Archived Forensic News September 2014
Financial/Accounting
Fraud
U.S. SEC to pay $30 million-plus in largest whistleblower award
An anonymous tipster living abroad will be receiving more than $30 million, in the largest whistleblower award ever doled out by U.S. securities regulators as part of a program that aims to incentivize insiders to report wrongdoing. The Securities and Exchange Commission said on that the whistleblower provided crucial information that helped investigators uncover a “difficult to detect” ongoing fraud. “This record-breaking award sends a strong message about our commitment to whistleblowers and the value they bring to law enforcement,” SEC Enforcement Director Andrew Ceresney said. The SEC won new powers in the 2010 Dodd-Frank Wall Street reform law to entice whistleblowers with monetary awards. Prior to the new law, the SEC was only able to reward people for helping on insider-trading cases. The new program lets the SEC pay a whistleblower who provides tips and original information that leads to an enforcement action with sanctions that exceed $1 million. The SEC can award a whistleblower anywhere between 10 percent and 30 percent of the money the agency collects. By law, the SEC is not allowed to reveal the identity of whistleblowers, and so as a result it does not disclose which case a whistleblower helped to crack. Settlements with the SEC large enough to justify a $30 million-plus award are fairly uncommon. Phillips & Cohen LLP, a law firm that represented the whistleblower, declined to provide details about the case but said its client will receive at least $30 million and possibly as much as $35 million. “I was very concerned that investors were being cheated out of millions of dollars and that the company was misleading them about its actions,” said the whistleblower, in a press release issued by the law firm. The announcement marks the fourth time the SEC has agreed to award a whistleblower living abroad - a fact that the agency said demonstrates the “international breadth” of the program. Since the inception of the program in fiscal year 2012, the SEC has awarded more than a dozen whistleblowers. The $30 million-plus award is more than double the previous record of $14 million, awarded to a whistleblower in 2013.
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Shaming of Tesco: Retail giant suspends four top managers who ‘cooked books’ to hide slump in profits as £2billion is wiped off its market value
Tesco is facing the worst crisis in its 95-year history following claims that directors ‘cooked the books’ to cover up dismal profits. The supermarket chain saw more than £2billion wiped off its market value after it admitted inflating its accounts by £250million. Its shares have now fallen 40 per cent this year, bringing huge losses to pension funds, traders and small investors alike. City watchdogs are under pressure to launch an investigation into the scandal that analysts blamed on ‘crass incompetence’. Only last month Tesco issued a warning that its profits for the first six months of this year had been a disappointing £1.1billion. Recently, it emerged that even that figure was bogus and had been boosted by alleged accountancy tricks. Finance chiefs had simply brought forward income expected later in the year and had deferred costs. The situation began when a whistleblower tipped off Tesco’s legal department last week. The possibility that Tesco, which accounts for £1 in every £8 spent in British shops, has been fiddling its accounts sent shockwaves through the City with shares tumbling 12 per cent at one point. The error was brought to the attention of Tesco’s general counsel by a whistle-blower before being passed to new chief executive Dave Lewis. He carried out a preliminary investigation over the weekend before issuing Tesco’s third profits warning in as many months. His four suspended directors are: UK managing director Chris Bush, UK finance director Carl Rogberg, food commercial director John Scouler, and food sourcing director Matt Simister. Questions will also be asked of former chief executive, Philip Clarke, and Laurie McIlwee, the chief financial officer who left last week. Mr Lewis confirmed that Tesco’s multichannel director Robin Terrell had stepped in to run the UK business. He said: ‘We have asked four people to step aside so we can be sure we do the fullest and frankest investigation. ‘We will let the investigation determine whether any rules were broken and what I need to do to address that.’ The distress being suffered by Tesco stems from the fact that it is losing millions of shoppers to budget retailers such as Aldi and Lidl at one end, while others are deserting to Waitrose and Marks & Spencer. Philip Clarke was forced to step down as chief executive in August after presiding over a slump in sales and market share during just three years at the top of the company. Tesco said it discovered the overstatement of its figures, made as part of an August 29 profit warning, during its final preparations for its forthcoming interim results. Then Tesco said full-year trading profits could be as low as £2.4billion – some £400million lower than expected – after ‘challenging trading conditions’. It also predicted its half-year trading profit would be around £1.1billion. This is the figure which has now been slashed by £250million, leaving profits down by around 46 per cent on the £1.58 billion a year earlier.
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French welfare fraud costs 20-25 billion euros per year – report
Fraud in France’s indebted welfare system costs the country between 20-25 billion euros ($26-32 billion) per year and only a tiny fraction of that amount is ever recovered, an estimate by the French national auditor. Total revenue lost for the social security system had risen by at least 70 percent between 2004 and 2012 due largely to companies not paying social charges for their employees, the Cour des Comptes annual survey showed. The rate of recovery for money defrauded from benefits ranging from unemployment to pensions was “derisory” - less than one billion euros in 2013, of which 291 million euros from undeclared work, the auditor said. “There is a need to reinforce the fight against welfare fraud. That involves a professional, team approach using the most modern (detection) techniques as well as reinforced sanctions,” it added. By one measure, France has the most generous welfare system in the world. The state spends more than 20 percent of GDP on social benefits a year, or more than 500 billion euros. In 2014 fraud was projected to account for at least twice the welfare system’s deficit, which has fallen amid belt-tightening by President Francois Hollande’s Socialist government and is estimated to reach 9.9 billion euros this year. The welfate deficit is part of the overall public deficit target of three percent of GDP on which France is measured by the European Commission - which it acknowledged last week it would miss next year. Successive governments, including former centre-right president Nicolas Sarkozy’s, have balked at implementing tougher anti-fraud measures, which can be politically explosive because they are perceived to target society’s weakest members. Despite warnings that fraud is inflating the deficit, the government has avoided reinforcing controls on companies or on individuals receiving health or unemployment benefits. Health Minister Marisol Touraine said the government was instead trying to make savings in the social security budget by cracking down on unnecessary medical treatments. “The fight against fraud is also important, but it is not the central pillar of my policy because what counts is the determination of the government to bolster or social action,” she told 20 Minutes free newspaper in an interview. The Cour des Comptes report showed that the building and services sectors cost the most in terms of fraud, while the agricultural sector was virtually un-policed.
