SECURITIES ACT OF 1933
Release No. 7631 / January 21, 1999
SECURITIES EXCHANGE ACT OF 1934
Release No. 40958 / January 21, 1999
ACCOUNTING AND AUDITING ENFORCEMENT
Release No. 1101 / January 21, 1999
File No. 3-9814
|In the Matter of
|ORDER INSTITUTING PUBLIC
PROCEEDINGS PURSUANT TO
RULE 102(e) OF THE COMMISSION'S
RULES OF PRACTICE, MAKING
FINDINGS AND IMPOSING
The Securities and Exchange Commission ("Commission") deems it appropriate and in the public interest that a public administrative proceeding be, and hereby is, instituted against Tony Fiorino ("Fiorino" or the "respondent") pursuant to Rule 102(e)(1)(ii) and (iii) 1 of the Commission's Rules of Practice. Fiorino is a Chartered Accountant, the Canadian equivalent of a Certified Public Accountant.
In anticipation of the institution of these proceedings, Fiorino has submitted an Offer of Settlement ("Offer") which the Commission has determined to accept. Solely for the purpose of these proceedings, and any other proceedings brought by or on behalf of the Commission, or in which the Commission is a party, without admitting or denying the findings set forth below, except as to jurisdiction of the Commission over him and over the subject matter of these proceedings, which the respondent admits, the respondent consents to the entry of this Order Instituting Public Proceedings Pursuant to Rule 102(e) of the Commission's Rules of Practice, Making Findings and Imposing Remedial Sanctions ("Order") set forth below. 2
Accordingly, IT IS ORDERED that a proceeding pursuant to Rule 102(e)(1) of the Commission's Rules of Practice be, and hereby is, instituted.
The Commission makes the following findings 3 :
Fiorino, age 39, is a Canadian citizen and a Chartered Accountant. From 1989 until December 14, 1998, Fiorino worked as the Theater Controller at Livent Inc. ("Livent"), a Toronto, Ontario company that produces live theatrical entertainment and owns and operates theaters in North America.
Livent Inc. ("Livent" or the "company"), is a Toronto, Ontario company that produces live theatrical entertainment, such as Ragtime, The Phantom of the Opera, Show Boat, Sunset Boulevard and Fosse, and owns and operates theaters in Toronto, Vancouver, Chicago and New York. Livent became a public company in Canada in May 1993, and pursuant to Section 12(g) of the Exchange Act, registered its common stock with the Commission in May 1995. Livent's stock is traded on the NASDAQ national stock market and on the Toronto Stock Exchange. On November 18 and 19, 1998, respectively, Livent declared bankruptcy in the United States and Canada.
The former senior management of Livent engaged in a multi-faceted and pervasive accounting fraud spanning eight years from 1990 through the first quarter of 1998. Garth Drabinsky ("Drabinsky"), Livent's former Chairman and Chief Executive Officer, and Myron Gottlieb ("Gottlieb"), the company's former President and a director, were the architects of a fraud which included: a multi-million dollar kick-back scheme designed to misappropriate funds for their own use; the improper shifting of preproduction costs, such as advertising for Ragtime, to fixed assets, such as the construction of theaters in Chicago and New York; and the improper recording of revenue for transactions that contained side agreements purposefully concealed from Livent's independent auditors.
Drabinsky and Gottlieb manipulated income and operating cash flows throughout the relevant period with the active participation of several long-time associates. Drabinsky and Gottlieb also enlisted the support and assistance of numerous Livent personnel, including Fiorino, who is a Chartered Accountant. While in possession of material non-public information concerning the fraudulent conduct at Livent, Fiorino also engaged in insider trading of Livent securities.
Former senior management's manipulation of income for eight years caused Livent to file with the Commission materially false and misleading financial statements and disclosures in at least seventeen filings during the company's first three fiscal years as a publicly traded company in the United States, 1995, 1996 and 1997, as well as the first quarter of its fiscal year 1998. These filings included: annual and quarterly reports filed during the period 1995 through 1998; Livent's 1995 registration of 12 million common shares; a $35 million (US) equity offering of 3.75 million common shares in 1996; and a $125 million (US) debt offering in 1997.
As a result of the scheme, Livent's financial statements for fiscal years 1991 and 1992, prior to Livent becoming a U.S. public company, were materially false and misleading in that Livent overstated pre-tax earnings, or understated pre-tax losses, in each of those years. For fiscal 1991, Livent reported a pre-tax loss of $1.2 million 4 . In fact, Livent's loss in that year was approximately $4.6 million. For fiscal 1992, Livent reported pre-tax earnings of $2.9 million. In fact, the company's true earnings were approximately $100,000.
