Improper Revenue Recognition
A June 2020 report issued by Cornerstone found that one in four SEC enforcement actions in 2019 involved revenue recognition. The most common SEC enforcement actions concerning accounting violations arise from “inaccurate representations of revenue,” which includes enforcement actions for:
- Fraudulent reporting of fictitious sales;
- Improper timing of revenue recognition; and
- Improper valuation of revenue.
As one example, the SEC announced that financial services firm State Street agreed to pay more than $35 million to settle charges that it fraudulently charged secret mark-ups for transition management services. According to the SEC’s order, the scheme generated approximately $20 million in improper revenue for the firm. After a client discovered the overbilling scheme, State Street attempted to cover it up by blaming it on a “fat finger error.” The SEC determined that this statement was a misrepresentation as the mark-ups were done intentionally. If a whistleblower had tipped the SEC about State Street’s overbilling scheme, he or she could have been eligible to receive an award of up to $10.5 million under the SEC Whistleblower Program.
SEC Whistleblower Program
Under the SEC Whistleblower Program, whistleblowers are eligible to receive an award for providing the SEC with original information about a violation of the federal securities laws, including improper revenue recognition and other accounting schemes. If the SEC uses a whistleblower’s information to bring a successful enforcement action, the whistleblower is eligible to receive 10% to 30% of the monetary sanctions collected as an award. Importantly, even compliance personnel, auditors (external and internal), accountants, officers and directors may be eligible to receive awards under the program.
Whistleblowers can submit an anonymous tip to the SEC if represented by an attorney. Moreover, the SEC protects the confidentiality of whistleblowers and does not disclose information that might directly or indirectly reveal a whistleblower’s identity.
See our article in Accounting Today: The top 10 ways that companies cook the books.
Click below to hear an SEC whistleblower lawyer’s tips for SEC whistleblowers:
SEC Whistleblower Awards
Since 2012, the SEC has paid more than $700 million in awards to whistleblowers. In fact, one tip about accounting violations that improperly inflated revenue by $80 million has already resulted in a $22 million SEC award. The largest SEC whistleblower awards to date are:
- $114 million;
- $50 million;
- $50 million;
- $39 million; and
- $37 million.
According to the SEC Office of the Whistleblower’s 2020 Annual Report, tips from whistleblowers have lead the SEC to successful enforcement actions resulting in more than $2.7 billion in financial remedies, including more than $1.5 billion in disgorgement of ill-gotten gains and interest, of which approximately $850 million has been, or is scheduled to be, returned to harmed investors.
For more information about whistleblower rewards and bounties, contact the SEC whistleblower lawyers at Zuckerman Law at 202-262-8959. To learn more about the SEC Whistleblower Program, download the eBook SEC Whistleblower Program: Tips from SEC Whistleblower Attorneys to Maximize an SEC Whistleblower Award.
SEC Takes Aim at Improper Revenue Recognition
According to a Report Pursuant to Section 704 of the Sarbanes-Oxley Act of 2002, during the five years preceding the enactment of SOX, the “SEC brought the greatest number of actions [involving issuer financial-report violations] in the area of improper revenue recognition: 126 of the 227 enforcement matters involved such conduct, including the fraudulent reporting of fictitious sales, improper timing of revenue recognition, and improper valuation of revenue.” Years later, the SEC continues to focus on issuer reporting and disclosure violations, especially improper revenue recognition, as the violations remain widespread at publicly traded companies.
According to the SEC’s 2020 Annual Report to Congress on the SEC Whistleblower Program, a majority of whistleblowers tips submitted to the SEC Whistleblower Program relate to violations with corporate disclosures and financials:
- 2011: 51 corporate disclosures and financials tips.
- 2012: 547 corporate disclosures and financials tips.
- 2013: 557 corporate disclosures and financials tips;
- 2014: 610 corporate disclosures and financials tips;
- 2015: 687 corporate disclosures and financials tips;
- 2016: 938 corporate disclosures and financials tips;
- 2017: 954 corporate disclosures and financials tips;
- 2018: 983 corporate disclosures and financials tips;
- 2019: 1,107 corporate disclosures and financials tips; and
- 2020: 1,710 corporate disclosures and financials tips.
