Safeguarding Your Firm Against Fraudulent or Improper Recognition of Revenue
Safeguarding Your Firm Against Fraudulent or Improper Recognition of Revenue

A recent enforcement action by the U.S. Securities and Exchange Commission ("SEC") provides valuable insight for firms seeking to prevent improper recognition of revenue, a common type of accounting fraud regulators contend with each year.

On February 2, 2021, the SEC filed administrative proceedings against two former executives of WageWorks, Inc., a San Mateo, Calif.-based flexible-spending accounts provider which has since become a wholly-owned subsidiary of HealthEquity, Inc. 

See the SEC order here: https://www.sec.gov/litigation/admin/2021/33-10925.pdf

Years of Alleged Deception

In the complaint, the SEC alleged that CFO Colm Callan made a series of false and misleading statements during 2016 and 2017 to WageWorks internal accountants, and the company’s independent auditor and CEO Joseph Jackson made misleading statements to WageWorks auditor related to a significant contract between the company and a large public-sector client.

While Jackson and Callan were directing accounting staff to recognize and amortize the development and transition revenue, the client was insisting it wouldn't pay for the work. The SEC said recognition of that revenue is improper under Generally Accepted Accounting Principles (GAAP), regardless of whether Jackson and Callan believed their company was entitled to payment for the work, the SEC said. Simply put, the company didn't have reason to believe payment would be coming in. 

Jackson and Callan both received incentive-based compensation from WageWorks’ stated 2016 fiscal year performance, which included an improperly recognized $3.6 million worth of revenue from the unnamed client that was not realizable and for which collectability was not reasonably assured.

The day after WageWorks filed its year-end 2016 financial statements, WageWorks’s stock price rose to above $75 for the first time in the company’s history. It stayed above $75 for 20 consecutive market days. On the basis of this performance, WageWorks awarded Jackson a bonus of 50,000 shares of WageWorks common stock and both Jackson and Callan received cash bonuses.

The SEC ordered Jackson and Callan to reimburse WageWorks more than $2 million and pay a combined $175,000 in civil penalties. The SEC said public companies and their executives must consider all material facts — not just the ones that are favorable to their position — when making financial reporting decisions.

A Three-Step Plan

The ongoing global pandemic has prompted many firms to transition to a fully remote or hybrid work model. Since public companies are required to maintain a system of internal accounting controls sufficient to prepare timely and accurate financial statements, the current work environment underscores the need to provide accountants and all employees with appropriate knowledge and training on systems, processes, and technologies.

The WageWorks example illustrates the difficulty of detecting fraud by executives. Management personnel is often in position to circumvent, override, or ignore internal controls since they usually play a critical role in designing and implementing those controls. Nothing is more important to the success of a compliance department than the tone from the top management and the subsequent buy-in from employees.

Safeguarding your firm against the fraudulent or improper reporting of revenue prompted by such factors as a high-pressure corporate environment and related business challenges can be achieved by a combination of examination, identification, and implementation.

The Value of Vigilance

  •  Evaluation – Firms should remain focused on reviewing and refreshing their processes, policies, and procedures by exercising skepticism and conducting regular risk assessments. Frequent evaluations of internal controls can shine light on a culture that could be conducive to fraud.
  • Identification – Engaged communication among the corporate board and audit committee, executive management, internal auditors, and external auditors is one of the best ways to identify and protect against accounting fraud. An emphasis should be placed on reviewing both qualitative and quantitative accounting metrics. The gathering and sharing of information is of critical importance.
  • Implementation – Once potential threats to the firm have been identified, it is incumbent upon senior management and compliance officers to implement the appropriate control policies and procedures. Companies should strive to update the skill sets of employees to keep pace with an evolving business environment and changing regulations and also keep employees informed on best practices, new guidance, and potential emerging risks.

Next Steps

The fraudulent improper reporting of revenue is a perennial concern for SEC enforcement personnel. Make certain your firm has the appropriate accounting policies and procedures in place. To schedule a consultation, contact Jacko Law Group, PC, at 619.298.2880 or at www.jackolg.com.   

Tags: SEC

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