Diebold, Inc

On June 2, 2010, Diebold, Inc., agreed to pay a $25 million fine to settle accounting fraud charges brought by the U.S. Securities and Exchange Commission (SEC). According to the SEC, the management of the Ohio based manufacturer of ATMs, bank security systems, and electronic voting machines regularly received reports comparing the company’s earnings to analyst forecasts. When earnings were below forecasts, management identified opportunities, some of which amounted to accounting fraud, to close the gap.

“Diebold’s financial executives borrowed from many different chapters of the deceptive accounting playbook to fraudulently boost the company’s bottom line,” SEC Enforcement Director Robert Khuzami said in a statement. “When executives disregard their professional obligations to investors, both they and their companies face significant legal consequences.”

A number of the SEC’s claims focused on premature revenue recognition. For example, Diebold was charged with improper use of “bill and hold” transactions. Under generally accepted accounting principles, revenue is typically recognized after a product is shipped. However, in some cases, sellers can recognize revenue before shipment for certain bill and hold transactions. The SEC claimed that Diebold improperly used bill and hold accounting to record revenue prematurely.

The SEC also claimed that Diebold manipulated various accounting accruals. Diebold was accused of understating liabilities tied to its Long Term Incentive Plan, commissions to be paid to sales personnel, and incentives to be paid to service personnel. Diebold temporarily reduced a liability account set up for payment of customer rebates. The company was also accused of overstating the value of inventory and improper inventory write-ups.

Each of these activities allowed Diebold to inflate the company’s financial performance. According to the SEC’s complaint, Diebold’s fraudulent activities misstated reported pretax earnings by at least $127 million between 2002 and 2007. Two years prior to the settlement, Diebold restated earnings for the period covered by the charges.

The clawback provision of the 2002 Sarbanes-Oxley antifraud law requires executives to repay compensation they receive while their company misled shareholders. Diebold’s former CEO, Walden O’Dell, agreed to return $470,000 in cash, plus stock and options.

Works Cited

(2007, January 31). MCI Inc.. Retrieved February 17, 2007 from Wikimedia Foundation, Inc. Web site: http://en.wikipedia.org/wiki/Worldcom(2005, July 13). Worldcom's ex-boss gets 25 years. Retrieved February 17, 2007 from British Broadcasting Corporation Web site: http://news.bbc.co.uk/1/hi/business/4680221.stm

The SEC is currently pursuing a lawsuit against three other former Diebold executives for their part in the matter.

Stratton Oakmont, Inc.

Stratton Oakmont, Inc. was a Long Island, New York, "over-the-counter" brokerage house founded by Jordan Belfort and Kenny Greene, and later bought by Danny Porush. Stratton Oakmont was the largest OTC firm in the country during the late 1980s and 1990s. The firm was responsible for the initial public offering of 35 companies, including Steve Madden Ltd., Hemesphere Biopharma, Dualstar Technologies, D.V.I. Financial, Paramount Financial, M. H Meyerson & Co., Czech Industries, M.V.S.I. Technology, Questron Technologies, and Etel Communications. Stratton Oakmont did not have a Product control function to price verify positions and monitor trading activity.

Alabama Securities Commissioner Joseph Borg pushed the formation of a multi-state task force which eventually led to the prosecution of Jordan Belfort after his office was inundated with complaints regarding the brokerage. Stratton Oakmont participated in Pump and dump schemes, a form of microcap stock fraud that involves artificially inflating the price of an owned stock through false and misleading positive statements, in order to sell the cheaply purchased stock at a higher price. Once the operators of the scheme "dump" their overvalued shares, the price falls and investors lose their money. Stocks that are the subject of pump and dump schemes are sometimes called "chop stocks".

In 1995, the firm sued Prodigy Services Co. for libel in a New York court, in a case that had wide legal implications.

WorldCom Scandal

In 1998, the telecommunications industry began to slow down and WorldCom's stock was declining. CEO Bernard Ebbers came under increasing pressure from banks to cover margin calls on his WorldCom stock that was used to finance his other businesses endeavors (timber, yachting, etc.). The company's profitability took another hit when it was forced to abandon its proposed merger with Sprint in late 2000. During 2001, Ebbers persuaded WorldCom's board of directors to provide him corporate loans and guarantees totaling more than $400 million. Ebbers wanted to cover the margin calls, but this strategy ultimately failed and Ebbers was ousted as CEO in April 2002.