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US Agency Under Fire for Alleged Telework Fraud
A unit of the United States Government, the United States Patent and Trademark Office, is under scrutiny both by Congress and the news media for alleged fraud perpetrated by employees “teleworking” from home. Roughly 3,800 of the USPTO’s 8,300 patent examiners work from home full-time. Another 2,700 telecommute part-time. Investigators have been looking into reports that some of these teleworkers did little or no work but got paid their full salaries. And, the allegations claim supervisors not only knew about it, but also, acted to cover up the situation. While there have been comments for years within the patent community about these irregularities, a formal probe was launched in 2012 by Commerce Department Inspector General Todd Zinser. His investigation started with the complaints of four internal “whistleblowers” [people who report misconduct]. He then audited various units of the USPTO for possible fraud. Within the USPTO’s Patent and Trial Appeal Board. 19 new “Paralegal Specialists” were hired in 2009 despite a reported lack of work for them. Zinser’s report says management knew about this, but instructed the paralegals to put down hours watching TV and other personal activities as “other time” so they would get full pay. According to a story published in August in Government Executive (http://cdn.govexec.com/interstitial.html?v=2.1.1&rf=http%3A%2F%2Fwww.govexec.com%2Fmanagement%2F2014%2F09%2Fpatent-office-confirms-concerns-over-telework-fraud%2F94142%2F), Zinser’s report said “One senior manager described the billing code as the ‘I don’t have work but I’m going to get paid’ code.” “Our investigation uncovered substantial, pervasive waste at the PTAB that endured for more than four years, and resulted in the misuse of federal resources totaling at least $5.09 million,” the report said. The USPTO fraud story has, in recent months, been the subject of investigative reporting by the Washington Post newspaper. And, the story has also caught the eye of U.S. Congressman Darryl Issa (R-CA), the Chairman of the House of Representatives’ Oversight and Government Reform Committee. In August, Issa’s committee held hearings on the USPTO and the teleworking fraud. On August 19, the committee sent Commerce Secretary Penny Pritzker a formal letter citing the newspaper’s reports, and requesting documents on points raised in those stories. “According to the Post patent examiners ‘repeatedly lied about the hours they were putting in, and many were receiving bonuses for work they didn’t do.’ In one instance, an examiner received full pay despite missing 304 hours of work,” the letter said. “The employee was caught twice for cheating but not fired. Another employee racked up $12,533 in salary while showing no evidence of working.” “According to one manager, an examiner used a ‘mouse-mover’ program to create the appearance that he was working,” the letter said. “While the manger reported the incident to a top official, no disciplinary action was taken.” Even more damaging was the contention in the committee’s letter that the report from the USPTO to Inspector General Zinser was substantially altered from its original form.
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U.S. Courts Close 2 Payday Lenders Accused of Fraud
Federal agencies have taken legal action to shut down two networks of online payday lenders, saying they made fraudulent loans to unwitting consumers and then used the loans as a pretext to withdraw millions of dollars from their bank accounts. Two agencies — the Consumer Financial Protection Bureau and the Federal Trade Commission — brought separate complaints against two different groups of individuals and companies in cases that are nearly identical. The investigations were prompted by roughly 1,300 complaints to the consumer bureau and a similar number to the F.T.C. In both cases, consumers submitted information about themselves — including bank account numbers — to online payday loan comparison sites. These so-called lead generators auctioned the information to payday lenders or to brokers, who resold the information, officials said. The suits say that in this case, unscrupulous buyers then used the information to deposit money into consumers’ bank accounts and then make unauthorized monthly withdrawals. The consumer bureau filed a lawsuit on Sept. 9 against three people who operated a group of about 20 companies, known as the Hydra Group, in Federal District Court in Kansas City, Mo., where the company’s operations are based. Over 15 months, the bureau said, the group made $97.3 million in payday loans and collected $115.4 million from consumers in return. Richard Cordray, the consumer bureau’s director, said the Hydra Group was running an “illegal cash-grab scam” that forced loans on people without their consent. “It is an incredibly brazen and deceptive scheme,” he said. The court granted a temporary order shutting the Hydra Group and freezing its assets while the bureau seeks a permanent halt to its business and refunds for consumers. The F.T.C. filed a separate complaint on Sept. 5, also in federal court in Kansas City, Mo., against a group of about a dozen companies, including CWB Services, and two men who reportedly ran their lending activities. The court has frozen the defendants’ assets and halted the business, “effectively shuttering” the operation, the F.T.C. said. Phil Greenfield, a lawyer representing Frampton T. Rowland III, one of the two defendants, said in an email that his client “denies the allegations the F.T.C. has leveled against him, and he looks forward to clearing his name.” He said Mr. Rowland’s lending activities were not halted by the F.T.C.; rather, he said, he “voluntarily ceased business operations” months ago for unrelated reasons. Patrick McInerney, a lawyer for the second individual named in the F.T.C. suit, Timothy J. Coppinger, and his related companies, said in an email, “Mr. Coppinger denies the allegations in the complaint filed by the F.T.C. and intends to vigorously defend against each of the claims.” The F.T.C. said the scheme began in 2011 and that in just one 11-month period, the lenders extracted more than $46 million from consumers across the country. Typically, consumers would discover a deposit of $200 or $300 and then would see withdrawals every two weeks, typically of $60 or $90.
