SEC Investigates Channel Stuffing at British Liquor Company

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The British liquor company that makes Smirnoff, Johnnie Walker, Baileys and Guinness is under investigation by the Securities and Exchange Commission for shipping excess inventory to distributors to boost revenue.

The company, Diageo PLC, is based in Britain but has issued American Depository Receipts which trade here in the United States on the New York Stock Exchange. The company is the largest producer of spirits in the world and a major beer and wine producer. Its shares trade on the London Stock Exchange and the company has a market capitalization of more than $45 billion GBP.

Diageo ships its product to wholesalers who then distribute the product to retailers. Prior to an accounting change in January, it recorded revenue when it shipped its product to the wholesalers. It is accused of shipping them more inventory then they wanted.

The SEC will take insider tips about revenue recognition problems and shareholder fraud like these through its whistleblower office. An individual does not need to be an employee of the public company that is reported. An individual at a distributor and aware that it is being forced to take more inventory than it would like to purchase would also be able to submit a TCR. A successful tip would entitle an eligible individual to receive a 10 to 30 percent reward of monetary sanctions recovered in excess of $1 million.

If you have evidence of accounting fraud, contact one of our whistleblower attorneys for additional information on reporting it to appropriate agency at the U.S. Government. An attorney can be reached by our contact form or calling 1-800-590-4116.

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How Common is Accounting Fraud?

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Accounting irregularities have come up a fair amount recently, from the increase in SEC investigations in this area announced at the beginning of the year to the SEC fine against CSC for $190 million in June. With a wave of new stories hitting the media, it doesn’t seem like this area of securities law is going to slow down anytime soon. Here are the latest areas related to accounting fraud to be getting coverage:

MBTA

At the end of June, Harry Markopolos, the whistleblower that famously attempted to notify the U.S. Government of the Bernie Madoff ponzi scheme, warned the SEC about accounting and investment reporting issues with the MBTA pension fund. After a six month investigation, Markopolos told the SEC and other agencies that the pension fund may be overstating its books by as much as $470 million out of the $1.6 billion pension.

Among the issues noted in their study of publicly released information by the pension fund:

  • They discovered statistically improbably events, such as a return on investment two years in a row of 17.7 percent.
  • They used a different accounting approach three years in a row to calculate asset valuation.

The Massachusetts Bay Transportation Authority operates the leading share of the bus, subway, commuter rail and ferry system in greater Boston. The pension plan is funded partly by taxpayers and covers the workers and retired employees of the transit system.

Interestingly, Markopolos did not submit the tip to the SEC whistleblower program for a reward.

CalPERS

A former SEC attorney is attempting to crowdsource an investigation into CalPERS. The California Public Employees’ Retirement System is America’s largest public pension plan with over $300 billion in assets.

Earlier this year, CalPERS told its Investment Committee that it couldn’t track how much money it was spending on private equity firms. Given that the SEC has been investigating advisers and the private equity industry for problems with their fee disclosures and hidden fees, we wouldn’t be surprised if a whistleblower emerges with information about how investment banks or private equity firms were fleecing public pension funds and is able to capture a reward in the future.

Toshiba

This Japanese corporation known in America for its personal computers is expected to have to restate profits lower by more than $1 billion due to accounting irregularities. The amount is nearly double the earlier estimates as it has discovered overstated profits in its computer and semiconductor business in addition to the earlier reported problems related to its contract with Tokyo Electric Power for smart grid technology. The company has yet to file its latest annual report due to the need for the accounting restatement.

Will accounting fraud be the next big area for the government to pursue once it wraps up the smaller mortgage fraud cases?  We’ll just have to wait to find out.

If you have evidence of accounting fraud at a publicly traded company, contact one of our SEC whistleblower attorneys to discuss reporting it to the U.S. Government. An attorney can be reached by our contact form or calling 1-800-590-4116.

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Are Adjusted Profits Misleading Investors?

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A recent report by the Associated Press of 500 major companies has found the gap between adjusted profits and profits according to general accepted accounting principles has widened in the past five years. According to the report, one of every five company has “adjusted” profits in excess of net income by more than fifty percent.

The “adjusted” numbers are starting to add up to a potential problem. In total, adjusted profits by the S&P 500 from 2010 to 2014 have led to $583 billion above net income. And the adjusted profits at 15 companies were in reality losses according to GAAP accounting over the five years.

Stricter disclosures to investors concerning how companies arrived at adjusted numbers were supposed to help put a stop to the types of accounting fraud that became popular prior to and during the dot com crash. But there are now concerns that investors aren’t doing enough digging into the numbers provided by businesses. And financial analysts, who are supposed to be doing independent analysis of the companies on behalf of investors, are being accused once again of simply rubber stamping the company numbers.

Businesses use one-time restructuring charges to account for unusual items such as a loss during the divesture of a failing division or other asset. By removing them from the day to day accounting, they could provide a better look at the operations of the company going forward. However, when restructuring write-offs become the norm, the adjustments begin to look as if they are truly just ordinary operating expenses of the company.

The Dow Jones Industrial Average is now about 28 percent higher than it was during the stock market’s peak prior to the Great Recession. Is this increase warranted? Or is it being driven by high frequency trading, adjusted profits and other matters that are disconnected from the fundamentals of the company and the economy?

