SEC Fines McAfee $50 Million

January 4, 2006. The Securities and Exchange Commission (SEC) filed a civil complaint [22 pages in PDF] in U.S. District Court (NDCal) against McAfee (which is also known as Network Associates) alleging violation of federal securities laws in connection with its overstatement of revenues, back in 1998 through 2000. The SEC and McAfee simultaneously settled the case. McAfee will pay a fine of $50 Million. See also, SEC release

McAfee makes antivirus software, and other computer security software and hardware.

The complaint states that "McAfee overstated its revenues by $622 million in order to meet revenue and earnings targets and understated its cumulative net losses by $353 million. McAfee stuffed its distribution channel and improperly recorded hundreds of millions of dollars of revenue on sales transactions with distributors in violation of the antifraud and other provisions of the federal securities laws. In a fraudulent scheme to oversell its products and immediately record the revenue from those transactions, McAfee secretly gave its distributors substantial cash payments, price discounts, rebates, and other concessions as inducements to continue buying, as well as to not return, McAfee products that the distributors had no reasonable expectation of selling to customers."

The complaint also states that McAfee "inflated its revenues in certain quarters during the relevant period by engaging in sham sales transactions that lacked economic substance".

The three count complaint alleges, securities fraud under Section 10b and Rule 10b5, and reporting violations under Section 13(a) of the Exchange Act, and books and records and internal controls violations under Sections 13(b)(2)(A) and 13(b)(2)(B) of the Exchange Act.

McAfee did not admit any of the allegations contained in the complaint, but consented to the entry of an order that enjoins it from violating the antifraud, books and records, internal controls, and periodic reporting provisions of the federal securities laws, and fines it $50 Million.

In 2003 and 2004 the SEC filed civil fraud actions against three individuals associated with McAfee -- Terry W. Davis, Prabhat K. Goyal, and Evan S. Collins. See, release of June 12, 2003, release of June 16, 2004, and release of November 30, 2004.

This case is SEC v. McAfee, Inc., fka Network Associates, Inc., U.S. District Court for the Northern District of California, San Francisco Division, D.C. No. 06-009 (PJH).

Also on January 4, 2006, the SEC filed and settled an administrative complaint [8 pages in PDF] against Applix, a Massachusetts based maker of business management software. The SEC alleged improper recognition of revenue. Applix admitted nothing, and was not fined. However, it consented to entry of an order that it not violate federal securities laws. See also, Applix release.

SEC Chairman Chris Cox added in a statement that "we will pursue the individuals responsible for the fraud and seek penalties against them in federal court."

The SEC also released a statement that provides some guidance as to how the SEC reaches its penalty determinations in civil fraud actions against securities issuing corporations.

Chairman Cox (at left) commented on the SEC's statement. He said that "The Commission is in unanimous agreement that corporate penalties are an essential part of a comprehensive program of enforcement of our securities laws. A key question for us as we explored the appropriateness of imposing civil penalties on a corporation-as opposed to an individual wrongdoer-was whether an issuer's violative action resulted in benefit or harm to the shareholders."

Cox continued that "Other considerations also come into question. One is the deterrent effect of a corporate penalty in a particular case. Others include the level of harm that was inflicted on society; the extent of corporate complicity in the violation; the presence (or absence) of deliberate, intentionally fraudulent conduct; and the extent of corporate cooperation with authorities." (Parentheses in original.)

Inasmuch as corporate penalties could be passed on to shareholders who have already been harmed, Cox added that "is important not to compound the harm already caused to investors".