SEF Central 2024: Financial Disclosure and Accounting Fraud
A transcript from the Securities Enforcement Forum Central 2024 panel on Financial Disclosure and Accounting Fraud follows. The panelists were:
David Glockner, Executive Vice President, Exelon Corporation
Jose Lopez, Partner, Perkins Coie
Margaret Nelson, Partner, Foley & Lardner
Steven Richards, Senior Managing Director, Ankura Consulting Group
Brendan Quigley, Partner, Baker Botts
00:00 - 00:41
Danette Edwards: Our next panel is entitled Financial Disclosure and Accounting Fraud. It will be moderated by Steve Richards. Steve is a Senior Managing Director at Ancur Consulting Group in Washington, D.C. Steve has over 20 years of experience involving internal and forensic accounting investigations, litigation consulting, complex data analysis, and auditing matters. Next we have David Glockner. David is the Executive Vice President, Compliance Audit and Risk at Exelon Corporation. David is a former regional director of the SEC's Chicago office and he also served as chief of the criminal division in the US Attorney's Office for the Northern District of Illinois.
00:41 - 01:34
Danette Edwards: Next we have Jose Lopez. Jose is a partner at Perkins Coie in Chicago and Washington, D.C. Jose also served as a senior enforcement attorney with the SEC and as a former assistant states attorney in Cook County, Illinois. Margaret Nelson, You probably heard her excellent moderating job earlier today. She's a partner with Foley & Lardner in Chicago. Prior to joining Foley, Margaret spent over five years as an assistant general counsel for a large accounting firm. Margaret also worked at the SEC's Chicago regional office for 9 years as senior counsel. And last but not least, Brendan Quigley. Brendan is a partner at Baker Botts in New York. Brendan is a former AUSA in the Southern District of New York, where he was a senior member of the SDNY's Securities and Commodities Fraud Unit and the Terrorism and International Narcotics Unit.
01:36 - 02:04
Steve Richards: Great, thank you. We were trying to do something a little different because typically when we have a financial reporting and accounting panel, we usually have somebody from the Commission staff up here, excuse me, and they walk through trends and types of cases and they read about what's happening here with internal controls or here with disclosure. We do not have a commission staff today. So one of the things that we thought would be helpful from the standpoint of you are all practitioners, we all are operating in the same space, is actually use a use case. And so . . .
02:04 - 02:38
Steve Richards: there was a panel this morning that walked through some of the issues around an internal investigation. So our goal was not to repeat what they've said, but to focus a set of facts in an internal investigation, but unique relative to financial reporting and accounting. And so we thought this was a different way of having a discussion around some of these issues to try to give some insight to you guys as practitioners. And so if you can pull the slides up, go to the second slide. Thank you. Just give me a second to set the stage. And . . .
02:38 - 03:19
Steve Richards: so we're gonna be talking about a company called LexCorp, formerly LuthorCorp Inc., ticker Lex, Originally founded as an aerospace engineering firm, LexCorp has become one of the world's largest, most diversified multinational corporations. Five years ago, LexCorp began to sell tires to military vehicles to customers in South America through a distributor. The head of LexCorp, CEO, President, and Chairman is Lex Luthor, a charismatic figure and strong CEO is unquestionably within the walls of LexCorp the most powerful person. In 2021, there was a change in auditor, which marked the third change in the auditor in six years. In . . .
03:19 - 03:58
Steve Richards: ’21, they traded up to a larger auditor firm with a sound reputation called Tick and Tie. LexCorp sells tires, can you go to the next slide please? Lex sells tires to their South American customers through a distributor in Paraguay. Lex sells three times as many tires as the distributor typically purchases at the end of the third quarter of ’23, which represents 30% of Lex's total revenue and 40% of its net income for the quarter. During the ’24 audit, a whistleblower notifies the auditor and reports that the distributor did not want to buy the tires until . . .
03:58 - 04:36
Steve Richards: ’24. They did not have to pay for the tires until the third quarter of 2024. They received a 20% discount on the price. If the distributor cannot sell those tires, they will be returned to Lex Corp for a refund. Lex exceeded its EPS guidance for the Q3 of ’23 and Lex Luthor earned equity incentive awards as well as other executives for exceeding budget revenue and EPS targets. Lex instructed the distributor to create false documents, including alleged false confirmations to their auditor for the year end 23 audit. This resulted in Lex overstating revenue, net income for the . . .
