Liability For False Vendor Confirmations

In late 2005, the SEC charged 16 individuals with providing false vendor confirmations to the auditors of Royal Ahold. These cases highlight the care that must be taken in providing third-party auditor confirmations.

Royal Ahold

In 2004, the SEC charged Royal Ahold, a leading grocery distributor and operator of supermarkets in Europe and the United States, and its former CEO, CFO and executive vice president, with fraudulently overstating net sales by approximately $30 billion for fiscal years 2000 through 2002. The SEC also charged a former member of the audit committee with failure to oversee the reporting process. The SEC alleged that the overstatement was due, in part, to the fraudulent inflation of sales rebates, known as "promotional allowances," paid by suppliers to U.S. Foodservice, a U.S. subsidiary of Ahold. The SEC previously had charged USF’s former CFO, chief marketing officer, executive vice president of purchasing and vice president of purchasing with improperly inflating USF’s income from promotional allowances and inducing suppliers to provide false confirmations to USF’s auditors. For a more detailed description of the proceedings against Royal Ahold and USF, click here.

In late 2005, the SEC charged 16 employees of USF’s vendors with aiding and abetting the financial fraud at USF by providing confirmations to USF’s auditors that they knew materially overstated the amount of promotional allowance income paid or owed to USF. The SEC alleged that in some cases USF pressured the vendors, presumably by threatening the loss of patronage, and in other cases provided side letters assuring the vendors that they did not owe USF the amounts reflected as outstanding in the confirmations. For a more detailed description of the proceedings against these individuals, click here.

In bringing these charges, the SEC noted: "These actions demonstrate the Commission’s continued scrutiny of third parties who help companies commit and hide financial fraud. . . . The use of third party confirmations is an important part of the audit process, and the Commission will hold accountable those who work to subvert it."

Review Confirmation Procedures Although the SEC to date has charged only individuals in its investigation of USF, in the past it also has charged employers for false auditor confirmations provided by their employees. For a description of proceedings against Amazon.com and AIG, click here.

To assist its employees in providing complete and accurate confirmations, and to avoid becoming entangled itself in the accounting irregularities of another company, companies should review their procedures for providing third-party confirmations. These procedures should include the following:

  • All requests for third-party confirmations should be provided to a single person for response;
  • All responses should be prepared by the accounting department, rather than the marketing department, to minimize the potential for coercion; and
  • All confirmations should be returned directly to the auditors.

For further information, please contact Peter M. Menard at (213) 617-5483.