SEC Enforcement Actions for Improper Revenue Recognition
The following SEC enforcement actions are examples of the types of improper revenue recognition schemes that could result in an SEC whistleblower award:
Fraudulent Overbilling Schemes
- SEC v. Garthright: The SEC charged SMF Energy Corp. and its officers with accounting fraud for inflating revenues through a fraudulent billing scheme. According to the SEC’s complaint, the billing scheme “increased the amount of gallons of fuel invoiced beyond what was actually delivered to customers,” which resulted in false and misleading disclosures in the company’s SEC filings. The billing scheme circumvented SMF Energy’s internal accounting controls and led to, among other things, materially overstated revenues, profit margins, shareholders’ equity, and net income in its SEC filings. The scheme resulted in several SEC violations, including the failure to maintain a system of internal controls sufficient to ensure that its customers were charged in accordance with their respective contracts, the failure to record revenues and liabilities in accordance with GAAP, and the failure to design (or to cause others to design) disclosure controls and procedures that would have caused the company to disclose and report that it recognized revenue from improper charges to customers. The SEC disgorged all ill-gotten profits and proceeds received as a result of the actions.
- SEC v. MedQuist, Inc.: The SEC charged MedQuist with accounting fraud when it secretly inflated customer bills by increasing the number of lines of medical test that it purportedly transcribed. According to the SEC’s complaint, the “scheme was able to continue for several years because the unit of measure upon which bills to many customers were based . . . could not be verified by customers. Knowing that its customers were unable to verify line counts on bills, [MedQuist] . . . manipulate[d] line counts on customer bills to reach specific revenue and margin targets.” MedQuist and its Director, President, and Chief Operating Officer were charged with violating securities laws.
Improper Timing of Revenue Recognition
- SEC v. L3 Technologies, Inc.: The SEC charged L3 for failing to maintain accurate books and records and failing to maintain adequate internal controls when the company improperly recorded $17.9M in revenue from a contract by creating invoices associated with unresolved claims that were not delivered when the revenue was recorded. According to the SEC’s order, employees “immediately reported concerns regarding potential violations of L3’s accounting policies and internal accounting controls to L3’s internal ethics department,” but the subsequent ethics review failed to uncover the misconduct due, in part, to “a failure by ethics investigators to adequately understand the billing process.”
- SEC v. Dickson: The SEC charged IGI Inc. with fraudulent accounting practices and reporting, inadequate internal controls, and books-and-records violations for engaging in fraudulent sales-cutoff practices and other improper accounting practices. As a result of the improper sales-cutoff practices, “IGI misstated its assets, revenues, and net income” for several years.
- SEC v. Putnam: The SEC charged Anicom Inc. and its directors with violating federal securities laws after the company falsely reported millions of dollars of nonexistent sales to inflate net income by more than $20M. According to the SEC’s complaint, Anicom included in its financial statements millions of dollars in sales to a fictitious customer, SCL Integration.
Recognizing Contingent Sales as Revenue
- SEC v. Maxwell Technologies, Inc.: Maxwell Technologies paid $2.8 million as a penalty for a scheme to grow revenue by booking contingent sales of auto parts as revenue. Evidence of the scheme included falsified purchase orders and secret side arrangements to keep the scheme hidden.
Tips to Qualify for an SEC Whistleblower Award
Qualifying for an SEC Whistleblower Award
SEC Whistleblower Lawyers Representing SEC Whistleblowers Worldwide
If you have information that you would like to report to the SEC, contact an SEC whistleblower attorney at leading whistleblower firm Zuckerman Law for a free, confidential consultation about your case by calling 202-262-8959.
The experienced whistleblower lawyers at Zuckerman Law represent whistleblowers worldwide before the SEC under the Dodd-Frank SEC Whistleblower Program. The firm has a licensed Certified Public Accountant and Certified Fraud Examiner on staff to enhance its ability to investigate and disclose complex financial fraud to the SEC, and two of the firm’s attorneys served on the Department of Labor’s Whistleblower Protection Advisory Committee and in senior leadership positions at a government agency that protects whistleblowers.
As discussed in our articles, the SEC whistleblower program has become a very effective enforcement tool for the SEC. But very few whistleblowers have received awards, which underscores the importance of having experienced counsel represent a whistleblower effectively at the SEC.
- MarketWatch: More than 33,000 tips, $2.5 billion in financial remedies and $500 million in awards to investors — the SEC’s whistleblower program turns 10 years old today
- Going Concern: Here Are 6 Reasons Why the SEC Whistleblower Program Is Successful
- National Law Review: 5 Ways that Experienced SEC Whistleblower Law Firms Can Effectively Advocate for Whistleblowers
- D&O Diary: How the SEC Whistleblower Program Has Changed Corporate Compliance and SEC Enforcement
- Going Concern: Sarbanes-Oxley 15 Years Later: Accountants Need to Speak Up Now More Than Ever
- Accounting Today: Whistleblower Protections and Incentives for Auditors and Accountants.