04:36 - 05:22
Steve Richards: quarter and year end ’23. Lex mischaracterized the Q3 performance and sales revenue as growth in South American business with no disclosure of the material terms or rights of return. Equity incentive grants were rewarded to Lex Luthor. The gig is up. Can you go to the next slide please? The whistleblower informs the auditor about the distributor's transactions during the ’24 audit, forcing Lex's audit committee to conduct an independent investigation. Lex had provided the audit with fabricated documents during the ’24 audit. What else? Almost immediately after the whistleblower reported the allegations to the auditor, the SCC issues documents . . .
05:22 – 06:11
Steve Richards: to Penis to LexCorp and the auditor relating to communications to eyepieces involving this distributor. The DOJ seeks a copy of the SCC production and within a month, the DOJ asks to schedule interviews with corporate executives and sales representatives. There's a specter of the civil action. All right, that's the backdrop. And so what we're gonna be talking about is really from different perspectives of the in-house counsel, external counsel, when dealing with the commission, when dealing with the Department of Justice, when dealing with the auditor, how do you think about a financial reporting audit issue in that context? So first, maybe start with you, David. This is a bit of an unusual situation in that about the same time the company learns of the whistleblower allegation, within a few days the DOJ is knocking on the door. How would you think about reacting to that from an in-house perspective?
06:12 - 06:52
David Glockner: I think one of the things, when something new like this comes in, there's a temptation to kind of look at what's directly in front of you and sort of see that as the universe. But here, you need to be very thoughtful about what you don't know. Because one of the things that seems pretty obvious from the quick follow by the DOJ and the SEC is that the whistleblower has been in touch with the DOJ and SEC. You don't know when that occurred. You don't know how much investigation the DOJ and SEC may have done before issuing . . .
06:52 - 07:37
David Glockner: that subpoena to you. There may be tapes, there may be somebody wearing a wire or who has worn a wire in the organization. And so all of your reactions and kind of first steps need to be informed by kind of a humble recognition that you know really only the very small pieces that have been put in front of you. And so as you begin to think about the next steps, you need to be aware that there may be more to this than simply this is a fresh allegation and now we need to look at that allegation and go get the facts.
07:40 - 08:04
Steve Richards: And maybe just for the group, if someone wants to take this question on, is from a standpoint of issues relating to whistleblower allegations relating to accounting or financial reporting issues, how is that different than other issues that may come up from a whistleblower or sexual harassment claim against a CEO or something like that? How do you have to think about that differently in that first 48 hours or when you become aware of it?
08:06 - 08:41
Brendan Quigley: I'll take this one. Yeah, look, I think there's obviously a technical aspect to it, to the accounting claims, and you also have, unlike, you know, kind of a, like your example, a more employment-related issue, you have another constituency out there in terms of the outside auditor, right, who you're going to have to deal with going forward. I think we'll talk about it, but there are going to be privileged concerns out there. When do you raise this issue with the outside auditor? It's just a whole other set of constituencies, in addition to the regulators that you have to be thinking about thoughtfully.
08:42 - 09:22
Margaret Nelson: Another point is, because it is accounting, you're likely going to want to bring in a forensic accounting firm to take a look and ensure that you have a full understanding of the scope of the problems, right? Are there trends where it's indicative that these kind of side, bill and hold arrangements are occurring elsewhere, and you can look for trends within the revenue recognition. Are there returns regularly occurring after a period, and things of that nature that I think you can get your arms around pretty quickly by hiring an outside expert to help you work through those accounting records.
09:24 - 09:59
Jose Lopez: Yeah, and based on the facts that we have here, it's going to be clear that this is a reportable incident, so you're immediately going to be faced with class action, shareholder derivative actions. So you will have to the council lined up for that, ready to deal with that as well. I will note that a recent development in the Delaware district courts is there is at least one judge who is refusing to stay some of the shareholder derivative claims or complaints I should say and so it's going to be interesting to see whether or not those claims . . .
