Month: October 2023
SEC charges executives with fraudulent revenue recognition practices
As part of its fiscal-year-end enforcement surge, the SEC filed charges against three former executives of Pareteum Corporation, a telecommunications and cloud software company, for fraudulent revenue recognition practices—a settled action against the former controller and a complaint against the former CFO and former Chief Commercial Officer (also, formerly CEO). As described in the complaint, the SEC charged the former executives with orchestrating a fraudulent scheme to overstate revenue by recording revenue from non-binding purchase orders and concealing the practice from the company’s auditors. From 2018 through mid-2019, the SEC alleged, the defendants’ improper revenue recognition practices resulted in the company’s overstating revenue by “approximately $12 million for fiscal year 2018 (60% of the ultimately restated revenue), and by approximately $30 million for the first and second quarters of 2019 (91% of the ultimately restated revenue).” In addition, the former CFO, the SEC charged, did not establish sufficient internal accounting controls to assess whether revenue should be recognized under GAAP. According to the press release, Pareteum previously settled with the SEC on accounting and disclosure fraud charges in 2021 and filed for bankruptcy in 2022. Notably, the U.S. Attorney’s Office for the SDNY has announced parallel criminal charges against the former CFO and CCO. According to the Associate Director of Enforcement for the SEC’s Philadelphia Regional Office, as the SEC alleged in its complaint, “Pareteum’s executives artificially inflated Pareteum’s revenue numbers to create the illusion of robust revenue growth….Investors should be able to trust public companies to issue truthful and accurate financial statements, and we will hold accountable any executives who abuse that trust and defraud investors.”
SEC charges Newell with misleading disclosure and control failures
In this settled action, the SEC charged Newell Brands and its former CEO with providing misleading disclosure about a prominently featured non-GAAP financial measure—“core sales,” a key NGFM that Newell portrayed as providing “a more complete understanding of underlying sales trends.” As described in the Order and press release, Newell and its CEO took a number of actions—reclassifications, accrual reductions, order pull-forwards—that increased “core sales” growth, but the resulting increases “were out of step with Newell’s actual but undisclosed sales trends, allowing the company to announce ‘strong’ or ‘solid’ results in quarters it internally described as disappointing due to shortfalls in sales.” In fact, the SEC charged, Newell misled investors, depriving them of “information relevant to an accurate and complete understanding of Newell’s actual sales trends.” Moreover, in Newell’s effort to manage revenues, what began as tinkering with an NGFM metastasized into problems with GAAP accounting. According to the Associate Director of Enforcement, the SEC found that “Newell’s former CEO issued an instruction to ‘scrub’ the company’s accruals after he learned that the company was projecting a ‘massive’ and ‘disappointing’ miss for the quarter….Senior executives of public companies hold positions of trust, and they risk abusing the duties attendant to their offices when they reach into a company’s accounting control processes as a way of making up for performance shortfalls.” Newell agreed to pay a civil penalty of $12.5 million and its CEO to pay $110,000.
NYSE proposes listing standards for a “natural asset company”—what’s that?
The NYSE has proposed to adopt new listing standards for the common equity securities of a “Natural Asset Company,” a new type of public company defined by the NYSE as “a corporation whose primary purpose is to actively manage, maintain, restore (as applicable), and grow the value of natural assets and their production of ecosystem services.” And, “where doing so is consistent with the company’s primary purpose,” a NAC would also be required to “seek to conduct sustainable revenue-generating operations,” and “may also engage in other activities that support community well-being, provided such activities are sustainable.” In addition, NACs would be prohibited from engaging in unsustainable activities, that is, activities that “cause any material adverse impact on the condition of the natural assets under its control, and that extract resources without replenishing them.” Although existing regulatory and listing requirements would continue to apply to NACs, in many ways, the proposal contemplates something approaching a new NAC governance and reporting ecosystem, if you will, that would involve specific provisions in corporate charters, new mandatory policies (environmental and social, biodiversity, human rights, equitable benefit sharing), new prescribed responsibilities for audit committees and a new reporting framework, including mandatory “Ecological Performance Reports.” Why did the NYSE introduce this proposal? Notwithstanding all of the developments in ESG disclosure and investing (such as ESG funds), the NYSE contends that “investors still express an unmet need for efficient, pure-play exposure to nature and climate.” According to the Intrinsic Exchange Group, which pioneered the NAC concept and advises public sector and private landowners on the creation of NACs, “[b]y taking a NAC public through an IPO, the market transaction will succeed in converting the long-understood—but to-date unpriced—value of nature into financial capital. This monetization event will generate the funding needed to manage, restore, and grow healthy ecosystems around the world and bring us closer to achieving a truly sustainable, circular economy.” Will this proposal be a game changer to rescue our environment or merely a chimera? Time will tell. The proposal is open for comment for 21 days following publication in the Federal Register.