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Tennessee-Based Animal Feed Company Agrees to Pay $18 Million to Settle Accounting Fraud Case
The Securities and Exchange Commission announced that a Tennessee-based animal feed company has agreed to pay back $18 million in illicit profits from an accounting fraud that resulted in an SEC enforcement action earlier this year. AgFeed Industries, which is currently in Chapter 11 bankruptcy, was charged by the SEC in March along with top company executives (http://www.sec.gov/News/PressRelease/Detail/PressRelease/1370541102314) for repeatedly reporting fake revenues from the company’s China operations in order to meet financial targets and prop up AgFeed’s stock price. The company obtained illicit gains in stock offerings to investors at the inflated prices resulting from the accounting scheme. The SEC also alleged that U.S. managers learned of the accounting fraud, but failed to take adequate steps to investigate and disclose it to investors. The $18 million to be paid by AgFeed to settle the SEC’s case will be distributed to victims of the company’s fraud. Details of the settlement were presented to the bankruptcy court in Delaware earlier, and the settlement is subject to court approval by the bankruptcy court as well as the district court in Tennessee where the case was filed. The SEC’s case continues against five former company executives and a former audit committee chair. “This settlement holds AgFeed accountable for its accounting fraud and deprives the company of ill-gotten gains,” said Julie Lutz, Director of the SEC’s Denver Regional Office. “This provides the most expedient and effective way to provide a substantial recovery to victims of AgFeed’s fraud while the company remains in bankruptcy.” Under the proposed settlement, AgFeed also agrees to the entry of a permanent injunction enjoining it from the antifraud, periodic reporting, and recordkeeping and internal control provisions of the federal securities laws. AgFeed neither admits nor denies the charges in the settlement.
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Wells Fargo Advisors Admits Failing to Maintain Controls and Producing Altered Document, Agrees to Pay $5 Million Penalty
The Securities and Exchange Commission charged Wells Fargo Advisors LLC with failing to maintain adequate controls to prevent one of its employees from insider trading based on a customer’s nonpublic information. The SEC also charged Wells Fargo for unreasonably delaying its production of documents during the SEC’s investigation and providing an altered internal document related to a compliance review of the broker’s trading. Wells Fargo, which admits wrongdoing, has agreed to pay a $5 million penalty to settle the SEC’s charges, which are the first-ever against a broker-dealer for failing to protect a customer’s material nonpublic information. According to the SEC’s order instituting a settled administrative proceeding, Wells Fargo highlighted in internal documents the risk of its personnel misusing confidential information obtained from retail customers and clients. The risk manifested itself when a Wells Fargo broker learned confidentially from his customer that Burger King was being acquired by a New York-based private equity firm. The broker then traded on that nonpublic information ahead of the public announcement. The SEC charged the broker with insider trading (http://www.sec.gov/News/PressRelease/Detail/PressRelease/1365171484920) and obtained an asset freeze to prevent him from transferring illicit profits outside the U.S. The SEC’s order finds that multiple groups responsible for compliance or supervision within Wells Fargo received indications that the broker was misusing customer information. However, these groups lacked coordination or any assigned responsibilities, and they ultimately failed to act on these indications. Federal law requires broker-dealers and investment advisers to establish, maintain, and enforce policies and procedures to prevent such misuse of material nonpublic information. “When investors entrust private information to their stockbrokers or investment advisers, they have the right to expect that it will not be exploited,” said Andrew J. Ceresney, Director of the SEC’s Enforcement Division. “In this case – our first against a broker-dealer for failing to protect the nonpublic information conveyed by its customers – Wells Fargo failed to implement procedures to prevent misuse of such information.” The SEC’s order also finds that when SEC investigators sought all documents related to the firm’s compliance reviews of the broker’s trading, Wells Fargo’s document production omitted documents related to the broker’s trading in Burger King stock. Six months after SEC investigators initially requested documents, Wells Fargo produced the Burger King-related review without any explanation as to why it was not produced in the first place. Furthermore, Wells Fargo failed to provide an accurate record of the review because one of the documents had been altered to include additional language before it was produced to the SEC.
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SEC Charges Software Company in Silicon Valley and Two Former Executives Behind Fraudulent Accounting Scheme
The Securities and Exchange Commission charged a Silicon Valley-based software company and two former executives behind an accounting fraud in which timesheets were falsified to hit quarterly financial targets. An SEC investigation found that company vice presidents Patrick Farrell and Sajeev Menon were atop a scheme at Saba Software in which managers based in the U.S. directed consultants in India to either falsely record time that they had not yet worked, or purposely fail to record hours worked during certain pay periods to conceal budget overruns from management and finance divisions. The improper time-reporting practices enabled Saba Software to achieve its quarterly revenue and margin targets by improperly accelerating and misstating virtually all of its professional services revenue during a four-year period as well as a substantial portion of its license revenue. Saba Software agreed to pay $1.75 million to settle the SEC’s charges, and Farrell and Menon agreed to settle the case as well. Under the “clawback” provision of the Sarbanes-Oxley Act, executives can be compelled to return to the company and its shareholders certain money they earned while their company was misleading investors. In a separate order instituted, the SEC required Saba Software’s CEO Babak “Bobby” Yazdani to reimburse the company $2.5 million in bonuses and stock profits that he received while the accounting fraud was occurring, even though he was not charged with misconduct. “CEOs and CFOs can be deprived of bonuses and stock profits if there is misconduct on their watch that requires a restatement by their employer,” said Andrew J. Ceresney, Director of the SEC’s Division of Enforcement. “We will not hesitate to pursue clawbacks in appropriate cases.” According to the SEC’s order instituting a settled administrative proceeding, Saba Software offers professional services often sold simultaneously with software products. The professional services historically have accounted for about one-third of approximately $120 million in yearly revenues, and the company maintains a group of consultants within its subsidiary in India to help deliver professional services to its customers. The SEC’s order finds that Saba Software’s timekeeping practices of “pre-booking” and “under-booking” hours worked by these consultants precluded the time records from serving as reliable evidence under U.S. Generally Accepted Accounting Principles to recognize revenue in the manner that the company did. Therefore, from Oct. 4, 2007 to Jan. 6, 2012, Saba Software cumulatively overstated its pre-tax earnings by approximately $70 million. According to the SEC’s order, Farrell and Menon were responsible for ensuring that the professional services group within Saba Software met financial targets set by senior management. Farrell was aware of situations where consultants planned to pre-book hours in order to achieve their quarterly revenue targets yet he failed to stop the practice. In other instances when they had overrun their budgets, he directed consultants to “eat” the hours or back them out of the timesheet database. Menon directed consultants reporting to him to book time to the timesheet database at quarter-end even though those hours would not be worked until the following quarter. In other instances, he advised them to avoid inputting in the timekeeping system non-billable hours that they had worked.