10:00 - 10:45
Jose Lopez: are stayed or move forward through motions to dismiss on demand futility and all the other arguments you would raise. But you will immediately be faced with those issues. And one of the most important things in this particular case where you've received a subpoena, the decision about whether or not to request a subpoena to trigger insurance coverage has already happened that decision has been made for you so you should immediately in addition to lining up counsel pull the insurance policies check about the notice requirements make sure you have enough insurance if not that's going to be a bigger problem for you, but you should at least check those policies to see what is triggered as a result of the subpoenas that have been issued and perhaps the civil complaints that have been filed as well.
10:46 - 11:26
Brendan Quigley: I think just one other piece on this that's kind of unique to accounting fraud investigations is here in this hypo, the DOJ has already been notified. But if they hadn't and you just had a whistleblower complaint to the point about kind of forensic accounting, I think you need to make a decision pretty quickly as to whether you're going to engage in what I would call non-technical fact finding or move into a more forensic accounting mode because you're going to have to decide pretty quickly whether to self-report this to the SEC or DOJ. We'll talk about that in a little bit. But whether you bring in an outside forensic accounting firm, that can affect the timing of when you're prepared to do that.
11:27 – 12:21
David Glockner: One other thing that I think kind of follows from Margaret's point about the fact that in an accounting issue, you often can begin to get your arms around whether there's a problem quickly. One of the things that's gonna be really important to understand is the scope of the problem. What we know from the whistleblower report is sort of single customer or single distributor, single region. But if you've got a problem like this, you may well have it other places. And so getting a handle on the credibility of that initial whistleblower report is really helpful. And the more quickly you can get somebody focused on doing the accounting work and records review to understand is there some credibility to this claim? What are you seeing in the financial records that would be consistent with
12:21 - 12:39
David Glockner: this claim? The more you can then begin to think about how you want to respond to the rest of this. And if you clearly have an issue in one area, do you move in to think about how you replicate that kind of review in other parts of the organization?
12:40 - 13:00
Steve Richards: Well, maybe let me ask Margaret, because you bring up a good point when you have a situation where there may be risk elsewhere. Margaret, from your perspective, what are some of the ways to really get your arms around the extent of the problem? Ring fences as quickly as you can, given the accounting nature and if that would be any different than any other type of allegation.
13:01 - 13:23
Margaret Nelson: Right, I mean, I think that's where really you... The problem is you can't rely on management, right? You can't rely on the CFO and his or her staff to get their arms around the problem, and that's why I think you really have to look towards hiring an outside forensic expert to help you do that.
13:23 - 13:25
Steve Richards: I can pass out business cards later.
13:27 - 14:21
Margaret Nelson: Exactly. Also, I mean, we know a big part of this is gonna be emails too, where there's smoke, there's fire. So the numbers will help you from an immediacy, the perspective of immediacy, but down the line, you are going to have to look at sales folks emails, how much the CEO pressures to hit certain revenue targets. There's just no way around it, but hopefully from a data mining perspective, and I think that's where you're going, Steve, you can see what the trends are in terms of increased revenue towards the end of the period, and if there's unusual returns, post cutoff, things of that nature. So I think that's a little bit different than your run of the mill, employee type internal investigation.
14:23 - 14:45
Steve Richards: And a few of you have touched on this a bit, but communications. So maybe starting with you, David, in a situation in those first 48 hours where you have these types of allegations around a material accounting issue, what are the nature of those communications internally to employees as well as that first touch to investors? And Jose also touched on that first, have to make that disclosure.
14:45 - 15:26
David Glockner: Yeah, so it's, I mean, as Jose said, you're, once you get the DOJ and SEC subpoenas, you're gonna be doing an 8K. And once that 8K is out, you're gonna need to communicate with a whole range of stakeholders. So you're gonna have to talk to your employees who are gonna be upset, nervous. There's a potential for all kinds of chatter. You're gonna have lots of inbounds from investors and you're gonna think about how you handle those, how you avoid Reg FD issues. You're going to have to think about communications between the board and whatever the management . . .
15:27 - 16:08
David Glockner: team you can trust. And so really you need to kind of approach these one at a time and think about them individually, but they all have to happen pretty quickly because you can't leave your employees in the dark at the same time that you're talking to the external world because that vacuum will get filled. And even if it is only a, we're aware of this, we are taking it seriously, the audit committee has initiated an independent investigation, we will provide further information as it becomes available. I mean, even something like that is better than silence in . . .