Works Cited

(2007, January 31). MCI Inc.. Retrieved February 17, 2007 from Wikimedia Foundation, Inc. Web site: http://en.wikipedia.org/wiki/Worldcom(2005, July 13). Worldcom's ex-boss gets 25 years. Retrieved February 17, 2007 from British Broadcasting Corporation Web site: http://news.bbc.co.uk/1/hi/business/4680221.stm

Beginning in 1999 and continuing through May 2002, WorldCom (under the direction of Scott Sullivan (CFO), David Myers (Controller) and Buford Yates (Director of General Accounting)) used shady accounting methods to mask its declining financial condition by falsely professing financial growth and profitability to increase the price of WorldCom's stock.

The fraud was accomplished in two main ways. First, WorldCom's accounting department underreported 'line costs' (interconnection expenses with other telecommunication companies) by capitalizing these costs on the balance sheet rather than properly expensing them. Second, the company inflated revenues with bogus accounting entries from 'corporate unallocated revenue accounts'.

The first discovery of possible illegal activity was by WorldCom's own internal audit department who uncovered approximately $3.8 billion of the fraud in June 2002. The company's audit committee and board of directors were notified of the fraud and acted swiftly: Sullivan was fired, Myers resigned, and the Securities and Exchange Commission (SEC) launched an investigation. By the end of 2003, it was estimated that the company's total assets had been inflated by around $11 billion (WorldCom, 2005).

On July 21, 2002, WorldCom filed for Chapter 11 bankruptcy protection, the largest such filing in United States history. The company emerged from Chapter 11 bankruptcy in 2004 with about $5.7 billion in debt. At last count, WorldCom has yet to pay its creditors, many of whom have waited years for the money owed.

On March 15, 2005 Bernard Ebbers was found guilty of all charges and convicted on fraud, conspiracy and filing false documents with regulators. He was sentenced to 25 years in prison. Other former WorldCom officials charged with criminal penalties in relation to the company's financial misstatements include former CFO Scott Sullivan (entered a guilty plea on March 2, 2004 to one count each of securities fraud, conspiracy to commit securities fraud, and filing false statements), former controller David Myers (pleaded guilty to securities fraud, conspiracy to commit securities fraud, and filing false statements on September 27, 2002), former accounting director Buford Yates (pleaded guilty to conspiracy and fraud charges on October 7, 2002), and former accounting managers Betty Vinson and Troy Normand (both pleading guilty to conspiracy and securities fraud on October 10, 2002) (MCI, 2006). Ebbers reported to prison on September 26, 2006 to begin serving his sentence.

Computer Associates International

Works Cited

(2007, January 31). MCI Inc.. Retrieved February 17, 2007 from Wikimedia Foundation, Inc. Web site: http://en.wikipedia.org/wiki/Worldcom(2005, July 13). Worldcom's ex-boss gets 25 years. Retrieved February 17, 2007 from British Broadcasting Corporation Web site: http://news.bbc.co.uk/1/hi/business/4680221.stm

The $3.3 billion securities fraud case against Computer Associates has been called the last of the big Enron-era cases, involving alleged practices termed “the 35-day month,” “the three-day window” and the “flash period.” Certainly, there are some parallels: Each case involved a multi-billion dollar fraud that required participation by a wide group of top executives and others further down.

But the cases of the Houston energy-trading firm and the Islandia, N.Y., software giant are also different. Enron executives engaged in an extraordinarily complex hoax, creating a raft of outside businesses that could be used to conceal the firm’s mammoth debt. Computer Associates executives are accused of something far more prosaic: keeping the books open a few days after the end of the reporting period so revenues could be counted a quarter earlier than it ought to have been.

Computer Associates executives are not accused of reporting nonexistent deals or hiding major flaws in the business. The contracts that were backdated by a few days were real. Was this really a crime or should it fall under the heading of no-harm, no-foul?

It is indeed a serious offense, says Scott Richardson, professor of accounting at Wharton. “While it appears innocuous to say it is revenue one day early, this type of practice allows companies to draw on future earnings to deliver earnings and revenue growth, to help justify high [price-to-earnings] multiples,” he notes, adding: “Clearly, while this appears innocuous, the consequences are far from that.”

Late in September, the company agreed to pay $225 million in restitution to shareholders to settle a civil case brought by the Securities and Exchange Commission and to defer criminal charges by the U.S. Department of Justice. At the same time, a federal grand jury brought criminal charges against former Computer Associates chairman and CEO Sanjay Kumar and the firm’s former head of worldwide sales, Stephen Richards. Both men were forced to resign in April, about two years after the scandal broke. They have denied wrongdoing. A number of other executives were implicated as well.

In announcing the settlement, Mark K. Schonfeld, director of the SEC’s Northeast Regional Office, boiled the case down to its essence: “Like a team that plays on after the final whistle has blown, Computer Associates kept scoring until it had all the points it needed to make every quarter look like a win.”