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Foreign Corrupt Practices Act (FCPA)
Hewlett-Packard Russia Pleads Guilty to and Sentenced for Bribery of Russian Government Officials
ZAO Hewlett-Packard A.O. (HP Russia), an international subsidiary of the California technology company Hewlett-Packard Company (HP Co.), pleaded guilty to felony violations of the Foreign Corrupt Practices Act (FCPA) and was then sentenced for bribing Russian government officials to secure a large technology contract with the Office of the Prosecutor General of the Russian Federation. Principal Deputy Assistant Attorney General Marshall L. Miller of the Justice Department’s Criminal Division, U.S. Attorney Melinda Haag of the Northern District of California, Assistant Director in Charge Andrew G. McCabe of the FBI’s Washington Field Office and Chief Richard Weber of the Internal Revenue Service – Criminal Investigation (IRS-CI) made the announcement. HP Russia pleaded guilty this morning before U.S. District Judge D. Lowell Jensen of the Northern District of California to conspiracy and substantive violations of the anti-bribery and accounting provisions of the FCPA. According to the plea agreement, HP Russia executives created a multimillion dollar secret slush fund, at least part of which was used to bribe Russian government officials who awarded the company a contract valued at more than € 35 million. At the conclusion of the plea proceeding, the court sentenced HP Russia to pay a $58,772,250 fine. “In a brazen violation of the FCPA, Hewlett Packard’s Russia subsidiary used millions of dollars in bribes from a secret slush fund to secure a lucrative government contract,” said Principal Deputy Assistant Attorney General Miller. “Even more troubling was that the government contract up for sale was with Russia’s top prosecutor’s office. Tech companies, like all companies, must compete on a level playing field, not resort to secret books and sham transactions to hide millions of dollars in bribes. The Criminal Division has been at the forefront of this fight because when corruption takes hold overseas, American companies and the rule of law are harmed. The conviction and sentencing are important steps in our ongoing efforts to hold accountable those who corrupt the international marketplace.” According to the statement of facts filed with the plea agreement, HP Russia created excess profit margins to finance the slush fund through an elaborate buy-back deal scheme. HP subsidiaries first sold the computer hardware and other technology products called for under the contract to a Russian channel partner, then bought the same products back from an intermediary at a nearly €8 million mark-up and an additional €4.2 million in purported services, then sold the same products to the Office of the Prosecutor General of the Russian Federation at the increased price. The payments to the intermediary were then largely transferred through multiple layers of shell companies, some of which were directly associated with government officials. Proceeds from the slush fund were spent on travel services, luxury automobiles, expensive jewelry, clothing, furniture and various other items. To keep track of and conceal these corrupt payments, the conspirators inside HP Russia kept two sets of books: secret spreadsheets that detailed the categories of bribe recipients, and sanitized versions that hid the bribes from others outside of HP Russia. They also entered into off-the-books side agreements to further mask the bribes. As one example, an HP Russia executive executed a letter agreement to pay €2.8 million in purported “commission” fees to a U.K.-registered shell company, which was linked to a director of the Russian government agency responsible for managing the Office of the Prosecutor General of the Russian Federation project. HP Russia never disclosed the existence of the agreement to internal or external auditors or management outside of HP Russia. On April 9, 2014, the government also announced criminal resolutions with HP subsidiaries in Poland and Mexico which violated the FCPA in connection with contracts with Poland’s national police agency and Mexico’s state-owned petroleum company, respectively. Pursuant to a deferred prosecution agreement, the department filed a criminal information charging Hewlett-Packard Polska, Sp. Z o.o. with violating the accounting provisions of the FCPA. Hewlett-Packard Mexico, S. de R.L. de C.V. entered into a non-prosecution agreement with the government pursuant to which it has agreed to forfeit proceeds and has admitted and accepted responsibility for its misconduct. In total, the three HP entities will pay $76,760,224 in criminal penalties and forfeiture.
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Next for Corporate America: Body wires and wire taps?
Wall Street executives may have personally escaped the wrath of the U.S. Department of Justice but executives at companies accused of foreign bribery schemes may not be so lucky. Prosecutors say they are clearly shifting away from only big corporate settlements in such cases and are beginning to target more individuals. The numbers are not eye-popping. But officials say the results are encouraging and these cases may provide road maps for other financial fraud prosecutions. “Certainly...there has been an increased emphasis on, let’s get some individuals,” said Leslie Caldwell, head of the Justice Department’s criminal division. So far this year, the Justice Department has unsealed charges, or obtained convictions, against 15 people accused of engaging in bribery or related charges outside the United States. That compares to 11 such cases last year and only six in 2012. Some of the most recent defendants include a former executive of French engineering group Alstom SA, Ukrainian oligarch Dmytro Firtash, and an advisor to a company owned by Israeli billionaire Beny Steinmetz. Justice Department officials credit their good fortune to a change in investigative techniques. Instead of utilizing corporate disclosures as a starting point, for example, investigators are using more body wires and wiretaps to gather evidence — methods that have been successful in building cases against organized crime syndicates -- and some Wall Street inside traders. They have also built up relationships with foreign counterparts so they can share information. Additionally, federal investigators have obtained court ordered search warrants issued to companies such as Yahoo Inc. and Microsoft Corp to get access to overseas emails.
