Calling Off the Dogs

Recent signals from the SEC raise the question: Is Harvey Pitt taking a softer line on financial fraud?

Levitt’s Hard Line

In theory at least, all this seems a radical shift from the heyday of Arthur Levitt, who took a consistently hard line on accounting shenanigans. “Accounting cases were always a significant part of the agency’s inventory,” notes McLucas, but “the enforcement division has been quite aggressive” in the past few years. Indeed, in the three years that followed Levitt’s famous “numbers game” speech in September 1998 — from October 1, 1998, to September 30, 2001 — the division brought lawsuits against at least 90 companies and 54 CFOs for financial-statement fraud, including such high-profile targets as Sunbeam, McKesson HBOC, and Cendant. Meanwhile, major corporations such as Lucent, Raytheon, and Xerox are among the 250 or so cases still under SEC scrutiny, with probes widening within each firm.

The case load was an ambitious one. Frauds at larger companies tend to be more sophisticated and involve more people than the typical microcap case, which means more resources are required to crack them. Overall, about 60 percent of the companies charged in fiscal 2000 traded on major exchanges at some point.

Since many of the larger companies are multinationals, there was also a more intense focus on improprieties at foreign entities. The ongoing investigation of Xerox, for example, began with accounting problems found in its Mexico operations. Boston Scientific settled with the SEC last year on charges of channel-stuffing in its Japanese division. And several large companies, including IBM, American BankNote, and Chiquita, were hit with large fines for bribing outside parties in other countries. The cases represent a real coup for the SEC, since the amounts were often small ($30,000 in the Chiquita case, $75,000 for Baker Hughes) and hard to detect.

“It’s an enormous undertaking to make sure the books and records are proper at that level of detail,” notes attorney Greg Bruch, of Washington, D.C.-based Foley & Lardner. Bruch was assistant director at the division until September and worked on several of the cases. The relatively stringent responses arose from the ill intent inherent in a bribe, he says. “You wouldn’t see that level of action if it was an improperly recorded invoice [for the same amount] from a real-estate venture in Kansas.”

The past several years have also given rise to a growing number of CFOs being held accountable for accounting trouble. About 60 percent of the cases in the last three fiscal years named a CFO as a defendant, up from an average of 43 percent for cases brought between 1987 and 1997. And as CFO reported in September 2000 (“Jailhouse Shock”), more of those CFOs are facing criminal charges. Thanks to joint efforts between the SEC and states’ attorneys general, 19 CFOs went to jail or were awaiting sentencing between 1998 and 2000, more than six times the number who did time in the previous four years.

As proof of the agency’s new muscle, SEC officials point out that the number of enforcement actions for fraud, which can include multiple filings within a given company, grew from 78 in 1998 to 100 in 2000. This trend follows a rising tide of total securities law violation filings, which increased from slightly more than 400 in 1992 (the year before Levitt took over) to about 500 in 2000.


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