16:08 - 16:57
David Glockner: terms of employees. And then, there needs to be some thought about what can be communicated to investors. Who is going to do that communicating? Because one of the concerns here is about the integrity of members of the management team. The last thing you want is to make a bad situation worse by having management members go out and make statements that may not be fully informed or worse are misleading because people are trying to sort of cover their own tracks to investors. So having a clear decision about what the communication is and who will make that, I think is also pretty critical.
16:58 - 17:30
Jose Lopez: I'll just, and I'll add, at least from the staff perspective, it's going to be, given this particular fact scenario where you have the CEO involved and then accounting or financial irregularities is how did this happen right what are the controls and the policies that we have to look at and and also how are you going to fix this going forward? And to Dave's point, if you're representing the company, you probably have one view. If you're representing the audit committee, you have another view. And then if you're representing the CEO or any of the individuals, you may . . .
17:30 - 18:23
Jose Lopez: have yet another view. But there has to be some consensus as to who's going to keep the trains running and keep the business moving forward given all the other disclosure requirements that are required. And I think you know once the SEC is involved in the staff you can have conversations with them about that. Of course, they will always tell you we can't give you any advice or guidance, but I have found that it is helpful to run different scenarios by, here's kind of what we're thinking, and you'll get some reaction from the staff, whether that's a good idea or not a good idea, or maybe tweak it a little bit. But given the level of involvement by the CEO and clear materiality, it's going to be a very challenging decision. And there's going to be a lot of different opinions on who should go forward and actually speak on behalf of the company going forward.
18:23 - 18:38
Steve Richards: Well, and maybe let me ask Brendan because Jose really covered a perspective from the commission. Given the DOJ's involvement already having received the subpoena, having some awareness. Any thoughts as to what those initial communications should be like with the Department of Justice?
18:40 - 19:14
Brendan Quigley: Yeah, I mean, I think you would have kind of the standard subject target witness, and they'll tell you that they're a subject, but I think you just have to make a record of that because everyone's a subject until they're not. So understand that, understand, you know, if you get a subpoena, usually there's room to negotiate the scope of that. Sometimes you can get a sense of that in terms of what they're focused on. I think more increasingly, in my experience in that first call with the DOJ, they're asking about personal devices. They have not, obviously the . . .
19:14 - 19:59
Brendan Quigley: SEC has brought all these off-channel communications actions and the CFTC also, but I think that has very much informed the expectations of DOJ in terms of what companies should be thinking about in terms of document preservation and collection. So there will be some of those conversations. And I think you have to also message that internally as well. Even if people have a quote unquote company devices, it could be an awkward conversation with a senior executive to say, look, we need to send somebody out to extract your cell phone because it's needed for an investigation. And it falls within the scope of the investigation. And the alternative is an FBI agent can come up to you on the street and take it from you. . . .
19:59 - 20:52
Brendan Quigley: So that can be an awkward conversation. But I think narrowing the scope of the subpoena, getting as much intel that you can from the prosecutors. And I think if there's a parallel SEC investigation understanding what the way forward is in terms of, are they going to call people into the grand jury? Usually, they're open to not doing that, because the SEC can't participate in the grand jury. And that tends to work in everyone's benefit, because you can have, instead of being in the grand jury, instead of being on the record before the SEC, you can have a more informal interview with SEC and DOJ, where counsel can be present. And it's a more free flowing, relative to a grand jury presentation, or a on the record interview, a more free flowing conversation, which can . . .
20:52 - 21:12
Steve Richards: be helpful. We'll come back a bit to the parallel proceedings. Margaret, the other party that we want to make sure we keep the temperature down with, especially those early conversations as the auditor. How would you envision those first communications after they've reported to you about the whistleblower complaint?
21:12 - 22:03
Margaret Nelson: Right, so, you know, That's the big wrinkle in all of this, making accounting whistleblower events different than other whistleblower events, is you've got to worry about the auditor. Because the auditor is going to be worried about whether past financial statements were fairly stated and are they looking at a potential restatement. Although the facts aren't completely on par with this, they also have Section 10A obligations, which means they have an obligation to make sure the audit committee is responding as they should in response to the whistleblower complaint. So they're gonna be very interested in how the audit . . .
