shipped to third party warehouses where Fischer controlled
the equipment, paid to store it, and insured it. Additionally, the executives
were involved in formulating or reviewing contingent sales terms, which
were documented in side letters, with knowledge that Fischer improperly
recognized revenue before the contingencies were resolved. The
executives were responsible for Fischer’s material misstatements of its
inventory account and its gross profits based on various other improper
accounting practices. Each executive provided false or misleading
documents or information to Fischer’s accountants or auditors in an
attempt to conceal Fischer’s improper accounting practices.
Jun. 8, 2005
http://www.sec.gov/litigation/litreleases/lr19255.htm
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Case #29: Huntington Bancshares, inc.
In 2001 and 2002 Huntington reported inflated earnings in its financial
statements, enabling Huntington to meet or exceed Wall Street analyst
earnings per share ("EPS") expectations that determined bonuses for
senior management. The misstatements included up front recognition of
loan and lease origination fees that were required by accounting rules to
be deferred and amortized over the term of the loan or lease; improper
capitalization of commission expenses and deferral of pension costs that
were required to be recognized in the period incurred; misstated reserves;
improper deferral of income; and misclassification of non-operating income
as operating income. Without the misstatements, Huntington's EPS would
have fallen short of analysts' earnings expectations in 2001 and 2002,
2002 bonuses for executives would have been eliminated or reduced. The
executives attended due diligence meetings at which the misstatements
were discussed, and it was decided that none of the items were material.
Jun. 2, 2005
http://www.sec.gov/litigation/litreleases/lr19243.htm
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Case #30: Chesapeake, Corp.
Chesapeake failed to offset $1 million in credit memos issued by U.S.
Display to its customers in the first quarter of 2000 against first quarter
2000 revenues, and then improperly amortizing the $1 million in credit
memos over the second and third quarters of 2000; It also, failed to correct
a $4.8 million overstatement of inventory in the first quarter 2000, opting
instead to improperly amortize the $4.8 million incrementally over the
second and third quarters of 2000; It improperly recognized a purported
$1.5 million contingent receivable in the first quarter of 2000; and it failed
to write off approximately $1.1 million of this same receivable in the second
quarter of 2000 when it became apparent that U.S. Display was unlikely to
collect that amount, opting instead to improperly amortize the uncollectible
portion in $214,000 increments each month through the close of the fiscal
year.
May. 3, 2005
http://www.sec.gov/litigation/litreleases/lr19215.htm
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Board Questions
1. Does Net Income translate into Cash Flow?
2. What’s causing the growth in Revenue?
3. Is there substantial non-operating activity?
4. Are entries based on estimates disclosed?
5. Are the external auditors free to do their job?
6. Are financial ratios consistent over time?
7. Are Internal Controls a high priority?
8. Do you have any reason to doubt management?
9. Are Related Party Transactions fully disclosed?
10.Are changes to A/R, Inventory, and A/P proper?
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