Autonomy Legal Case and Revenue Recognition

There is an interesting report in today’s Financial Times on the legal case against the former CFO of Autonomy. Leading British software company Autonomy Plc was acquired by Hewlett Packard for $11 billion but subsequently had to write it down by $5 billion. They alleged that Autonomy had inflated the value of the business by various accounting practices and that is now the subject of a civil law suit.

But the interesting aspect is that the former CFO, Sushovan Hussain, is facing a criminal court today in California for 15 counts of conspiracy and wire fraud associated with the alleged falsification of Autonomy’s accounts. The UK’s Serious Fraud Office did look at the case but dropped it in 2015.

Mike Lynch of Autonomy has vigorously denied the allegations and has even set up a web site to defend himself and others against the allegations. You can read his side of the story here: https://autonomyaccounts.org/

But for investors the FT article gives a nice list of the abuses that are alleged and are common in software companies. They include:

  • Booking transactions to resellers as revenue when there was no end-user license (i.e. “channel stuffing” as it is sometimes called).
  • Engaging in “round-trip” transactions where purchases were invented so it could pay money to companies which then returned it to Autonomy to cover fictitious sales.
  • Backdating sales transactions so they fell into a previous accounting period.

There is also a claim previously reported that bundles of hardware/software sales were treated as solely software in the accounts. Why does this matter? Because software sales are valued in company valuations much more highly than hardware sales.

The above are some of the things that investors in IT companies need to look at although abuse can be difficult to spot in the published accounts of a public company. High accounts receivable and apparent lengthy payment delays can be clues. There were some questions raised about Autonomy’s accounts even before the takeover.

One claim by Autonomy’s founder, Mike Lynch, is that some of the disputed differences are simply down to different accounting standards (US GAAP versus IFRS), but I am not sure that stands up to scrutiny.

Hewlett-Packard are effectively saying they were sold a pup, while Autonomy executives deny wrong-doing and blame HP for not reading their due diligence report carefully, screwing up the subsequent integration and then searching for a scapegoat after what turned out to be a disaster of an acquisition.

But if the SEC’s California prosecutors make the charges stick then there may be more problems for Mike Lynch.

The auditors of Autonomy were Deloittes.

Roger Lawson (Twitter: https://twitter.com/RogerWLawson )

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