22:03 - 22:40
Margaret Nelson: committee responds. You know, they're going to be interested in, we know there's going to be an investigation, is counsel independent? The auditor is going to want to make sure that there is counsel who's running the investigation who is not embedded with the management. They're going to want to know the scope. Is the scope broad enough in their minds? Is there enough testing to make sure that the problem isn't bigger than what the whistleblower says it is. They'll want to know, are you including the right custodians, using the right search terms, interviewing the right people. And this . . .
22:40 - 23:18
Margaret Nelson: is all towards an eye of, they need to get comfortable with the independent investigation's conclusion, and they can only do that if they are they know that it was reasonably constructed and executed because they're either they're going to have to kick the tires themselves to figure out okay there's no they're there or we statement is appropriate and then they need to audit those restated financial statements. So they're kind of embedded. So I mean at the end of the day and I think Rachel said this in an earlier panel, it is very much in the company's best . . .
23:18 - 24:05
Margaret Nelson: interest, the audit committee's best interest to keep the auditor informed throughout, provide regular updates, because they can really throw a wrench in the best laid plans. They can withhold completion of interim reviews and audits. You can't file your Qs and Ks without those. Worst case scenario, they can use the nuclear option of withdrawing as auditor and that kicks in an 8K reporting obligation. For example, if they don't like the remedial actions, I know I'm fast forwarding here, but let's say the independent investigation suggests that the CFO is part of the problem here. You know, knew about . . .
24:05 - 24:44
Margaret Nelson: these improper revenue arrangements, helped orchestrate it, but the audit committee isn't removing him or her. The auditor can say, well, I can't trust his reps. We're not gonna accept his representations and say, we've got management integrity issues, we're resigning. So, I mean, the parade of horribles that can happen here, the auditor is very much part of it and you just have to keep that in mind as you progress through the independent investigation and make sure they're fully informed and satisfied along the way.
24:45 - 25:08
David Glockner: Margaret, as counsel for an auditor in that sort of circumstance, how do you typically navigate privilege issues with the company? Because that can be a real challenge, because on the one hand, there's going to be civil litigation for the company. You want to preserve the privilege, but the auditor needs that level of transparency.
25:08 - 25:57
Margaret Nelson: Well, I'm glad you asked that, David. So, you know, there has been pretty well-developed case law. It's clear that disclosure to the auditor waives attorney-client privilege. But there was a seminal case in 2010, US v. Deloitte, where it was held that while attorney-client is waived, work product remains intact as long as it's in anticipation of litigation. An auditor is not adverse to the company. It is an independent party and therefore work product remains intact. So that's an important piece of it, right? But you can't take that to the bank. You still have to be pretty careful . . .
25:57 - 26:42
Margaret Nelson: on how you're gonna approach it. There are outlier cases that don't follow US v. Deloitte. For example, SEC v. RPM, I think it's called. District court within District of Columbia recently held, well it's 2020, so somewhat recent, basically said that the independent investigation was not in anticipation of litigation, but because the auditor, EY, asked them to do the independent investigation and therefore they found no work product protection. It wasn't in anticipation of litigation. So you do want to be careful. You want to stick to the facts because facts aren't privileged. You want to communicate things verbally . . .
26:43 - 27:28
Margaret Nelson: versus in writing to the auditor. You know, work product can also be overcome by substantial needs. So you just need to be careful. I will say I think it's gonna be in the company's best interest, whether that's it's in the audit committee minutes or in written communications with the auditor, making it clear that any disclosures to the auditor is protected by work product, and that the independent investigation is, because it's in anticipation of litigation. You're gonna wanna make sure that's fully documented. So there's always going to be future litigation to Jose's point. So you're going to want to look along the corner and protect your privileged information as much as possible.
27:28 - 28:07
Jose Lopez: Let me add on the privileged point. In this particular scenario, there's going to be a lot of defense counsel involved, certainly for some of the individuals, and traditionally what you'd want to do early on is get a common interest agreement among everybody involved. However, there may be individuals that decide not to join that common interest privilege for a whole host of reasons. Of course, immediately your client will say, that's the whistleblower. That's not always the case. And I think we spend way too much time with clients trying to figure out who the whistleblower is. It's a . . .
