WAYNE M. CARLIN (WC-2114)
UNITED STATES DISTRICT COURT
Plaintiff Securities and Exchange Commission ("Commission"), for its Complaint against defendant Oxford Health Plans, Inc. ("Oxford" or "Defendant"), alleges as follows:
1. For the months of January 1997 through September 1997, Oxford erroneously recorded on its internal books and records an aggregate of $81 million of revenue that it should not have recorded. This error occurred because Oxford incorrectly recorded into the current revenue account certain items from the deferred and unearned revenue accounts. Of the $81 million in erroneously recorded revenues, approximately $25 million was incorporated into Oxford's financial statements. These financial statements were filed with the Commission on August 5, 1997 as part of Oxford's second quarter 1997 Form 10-Q. As a result of the erroneously recorded revenues, Oxford's net income as reported in this filing was overstated by 26%. Oxford first discovered this revenue recording error in the fall of 1997. Oxford subsequently filed a Form 8-K with the Commission on October 27, 1997, which disclosed that Oxford expected a revenue shortfall of $111 million. On November 13, 1997, Oxford filed its third quarter 1997 Form 10-Q with the Commission, which contained an explanation of certain financial adjustments that Oxford had made in light of recently discovered events. Neither of these filings specifically disclosed the occurrence of the erroneously recorded revenues. Oxford also did not restate its second quarter 1997 financial statements, although it was required to do so in accordance with Generally Accepted Accounting Principles ("GAAP").
2. By engaging in the conduct described herein, Defendant Oxford violated the reporting provisions, books and records, and internal controls provisions of the federal securities laws, specifically, Sections 13(a) and 13(b) of the Securities Exchange Act of 1934 ("Exchange Act"), 15 U.S.C. §§ 78(m)(a) and 78m(b), and Rules 12b-20, 13a-11, and 13a-13 thereunder, 17 C.F.R. §§ 240.12b-20, 240.13-11, 240.13a-13.
3. By this action, the Commission seeks an award of civil money penalties.
JURISDICTION AND VENUE
4. This Court has jurisdiction of this action pursuant to Sections 21(d)(3) and 27 of the Exchange Act, 15 U.S.C. §§ 78u(d)(3) and 78aa.
5. Oxford is a Delaware corporation with principal offices located in Trumbull, Connecticut. Oxford is a provider of health benefit plans, including point-of-service plans, health maintenance organizations, and Medicare programs. Oxford's common stock is registered with the Commission pursuant to Section 12(b) of the Securities Exchange Act. Oxford's stock, which traded on the NASDAQ during the relevant period, is listed on the New York Stock Exchange. Oxford is an "issuer" for purposes of the Exchange Act.
A. Oxford Erroneously Recorded $81 Million of Revenue On Its Books and Records Because Its System of Internal Accounting Controls Failed To Prevent the Error
6. For the months of January 1997 through September 1997, Oxford erroneously recorded on its internal books and records an aggregate of $81 million of revenue that it should not have recorded. This occurred because Oxford incorrectly recorded into the current revenue account certain items from its deferred revenue account (a liability account that represented premium billings made in advance of the coverage month) and its unearned revenue account (a liability account that represented premium billings made and paid in advance of the coverage month). Because these "future" revenues were billed and in some cases paid prior to the relevant coverage period, they were properly recorded as liabilities.
7. Oxford recorded revenue based on revenue reports that incorrectly included unearned revenue in the report's computation of deferred revenue. As a result, Oxford failed to perform appropriate reversing entries when reclassifying the deferred and unearned revenues into current revenue. Therefore, for the months January through September 1997, Oxford erroneously counted the prior month's unearned revenue as current revenue twice, when such unearned revenue should have been counted once.
8. On a quarterly basis, the error described above caused Oxford's revenues to be overstated on its internal books and records as follows:
9. Oxford discovered the erroneously recorded revenues during the preparation of its third quarter 1997 financial reports. Oxford's system of internal accounting controls did not detect or prevent the company from erroneously recording the $81 million of revenues on its internal books and records. As a result, for the months of January through September 1997, Oxford's system of internal accounting controls failed reasonably to ensure that revenues were booked correctly.
B. Oxford Failed to Restate Net Income That It Had Materially Overstated In Its Form 10-Q for the Period Ended June 30, 1997, and Oxford Did Not Specifically Disclose That It Had Erroneously Recorded $81 Million of Revenues On Its Books and Records
10. On August 5, 1997, Oxford filed with the Commission on Form 10-Q Oxford's unaudited financial statements for the period ended June 30, 1997 (the second quarter). Oxford reported that its net income for that quarter was $37 million.
11. Oxford planned to file with the Commission in early November 1997 a Form 10-Q reporting its unaudited financial statements for the period ended September 30, 1997. Shortly before October 27, 1997, Oxford determined that certain problems had materially affected and would affect Oxford's financial condition. These problems included that Oxford erroneously had recorded on its internal books and records $81 million in revenue for the months of January through September 1997, including revenue reported in the second quarter financial statements contained in Oxford's June 30, 1997 Form 10-Q.
