Cooperation can have a significant impact on the outcome
of an enforcement action for the company and its executives. The Seaboard
Release in 2001, regarding corporate charging and cooperation principles, for
example offers the prospect of no charges or reduced sanctions in exchange for
cooperation. Last January, the Commission expanded its efforts to secure
cooperation to individuals while also broadening its proposals to business
organizations as discussed
For the company or individual considering the question of
cooperation, the potential impact of cooperation can be difficult to assess. A
recent study and a case last week shed some light on the question.
In a forthcoming paper tiled "SEC Enforcement: Does
Forthright Disclosure and Cooperation Really Matter?" (available here), Professor Rebecca Files finds "that
cooperation increases the likelihood of being sanctioned, perhaps because it
improves the SEC's ability to build a successful case against the firm.
However, both cooperation and forthright disclosures are rewarded by the SEC
through lower monetary penalties." The paper is based on an analysis of 1,249
companies which restated their financial statements between 1997 and 2005. The
study reports that as a reward for cooperation, the SEC reduces firm penalties
on average by $37.4 million when the company initiates its own investigation
into the law violation. In addition, penalties are reduced on average by
$609,000 for each week earlier that the restatement is announced to the public.
A concrete illustration of cooperation can be seen in the
recently filed settled enforcement action against the owner and two executives
of Sunrise Living, Inc. SEC v. Sunrise Senior Living, Inc., Civil Action
No. 1:10-CV-01247 (D.D.C. Filed July 23, 2010). This accounting fraud action
was brought against the company and two of its former senior officers, Larry
Hulse, former CFO, and Kenneth Abode, former Treasurer.
The Commission's complaint alleges an earnings management
scheme that began in the second half of 2003 and continued for 2005. It spawned
two false annual reports, six incorrect quarterly reports, a false registration
statement which incorporated the flawed financial statements and incorrect SOX
CFO certifications. The scheme ended with a March 2008 restatement.
The complaint, built on allegations of intentional
conduct primarily by Mr. Hulse, centers on improper accounting in the corporate
bonus accrual account and the health and dental reserve to make earnings
forecasts. For example, guidance for the fourth quarter of 2003 informed
investors that earnings would be between $2.63 to $2.65 per share for fiscal
year 2003 and between $0.66 and $0.68 per share for the quarter. About two
weeks before the fiscal year end internal projections showed that EPS for the
fourth quarter would be $0.57. According to the complaint, the day after this
projection was made Mr. Hulse, who was aware of it, directed his accounting
staff to eliminate the balance in the 2003 bonus accrual account for the
company. Yet, before the earnings release for the quarter was issued, senior
management, including Mr. Hulse, agreed to pay the bonuses. The company,
however, did not have a reserve since it had been released.
In subsequent quarters, similar actions were taken. In
each instance, the action was taken to meet guidance. In each instance, the
adjustments made to the reserve were improper and, in the end, were restated.
In resolving the case, the Commission gave Sunrise credit
for what it termed "its substantial assistance in the investigation." As is
typical, there is no delineation of the steps which constitute that assistance.
It does however appear to be reflected in the settlement.
For more cutting edge commentary on
developing securities issues, visit SEC Actions, a
blog by Thomas Gorman.