28:07 - 28:46
Jose Lopez: fool's errand, it's a waste of time. Clients spend a lot of time on that and we understand that, but at the end of the day it's going to be very difficult to find out that information. But as you are circling the wagons and trying to determine who's going to be within that common interest privilege, you have to give some serious consideration. So for example, in this scenario, obviously the CEO would not be aligned with most of management, although we don't know that, right? And discussing a common interest privilege early will help, I think, shape some of the defense approach to the allegations here, and in dealing with the regulators as well.
28:47 - 29:16
Brendan Quigley: Just the other point I would raise on privilege, and this is a little further down the line, but it's when you're talking to the government. And that, you know, typically that comes more towards the end, but in a DOJ context, I've had it come up where, you know, pretty early on, a few months into the investigation, you may realize, you may come to the conclusion there's no criminal intent, and you may decide to make an early presentation to the DOJ, or as part of cooperation. The important thing here is there is gonna be follow-on civil litigation, . . .
29:16 - 29:50
Brendan Quigley: as has already been mentioned, those slide decks you share with the DOJ or the SEC are not going to be privileged. And any plaintiff's class action lawyer is going to request any material shared with the US government. So you have to be careful about what you say and know is thoughtful. I think it's helpful, whereas in a brief, if you're actually in court, you say, the government has alleged X and Y. We didn't do X and Y. I would be careful, for example, about characterizing the government's allegations, Because you don't want a plaintiff's class action complaint, . . .
29:51 - 30:09
Brendan Quigley: especially if the DOJ eventually moves away or moves off that theory to say, you know, the government thought, as evidenced by the company's own slide deck, the DOJ thought that the CEO was this and that. So you have to be very careful. You just have to assume that those materials that you share with the government are gonna end up in the hands of a plaintiff's lawyer.
30:10 - 30:54
Margaret Nelson: Along the same lines, there has been case law about sharing the contents of interviews, the substance of interview memos with the government, you know, not necessarily handing them the memo, right, but saying witness X would say X, Y, and Z, while witness Y would say ABC. You want to be careful with that. It's better to talk about it in general, you know, generally speaking, this is what we've heard. Because there is case law saying that if you give, if you recount witness interviews specifically to the government, it's waived. Even if it's verbal, the interview memos are . . .
30:54 - 31:22
Margaret Nelson: fair game. And that's hard, right? We've heard about how cooperation is so important when you're interacting with the government. You know, I find that most people I work with at the SEC recognize it's a tenuous line, right, that you kind of have to walk, and you can't put your privilege at risk. So I don't have an easy answer for you. You just kind of have to feel your way, but it's something you need to be cognizant of as you move forward.
31:23 - 31:49
Brendan Quigley: Because to your point, I mean, the guidance is like, just give factual downloads. But in practice, that's not how it works. I did this when I was a prosecutor. I've had it happen to me when I was a defense attorney. You ask counsel for the company, well, what would so-and-so say to this person in accounting? What would they say? Can you give us an attorney proffer? And there, it's hard to just give facts if you're asking for an attorney proffer about what one particular individual would say. So you run that risk of waiver there.
31:51 - 32:01
Steve Richards: Well, maybe just following up on all that, assume for a second David is the client in-house at the company. What is the advice you're giving to him to set the right expectations given these risks?
32:04 - 32:41
Brendan Quigley: It's going to take a while. It might take a while. I think that's the biggest, I think managing expectations in terms of timing is usually one of the biggest challenges with clients, particularly in DOJ and SAC investigations, which we all know there can be a flurry of activity that you don't hear anything for months and then they pop back up. I think managing expectations, I think one thing you have to be, also kind of have to be careful about, whether you're actually cooperating within the meaning of these DOJ policies or you're sort of cooperating, I mean, . . .
32:41 - 33:29
Brendan Quigley: if you can create an expectation with the clients, hey, we've made these people available for voluntary interviews, that should be it. We've produced these documents, even though we got a subpoena. If we didn't get a subpoena, we made a voluntary production. We played ball. Why aren't they going away? Why aren't we getting a letter? And I think prosecutors and regulators are obviously gonna wanna do their own kicking the tires or pressure testing, however they describe it. And that part I think can be something that You have to really explain to clients. It helps to have a, when a general counsel himself has been in government, that can be helpful. But especially if they haven't, if they're more transact, come from a more transactional background, that can be a challenge.