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Iraq loses U.S. appeal over U.N. oil-for-food program suit
A divided U.S. federal appeals court rejected Iraq’s effort to sue dozens of companies for allegedly conspiring with the Saddam Hussein regime to frustrate the United Nations’ oil-for-food program. By a 2-1 vote, the 2nd U.S. Circuit Court of Appeals in New York said Iraq’s government could not recoup damages under a U.S. anti-racketeering law because it remained accountable for the Hussein regime’s effort to defraud the U.N. program, despite having repudiated that effort and the regime’s legitimacy. The appeals court, by a unanimous vote, also said Iraq could not pursue claims under the federal Foreign Corrupt Practices Act, saying the law’s anti-bribery provision does not allow private lawsuits. More than 80 companies, subsidiaries and affiliates were named as defendants in the 2008 lawsuit over the $64.2 billion oil-for-food program, which ran from 1996 to 2003. Among the defendants were; the French bank BNP Paribas SA , which oversaw a U.N. escrow account for the program; Swiss engineering company ABB Ltd ; U.S. oil company Chevron Corp ; British drugmaker GlaxoSmithKline Plc and German electronics company Siemens AG. Iraq claimed that Hussein defrauded the program by selling oil at below-market prices while receiving kickbacks, and overpaying for food and medicine in exchange for side payments. It said the defendants’ involvement deprived Iraqi citizens of more than $10 billion of essential aid that should have been paid from the escrow account.
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Avon wins dismissal of lawsuit over China bribery
Avon Products, Inc. won the dismissal of a securities fraud lawsuit accusing the cosmetics company of concealing its inability to stop workers from bribing officials in China to win business there. U.S. District Judge Paul Gardephe in Manhattan found no showing that Avon, former Chief Executive Andrea Jung and former Chief Financial Strategy Officer Charles Cramb intended from 2006 to 2011 to deceive shareholders about the company’s knowledge of alleged bribery, such as through corrupt “dinner and karaoke” events, and dependence on bribes to boost sales. In a 59-page decision, Gardephe also said Avon shareholders did not show the company intended to deceive them about its ability to comply with the federal Foreign Corrupt Practices Act, which prohibits bribing foreign officials. The lawsuit was brought on behalf of shareholders from July 31, 2006 to Oct. 26, 2011, and had claimed that Avon’s corporate culture was “actively hostile” to effective oversight. Gardephe said the plaintiffs may amend their complaint if they wish. Gregg Levin, a partner at Motley Rice representing the lead plaintiffs, did not immediately respond to requests for comment. Jennifer Vargas, an Avon spokeswoman, said the New York-based company does not discuss pending litigation. Germany’s LBBW Asset Management Investmentgesellschaft mbH and SGSS Deutschland Kapitalanlagegesellschaft mbH are the lead plaintiffs. Other plaintiffs include pension plans in Chicago; Baton Rouge, Louisiana, and Brockton, Massachusetts. Avon began an internal probe in 2008 into alleged improper payments in China, which it has said cost the company $300 million. In May, Avon announced a tentative agreement to pay $135 million to settle related probes by the U.S. Department of Justice and Securities and Exchange Commission. Jung had been Avon’s chief executive for 12 years when the company announced plans to replace her in December 2011, a year when its stock price fell 40 percent. Sheri McCoy, Jung’s successor, took over the following April.
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Litigation Matters
Casino mogul Wynn sues short-seller Chanos for alleged slander
Casino mogul Steve Wynn has filed a lawsuit accusing prominent short-seller Jim Chanos of slander. In a complaint filed, Wynn said Chanos had told several people at an “invitation-only” event in Berkeley, California, on or about April 25 that Wynn and his company, Wynn Resorts Ltd, had violated the federal Foreign Corrupt Practices Act. Wynn said the statement was false and defamatory, that Chanos had made it with reckless disregard of the truth, and that no official agency had ever suggested there is reliable evidence that he or his company had violated the FCPA. Chanos did not immediately respond to requests for comment. Wynn, Wynn Resorts and their lawyers did not immediately respond to similar requests. The lawsuit filed in San Francisco federal court seeks unspecified compensatory and punitive damages for alleged injury to Wynn’s reputation and emotional distress. Chanos is a hedge fund manager who runs Kynikos Associates LP in New York. He is known for short-selling, which involves bets that stock prices will go down rather than up.
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U.S. SEC claws back Saba Software ex-CEO’s pay over fraud
The U.S. Securities and Exchange Commission said Saba Software Inc’s (SABA.PK) former chief executive will repay $2.57 million of bonuses, incentive pay and profit from stock sales to the Silicon Valley company as part of a settlement over an accounting fraud. Babak “Bobby” Yazdani, who founded Saba in 1997 and resigned as chief executive in March 2013, was not charged with misconduct over the scheme, which involved falsified time-sheets by consultants at an Indian subsidiary, the SEC said. In agreeing to the claw-back, Yazdani neither admitted nor denied the SEC’s findings against Saba, which agreed to a $1.75 million civil fine. Saba also did not admit wrongdoing. The claw-back provision of the corporate governance law known as the Sarbanes-Oxley Act can compel executives to return money to their companies, for the benefit of shareholders, that they received while shareholders were being misled. The settlement resolved charges that Saba managers in the United States directed consultants in India to falsify time-sheets by recording time they had yet to work, or failing to record hours worked to conceal budget overruns. The SEC said the scheme was meant to help Saba hit quarterly revenue and margin targets and resulted in the Redwood Shores, California-based company overstating pre-tax earnings by about $70 million from October 2007 to January 2012. On a conference call, SEC enforcement chief Andrew Ceresney called Saba’s accounting fraud “pervasive,” in which managers called the India consulting group a “black box” because it was hard to tell what work was performed, who performed it and when. He also said the case reflected the SEC’s increased focus on financial reporting fraud and underscored the need for companies with offshore operations to have effective internal controls. “Financial reporting failures can result in significant claw-back obligations,” Ceresney said. In a statement, Saba Chief Executive Shawn Farshchi said the company was pleased to settle. Saba said it expects to file restated financial results in the fourth quarter of this year. The SEC also said two former Saba vice presidents who directed the scheme, Patrick Farrell and Sajeev Menon, agreed to pay $85,017 and $69,621, respectively, to settle related charges. Farrell and Menon also did not admit wrongdoing. Lawyers for Yazdani and Farrell declined to comment. Menon’s lawyer did not immediately respond to a request for comment. Ceresney said the SEC has obtained claw-backs from 52 people related to activity at 32 companies. He also said six prior enforcement actions involved no evidence of misconduct by executives from whom the SEC sought to recoup money.