As a further result of the scheme, Livent reported inflated pre-tax earnings, or understated pre-tax losses, for each of its fiscal years as a U.S. public company, 1995 through 1997. For fiscal 1995, Livent reported pre-tax earnings of $18.2 million. In fact, the company's true earnings were approximately $15 million. For fiscal 1996, Livent reported pre-tax earnings of $14.2 million. In fact, the company incurred a loss of more than $20 million in that year. For fiscal 1997, Livent reported a pre-tax loss of $62.1 million. In fact, the company's true loss in fiscal 1997 was at least $83.6 million.
As a further result of the scheme, Livent reported preproduction costs or fixed assets that were fraudulently overstated for fiscal years 1994 through 1997. For fiscal 1994, 1995 and 1996, respectively, Livent reported preproduction costs of $28 million, $55.4 million and $75.6 million. In fact, each of these amounts was overstated by approximately $4 million. In addition, for fiscal 1996, Livent reported fixed assets of $133.2 million, which was overstated by at least $6 million. For fiscal 1997, Livent reported fixed assets of $200.8 million, which was materially overstated by approximately $23.9 million.
D. Livent Fraudulently Manipulates its Books and Records
1.The Accounting Manipulations
Livent's accounting staff used four basic forms of manipulation. First, the staff transferred preproduction costs 5 for shows to fixed asset accounts such as the construction of theaters, 6 in order to delay the amortization of those costs. Second, the accounting staff, at the end of each quarter, simply removed certain expenses and the related liabilities from the general ledger. These items were literally erased from the company's books. Third, the accounting staff transferred costs from one show currently running to another show that had not yet been opened or that had a longer amortization period, again in order to delay the amortization of those costs. Finally, senior management entered into various "revenue-producing" contracts containing purposefully concealed side agreements that, in effect, required Livent to pay back to the counter party the amount originally advanced. These transactions should have been booked as loans payable rather than as revenue.
2.How the Accounting Fraud Worked
Beginning in late 1993, Livent personnel began manipulating the company's books, records and accounts. Standard operating procedure was as follows: Diane Winkfein ("Winkfein") and Grant Malcolm ("Malcolm"), two senior Livent controllers, produced a general ledger showing financial results for each quarter and for year end. They provided the information to Gordon Eckstein ("Eckstein"), Livent's Senior Vice President of Finance and Administration, and, in 1997, to another senior controller, Christopher Craib ("Craib"), who then put the information into an easily understood summary format for Livent's executives. Eckstein then met with Drabinsky, Gottlieb and Robert Topol ("Topol"), Livent's COO, to review the results.
During these meetings, the group discussed the manipulations, and agreed on the approximate nature and quantity of adjustments to be made to the company's books, records and accounts in order to achieve a predetermined false financial picture. In general, Drabinsky directed that certain adjustments be made and Eckstein made notes of the adjustments. Eckstein then communicated the adjustments to Winkfein and Malcolm and instructed them to effect the adjustments in such a manner as to give the adjustments the appearance of original entries in the accounting system, so that they could not be detected.
3.Livent Personnel Override the Internal Controls
After the periodic meetings with Drabinsky, Gottlieb and Topol, Eckstein met with Winkfein and Malcolm and provided them with the approximate dollar adjustments they were required to make to various accounts in the balance sheet and income statement, including expense categories, specific shows and fixed asset accounts. Winkfein and Malcolm, with assistance from Fiorino for transfers to fixed assets, then processed the adjustments. Starting in approximately 1996, Malcolm communicated the transfers to fixed asset accounts to Fiorino, who effected the adjustments by concealing them in dummy theater cost accounts. Prior to 1996 and continuing thereafter, as a result of discussions with Eckstein, Malcolm and Winkfein, Fiorino also was aware of other accounting manipulations at Livent, including the expense rolls and the show-to-show cost transfers. 7
To make the adjustments, Malcolm identified individual invoices to alter in order to achieve the overall level of adjustment specified by Eckstein. Then, on an invoice-by-invoice basis, he and Winkfein changed the distribution dates or account codes of the selected invoices, deleted the original entries from the general ledger system, and re-posted the fraudulent information to the general ledger. In a legitimate accounting system, these adjustments would have been made through journal entries. However, the enormous number of bogus entries, comprising millions of dollars in invoices, necessary to comply with Drabinsky's directives required a more efficient method of adjustment. Moreover, adjusting journal entries would have left a trail of "red flags" for the auditors, something Livent's senior management did not want to create. Consequently, starting in at least 1994, Eckstein had Malcolm enlist the manager of Livent's information services department to write a program that would enable the accounting staff to override the accounting system without a paper or transaction trail. That manager then wrote programs to enable the accounting staff to execute changes on a batch, or volume, basis. This process had the effect of falsifying the books, records and accounts of the company so completely that the adjustments appeared as original transactions, and no trace of the actual original entries remained in the company's general ledger. The accounting staff, including Fiorino, all understood that they were concealing the adjustments from the Company's auditors.
