by T. GormanPosted on Posted in SECActions

The SEC has brought a series of actions concerning whistleblowers. A number of those cases center on provisions in severance agreements which either directly preclude being a whistleblower required the departing employee to maintain the confidentiality of firm information or secure company permission to disclosing it to anyone including the government or which require a waiver of any payment for being a whistleblower. The Commission’s most recent case in this area builds on these cases. In the Matter of HomeStreet, Inc., Adm. Proc. File No. 3-17801 (January 19, 2017).

HomeStreet is a diversified financial services company, conducted an IPO in 2012. Its shares are traded on NASDAQ. Respondent Darrell van Amen served as CIO from 2012 through the present. He is a treasury professional but not an accountant.

From 2006 through 2008 the firm originated about 20 fixed rate commercial loans. The firm entered into interest rate swaps to hedge the exposure changes in the fair value of the commercial loans attributable to the benchmark interest rate. GAAP – ASC 815 – requires that issuers that enter into such hedges make a periodic assessment regarding the effectiveness of the hedges by calculating a specific ratio. If hedge accounting can be used it permits the firm to make certain adjustments which smooth volatility.

The ability to continue using hedge accounting ties to what is called an effectiveness ratio. If the ratio falls between 80% and 125% the hedging relationship is considered highly effective. If the ratio falls outside the range then hedge accounting cannot be used. To use the ratio the firm had to take a series of steps for each loan and swap: 1) each loan had to be valued; 2) each swap had to be valued; and 3) a comparison of the ratio of the change in fair value of each swap has to be made with the change in fair value of the loan attributable to the risk designated as being the hedge.

Between Q3 2011 and Q4 2014 there were instances when the results of the hedge effectiveness ratio fell outside the highly effective range. In those instances Respondent van Amen had certain employees make adjustments to the inputs. When those were made the ratios came within the range.

Certain employees involved in altering the inputs reported the actions to the Human Resources department. Executive A was also informed. Ultimately this lead to an internal inquiry that concluded Mr. van Amen did not act with any intent to deceive but the effectiveness tests were incorrect. That fact was disclose in a Form 10-Q filed on November 13, 2014.

When the staff made a voluntary document request keyed to the input issues in April 2015 the company tried to assess if it was the result of a whistleblower. The staff contacted Executive A who had resigned from the firm. He retained counsel who submitted invoices. Although Executive A had repeatedly told the firm prior to his departure that he was not a whistleblower, prior to paying the invoice the attorney was asked the same question multiple times. The attorney repeatedly refused to answer and at one point cited Rule 21F-17. Eventually the firm paid the invoice. By taking these actions HomeStreet acted to impede whistleblowers, according to the Order.

At the time HomeStreet also had a provision in its severance agreements which required employees to wave any payment for being a whistleblower. This also undermines the purpose of Exchange Act Section 21F and Rule 21F-17(a), the Order states. The Order alleges violations of Exchange Act Sections 13(b)(2)(A) and 13(b)(2)(B) and Rule 21F-17 regarding whistleblowers.

The company took remedial steps to strengthen its internal controls. It also agreed to an undertaking pursuant to which it will make reasonable efforts to contact former employees who signed a severance agreement that contains a whistleblower payment provision and informed them that it is no longer applicable.

To resolve the case HomeStreet consented to the entry of a cease and desist order based on the Exchange Act Sections and the Rule cite in the Order. The firm will also pay a penalty of $500,000. Mr. Van Amen also resolved the action, consenting to the entry of a cease and desist order based only on the Exchange Act Sections cited in the Order. He will also pay a penalty of $20,000.

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by T. GormanPosted on Posted in SECActions

Effective internal controls are critical to any organization. The Commission has focused on these controls, brining enforcement actions in recent months tied to internal control issues. Its latest case in this area names General Motors Company as a Respondent. In the Matter of General Motors Company, Adm. Proc. File No. 3-17797 (January 18, 2017).

The case centers on the failure of GM’s internal controls to alert the firm to a potential loss contingency regarding a February 2014 recall of over 600,000 vehicles to repair a defective ignition switch.

GM had a multi-step process for assessing the prospect of a recall. First, for small recall situations – those up to $5 million — the firm used an actuarial based estimation approach for a per-vehicle accrual at the time of each sale. For larger recalls the firm recorded a specific accrual for each recall at the time it became probably and estimable.

In 2012 GM had a formal recall process. It included an investigation and, when appropriate, a recall decision made through a process that involved three different committees. As the issue moved through the committee process it would be placed on the Emerging Issues List. At that point the company typically considered a recall to be probable and estimable within the meaning of ASC 450 which governs loss contingencies.

ASC 450 requires the issuer to accrue the estimated loss. Initially, if a loss is probable but cannot be estimated, disclosure is required along with a reasonable estimate or range for the loss. On the other hand, if a loss contingency is reasonably possible and estimable, there must be consideration of whether disclosure is necessary. At GM if the engineers at the first step in the possible recall process determined that there was a problem but that the evidence did not establish that there may be a defect requiring a potential recall the issue would not reach the stage where it would be placed on the Emerging Issues List.

By 2012 GM engineering was reviewing airbag non-deployment claims in certain vehicles. It appeared that the issue was tied to a defective switch which could result in safety issues. Nobody advised the Warranty Group between 2012 and late 2013 about the question. That group thus could not make an ASC 450 reasonableness decision on the issue in advance of it being placed on the Emerging Issues List.

In November 2013 the Warranty Group received information about a potential recall. The next month the defective switch issue was placed on the Emerging Issues List. The Warranty Group accrued about $41 million for estimated costs from recalling three models with the defective switch. In February 2014 GM notified the National Highway Traffic Safety Administration that it was recalling over 600,000 vehicles to repair a defective ignition switch.

Later in 2014 GM revamped its processes for investigating and deciding on potential recalls. Warrant Group, as part of the changes, is required to be notified earlier in the process and separate from the Emerging Issues List so a timely reasonably possible determination followed by, if necessary, appropriate disclosure can be made. The Order alleges violations of Exchange Act Section 13(b)(2)(B), prior to the 2014 revision to the firm’s policies.

General Motors resolved the issue, consenting to the entry of a cease and desist order based on the Section cited in the Order. The firm will pay a penalty of $1 million.

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