TheCorporateCounsel.net

Earlier this month, the SEC brought enforcement proceedings against Synchronoss Technologies & certain of its senior officers arising out of alleged accounting improprieties. The officers targeted by the SEC included the company’s former General Counsel. The charges against the GC are worth noting, because I think they reflect a perception within the Division of Enforcement that public company lawyers have greater expertise in accounting matters than most actually do.

The enforcement proceedings were based on allegations that the company improperly recognized revenue on multiple transactions and misled the company’s auditors about those transactions. The former GC was tagged for his role in allegedly causing the violations, and consented to a “neither admit nor deny” settlement under the terms of which agreed to a $25,000 civil penalty & accepted an 18 month suspension of his right to practice before the SEC. How did he get himself in hot water? The SEC’s complaint points to the following alleged actions:

– The GC knew about a billing dispute with a customer during which the customer told the company that an email on which the company had relied in booking revenue for a particular transaction did not reflect a “commitment by [Customer A] to acquire the software” and also knew about subsequent communications from the customer stating that it had not committed to purchase the software.

– The GC attended and prepared minutes for an audit committee meeting at which the CFO discussed the billing dispute with the committee and the company’s auditor, but the SEC alleged that neither the CFO nor the GC shared with the auditor the “fact or substance” of the communications from the customer, which it contended were contrary to representations made by the CFO to the auditor about the collectability of the receivable under GAAP.

– The SEC also found fault with the GC for not disclosing information to the company’s auditor that he “knew or should have known” that an acquisition was contingent upon the company’s sale of a license to an affiliate of the seller, and that the alleged patent infringement claim that license agreement was purportedly used to settle wasn’t asserted by the company until after it approached the seller to discuss the acquisition. The SEC said that these facts would have been material to the proper accounting treatment of the license fee under GAAP, and that the GC’s reps to the auditors were misleading because they made the two transactions appear separate from each other.

The SEC’s allegations that the lawyer made potentially misleading reps to the auditor about the second transaction don’t cause me a lot of heartburn, but those relating to his largely passive role in the first transaction are more troubling. That’s because under similar circumstances, I believe that many GCs would act in a similar manner.

I think most lawyers would defer to the CFO when it comes to providing auditors with information about accounting matters. There’s a good reason for this deference – most lawyers don’t have the technical expertise to reliably discern when particular statements or omissions by a CFO about a transaction might raise accounting red flags. It’s reasonable to assume that a trained accountant would pick up on how a CFO’s statements might lead auditors astray when it comes to GAAP, but I don’t think the same assumption necessarily applies to a lawyer.

This enforcement action is a reminder that lawyers need to act with extreme caution whenever they communicate – or are party to others’ communications – with auditors about something that might implicate financial reporting. But the action also appears to be premised, at least in part, on assumptions by the Division of Enforcement about lawyers’ expertise in identifying potential accounting red flags that I don’t think are usually justified.

– John Jenkins