If you have evidence of accounting fraud at a publicly traded company, contact one of our SEC whistleblower attorneys to discuss your options under the incentive program created by the Dodd-Frank Act. An attorney can be reached by our contact form or by phone at 1-800-590-4116.

Deutsche Bank to Pay SEC $55 Million Over Portfolio Mispricing

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Deutsche Bank AG will pay $55 million to settle the SEC investigation into whether the bank masked financial losses by failing to update the market value of leveraged super senior trades, a form of credit default swap. Previous media reports have suggested that DB avoided a bailout during the financial crisis because it didn’t mark to market its derivatives position in this product to properly account for the gap risk.

The settlement could very well result in a payout under the SEC whistleblower program, because there are reports that at least three individuals inside the company went to the securities regulator to report the accounting fraud.

The derivatives transaction was complex and hedged, though there was a risk that the value of Deutsche Bank’s losses would exceed the value of the collateral put up by the counterparty when hedged the transaction. This would expose DB to gap risk.

During the height of the financial crisis in 2008 as the markets deteriorated, DB changed the way it measured gap risk and later measured the gap risk for accounting purposes as essentially $0. The internal estimates that were not reported on the financial books, however, put the gap risk at between $1.5 billion and $3.3 billion during that time period.

As a result, the financial institution’s books and records were inaccurate and the bank had inadequate internal accounting controls. The accounting control law is the same one used by the SEC in bribery cases from the Foreign Corrupt Practices Act.

Deutsche Bank neither admitted nor denied the SEC’s findings.

Questions? Contact one of our SEC whistleblower attorneys via our contact form or by calling 1-800-590-4116.

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Accounting Fraud Cases Up in 2014

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Allegations of accounting fraud in securities class actions or SEC enforcement actions were up in 2014 compared to the prior two years, according to a report by Cornerstone Research. These cases involved auditing violations, weaknesses in internal controls or allegations of failing to follow US Generally Accepted Accounting Principles.

Class actions involving accounting issues grew 47 percent on a year over year basis and there was a similar increase in the number of enforcement actions filed by the Securities & Exchange Commission between the 2013 and 2014 fiscal years.  The increase in accounting cases was remarkable because the number of securities class actions filed remained roughly the same in 2013 and 2014.

A large number of the cases dealt with the restatement of financials. The percentage and number of these cases was at their highest level in seven years.

Accounting issues can be the basis for whistleblower tips to both the SEC and the Internal Revenue Service because they result in either inadequate disclosures to investors or the nonpayment of taxes to the government.  The government whistleblower programs may pay between 10 and 30 percent to eligible individuals for tips after a successful enforcement action and qualifying information which meets the rules for a reward.

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Switch from GAAP to IFRS could expose accounting fraud to whistleblowers.

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Last week, James Schnurr, the new chief accountant for the Securities and Exchange Commission, told reporters that he was reviewing prior agency work on the potential accounting switch from Generally Accepted Accounting Principles (GAAP) to International Financial Reporting Standards (IFRS). The transition, which the SEC has been considering since at least 2007, will be revisited again by Scnhurr, a partner at Deloitte LLP prior to starting at the SEC a month ago. No decision has been made on the ultimate course of action the agency will pursue, although it will have implications for the method of accounting used by public companies distributing financial statements to shareholders.

The Wall Street Journal identified computer software and wireless communications as two industries where this transition could lead to dramatic changes in corporate accounting. In areas where GAAP and IFRS differ, there is the possibility that the rule switch could potentially expose accounting irregularities at large corporations as historical treatments are re-examined or lead to new situations of accounting fraud if companies attempt to adopt more favorable treatments during the transition.

More than 100 countries including the European Union currently use IFRS. The United States still uses GAAP in company-issued financial statements. When measured by market capitalization, more than half of the world’s companies still use US GAAP.

DEVELOPMENT OF ACCOUNTING STANDARDS

GAAP has been used extensively in the United States since the 1930s. Development started during the Great Depression as the country needed a way to restore confidence in the financial statements of corporations. The SEC encouraged the private sector to develop the accounting standards in 1938.

The movement for development of a set of international accounting standards started to grow in the 1960s. In the 1970s, the Financial Accounting Standards Board was created and began developing the International Accounting Standards. In 2001, the International Accounting Standards Board took over development and the name change to IFRS happened.

In 2005, companies began using IFRS in the European Union. Canada replaced its GAAP with IFRS in 2011. Japan has been promoting greater use of IFRS on a voluntary basis.

The SEC began exploring convergence with the IFRS set by the IASB in 2007. The initial roadmap published in 2008 suggested the potential for use by US issuers as early as 2014. However, according to the Wall Street Journal, “concerns about cost, implementation and the burden on smaller companies” stalled momentum.

IMPLICATIONS FOR WHISTLEBLOWERS

If new rules are adopted, the transition may expose problematic accounting treatments currently on the books or lead to new cases of accounting fraud. If the transition happens, and accountants are asked to adopt questionable accounting practices, they should consider the appropriate response given available options at their employer, the company and the SEC. The SEC whistleblower program or even the IRS program are options.

The IESBA is still working on a new code of ethics for professional accountants but the proposed guidelines currently open the door for an accountant to follow their conscience and report suspected noncompliance with laws and regulations.

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