Litigation Release No. 18374 / September 29, 2003
Accounting and Auditing Enforcement Release No. 1878 / September 29, 2003
SEC v. Loren D. Pfau, Civil Action No. 03-D-1925 (MJW) (D. Colo.)
Today, the Securities and Exchange Commission (the "Commission") instituted, and simultaneously settled, a cease-and-desist proceeding against Loren D. Pfau, a resident of Evergreen, Colorado and former employee of Qwest Communications International, Inc. ("Qwest"). In addition, the Commission filed a related action for civil penalties against Pfau in the United States District Court for the District of Colorado.
In the Order, In the Matter of Loren D. Pfau [33-8295], the Commission found that in the final days of each quarter from December 2000 through June 2001, Qwest used Indefeasible Right of Use ("IRU") agreements to sell fiber-optic cable from its telecommunications network as a means to meet aggressive revenue targets. An IRU is an irrevocable right to use a specific amount of fiber for a specified time period. Qwest accounted for IRUs as sales-type leases and recognized nearly the entire amount of the IRU revenue "up-front" at the time of contract execution, rather than over the life of the IRU agreement. Qwest employees and management commonly referred to IRU sales as "gap fillers," in other words, a means to make up the shortfall between the aggressive revenue projections as publicly announced by Qwest and the actual revenue earned.
Specifically, the Commission found that in three IRU transactions executed between December 2000 and June 2001, Pfau, then a Qwest sales manager, along with Qwest senior management, provided secret side agreements allowing the purchasers of fiber-optic cable to exchange (or "port") the fiber purchased for different fiber at a later date. The explicit purpose of making the side agreements secret was to conceal from Qwest's accountants and outside auditors the purchasers' ability to port, since such exchange rights would have defeated, under generally accepted accounting principles, the up-front revenue recognition sought by Qwest. According to the Commission's findings, Qwest improperly recognized from the three IRU transactions $26.6 million of revenue in the first and second quarters of 2001. As a result, Qwest's quarterly reports for the first and second quarters of 2001, and its annual report for 2001, contained materially false information.
Without admitting or denying the findings in the Commission's Order, Pfau has agreed to settle the Commission's claims by consenting to the entry of an administrative order requiring him to cease and desist from committing or causing any violations and any future violations of Section 17(a) of the Securities Act of 1933, and Sections 10(b) and 13(b)(5) of the Securities Exchange Act of 1934 and Rules 10b-5 and 13b2-1 thereunder, and from causing any violations and any future violations of Sections 13(a) and 13(b)(2)(A) of the Exchange Act and Rules 12b-20, 13a-1 and 13a-13 thereunder.
The Commission's complaint in the district court action alleges the same conduct referenced above, and Pfau, without admitting or denying the allegations in the complaint, has consented to the entry of judgment by the U.S. District Court requiring him to pay a civil penalty of $25,000. In settling for a $25,000 penalty, the Commission considered Pfau's cooperation in connection with the Commission's ongoing investigation of this matter