On October 20, 2016, the Securities and Exchange Commission (“SEC”) instituted cease-and-desist proceedings pursuant to Section 21C of the Securities Exchange Act of 1934 (“Exchange Act”), against FMC Technologies, Inc. (“FMCTI”), Jeffrey Favret, CPA (“Favret”) and Steven K. Croft, CPA (“Croft”) (collectively, “Respondents”) and additionally instituted public administrative proceedings against Favret and Croft pursuant to Section 4C of the Exchange Act and Rule 102(e)(1)(iii) of the Commissions’ Rules of Practice (SEC actions collectively the “Order”). The Order alleges that the violation of Generally Accepted Accounting Practices (“GAAP”) occurred in relation to manipulation of funds that were earmarked for FMCTI’s paid time off policies (“PTO”). FMCTI agreed to pay a penalty of $2.5 million in relation to the SEC charges, and Favret and Croft agreed to pay $30,000 and $10,000, respectively.
FMCTI is an operations and equipment provider to the energy industry, designing and manufacturing service systems and products such as: offshore production and processing systems, surface wellhead systems; high pressure pumps and fluid control equipment; measurement solutions and marine loading systems for the oil and gas industry. FMCTI is a Fortune 500 company that trades on the New York Stock Exchange, and its capabilities are divided into three business reporting segments: Subsea Technologies; Surface Technologies; and Energy Infrastructure. Favret was the controller at Energy Infrastructure, and Croft was the controller of Automation & Control (“A&C”), a business unit that was acquired by Energy Infrastructure. After the acquisition, Favret became segment controller and Croft became business unit controller.
The Order noted that FMCTI has an unusual PTO policy, with employees earning their PTO days on January 1 of each new year, rather than accruing them by month or pay period. For example, if twelve (12) days of PTO are provided per year at FMCTI, an employee could conceivably take off the first twelve (12) days of January, leaving no remaining PTO days for the rest of the year. The Order acknowledged that FMCTI structured its PTO policy to benefit employees as it gave them flexibility to use their PTO days in chunks. Unfortunately, it created a larger capital requirement to be held at the beginning of each calendar year. Because, according to GAAP standards, FMCTI was required to establish a reserve for its full-year PTO liabilities as of January 1. FMCTI also allowed employees to roll over unused PTO days from one year to the next. Funds to pay these days were also required to be held in the account in addition to full year PTO liabilities.
According to the Order, in May 2012, FMCTI acquired A&C, a company with a traditional PTO policy in which days off are earned over the course of the year on a pay period basis, rather than all at once. Given that A&C became a new segment of Energy Infrastructure at FMCTI, it was required to adopt FMCTI’s PTO policy as of January 1, 2013. A&C was consequently required to hold reserves for any PTO 2012 roll over ($223,000), as well as full-year 2013 PTO liabilities ($928,000). Towards the end of January, Croft directed his staff to accrue this additional liability. However, this 2013 PTO accrual had a significant negative impact on January earnings results, leading Favret and Croft to decide in early February to reduce A&C’s 2013 PTO accrual by approximately $800,000, leaving only the 2012 roll-over accrual and two (2) months’ worth of 2013 liabilities. This action was taken without approval from FMCTI’s corporate accounting office. In mid-March, Favret and Croft were informed by an internal audit manager that the Energy Infrastructure business unit needed to maintain funds for full 2013 PTO liabilities. Favret and Croft proceeded to release the rest of 2013 PTO liabilities, and then all of 2012 PTO liabilities, overstating the Energy Infrastructure segment’s operating profits by approximately 10 percent for the first quarter, and by significant amounts in the beginning of the second quarter until the scheme was discovered in early May. FMCTI’s corporate accounting group then mandated that A&C replenish 2012 and 2013 PTO liabilities with $1.8 million.
The Order also found that Croft and Favret failed to comply with internal accounting control’s when they directed their business unit to switch to a new accounting system without taking steps to ensure that errors would not result. FMCTI also had another business that engaged in the same PTO liability fund raiding as A&C. Additionally, when more scrutiny was applied to FMCTI’s accounting practices it was found that the company improperly accounted for interest income associated with certain large intercompany loans, resulting in an $8 million out-of-period adjustment in 2014.
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