4.Livent Personnel Track The Fraud
As the theater controller, Fiorino's responsibility was to take the costs that were fraudulently transferred from shows to theater cost accounts and then allocate them to various dummy accounts within the fixed assets. Fiorino separately tracked the costs improperly transferred to theater construction accounts by creating a numerical range of accounts in the general ledger in which he recorded the transferred amounts so that he could measure the true costs of Livent's theater construction.
5.Livent Personnel Lie to Deloitte
Drabinsky, Gottlieb and Topol concealed, and instructed Eckstein to conceal, accounting irregularities from the company's auditors. Fiorino created dummy accounts for the amounts that were improperly transferred to fixed assets. This enabled Livent to conceal these material transfers from Livent's auditors. As a result, Livent's accounting staff, including Fiorino, concealed the fraud from the auditors.
6.New Management Takes Over Livent
The arrival of new management merely emboldened Drabinsky and Gottlieb. The two continued to manipulate the company's financial statements and instructed their staff to generate two versions of financial schedules -- one, designed for Drabinsky and Gottlieb, which included the description of improper cost transfers, and a second, designed for new management, which did not provide the description of improper cost transfers. Drabinsky instructed Messina and Eckstein not to give the more illustrative schedules to new management. Livent's accounting staff, including Fiorino, concealed the fraud from new management.
E.Other Fraudulent Conduct
1.Fraudulent Ticket Purchases
From September 1997 through December 1997, Livent senior management arranged for two vendors to purchase tickets for Livent's Los Angeles production of Ragtime in order to inflate ticket sales reported to Variety magazine. From September 30, 1997 to December 31, 1997, the first vendor purchased tickets totaling $381,015 (US) from the box office at the Schubert Theater in Los Angeles. These purchases were made using the vendor's personal credit card or the vendor issued checks from one of his companies. Livent then reimbursed the vendor or his companies based on false invoices the vendor submitted for construction services to Livent. In November 1997, Eckstein also enlisted another vendor to purchase tickets to Ragtime L.A. Eckstein instructed this vendor to write checks to the Schubert Theater for tickets and submit phony invoices for construction services to Livent. Livent then reimbursed the vendor. Fiorino participated in the fraudulent ticket purchase scheme by arranging the ticket purchases through the vendors and by arranging for payments to the vendors.
At Gottlieb's direction, Eckstein had the accounting staff improperly capitalize the ticket purchases to Livent's fixed asset accounts. As a result, Livent's fixed asset accounts were false and misleading. Moreover, the box office numbers reported by Livent to Variety were materially false and misleading, designed to convey the false impression that Ragtime was a successful engagement in L.A., when, in fact, it was not.
On or about December 27, 1996, Fiorino exercised options and purchased 500 shares of Livent common stock at $9.00 per share for a total cost of $4,500. He promptly sold all of those shares at $17.10 per share for proceeds of $8,550, while in possession of material nonpublic information concerning the accounting irregularities described above.
As described herein, Fiorino, a Chartered Accountant, knowingly falsified Livent's books, records and accounts. He distributed improper costs to his theater accounts despite knowing that those costs were inappropriately recorded and were the result of manipulations by Livent's senior management. Fiorino also arranged surreptitious ticket purchases through vendors to fraudulently inflate ticket sales reported to Variety magazine. Fiorino knew what he was doing was wrong, and knew that certain information was concealed from the auditors. Fiorino also sold Livent securities while in possession of material non-public information.
Accordingly, Fiorino willfully violated, within the meaning of Rule 102(e)(1)(iii) of the Commission's Rules of Practice, Section 17(a) of the Securities Act, Sections 10(b) and 13(b)(5) of the Exchange Act, and Rules 10b-5 and 13b2-1 promulgated thereunder, and caused violations of Rule 13b2-2.
As a Chartered Accountant, the Canadian equivalent of a CPA, Fiorino is a professional charged with recognizing and preventing fraudulent accounting. Not only did he fail to fulfill his duty, he also intentionally participated in fraudulent conduct. He engaged in improper professional conduct, within the meaning of Rule 102(e)(1)(ii) of the Commission's Rules of Practice.
Based on the foregoing, the Commission finds that Fiorino:
A. Engaged in improper professional conduct, within the meaning of Rule 102(e)(1)(ii) of the Commission's Rules of Practice, by intentional conduct that resulted in violations of applicable professional standards; and
B. Willfully violated, within the meaning of Rule 102(e)(1)(iii) of the Commission's Rules of Practice, Section 17(a) of the Securities Act, Sections 10(b) and 13(b)(5) of the Exchange Act and Rules 10b-5 and 13b2-1 thereunder, and caused violations of Rule 13b2-2 promulgated under the Exchange Act.
