Telecommunications giant Qwest Communications International Inc. agreed to pay $250 million to settle fraud charges brought by the Securities and Exchange Commission.
The commission charged Qwest with securities fraud and other violations, alleging that, between 1999 and 2002, the company fraudulently recognized more than $3.8 billion in revenue and excluded $231 million in expenses in a scheme to meet unsupportable revenue and earnings projections.
The penalty and a $1 disgorgement will be distributed to investors. The commission said that it considered Qwest's current financial condition in assessing the penalty amount. Without admitting or denying the SEC's charges, Qwest also agreed to an anti-fraud injunction and to keep permanently an independent chief compliance officer who will report to a committee of outside directors.
The SEC will continue its investigation "in an effort to hold personally accountable those individuals responsible for the fraud," said Randall J. Fons, regional director in the commission's central regional office in Denver.
The SEC's complaint alleges that, starting in 1999, in an effort to fill the gap between actual and projected revenue in the face of waning demand for telecommunications services, Qwest, at the direction of senior management, began selling "indefeasible rights of use" -- an irrevocable right to use a specific fiber strand or specific amount of fiber capacity for a specified time period -- previously identified in commission filings as its "principal asset." When the demand for IRUs declined, the SEC said that Qwest engaged in IRU "swaps" where it bought IRUs from other companies in exchange for agreements from those companies to buy IRUs from Qwest. As another gap filler, the commission said that Qwest also sold capital equipment.
"Qwest's use of one-time transactions to fill the gap between actual and projected revenue became so common that many Qwest employees likened the practice to an 'addiction' and the non-recurring IRU and equipment sale transactions as Qwest's 'heroin,'" the SEC said.
The SEC alleged that Qwest masked its declining financial condition and artificially inflated its stock price by fraudulently characterizing non-recurring revenue from IRU and equipment transactions as recurring "data and Internet service revenues" in its SEC filings and other public statements. Qwest also ignored generally accepted accounting principles by recognizing upfront revenue from IRU transactions and equipment sales and used phony backdated contracts and secret side agreements to hide the fact that those transactions didn't meet GAAP requirements for upfront revenue recognition, the SEC charged.
Among other things, the SEC alleged that Qwest didn't disclose in periodic filings that it committed to buy millions of dollars of equipment that it never intended to deploy in its network and entered into strategic relationships with, and invested in, equipment and service vendors in part for the personal benefit of some of its senior management, and that its executives received investment opportunities in some of Qwest's vendors as compensation.
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