33:29 - 34:09
Jose Lopez: I think it's also very important at the beginning of any engagement like this to sit down with the client and say, and identify who are the right point people for various issues. We just have to have somebody in IT. Generally, it can't be a lawyer. It has to be somebody who knows the systems, who can pull the information, knows where the tapes are, knows that they've been destroyed or stored somewhere else. And you also, it'd be helpful also to have somebody that's really independent to help advise on the cadence of the interviews, right? A lot of . . .
34:09 – 35:00
Jose Lopez: that is very important. Sometimes the government sets that for you, but other times, you know, in terms of cooperating, we may want to give three or four or bring in witnesses right away that can help with these issues and are knowledgeable. And if there is somebody at the client that can help navigate those issues, it really helps streamline a lot of the requests, right? Because we get the request, we pass it along, and clients are always, well, wait a minute, that's 50 different people. I need to navigate all these different areas. And so while it takes a little bit more time at the beginning, it is better to have one or two point people that can really be on top of this and manage us, essentially, because the requests are going to be coming in from us pretty quickly and it's always going to be more information than anybody is expecting. It's never going to be less.
35:00 - 35:45
David Glockner: And I think from the client side, the client needs some kind of understanding of the cadence of updates. And regardless of the kind of concern about the management team. The management team is still, they're still there, they're still running the company, they've still got fiduciary obligations and regulatory obligations in those roles. And they need a certain level of information kind of fed back from the investigators in order to make those decisions on a day-to-day basis. And so there's, at an early point, and I think particularly when you're dealing with something like the integrity of the financials,
35:46 - 36:19
David Glockner: you've gotta figure out who in the organization is the person who can be the point within the management team for coordinating a lot of these issues. Hopefully it's your general counsel, but there are going to be times when for one reason or another it can't be. But if you don't have that flow of information kind of back into the organization, you're then at risk of having the organization make poorly informed judgments and even disclosures.
36:21 - 36:44
Steve Richards: one of the things you've all touched on, levels of information in accounting cases are notorious for the amount of information that gets collected and the amount of data and the length those types of internal investigations can take. How do you guys think about it, and start with you, Jose, from a standpoint of thinking about tolling relative to other types of cases, given the length these types of cases can go?
36:44 - 37:27
Jose Lopez: Yeah, I mean, and Brendan knows this very well. The DOJ is lurking. We want to put a pause on everything else, right? And generally the SEC's been very receptive to that as long as you do their version of the tolling agreement for the length of time that they want with the ability to renew those. And I think to Brendan's point, until you know for sure what the scope of the DOJ's action is, all the regulatory actions should be put on hold if you can. Generally they are pretty cooperative about that. But, Brendan, I don't know, from the DOJ's perspective, what is their view on the cadence and moving things along like that?
37:28 - 38:21
Brendan Quigley: Yeah, I mean, I think, At least coming out of it in my background in SDNY, I mean generally they work very closely with the SEC and I think the reality is in a lot of these cases, just putting this out there, the DOJ, particularly the US turning stops, don't have the in-house accounting experience to do a lot of their crunching. And they are reliant to some extent on the FBI, but I think frankly, in the reality more so on the SEC. So they're going to want, again, certainly from an SDNY perspective, the SEC to be involved at some level, because they are, in a sense, more the subject matter experts than a line prosecutor in SDNY, who may have tried a lot of cases, but may not know the ins and outs of the accounting standards.
38:22 – 39:00
Margaret Nelson: So I think it's fair to say then that the SEC and the DOJ will probably be working in tandem to some degree, sitting in on the same interviews, which is not fun when your counsel presenting a witness to them, but the DOJ is going to be out in front, I think, with the idea, to Jose's point, SEC is not going away, right? They're saying, we'll be back, please sign the tolling agreement, which isn't a happy place to be either, but it's just the reality that they're both on the scene at the same time, but I think DOJ is taking precedent initially with the SEC coming behind.
39:01 - 39:40
Steve Richards: Yeah. And as the internal investigation around accounting allegation matures, Margaret, you touched on this earlier in some of your remarks about remediation, remediation of the controls deficiencies. I want to touch on it from a couple perspectives. one is, what does the company need to be thinking about for a standpoint to get the auditor comfortable? And then for Brennan and Jose, when you're thinking about trying to achieve cooperation credit with the respective regulators, how does that remediation, the timing of the remediation, the sufficiency of that remediation, go into that discussion with those regulators? But Margaret, if you could start.