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S&P wins right to Geithner documents in $5 bln U.S. fraud lawsuit
A federal judge said former U.S. Treasury Secretary Timothy Geithner must give Standard & Poor’s documents he used when writing his best-selling memoir, a ruling that could help S&P defend against the government’s $5 billion fraud lawsuit over its credit ratings. In a ruling, U.S. District Judge David Carter in Santa Ana, California said the McGraw Hill Financial Inc unit may force Geithner to turn over unedited versions of the documents. S&P believes the documents may support its claim that the February 2013 lawsuit was filed in retaliation for its having downgrading the country’s debt 18 months earlier. Carter reviewed the documents before ruling and said the government will have a chance to invoke White House privilege before Geithner must turn them over to S&P. “A former executive official cannot, with one hand, withhold information implicated in a case of significant public importance while, with the other, collect money from sales of a tell-all book containing much the same information,” Carter wrote. “The public has a right to every man’s evidence.” Carter also reviewed dozens of unredacted documents that S&P had sought from the government. He ordered that all but five be turned over to S&P, saying the rating agency had demonstrated a “compelling” or “substantial” to obtain them for its defense. Geithner’s book “Stress Test: Reflections on Financial Crises” spent the month of June on the New York Times’ hardcover nonfiction best-seller list, ranking fourth in its first week. Jenni LeCompte, a spokeswoman for Geithner, declined to comment. Geithner is now president at Warburg Pincus LLC. A spokesman for the private equity firm did not immediately respond to a request for comment. The U.S. Department of Justice had no immediate comment. “We’re pleased that the court is making available to us additional materials,” S&P spokesman Edward Sweeney said. The lawsuit accused S&P of inflating ratings to win more fees from issuers and then failing to downgrade debt backed by deteriorating mortgage-backed securities fast enough. In seeking to keep S&P from seeing Geithner’s book notes, lawyers for the former treasury secretary had in court papers said his “privacy, confidentiality, and proprietary interests” should take precedence over full disclosure. S&P has been seeking more information about the government’s response to its Aug. 5, 2011 decision to take away the United States’ “triple-A” credit rating. It has said Geithner angrily told McGraw Hill Chairman Harold “Terry” McGraw on an Aug. 8, 2011 phone call that he was “accountable” for an alleged $2 trillion math error, and S&P’s conduct would be “looked at very carefully.”
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China
Market
China’s Shenguan denies book-doctoring claims
China’s Shenguan Holdings Group Ltd denied allegations from an equities research firm accusing it of doctoring its books, calling the report malicious and groundless. The report from a firm called Emerson Analytics, which triggered a sharp fall in Shenguan shares before the company requested a trading halt on Sept. 3, said the company, a maker of sausage casings, was understating costs and overstating revenue. “The group and its directors are deeply shocked and furious about the report,” Shenguan said in a statement to the Hong Kong stock exchange. “The company reserves the right to take legal action against the entity and those who are responsible for the report and to hold them responsible for all losses caused to the group.” Emerson, whose website does not list a phone number where it can be contacted, did not immediately respond to an email seeking comment. The statement, which comes after Shenguan issued a previous rebuttal on Sept. 4 saying the Emerson report contained errors and misleading statements, said the report contained “a fundamental mistake” and “completely wrong estimate” on its sales volumes and costs of raw material and of sales. Shenguan said the allegations were based on a comparison of it and another seven firms - five Chinese companies operating in China and two foreign firms primarily operating outside China - in the collagen sausage casing business. “Such comparison is fundamentally wrong as these seven companies are not comparable to the company,” it said in a statement. Earlier this month, Tianhe Chemicals denied overstating profit allegations by research house Anonymous Analytics and 21Vianet rejected accusations of accounting fraud.
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China currency regulator uncovers $10 billion in fake trades
China has found nearly $10 billion worth of falsified trade transactions more than a year after the fake trades were first uncovered, the currency regulator said, adding that a crackdown had now stamped out the practice. To evade China’s capital controls and sneak money in or out of the world’s second-biggest economy, some companies create artificial trade invoices that are not backed by an actual exchange of goods or services. Authorities have found nearly $10 billion worth of such deals so far and 15 cases may be linked to criminal fraud, said the State Administration of Foreign Exchange, China’s currency regulator which also manages the country’s $3.99 trillion foreign exchange reserves. Global commodity markets were rattled in June when an investigation into a trade fraud in China showed companies had used fake receipts at a port in Qingdao in east China to obtain multiple loans secured against a single cargo of metal. The incident prompted global banks and trading houses to fire off a series of lawsuits over their estimated $900 million exposure to other related cases. “Fake trades not only increase the pressure of hot money inflows, but also provide illegal channels for cross-border capital flows,” Wu Ruilin, vice-head of the management and inspection department at the regulator told a press briefing. Some banks were found to have neglected their duties in checking the authenticity of deals, which increased fraudulent behaviors, Wu said. Since the crackdown started last April, investigations into falsified transactions have been expanded to 24 provinces and cities this year, he added. For now, however, China does not see any big rise or fall in its capital flows, Guo Song, the head of the capital account department said separately at the briefing.
