AOL – Time Warner Cable Debacle

Dung HuynhZainab Salim 

Toan Nguyen

Turn-of-the-Century

Marcy Gordan of the WASHINGTON post

The world's largest media company by revenue, AOL Time Warner Cable, was accused, by federal regulators, with inflating the company's online advertising revenues by more than $1 billion between 2000 and 2002.

These allegations were based upon eight former AOL Time Warner Inc. executives. The Securities and Exchange Commission (SEC) charged Time Warner in 2005 for the allegations of materially overstating their revenues, these are violations of the reporting provisions of the federal securities laws.

Fraud Accusations

Executives Liabilities

The SEC’s Charges & Investigations

Marcy Gordan of the WASHINGTON post

The commission asserted that online advertising revenue was a key measure by which analysts and investors evaluated the company. That’s why after six years of investigation the SEC files fraud charges against the eight former executives, these charges were called upon Time Warner in the Spring of 2008.

As noted before John Michael Kelly (CFO) and Mark Wovsaniker (head of accounting policy), were both Certified Public Accountants, were charged by the SEC with misleading the company’s external auditor, which was Ernst & Young LLP, about fraudulent transactions.

Time Warner, Inc. Charges

Executives Charges

Investigations Launch

The investigations, launched six years ago, was actually due to the litigations brought up by AOL Time Warner Cable’s vendors, PurchasePro.com and Homestores.com, for “cooking” it’s books to inflate revenues for the 1st quarter of 2001. Afterwards cases from the SEC and more in depth investigations contributed to the uncover of Time Warner’s financial reporting fraud.

Findings from the SEC

Marcy Gordan of the WASHINGTON post

AOL Time Warner falsely inflated the number of AOL subscribers in the second, third, and fourth quarters of 2001 so it could report to the investment community that it had met its new subscriber targets, an important metric the market used to evaluate AOL (both before and after its merger with Time Warner). Specifically, the company counted members from "bulk subscription sales" to corporate customers (for distribution to their employees) when the company knew that the memberships had not, and mostly would not, be activated. (SEC)

Time Warner conducted these "round-trip" funding in several ways, the SEC says. The SEC alleges that in some cases it would pay inflated prices for goods or services in exchange for the vendor purchasing advertising in the amount that Time Warner overpaid. In other words the company would give its customers the money to buy online advertising space “ that they did not want or need.” according to the SEC. Time Warner also paid more for businesses it purchased so that the seller would then buy advertising.

Bulk Subscription Sales to Inflate Revenues

“Round Trip” Process

Findings from the SEC, Cont…

Marcy Gordan of the WASHINGTON post

The scheme boosted the company's advertising revenue by more than $1 billion. They implied that the executives engineered the fraudulent practices in order to boost the company's advertising performance in a struggling market, “Time Warner faced a growing crisis with regard to its advertising revenue as the market for online advertising began shrinking,” exact words from the suit. Time Warner did not reply immediately to a request for comments on the suits.

Effects Due the Fraudulent Reporting

The “Executives”

Marcy Gordan of the WASHINGTON post

The SEC’s Complaint alleges that the executives caused AOL to enter into transactions in which AOL indirectly paid customers to purchase advertising they did not want to buy, in order to enable AOL to report revenue that met Wall Street expectations.

The SEC said that eight former Time Warner Inc. executives fraudulently inflated the company's online advertising revenues by more than $1 billion between 2000 and 2002. Four of the executives have agreed to settle the civil charges brought by the Securities and Exchange Commission by paying a total of roughly $8 million in fines and returning allegedly ill-gotten gains. They are David Colburn, Eric Keller, Jay Rappaport, and James MacGuidwin.

SEC’s Complaints

Executives Charges

Executives Testifying

Charges are still pending against the other four, who are contesting them: John Michael Kelly, chief financial officer of the company when it was known as AOL Time Warner; Joseph Ripp, ex-chief financial officer of the AOL division; Steven Rindner, a former senior executive in the business affairs unit, and Mark Wovsaniker, former head of accounting policy.

Contract for Settlement

Marcy Gordan of the WASHINGTON post

The Securities and Exchange Commission said Monday March 25, 2005 that it had approved Time Warner Cable's proposal to pay $300 million penalty which the SEC staff will request be used for a Fair Fund, as authorized under the Sarbanes-Oxley Act. In additon, Pay a penalty of $60 million and establish a $150 million fund, which the Company may use to settle any related shareholder or securities litigation.

The settlement brings an end to the SEC investigation of accounting at Time Warner, which was also the target of a Justice Department investigation. The two probes went on for some two years, helping to wipe away more than $200 billion in shareholder value since AOL purchased Time Warner in 2002.

Proposal for Settlement by Time Warner

Aftermath of LawSuit

The End of a Six Years Suit

By settling the charges, Time Warner hopes to lift a cloud over the company that has been preventing it from using its stock for acquisitions. Shares of New York-based Time Warner fell 28 cents to $18.42 on the New York Stock Exchange after the settlement was announced.

Recommendations from the SEC

by Mark E. Moran: Business Weekly

SEC officials said the company would restate financial results by reducing its reported online advertising revenue by about $500 million for the fourth quarter of 2000 through 2002, in addition to the $190 million it had already restated. The settlement also requires Time Warner to have 17 previous transactions reviewed by an independent examiner, which could result in additional. Time Warner agreed to all these settlements and to open its’ books to an independent examiner.

Time Warner’s additional obligations under the settle were to:• Accept responsibility for the conduct of certain Time Warner employees with respect to the PurchasePro transactions.• Cooperate fully with the DOJ or any other federal criminal law enforcement agency regarding the transactions covered by the settlement.• Retain and cooperate with an independent monitor, who will review the effectiveness of Time Warner’s internal controls, including those related to the accounting for advertising and related transactions.

Proposition from SEC to Time Warner

Requirements after Settlement