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Sources: SEC Probes Possible CA Stock Fraud

By Mark Harrington and Robert Kessler
Staff Writers

February 21, 2002

The Securities and Exchange Commission has been conducting a civil investigation into whether officials at Computer Associates International Inc. inflated the company's stock price for their own benefit through fraudulent accounting practices, according to several sources close to the probe.

The SEC investigation tracks a similar criminal probe by the U.S. attorney's office in Brooklyn, which is working with the FBI. All three agencies have been cooperating, the sources said.

CA shares dropped 17 percent yesterday, shedding more than $2.5 billion in value following a report by Newsday Tuesday night about the preliminary criminal probe of its accounting.

In a statement to Newsday yesterday, CA said, "The reporting of our financial results has always been in accordance with all applicable accounting principles.”

Both the civil and criminal investigations are described as preliminary, and there is no evidence that officials at the Islandia software company violated any laws or regulations, the sources stressed. The inquiries seek to determine whether top CA officials profited from share sales in advance of disclosing to the public negative news about the company's financial results, according to the sources.

Wayne Carlin, the head of the SEC's New York office, declined to comment yesterday.

Asked if the company was being investigated by the SEC, Computer Associates spokesman Robert Gordon said, "Not that I'm aware of.”

The SEC by itself can seek only civil penalties and fines and attempt to bar violators from working in the securities or security-related industries. CA yesterday said it had not been contacted by the U.S. attorney, but Gordon said the company was "looking forward” to answering any questions. He said it was "reasonable to assume our attorneys might reach out” to the U.S. attorney's office. "If there are concerns, we'd welcome the opportunity to defend ourselves from hearsay and innuendo from unnamed sources,” Gordon said.

CA last year confirmed it had been subpoenaed by the SEC regarding an investigation of insider trading of six "non-executive” employees. The SEC investigation, which was launched following a July 1998 financial warning and subsequent steep drop in the company's share price, was described by CA last year as "routine.” Neither the SEC nor CA ever announced an outcome of that investigation, which appeared to be still active last year.

CA has also answered SEC inquiries into its accounting practices, including a Sept. 4, 1998, letter from assistant director James Daly. In that inquiry, the SEC asked questions about CA's "revenue recognition” policies, and asked CA to revise future filings to "describe in significant detail” the nature of certain business transactions, according to a copy of the inquiries obtained by SEC Insight Inc., a Plymouth, Minn., financial information Web site.

One former CA employee contacted as part of the U.S. attorney's recent inquiry said an investigator for the U.S. attorney's office asked questions specifically concerning CA's "revenue recognition” policies, with a particular interest in how the company has recorded the licensing revenues of its software products and the fees its charges to maintain that software.

Several former CA officials yesterday described the company's practice of "re-rolling” maintenance contracts before their terms had expired in an attempt to persuade clients to renegotiate their contracts.

The sources said that the company would include several pieces of software in the renegotiated deals so that it could be argued that it was proper to record most of the renegotiated price as new revenue at the time the sale was closed. The company has always denied that the practice is improper. It is common in the software industry, but critics charge it can be used to give an inflated picture of a company's revenues.

SEC regulations require companies in their financial statements to carefully delineate between licensing and maintenance revenues.

Though CA was never accused of breaking those rules, in October of 2000 the company altered its business so that both software licensing and maintenance revenues are recognized over the life of a contract rather than at the time a deal is signed. The new approach would appear to address some concerns raised by critics, but CA's transition to the so-called pro- forma pro-rata accounting method to accompany that change left some even more confused.

The company said its practices have borne the test of relentless scrutiny. "The company has been poked and prodded and put under a microscope for so long it's hard to believe there would be any more questions,” said Paul Verbinnen, another CA spokesman. He called the latest round of questions about CA "another Salem witch-hunt.”

Copyright © 2002, Newsday, Inc.


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