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Short sellers target China, this time from the shadows
Short-sellers who profit from stock price declines have resumed targeting Chinese companies after a three-year lull, but many of the researchers who instigate the strategy are now cloaked in anonymity, shielding themselves from angry companies and Beijing’s counter-investigations. Three reports published this month separately accused three Chinese companies - Tianhe Chemicals(1619.HK), 21Vianet (VNET.O) and Shenguan Holdings (0829.HK) - of business or accounting fraud. All three companies said the allegations were baseless but their shares were hit by a wave of short-selling by clients of the research firms and then by other investors as the reports were made public. The reports were written by research firms that did not publicly disclose names of research analysts or even a phone number. In the last wave of short-selling that peaked in 2011 and wiped more than $21 billion off the market value of Chinese companies listed in the United States, the researchers advocating short-selling were mostly public. Carson Block of Muddy Waters, one of the most prominent short sellers, openly accused several Chinese companies of accounting fraud. Block said in 2012, according to several media reports, that he moved to California from Hong Kong because he had received death threats. “If you have researchers who are based in China, it makes sense to operate anonymously because some of the mainland Chinese companies have a history now of retaliating against people who do negative research,” said short-seller Jon Carnes in an interview with Reuters. Carnes’s research firm Alfred Little has the best track record among short sellers, according to data compiled by Activists Shorts Research that shows the share performances of companies it targeted. Carnes has said he was threatened by representatives of one of the companies he reported on in 2011. His researcher Kun Huang was jailed in China for two years and then deported. Kun, a Chinese-born Canadian, told the New York Times after returning to Vancouver this year that he was charged with criminal behavior and convicted in a one-day private trial. A series of incidents in recent years has highlighted China’s growing willingness to investigate, detain and prosecute people for crimes involving the use of information for commercial purposes. Short-selling has particularly irritated the authorities, financial industry analysts have said. In 2012, China’s state news agency Xinhua described the short-selling reports as malicious and aimed only at making quick money. In an editorial, the agency said short-sellers did find genuine problems at some companies but that they later unfairly targeted quality Chinese firms. Now, research firms are becoming more adept at using online tools to mask their locations and identities, said John Hempton, an Australia-based short seller at Bronte Capital. “It’s getting more anonymous, because the attitude of the Chinese authorities is becoming more and more dangerous,” said Hempton.
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Healthcare
Industry
China hands drugmaker GSK record $489 million fine for paying bribes
China fined GlaxoSmithKline Plc (GSK.L) a record 3 billion yuan ($489 million) for paying bribes to doctors to use its drugs, underlining the risks of doing business there while also ending a damaging chapter for the British drugmaker. A court in the southern city of Changsha handed suspended jail sentences to Mark Reilly, the former head of GSK in China, and four other GSK executives of between two and four years, according to state news agency Xinhua. Briton Reilly, shown on state television wearing a suit and looking tired during the trial, will be deported, a source with direct knowledge of the case said. The verdict, handed out behind closed doors in a single-day trial, highlights how Chinese regulators are increasingly cracking down on corporate malpractice. However, it also offers GSK a potential way forward in the fast-growing Chinese pharmaceutical market, a magnet for foreign firms who are attracted by a healthcare bill that McKinsey & Co estimates will hit $1 trillion by 2020. “If GSK China can learn a profound lesson and carry out its business according to the rule of law, then it can once again win the trust of China’s government and people,” Xinhua said in a commentary. Xinhua closely reflects China’s official government view. The fine, equivalent to around 4 percent of GSK’s 2013 operating profits, was less than some investors had feared. GSK will take a charge in the third quarter and pay the penalty from existing cash resources. GSK said it remained committed to China and promised to become a “model for reform in China’s healthcare industry”. “GSK Plc has reflected deeply and learned from its mistakes, has taken steps to comprehensively rectify the issues identified at the operations of GSKCI, and must work hard to regain the trust of the Chinese people,” GSK said in a written apology. Future commitments include investment in Chinese science and improved access to medicines across the country through greater expansion of production and flexible pricing, it said.
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Abbott, AbbVie win dismissal of claims over Humira, AndroGel
A federal judge in Chicago dismissed racketeering claims in a lawsuit accusing Abbott Laboratories and AbbVie Inc of causing health plans to pay unnecessarily for the latter’s blockbuster Humira arthritis drug and AndroGel testosterone drug instead of cheaper generics. U.S. District Judge Robert Dow said the New England Carpenters Health and Welfare Fund failed to show that the defendants “joined together” illegally with pharmacies and intermediaries to maximize sales, by offering savings cards or coupons to help patients reduce co-payments. The plaintiff also accused the companies of insurance fraud, saying they instructed pharmacies to conceal the “subsidies” by processing them as secondary insurance rather than as discounts. “While the amended complaint includes some allegations of cooperation between pharmacies and the co-pay subsidy administrators, it falls short of indicating that pharmacies processed savings cards in a fraudulent manner in order to further the distinct goals of an enterprise, separate and apart from the pharmacies’ business,” Dow wrote. In dismissing claims seeking unspecified triple damages under the federal racketeering law known as RICO, Dow said he may also lack jurisdiction over the remaining state law claims in the lawsuit, alleging interference with contracts. He scheduled an Oct. 7 hearing on that issue. Humira treats rheumatoid arthritis and plaque psoriasis, while AndroGel is a treatment for men with low testosterone. AbbVie reported Humira sales of $5.93 billion and AndroGel sales of $472 million for the first six months of 2014. Abbott is based in Abbott Park, Illinois, and split off North Chicago-based AbbVie at the beginning of 2013. Lawyers for the Massachusetts-based plaintiff did not immediately respond to requests for comment. Abbott and AbbVie did not immediately respond to similar requests. According to the complaint, the hiding of co-pay subsidies could boost health benefit plans’ prescription drug costs by $32 billion industrywide over 10 years.