The rubber meets the road again—inflated sales, inflated projections charged at electric vehicle manufacturers
Is it Groundhog Day again? Haven’t we heard about this before? An electric vehicle manufacturer that went public through a SPAC transaction is charged by the SEC with fraudulently misrepresenting the status of its products, even posting a misleading video of a truck purportedly operating on hydrogen fuel when it did not. But no, it’s not Nikola Corporation (see this PubCo post). Just this past week, in the rush to beat the shutdown and fortify the SEC’s fiscal year-end statistics, Enforcement announced two settled actions against two manufacturers of electric vehicles for misleading investors. In the first case, Hyzon Motors Inc., a maker of hydrogen fuel cell electric vehicles (FCEVs), was charged with misleading investors about the status of Hyzon’s products, business relationships and vehicle sales, agreeing to pay a civil penalty of $25 million. Two executive officers, also charged, agreed to pay civil penalties of $100,000, and $200,000. Not to mention a restatement to reverse revenue improperly recognized. According to a Regional Director, “[t]ransparency in the form of full, fair, and accurate disclosure is fundamental to the federal securities laws….The defendants allegedly violated this principle by misleading investors about virtually every aspect of Hyzon’s business.” [Emphasis added.] In the second case, the predecessor to Spruce Power Holding Corporation, XL Fleet, which provided fleet hybrid electrical vehicles, was alleged to have misled investors about its sales pipeline and revenue projections. As the successor, Spruce agreed to pay a civil penalty of $11 million. According to the Associate Director of Enforcement, “[i]t goes without saying that investors commonly rely on revenue projections when deciding how and where to invest, and that’s perhaps especially true for investment decisions involving early-stage companies in the SPAC market….By linking its bold revenue projections to misleading claims about the company’s historical performance, XL Fleet misled investors by inhibiting their ability to differentiate between credible facts and mere aspiration.” It’s worth noting here that, in March last year, the SEC proposed new rules regarding SPACs, including rules related to the use of projections in SEC filings “to address concerns about their reliability.” (See this PubCo post.)
NYSE proposes to relax shareholder approval requirements for certain equity sales
On Friday last week, the SEC posted a new NYSE proposed rule change that would “modify the circumstances under which a listed company must obtain shareholder approval of a sale of securities to a substantial security holder,” a holder of 5% or more. Under current listing rules, shareholder approval is required for sales in excess of 1% of the common stock to a substantial security holder, unless the transaction is a cash sale for a price that is at least equal to the “Minimum Price.” Under the proposal, the shareholder approval requirement would be narrowed to apply only to control parties, that is, in addition to directors and officers, the shareholder approval requirement would apply to “a controlling shareholder or member of a control group or any other substantial security holder of the company that has an affiliated person who is an officer or director of the company.” By eliminating the shareholder approval requirement for sales to passive holders—which the NYSE views as unnecessary—the proposal is designed to facilitate the ability of NYSE-listed companies to raise necessary capital. Comments on the proposal are due 21 days after publication of the proposal in the Federal Register.
Corp Fin posts new CDIs regarding pay versus performance
Corp Fin has posted some new CDIs on pay versus performance. In August last year, the SEC finally adopted a new rule requiring disclosure of information reflecting the relationship between executive compensation actually paid by a company and the company’s financial performance—a new rule that had been 12 years in the making, mandated in 2010 by Dodd-Frank. (See this PubCo post.) The final amendments added new Item 402(v) of Reg S-K, which requires companies to describe the relationship between executive compensation actually paid and the financial performance of the company for the five most recently completed fiscal years (three for smaller reporting companies) in proxy or information statements in which executive compensation disclosure is required. Generally, for most companies, the new disclosures were first required for the 2023 proxy season. Apparently some issues cropped up, reflected in these new CDIs.
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