The SEC said the scheme began in 1998, possibly earlier, and continued through September 2000. In all, the company prematurely reported $3.3 billion in revenues from

Works Cited

(2007, January 31). MCI Inc.. Retrieved February 17, 2007 from Wikimedia Foundation, Inc. Web site: http://en.wikipedia.org/wiki/Worldcom(2005, July 13). Worldcom's ex-boss gets 25 years. Retrieved February 17, 2007 from British Broadcasting Corporation Web site: http://news.bbc.co.uk/1/hi/business/4680221.stm

363 software contracts. This violated Generally Accepted Accounting Principles, or GAAP, which state that revenues should not be counted until both parties have properly signed a contract. During the four quarters of fiscal 2000, for example, the practice improperly inflated revenues by 25%, 53%, 46% and 22%, respectively. The SEC said the goal was to meet or beat per-share earnings estimates of Wall Street analysts, a key to keeping a company’s stock price rising.

The most extreme incident was the second quarter of 2000, when the company reported $557 million in revenues beyond the $1.047 billion it could properly claim. The company thus reported 60 cents in earnings per share, beating the consensus Wall Street forecast of 59 cents. Without the padded revenue, earnings would have been a mere 5 cents per share and the stock price might well have fallen.

The victims in the case were the shareholders who were led to believe the company was more profitable than it was, Richardson says. They paid more than they should have for the stock, or kept in when, had they known the truth, they would have sold. These shareholders suffered enormous losses once the practices were revealed. When the company stopped the practice at the end of the first quarter of 2001, it fell short of the Wall Street earnings estimate and the share price fell by more than 43% in a single day. Shares currently trade around $27, down from more than $71 early in 2000.

There was another class of victims as well – employees. Late in September, the company said it would trim its workforce by 800 people, or 5%, in order to pay the $225 million settlement.

Richardson notes that companies are not required to keep mum about revenues received after a reporting period ends. These “order backlogs” can be detailed in quarterly reports so long as they are not in the quarter’s revenue and earnings calculations.

In theory, investors should care little whether a deal is signed by the end of the quarter or a few days later, so long as the details are accurately reported. But in practice, investors tend to focus on the quarterly revenue and earnings targets. “People, for whatever reason, are fixating on certain numbers in the financial statement. If it’s not in the quarter, it’s not as good,” Richardson says.

At Computer Associates and many other companies, big portions of executives’ compensation depend on meeting specific goals. Inflated figures meant Computer Associates executives were paid more than they should have been – extra compensation that came from shareholders’ pockets.

Works Cited

(2007, January 31). MCI Inc.. Retrieved February 17, 2007 from Wikimedia Foundation, Inc. Web site: http://en.wikipedia.org/wiki/Worldcom(2005, July 13). Worldcom's ex-boss gets 25 years. Retrieved February 17, 2007 from British Broadcasting Corporation Web site: http://news.bbc.co.uk/1/hi/business/4680221.stm

Moreover, executives at Computer Associates were big shareholders themselves, and many held enormous blocks of stock options. They therefore had a big financial stake in the share price, and thus an incentive to inflate results. “There will always be cases where incentives to manage earnings are particularly acute for a given firm at a given time, and if you have an unethical management, they will push the envelope,” Richardson says. Indeed, he adds, improper timing of revenue recognition is “by far the most common” reason companies are forced to restate earnings.

While outside auditors are sometimes blamed for not catching the practice, auditors must rely on data from their clients, and timing infractions can be very hard to spot, according to Richardson. Investigators say Computer Associates simply backdated contracts, so that auditors would see that the paperwork confirmed the company’s claims.

Richardson argues that boards of directors and their compensation committees in particular should be careful not to inadvertently give executives incentives to cook the books. An executive sitting on a huge block of options about to vest may well get “a very myopic focus” about meeting analysts’ revenue and earnings projections, he said, noting that directors should be especially vigilant at such times.

Richardson does not believe the Computer Associates case and others like it point to the need for regulatory reform. The accounting flexibility available to public companies is necessary, he notes, even though it makes some breaches hard to detect. “Everything in the financial statements is a result of choice – of some exercise of financial discretion. If you eliminate choice, statements will be meaningless.”

The best way to address cases like that of Computer Associates is through rigorous enforcement of existing rules and severe punishment for violators, he suggests.

Documents filed by the SEC and Justice Department show that the timing infractions at Computer Associations required the participation not just of a few top executives but of many people, including lower level people in sales. The government also alleges top executives clearly knew what they were doing was wrong and went to great lengths to cover up. Obstruction of justice is among the charges against Kumar and Richards.