39:41 - 40:22
Margaret Nelson: Sure, I mean, from an auditor perspective, I should have noted early on that likely the audit team is going to add a forensic auditor to shadow the independent investigation. So that forensic auditor is in the weeds just as much as the independent investigation council is. And so they're evaluating what they think happened here, what the likely cause is, and what they think the proper remedial steps are. And it's going to be important to the auditor because they are going to have to audit any restated financial statements or agree with the decision that a restatement isn't necessary. . . .
40:22 - 40:49
Margaret Nelson: They're going to be evaluating whether the remedial steps are sufficient or not. If they're not happy with the remedial steps, like for example, any discipline or potential termination of the parties who may have been at the heart of the issue, they can resign. So it's going to be very important to make sure your auditor agrees with you what the remedial step should be.
40:49 - 41:44
Jose Lopez: Well, and I think you really have to be prepared to frame the issue for the staff going and say this is what happened and as difficult as it is to say here's where the controls were deficient or here's where we think we can be better, and identify for them how whatever you're proposing is going to work, quote, in the future, right, to make sure this never happens again. And I think, you know, Brennan will talk to the DOJ point, that's a little bit different because that focuses primarily on the intent and whether the focus was just to enrich themselves or to actually commit fraud on a much broader scale. But for the SEC, typically if you go in and you identify the problem, focus on what is going to be fixed and how it's going to prevent this behavior or this type of thing from happening in the future, you should be in good shape with them.
41:45 - 42:21
Margaret Nelson: But one other thing I want to, you know, obviously I'm the auditor person here, but one last thing that I want to just point out with the auditor, the auditor is likely getting subpoenas from the DOJ and the SEC as well. We can't forget that. There's a lot of risk for them too. They're going to be, the regulators are going to be kicking the tires not only on the sufficiency of the testing of prior audits, but also the auditor's response to the whistleblower complaint. So they're in the fray, they're in the thick of it, so risk is high for them, and that's why they're going to be very heightened in their approach going forward.
42:23 – 43:20
Brendan Quigley: I would just agree, even from a DOJ perspective, I would agree with Jose that the framing of it, remediation, what are you remediating? Going in there with, whether it's SEC or DOJ, going in there with a framework, I think that it goes back to DOJ and their compliance programs evaluation talks a lot about risk-based analysis, root cause analysis, things like that. You need to frame the issue, not just, hey, we fired a bunch of people, or we're not going to do this again. What was the problem? We've thought about this. Here's the steps we've taken. Nobody's expecting to take those steps on day one or day two, but every DOJ, you know, declination that they publish or DPA, the deferred prosecution agreement or DPA, lists the remediation that the company took. So it's a critical part satisfying that you've adequately remediated as a critical cash for the company.
43:20 - 44:29
David Glockner: And I would argue that that's something really that you shouldn't leave until the point where you're getting ready to have resolution discussions. I mean really, you ought to be thinking about that almost from day one, because as you identify areas where there are control weaknesses that could present issues, you ought to be closing them pretty much as soon as you see them, Because what you really don't want is another issue that pops up because you didn't get around to closing the control weakness because you were hands off because of the investigation. And you also are going to be getting intense pressure from investors, from your employees, wondering what have you done about this. And so all of these things work together, and if you do the things that are responsible from a management fiduciary duty perspective and responsive to your investors' concerns, you're gonna put yourself in a better position when it comes to talking with DOJ and the SEC.
44:30 - 45:10
Brendan Quigley: Yeah, I completely agree. I think this goes for remediation, it goes for the steps you've taken in cooperation. Those are going to happen throughout the life of the investigation. And one thing I've seen is you have to keep track of those things. It sounds obvious, right? But you may not have the same prosecution team two and a half years after you got the subpoena when you're negotiating the resolution. So you really need to kind of have a document that just like you would start your closing or trial or you start your closing as soon as you get the case file in theory, right? What's that resolution gonna look like? What are all the steps you've taken, whether it's remediation or cooperation, you're cataloguing that throughout the life of the investigation.
45:13 - 45:24
Steve Richards: Yeah, and so we're at time. I just wanna thank the panel. We tried to take an approach on a subject that we all have dealt with many times, but from a practitioner's perspective. So I appreciate the panel's time. Thank you.