12. On October 27, 1997, Oxford filed with the Commission a Form 8-K that contained information concerning Oxford's results of operations. Oxford stated that its revenues were expected to be $111 million lower than previous estimates due to adjustments to membership resulting from delayed premium bills. Oxford also announced a charge to net earnings of between $47 million and $53 million for additions to reserves for medical claims. According to Oxford, these two elements would result in an expected loss of between $.83 and $.88 per share for the third quarter of 1997 (at a time when consensus analysts' estimates had predicted a profit of about $.48 per share). Oxford's Form 8-K did not specifically disclose that $81 million of the announced $111 million revenue shortfall from previous revenue estimates was attributable to revenues that Oxford had erroneously recorded.
13. On November 13, 1997, Oxford filed with the Commission on Form 10-Q Oxford's unaudited financial statements for the period ended September 30, 1997 (the third quarter). Oxford reported a net loss of $78 million or $.99 per share for the quarter, and described various charges reported in the financial statements.
14. The $81 million of revenue erroneously recorded on Oxford's internal books and records included $25 million attributable to the second quarter of 1997. As a result, Oxford's net income as reported in the June 30, 1997 Form 10-Q was overstated by 26%. Based on an analysis conducted in late October 1997, after the error was discovered, Oxford erroneously concluded that net income was overstated by 12.9%. Oxford's analysis aggregated or "netted" certain favorable revenue and unfavorable expense events not previously reported in the second quarter financial statements against the overstated revenues, which events minimized the impact of the revenue overstatement on net income. The principal event used in the analysis was a gain contingency related to the outcome of a lawsuit concerning a refund Oxford believed it was due for amounts paid into an allegedly overfunded malpractice insurance pool. The inclusion of this event in the second quarter was inconsistent with GAAP, and therefore any amount related to this gain contingency should not have been considered in the restatement analysis.
15. Oxford considered whether it should restate its second quarter financial statements and concluded that no restatement was required because the overstatement of net income (which Oxford calculated as 12.9%) was not material under the circumstances. In fact, the overstatement was 26% of net income, which was material. Even if Oxford's computation of a 12.9% overstatement had been correct, that amount would also have been material.
16. Because Oxford reported a material overstatement of net income for the second quarter of 1997, Oxford should have restated its financial statements, including net income, for that quarter. Oxford, however, failed to restate its financial statements for the second quarter of 1997.
17. Paragraphs 1 through 16 are hereby realleged and incorporated by reference.
18. Oxford failed to file with the Commission, in accordance with the rules and regulations prescribed by the Commission, such financial reports as the Commission has prescribed and Oxford failed to include, in addition to the information expressly required to be stated in such reports, such further material information as was necessary to make the statements made therein, in light of the circumstances in which they were made, not misleading.
19. Specifically, Oxford filed with the Commission: (a) a Form 10-Q for its second quarter of 1997 that contained a material overstatement of Oxford's net income; and (b) a Form 8-K, dated October 27, 1997, and a Form 10-Q for Oxford's third quarter of 1997, neither of which specifically disclosed that $81 million of the announced $111 million revenue shortfall in previous revenue estimates was attributable to revenues that Oxford had erroneously recorded.
20. By reason of the foregoing, Oxford violated Section 13(a) of the Exchange Act, 15 U.S.C. § 78m(a), and Rules 12b-20, 13a-11, and 13a-13, 17 C.F.R. §§ 240.12b-20, 240.13a.11, and 240.13a-13.
(Books and Records Violations)
21. Paragraphs 1 through 20 are hereby realleged and incorporated by reference.
22. Oxford failed to make and keep books, records, and accounts, which, in reasonable detail, accurately and fairly reflected the transactions and dispositions of the assets of Oxford.
23. As part of and in furtherance of this violative conduct, Oxford erroneously recorded $81 million in revenue on its internal books and records.
24. By reason of the foregoing, Oxford violated Section 13(b)(2)(A) of the Exchange Act, 15 U.S.C. § 78m(b)(2)(A).
(Internal Controls Violations)
25. Paragraphs 1 through 24 are hereby realleged and incorporated by reference.
26. Oxford failed to devise and maintain a system of internal accounting controls sufficient to provide reasonable assurances that: (a) transactions were executed in accordance with management's general or specific authorization; and (b) transactions were recorded as necessary to permit preparation of financial statements in conformity with generally accepted accounting principles, and to maintain accountability for assets.
27. As part of and in furtherance of this violative conduct, Oxford failed to implement a system of internal controls sufficient to prevent the erroneous recording of revenues.
28. By reason of the foregoing, Oxford violated Section 13(b)(2)(A) of the Exchange Act, 15 U.S.C. § 78m(b)(2)(A).
WHEREFORE, the Commission respectfully requests that this Court enter a Final Judgment ordering Oxford to pay a civil money penalty pursuant to Section 21(d)(3) of the Exchange Act, 15 U.S.C. § 78u(d)(3).
Edwin H. Nordlinger