How does a clearly improper practice become so firmly rooted? In many cases, says Thomas W. Dunfee, professor of legal studies and ethics at Wharton, “the organization’s values have evolved in such a way that they are perverse when they are objectively viewed from outside … Sometimes you have companies that start getting an

Works Cited

(2007, January 31). MCI Inc.. Retrieved February 17, 2007 from Wikimedia Foundation, Inc. Web site: http://en.wikipedia.org/wiki/Worldcom(2005, July 13). Worldcom's ex-boss gets 25 years. Retrieved February 17, 2007 from British Broadcasting Corporation Web site: http://news.bbc.co.uk/1/hi/business/4680221.stm

adversarial view of the world.” In addition, Dunfee notes, studies have shown that “people who have been with an organization longer tend to see the organization’s values as compatible with theirs.

“I don’t think that anybody actually sets out to establish evil norms,” he adds. “It’s just that they develop ways of looking at things where they frame issues in a way that ultimately becomes more and more incompatible with the outside world.”

A healthy company can minimize the risk of this downward slide by encouraging and protecting whistleblowers Dunfee suggests. That way, problems are addressed internally – well before they become big enough to drag the entire company over the cliff.

Gary H. Lane

A former bank financial adviser in Reno who defrauded six people of more than $2 million during 2010 and 2011 has been sentenced to 10 years in prison, five years of supervised release, and ordered to pay restitution to the victims, announced Daniel G. Bogden, United States Attorney for the District of Nevada.

Gary H. Lane, 60, of Reno, who pleaded guilty in September 2013 to 12 counts of mail fraud and five counts of attempt to evade or defeat tax, was sentenced on Monday, February 10, 2014, by U.S. District Judge Robert C. Jones.

“Beware of persons who offer better interest rates than traditional sources,” said U.S. Attorney Bogden. “They prey on the elderly and unsophisticated and will use numerous methods to steal your money. If you do not know if an investment opportunity is legitimate, it is always better to investigate the person or company first before turning over any money to them.”

Lane was employed until March 2011 as a financial adviser with Bank of America Investment Services, which later merged with Merrill Lynch. During the course of Lane’s employment, he allegedly developed a scheme to entice persons to invest monies with him through the use of an E-Trade account rather than through normal bank procedures. Lane allegedly looked for investors who were elderly or lacked investing experience and who had a desire for high returns and aversion to risk. Lane told the investors that their funds would be invested in U.S. Treasury Bonds, which would pay better than six percent interest and would mature in two years. Lane corroborated the trades by creating false confirmations and distributing them to the victims by mail. After receiving the funds from the victims, Lane gave them to his spouse, who mailed them to

Works Cited

(2007, January 31). MCI Inc.. Retrieved February 17, 2007 from Wikimedia Foundation, Inc. Web site: http://en.wikipedia.org/wiki/Worldcom(2005, July 13). Worldcom's ex-boss gets 25 years. Retrieved February 17, 2007 from British Broadcasting Corporation Web site: http://news.bbc.co.uk/1/hi/business/4680221.stm

her E-Trade account. The funds were then withdrawn at Lane’s direction for his own use or to pay other investors. In actuality, Lane never purchased any U.S. Treasury Bonds with the victims’ funds. In fact, there were never any United States Treasury Bonds that existed with a rate of return of greater than six percent and a maturity period of less than two years.

Using this scheme, Lane defrauded approximately six persons of more than $2 million between January 2010 and March 2011. Lane also allegedly filed false and fraudulent individual tax returns for the years 2006 through 2010, substantially understating his income and tax due and owing to the IRS.

The case was investigated by the FBI, IRS-Criminal Investigation, and the Nevada Secretary of State Securities Division and prosecuted by Assistant U.S. Attorney Ronald C. Rachow.

This case was handled in connection with the President’s Financial Fraud Enforcement Task Force. The task force was established to wage an aggressive, coordinated, and proactive effort to investigate and prosecute financial crimes. With more than 20 federal agencies, 94 U.S. attorneys’ offices, and state and local partners, it is the broadest coalition of law enforcement, investigatory, and regulatory agencies ever assembled to combat fraud. Since its formation, the task force has made great strides in facilitating increased investigation and prosecution of financial crimes; enhancing coordination and cooperation among federal, state, and local authorities; addressing discrimination in the lending and financial markets; and conducting outreach to the public, victims, financial institutions, and other organizations. Over the past three fiscal years, the Justice Department has filed nearly 10,000 financial fraud cases against nearly 15,000 defendants including more than 2,900 mortgage fraud defendants.

Works Cited

(2007, January 31). MCI Inc.. Retrieved February 17, 2007 from Wikimedia Foundation, Inc. Web site: http://en.wikipedia.org/wiki/Worldcom(2005, July 13). Worldcom's ex-boss gets 25 years. Retrieved February 17, 2007 from British Broadcasting Corporation Web site: http://news.bbc.co.uk/1/hi/business/4680221.stm