Notes On A Financial Fraud — A Non-Professional Is Barred From Practice
The SEC filed a settled financial fraud case on Tuesday which differed from many of its others. According to the complaint, the years-long fraud by a former division CFO not only materially overstated the financial performance of the company, but was reflected in a series of handwritten notes the man left behind. In resolving the case the former CFO, who is not alleged to be an accounting professional, consented to a bar from practice before the Commission, a remedy usually reserved for professionals. The former CFO also agreed to pay disgorgement of part of his salary, although there is no allegation that his compensation was tied directly to the financial performance of the company or his division. SEC v. Hirth, Case No. 08 CV 13139 (E.D. Mich. Filed July 22, 2008).
Scott Hirth was the CFO of the Information and Learning Division of ProQuest Company. From 2001 through the first three quarters of 2005, Mr. Hirth directed the entry of unsupportable manual journal entries at the end of months and quarters. These entries were made in four key areas: prepaid royalty, deferred revenue, prepaid commissions and accrued royalty payable. The bogus entries were timed to the closing of the books for the period.
Mr. Hirth’s baseless entries caused the company to overstate its pre-tax income by about $129.9 million over the period. The company overstated pretax income by as much as 43.5% in one year during the scheme. Eventually, the company admitted flawed internal controls and restated its financial statements.
As the scheme progressed Mr. Hirth took steps to cover it up, according to the Complaint. For example, in one year he used a “hide” function on a spread sheet program to conceal false entries. He also lied to the auditors.
Despite the cover up Mr. Hirth virtually admitted his wrongdoing in a series of handwritten notes which almost suggest a desire to get caught. Included in the notes were statements such as:
• “how can we be audit proof and make fin. #s this year. ENRON and Worldcom”
• “Once past audit prob [problem or probably] no sweat on jail”
• “What if caught — Blame the query and old systems and get fired. Key is all else clean.”
The motivation for this scheme, according to the complaint, was advancement in the company and financial gain. From 2000-2005 Mr. Hirth’s salary increased from $200,000 to $300,000. He also received unspecified bonuses. There is no allegation that the raises or bonuses were tied directly to the financial performance of the division in which Mr. Hirth was employed or to the company in general. Yet, to settle the action Mr. Hirth consented to the entry of a permanent injunction prohibiting future violations of the antifraud and reporting provisions and an order requiring him to pay disgorgement of over $233,000 and a civil penalty in excess of $54,000.
Likewise, there is no allegation that Mr. Hirth is an accounting professional. Yet, the relief included a bar from practice before the Commission, in addition to an officer and director bar. While there is no doubt that serving as a CFO and participating in the preparation of filings is practicing before the Commission, bars from practice before the agency are more typically reserved for professionals. The company, also named as a defendant, consented to a books, records and internal controls injunction.