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Caremark Will Pay $6 Million to Resolve False Claims Act Allegations
Caremark L.L.C., a pharmacy benefit management company (PBM), will pay the United States $6 million to settle allegations that Caremark knowingly failed to reimburse Medicaid for prescription drug costs paid on behalf of Medicaid beneficiaries who also were eligible for drug benefits under Caremark-administered private health plans. Caremark is operated by CVS Caremark Corporation, one of the largest PBMs and retail pharmacies in the country. “It is vitally important that cash-strapped Medicaid programs receive reimbursement for the costs they incur that should properly have been paid for by other insurers,” said Acting Assistant Attorney General Joyce R. Branda for the Justice Department’s Civil Division. “We are committed to protecting the integrity of state Medicaid programs.” When an individual is covered by both Medicaid and a private health plan, the individual is called a “dual eligible.” Under the law, the private insurer, rather than the government, must assume the costs of health care for dual eligibles. If Medicaid erroneously pays for the prescription claim of a dual eligible, Medicaid is entitled to seek reimbursement from the private insurer or its PBM. A PBM administers and manages the drug benefits for clients who offer drug benefits under a health insurance plan. Caremark served as the PBM for private health plans who insured a number of individuals receiving prescription drug benefits under both a Caremark-administered plan and Medicaid. According to the government, Caremark’s RxCLAIM computer platform allegedly failed to pay the full amount due on certain claims because it improperly deducted certain co-payment or deductible amounts when calculating payments. The government alleged that Caremark’s actions caused Medicaid to incur prescription drug costs for dual eligibles that should have been paid for by the Caremark-administered private health plans rather than Medicaid. The allegations settled arose from a lawsuit filed by Donald Well, a former Caremark employee, under the qui tam, or whistleblower, provisions of the False Claims Act. The United States may intervene in the lawsuit, as it did here. Under the False Claims Act, private citizens can bring suit on behalf of the government for false claims and share in any recovery. Well will receive $1.02 million plus interest. This settlement illustrates the government’s emphasis on combating health care fraud and marks another achievement for the Health Care Fraud Prevention and Enforcement Action Team (HEAT) initiative, which was announced in May 2009 by the Attorney General and the Secretary of Health and Human Services. The partnership between the two departments has focused efforts to reduce and prevent Medicare and Medicaid financial fraud through enhanced cooperation. One of the most powerful tools in this effort is the False Claims Act. Since January 2009, the Justice Department has recovered a total of more than $22.4 billion through False Claims Act cases, with more than $14.2 billion of that amount recovered in cases involving fraud against federal health care programs.
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SEC
Regulatory Actions
U.S. SEC wins hundreds of millions in Wyly fraud case
Texas tycoon Sam Wyly and his late brother Charles’ estate must pay hundreds of millions of dollars to the U.S. Securities and Exchange Commission for a fraudulent offshore scheme, a U.S. judge said, one of the largest awards ever imposed on individual defendants. U.S. District Judge Shira Scheindlin in New York ruled that the Wyly brothers must pay $187.7 million in disgorgement and an undetermined amount of interest that she estimated would increase the total to between $300 million and $400 million. The “staggering” amount, she noted, is equal to about 10 percent of the total SEC enforcement awards in 2013. A jury found the Wylys liable for fraud in May in what was the SEC’s largest case to reach trial in years. Scheindlin presided over a separate non-jury trial in August to determine damages. The judge also left open the possibility that the damages could increase, scheduling a November hearing to consider an alternate theory of liability the SEC has advanced. It was not immediately clear how much money the SEC would seek. The brothers were accused of constructing a complex system of trusts in the Isle of Man that netted them $553 million in untaxed profits through more than a decade of hidden trades in four companies they controlled: Sterling Software Inc, Michaels Stores Inc [MSII.UL], Sterling Commerce Inc and Scottish Annuity & Life Holdings Ltd, now Scottish Re Group Ltd. The regulator had initially sought $1.4 billion in damages, though it aimed for half as much at trial after Scheindlin issued a ruling limiting its claims.
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SEC Charges Bank of America With Securities Laws Violations in Connection With Regulatory Capital Overstatements
The Securities and Exchange Commission charged Bank of America Corporation with violating internal controls and recordkeeping provisions of the federal securities laws after it assumed a large portfolio of structured notes and other financial instruments as part of its acquisition of Merrill Lynch. Bank of America agreed to pay a $7.65 million penalty to settle the charges stemming from regulatory capital overstatements that it made due to its internal accounting control deficiencies and books and records failures. Regulatory capital refers to the amount of capital that a bank must hold under applicable rules, and it is intended to provide a buffer against adverse market conditions. According to the SEC’s order instituting a settled administrative proceeding, at the time of its Merrill Lynch acquisition, Bank of America permissibly recorded the inherited notes at a discount to par. Bank of America was required to realize losses on the notes as they matured because it redeemed the notes at par. For the purposes of calculating and reporting its regulatory capital, applicable rules required Bank of America to deduct the realized losses as they occurred. However, according to the SEC’s order, by the time 90 percent of the notes had matured as of March 31, 2014, Bank of America had yet to deduct any of the realized losses from its regulatory capital. Therefore, with each passing fiscal quarter and fiscal year since 2009 as more and more notes matured, Bank of America overstated its regulatory capital by greater and greater amounts in its regulatory filings, eventually reaching billions of dollars. Bank of America internally discovered the regulatory capital overstatements in mid-April 2014. After analyzing the issue, it disclosed the overstatements in a Form 8-K filing on April 28, 2014. Besides correcting its regulatory capital figures in its Form 8-K filing, Bank of America cooperated with SEC staff during the investigation and voluntarily took steps to remediate the insufficiencies that led to the regulatory capital overstatements. “Bank of America self-reported its regulatory capital overstatements, remediated the issues quickly, and cooperated in our investigation,” said Andrew J. Ceresney, Director of the SEC’s Division of Enforcement. “This penalty reflects credit for that cooperation, which allowed us to conduct our investigation efficiently and effectively.” Michael J. Osnato, Chief of the SEC Enforcement Division’s Complex Financial Instruments Unit, added, “The federal securities laws require all public companies to maintain accurate books and records as well as a system of internal accounting controls sufficient to assure transactions are recorded as necessary. Bank of America violated these legal requirements, which are specifically geared to ensure the integrity and accuracy of information that eventually is disclosed to investors.” In addition to the $7.65 million penalty, the SEC’s order requires Bank of America to cease and desist from committing or causing any violations or future violations of Sections 13(b)(2)(A) and 13(b)(2)(B) of the Securities Exchange Act of 1934.
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Two Former Wells Fargo Employees Charged With Insider Trading in Advance of Research Reports Containing Ratings Changes
The Securities and Exchange Commission announced insider trading charges against two former Wells Fargo employees involved in an alleged scheme to profit by buying or short selling a stock before research analyst reports were published containing a ratings change. Research analysts typically produce reports with a recommendation or rating of a stock or other security they’ve reviewed. When an analyst alters a prior view on the prospects of a security, a new report is issued with a ratings change. The SEC’s Enforcement Division alleges that while Gregory T. Bolan Jr. worked as a research analyst at Wells Fargo, he tipped a trader at the firm, Joseph C.
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