SECURITIES AND EXCHANGE COMMISSION
LITIGATION RELEASE NO. 17346 / January 30, 2002
ACCOUNTING AND AUDITING ENFORCEMENT RELEASE NO. 1502 / January 30, 2002
Securities and Exchange Commission v. Patrick O. Wheeler, Steven S. Gallers, and Robert L. Carberry, Case No. 02-60131-CIV-GRAHAM (S.D. Fla.)
SEC Files Accounting Fraud Charges Against
3 Former Officers of Cyberguard Corporation
Cyberguard's Former Chairman Of The Board Settles
SEC Charges and Agrees To Pay $50,000 Penalty
Cyberguard and Two Former Officers Settle
On January 30, 2002, the Commission filed two related enforcement proceedings arising from a wide-ranging accounting fraud at CyberGuard Corporation, a Fort Lauderdale-based company in the business of developing and selling computer network security systems. First, the Commission filed a lawsuit in federal court in Miami charging three former CyberGuard officers - Patrick O. Wheeler, Steven S. Gallers, and Robert L. Carberry - with securities fraud and other violations. Second, the Commission issued a settled cease-and-desist order finding that CyberGuard and two other former officers - William D. Murray, and Tommy D. Steele - violated the periodic reporting, books-and-records, and internal accounting controls provisions of the federal securities laws.
As described in the Commission's complaint and order, CyberGuard engaged in a number of improper accounting practices that required the company to restate its financial statements for the fiscal year ended June 30, 1997 (including all interim quarters and its beginning balance sheet as of July 1, 1996) and for the first three quarters of its fiscal year ended June 30 1998. According to the Commission, CyberGuard's improper accounting practices departed from both generally accepted accounting principles ("GAAP") and CyberGuard's own stated revenue recognition policies. Specifically, the Commission found that CyberGuard: (i) improperly wrote off $3.244 million in capitalized software costs at the end of its 1996 fiscal year, which inflated the company's reported profit margins by approximately 43.5% for its 1997 fiscal year and by approximately 4.4% for the first three quarters of its 1998 fiscal year; and (ii) improperly recognized revenue during its 1997 and 1998 fiscal years, which inflated the company's reported revenues by approximately $1.4 million (or 9.8%) for the 1997 fiscal year and by approximately $2.2 million (or 17%) for the first three quarters of the 1998 fiscal year.
In the federal lawsuit, the Commission alleged that Wheeler (CyberGuard's former chief financial officer and vice president of North American sales, and current vice president of business development) and Carberry (CyberGuard's former chairman of the board, chief executive officer, and president) signed off on the improper write-off of capitalized software costs when they knew, or were reckless in not knowing, that the write-off was improper under GAAP. The complaint further alleges that Wheeler and Carberry made, directly or indirectly, materially false and misleading statements, and omitted to state material facts, in their communications with CyberGuard's outside auditors about the reasons for the write-off.
According to the complaint, Wheeler, Carberry, and Gallers (CyberGuard's former controller and assistant treasurer) were all involved in CyberGuard's improper revenue recognition during its 1997 and 1998 fiscal years. Wheeler allegedly knew, or was reckless in not knowing, that CyberGuard materially misstated its reported revenues during the 1997 fiscal year and certain quarters of the 1998 fiscal year as a result of improperly booking revenue from contingent sales. Wheeler is further alleged to have misrepresented to the auditors, in connection with the company's 1997 fiscal-year audit, that CyberGuard had no contingent agreements. Carberry allegedly knew, or was reckless in not knowing, that CyberGuard improperly booked revenue from a contingent transaction accounting for substantial revenues reported for the quarter ended September 30, 1997, and accelerated revenue recognition during the March 31, 1998 quarter on incomplete sales transactions. Gallers is alleged to have improperly booked revenue from contingent transactions, and accelerated revenue recognition on after-quarter shipments of product, over the seven quarters ended March 31, 1998, which he knew, or was reckless in not knowing, materially misstated CyberGuard's financial results.
The Commission charged Wheeler, Carberry, and Gallers with securities fraud in violation of Section 10(b) of the Securities Exchange Act of 1934 (the "Exchange Act") and Rule 10b-5 thereunder, and with knowingly falsifying the books, records, and accounts of CyberGuard, and knowingly circumventing or failing to implement adequate internal controls, in violation of Exchange Act Section 13(b)(5) and Exchange Act Rule 13b2-1. The Commission also charged Wheeler and Carberry with misleading CyberGuard's auditors in violation of Exchange Act Rule 13b2-2. The Commission is seeking injunctions and civil penalties against all three defendants, and officer-and-director bars against both Wheeler and Gallers. Without admitting or denying the allegations of the complaint, Carberry consented to the entry of a final judgment permanently enjoining him from violating the foregoing provisions, and requiring him to pay a $50,000 civil penalty.
In the related cease-and-desist order, the Commission found that CyberGuard violated the periodic reporting provisions of Exchange Act Section 13(a) and Rules 12b-20, 13a-1, and 13a-13, the books-and-records provisions of Exchange Act Section 13(b)(2)(A), and the internal accounting controls provisions of Exchange Act Section 13(b)(2)(B), and ordered CyberGuard to cease and desist from violating those provisions in the future. The Commission's order further found that Murray (a former chief financial officer of CyberGuard) and Steele (a former chief operating officer of CyberGuard) knowingly circumvented or failed to implement internal controls at CyberGuard, and knowingly falsified CyberGuard's books and records, in violation of Exchange Act Section 13(b)(5) and Rule 13b2-1, and were causes of CyberGuard's violations, and ordered them to cease and desist from committing or causing such violations in the future. Without admitting or denying the Commission's findings, CyberGuard, Murray, and Steele each consented to entry of the Commission's order.