Based on the foregoing, the Commission deems it appropriate and in the public interest to accept Fiorino's Offer, and impose the sanctions specified therein.
Accordingly, IT IS HEREBY ORDERED that, effective immediately:
A. Fiorino is denied the privilege of appearing or practicing before the Commission as an accountant.
B. After three (3) years from the date of this Order, Fiorino may apply to the Commission by submitting an application to the Office of the Chief Accountant which requests that he be permitted to resume appearing or practicing before the Commission as:
1. a preparer or reviewer, or a person responsible for the preparation or review, of financial statements of a public company to be filed with the Commission upon submission of an application satisfactory to the Commission in which Fiorino undertakes that, in his practice before the Commission, his work will be reviewed by the independent audit committee of the company for which he works or in some other manner acceptable to the Commission;
2. an independent accountant upon submission of an application containing a showing satisfactory to the Commission that:
a. Fiorino, or any firm with which he becomes associated in any capacity, will join as and will remain a member of the SEC Practice Section of the American Institute of Certified Public Accountants Division for CPA Firms ("SEC Practice Section") or an equivalent Canadian organization that includes or is supplemented by peer review, concurring partner review, continuing professional education and other membership requirements that provide appropriate quality controls over an accounting and auditing practice, as long as he appears or practices before the Commission as an independent accountant;
b. Fiorino or his firm has received an unqualified report relating to his or the firm's most recent peer review conducted in accordance with the guidelines adopted by the SEC Practice Section or equivalent organization; and
c. Fiorino will comply with all applicable requirements of the SEC Practice Section or equivalent Canadian organization, including all requirements for periodic peer reviews, concurring partner reviews, and continuing professional education, as long as he appears or practices before the Commission as an independent accountant.
3. The Commission's review of any request or application by Fiorino to resume appearing or practicing before the Commission may include consideration of, in addition to the matters referenced above, any other matters relating to Fiorino's character, integrity, professional conduct, or qualifications to appear or practice before the Commission.
IT IS FURTHER ORDERED that Fiorino comply with his undertaking to: on reasonable notice, and without service of a subpoena, cooperate with the Commission and its staff and truthfully disclose all information with respect to his activities and the activities of others about which the Commission or its staff may inquire; accept service, appear and testify in all investigations, administrative and judicial proceedings at which the Commission or its staff makes requests for such testimony except to the extent that the U.S. Department of Justice objects to such testimony; make himself available as may be required by the Commission or its staff; produce any documents within his possession, custody or control, domestic or foreign, which are requested by the Commission or its staff; be accompanied at any time he so desires by counsel of his choice; give truthful and accurate information and testimony and not assert any evidentiary or
other privilege, other than the attorney-client and work product privileges; and in the event of his failure to testify truthfully or to comply with the above requirements, be subject to contempt proceedings, charges of perjury and/or charges of obstruction of justice.
By the Commission.
Jonathan G. Katz
|1||Rule 102(e) of the Commission's Rules of Practice provides, in pertinent part, that: The Commission may censure a person or deny, temporarily or permanently, the privilege of appearing or practicing before it in any way to any person who is found by the Commission after notice and opportunity for hearing in the matter: ... (ii) To be lacking in character or integrity or to have engaged in unethical or improper professional conduct; or (iii) To have willfully violated ... any provision of the Federal securities laws or the rules and regulations thereunder.|
|2||Simultaneous with the filing of this Order, the Commission filed a civil injunctive action in the U.S. District Court for the Southern District of New York against Fiorino, seeking a permanent injunction from violations, or aiding and abetting violations, of Section 17(a) of the Securities Act, Sections 10(b) and 13(b)(5) of the Exchange Act, and Rules 10b-5, 13b2-1 and 13b2-2 thereunder. At the same time, Fiorino consented to the entry of a Final Judgment of Permanent Injunction and other Relief, permanently enjoining him from these violations.|
|3||The Commission's findings herein are made pursuant to the Offer and are not binding upon any other person or entity in these or any other proceedings.|
|4||Canadian dollars will be used in this Order unless otherwise indicated.|
|5||Preproduction costs are costs incurred and capitalized on a particular production prior to opening. Upon opening, these costs are amortized over a period not to exceed five years.|
|6||Costs other than preproduction costs were also improperly transferred to fixed asset accounts. For example, day-to-day operating costs, such as salaries for the orchestra and payments to cast pension funds, were capitalized to theater accounts.|
|7||Since 1994, on a quarterly basis, Eckstein directed Winkfein to improperly move costs from Sunset Boulevard , a severe financial failure, to other shows, such as Ragtime and Show Boat . Fiorino estimated that the total transfer of costs in 1994 was approximately $5 million|