SEC Charges McAfee, Inc. with Accounting Fraud; McAfee Agrees to Settle and Pay a $50 Million Penalty
FOR IMMEDIATE RELEASE
Washington, D.C., Jan. 4, 2006 The Securities and Exchange Commission today filed securities fraud charges against McAfee, Inc., formerly known as Network Associates, Inc., a Santa Clara, California-based manufacturer and supplier of computer security and antivirus tools. The Commission’s complaint alleges that, from the second quarter of 1998 through 2000, McAfee misled investors when it engaged in a fraudulent scheme to overstate its revenue and earnings by hundreds of millions of dollars. The complaint specifically alleges that, during the period 1998 through 2000, McAfee inflated its cumulative net revenues by $622 million and that, for 1998 alone, McAfee overstated revenues by $562 million, a misstatement of 131 percent. When the scheme began to unravel and McAfee announced, in December 2000, that it would miss its quarterly revenue projection by $190 million, the news slashed over $1 billion from McAfee’s market capitalization.
McAfee consented, without admitting or denying the allegations of the complaint, to the entry of a Court order enjoining it from violating the antifraud, books and records, internal controls, and periodic reporting provisions of the federal securities laws. The order also requires that McAfee pay a $50 million civil penalty, which the Commission will seek to distribute to harmed investors pursuant to the Fair Funds provision of the Sarbanes-Oxley Act of 2002. In addition, McAfee has agreed to appoint an independent consultant to examine and recommend improvements to McAfee’s internal accounting controls and revenue recognition and reserves practices to better ensure compliance with the federal securities laws. This proposed settlement is subject to court approval.
“This settlement takes into account both the underlying misconduct and the resulting investor harm, as well as the significant benefit that accrued to McAfee from having artificially inflated the price of its stock and using it to acquire other companies, capitalizing on the artificial value McAfee had created through its fraud,” said Linda Chatman Thomsen, the Director of the SEC’s Division of Enforcement. “The company’s channel-stuffing and use of manipulative accounting artifices warrants a severe civil sanction that will act as a deterrent for other public companies and provide a source of funds that can be distributed to injured McAfee investors.”
The Commission alleges in its complaint that McAfee used a variety of undisclosed ploys during the period to aggressively oversell its products to distributors in amounts that far exceeded the public’s demand for the products. While engaging in this channel-stuffing, McAfee improperly recorded the sales to distributors as revenue. McAfee offered its distributors lucrative sales incentives that included deep price discounts and rebates in an effort to persuade the distributors to continue to buy and stockpile McAfee products. McAfee also secretly paid distributors millions of dollars to hold the excess inventory, rather than return it to McAfee for a refund and consequent reduction in McAfee’s revenues. In other instances, McAfee used an undisclosed, wholly-owned subsidiary, Net Tools, Inc., to repurchase inventory that McAfee had oversold to its distributors. The complaint further alleges that McAfee took action to conceal the fraud from investors by, among other things, wrongly recording in its books the payments and discounts that it offered to distributors, and improperly manipulating reserve accounts to increase inadequate sales reserves and cover the costs of the distributor payments. The complaint alleges that McAfee defrauded investors by reporting false and materially misleading financial and other information in periodic reports, financial statements, and securities registration statements that McAfee filed with the Commission, and in press releases and other public statements.
Previously, the Commission has sued former McAfee chief financial officer Prabhat Goyal and former McAfee controller Terry Davis for their roles in the fraudulent accounting at McAfee. Both of those actions have been stayed by the Court pending the resolution of criminal proceedings that have been brought by the United States Attorney’s Office for the Northern District of California against Goyal and Davis.
Additional materials: Litigation Release 19520