I hadn’t been thinking much about the SEC in the last six months or so, but curiosity got the better of me the other day, so I pulled up a recent press release off the SEC website to see what kinds of cases, if any, the SEC’s enforcement division was cranking out these days.
The SEC action I looked at in detail involved a San Jose-based company, Super Micro Computer, Inc., and its former CFO, Howard Hideshima. Both actions were settled. There was also a related settlement involving the company’s current CEO, but I did not focus on that one because he wasn’t charged with violating anything and therefore that aspect of the case didn’t seem particularly interesting.
The SEC press release headline highlighting the actions reads as follows: “SEC Charges Super Micro and Former CFO in Connection with Widespread Accounting Violations.”
The headline sounded a bit ominous, given the word “widespread,” the fact that the “[f]ormer CFO” was involved, and the fact that the SEC thought the case significant enough to warrant a press release (it’s certainly possible, though, that enforcement actions which wouldn’t typically merit a press release get one anyway given the limited number of enforcement cases these days). But, because the word fraud did not appear in the headline, my immediate reaction was that the matter must involve a series of innocent accounting mistakes of some sort or other, not an accounting fraud.
I was wrong. The rest of the press release and related settlement documents reflect that, in fact, the SEC had uncovered a significant and long-running accounting fraud at Supermicro. Indeed, toward the bottom of its press release the SEC states that as part of its settlement with the SEC, Supermicro had agreed to cease and desist from violating sections 17(a)(2) and (a)(3) of the Securities Act. Those two sections are antifraud provisions and not that long ago, press releases involving one or both of those provisions would always state that a fraud had been committed or include language to that effect. Maybe this practice changed or the word fraud was excluded from this particular press release for some special reason, I’m not sure. But I do know that once the SEC moves away from a traditional settlement norm to something more lenient–even if it does this just once–it is almost impossible to go back to the old way of operating.
The settlement documents tell a fairly detailed story about Supermicro’s fraud. In a nutshell, over a multiple year period, Supermicro employees took numerous steps to inflate income from sales before the end of Supermicro’s accounting quarters even though the sales had occurred after the end of the quarters, sometimes even changing sales terms after the fact to make it seem as if sales had occurred earlier. The accounting violations involve very basic and straightforward accounting principles, of a type generally covered in first year accounting classes. Though not explained in this public documents, company employees often engage in such actions to boost earnings to obtain bonuses or to hit public company earnings or sales targets. Maybe that happened here, maybe not. But it is clear that for some reason, on numerous occasions and in a variety of different ways, Supermicro employees took steps to improperly inflate Supermicro’s sales revenue at the end of the company’s accounting quarters. According to the SEC, this happened again and again.
The settlement documents further reflect that Supermicro employees almost certainly knew how the accounting worked, given that they tried to change sales terms after the fact or acted in other atypical ways to make it appear as if sales occurred before quarter end. Perhaps more importantly, according to the SEC, Hideshima, Supermicro’s longstanding CFO, either “knew or should have known,” “was informed,” “received information, ” “should have known,” “was on notice” or “knew” about the bulk of these accounting transgressions.
Hideshima, who, according to the SEC documents, appears to have been involved to some degree in nearly all of the “widespread accounting violations,” seems to have dodged almost all he could have feared from the watchdog, emerging with his reputation intact and not much of a dent to his wallet. His settlement with the SEC required him to pay a relatively small penalty amount of $50,000 and disgorge some stock sale profits. And the SEC chose not charge him with fraud or bar him from practicing or appearing as an accountant. Basically, he was charged with violating or causing Supermicro’s violations of the SEC’s books and records and internal control rules. And although he resigned from Supermicro some time ago, he now works as the CFO for a different company.
Given what I can glean from the public documents, I hope the result does not reflect current attitudes about enforcement settlements. I suspect that some of the SEC enforcement staffers were not at all pleased with the generous settlement terms given to the company and Hideshima, even though the SEC did require Supermicro to pay a sizeable penalty of $17.5 million (which seems high given the charges but low given the narrative in the settlement documents).
I have no idea why the settlements came out the way it did. Maybe the pandemic played a role. Maybe the staff on the case were just ready to move on to new investigations and put this one to bed. Perhaps the Commission is just more lenient than it once was and should be. Or maybe the result reflects some special circumstances about either the SEC or the company, which are not reflected in the public documents. Let’s hope it’s the last one: Such settlements give precedent a bad reputation.
The SEC in Action 