According to a review of regulatory filings during the month of February, 18 companies disclosed material weaknesses or significant deficiencies in internal controls, or provided updates on the status of their control-improvement processes.
In January, 23 companies made similar disclosures. (See box at right for previous months' data).
Types Of Weaknesses
Over one-third of the weakness disclosures in February were related to personnel problems. Of those, most cited a lack of technical competence, excessive turnover, inadequate staffing, or other human resource-related limitations.
One company, cafe operator Briazz, attributed one of its weaknesses to the fact that they had been "operating without a full time CFO and an experienced public company controller."
Another company went out of its way to acknowledge that there "is a lack of segregation of duties due to the small number of employees dealing with general administrative and financial matters." However, the company decided not to remedy the situation since the "risks associated with such lack of segregation are insignificant," and the costs of adding additional employees wouldn't offset the potential benefits.
The second most-frequently cited weakness type, mentioned in 28 percent of the filings, was related to revenue recognition errors or similar accounting-policy problems.
Other weaknesses commonly cited included poorly designed accounting systems, and a general lack of understanding and compliance with company's policies.
The Filings
As usual, our goal is to help companies understand how their peers are disclosing information in the post-SOX era, where few "comps" exist, and where many of the disclosures are new and uncharted.
We did not include disclosures that have been mentioned in this column in recent months, or that did not provide any significant update or development. For example, $710 million ski resort operator Vail Resorts disclosed an internal control weakness in its annual report; however, we had already reported that disclosure back in November, and the company's 10-K did not provide any significant update.
We also did not include companies that simply noted that they may have to improve controls in the future. U.K-based nursing care provider Allied Healthcare and $49.5 million network-access firm Lantronix each noted that internal controls might have to be improved at some point, but neither disclosed that those improvements would be tied to existing weaknesses.
Below are the disclosures from the month of February, 2004.
We've included links to the actual filings so you can review wording, context and details, and have highlighted in red key elements in each excerpt.
Research was conducted with the assistance of 10K Wizard.com; sales numbers courtesy Hoovers.com:
Company
Date
Description
AudioVox Corp.
Wireless handsets and accessories. ('03 Sales: $1.3b)
Feb. 25
MATERIAL WEAKNESS BELIEVED TO BE CORRECTED; AUDITOR CHANGE
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In connection with the audits of the two fiscal years ended November 30, 2002 and 2001, and the subsequent interim periods preceding the date of determination of termination of the engagement of KPMG, there were no "reportable events" except that KPMG reported to the Registrant's Audit Committee that KPMG considered two matters involving internal controls and their operation to be material weaknesses. Specifically, in connection with its audit of the consolidated financial statements of Registrant and its subsidiaries for the fiscal year ended November 30, 2002, KPMG reported that a material weakness existed related to the technical competence of the Registrant's accounting personnel and recommended significantly enhancing the accounting staff. The Registrant is addressing this concern and is related to the technical competence of the Registrant's accounting personnelin the process of enhancing its accounting staff. Additionally, KPMG reported that it considered a deficiency in internal controls over sales incentives arrangements with its customers to be a material weakness. Included in KPMG's recommendations in this area was a standardized approach to the documentation of sales incentive arrangements, both internally and externally. A similar issue, relative to the Registrant's Wireless segment, was also reported to the Audit Committee of Registrant by KPMG in March 2002. The Registrant began implementing KPMG's recommendations for its Wireless and Electronics segments in November 2002 and May 2003, respectively.
Therma Wave Inc.
Measurement equipment for semiconductor industry ('03 Sales: $49.2m)
Feb. 25
CONTROLS BELIEVED SUFFICIENT, BUT IMPROVEMENTS MADE
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Also, in connection with PricewaterhouseCoopers LLP's audit for the year ended March 31, 2003, PricewaterhouseCoopers identified a material weakness in our processes relating to account analysis and reconciliations, including lack of timely management review. We have adopted additional controls and procedures to strengthen our internal control system. While we believe our current disclosure controls and procedures are sufficient to timely alert us to all material information that is required to be included in our periodic reports with the SEC, and that our internal controls are sufficient to provide reasonable assurance that our financial statements are fairly presented in conformity with accounting principles generally accepted in the United States of America, we cannot assure you of this.
La Petite Academy
Operator of preschool and child-care facilities. ('02 Sales: $391.2m)
Feb. 24
MATERIAL WEAKNESS IDENTIFIED; INTERIM CONTROLS INSTITUTED
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As of January 10, 2004, the Company evaluated the effectiveness of the design and operation of its Disclosure Controls pursuant to Rule 15d-15 of the Exchange Act. This evaluation ("Controls Evaluation") was done under the supervision and with the participation of management, including the Chief Executive Officer ("CEO"), the Chief Financial Officer ("CFO"). This evaluation resulted in the identification of certain material weaknesses in the Company's Internal Controls primarily related to: (a) a lack of consistent understanding and compliance with Company's policies and procedures, and (b) a lack of segregation of duties.
While the Company is continuing in the process of implementing a more efficient and reliable system of Disclosure Controls several steps have been already taken to improve its internal controls. The Company has implemented and fully staffed a sales audit function, has increased its internal audit staffing and increased the number of field audits performed, has implemented extensive training of its field personnel in the use of the Company's point of sale (POS) accounting system, has made enhancements to limit field access to changes to certain POS system charges, has centralized certain activities previously performed in the field and has increased the quantity and quality of its accounting personnel. In addition, the Company has instituted interim compensating controls and procedures to ensure that information required to be disclosed in this Quarterly Report on Form 10-Q has been recorded, processed, summarized and reported to its senior management.
TelcoBlue Inc.
VoIP long-distance services. ('02 Sales: NA)
Feb. 23
'LACK OF COOPERATION' BY OLD MANAGEMENT MAY HINDER CONTROLS
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Due to the lack of cooperation by old management, certain transactions and agreements may exist that current management is not aware of. These transactions and agreements could have potential liability for telcoBlue. New management is seeking a court injunction to seize and recover all records of telcoBlue. There have been no other significant changes (including corrective actions with regard to significant deficiencies or material weaknesses) in our internal controls or in other factors that could significantly affect these controls subsequent to the Evaluation Date set forth above.
Worldcom Inc.
Telecommuncations services. ('03 Sales: NA)
Feb. 20
PAST MATERIAL WEAKNESS BELIEVED CORRECTED
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...In June 2003, KPMG identified a substantial number of material weaknesses in the Company's internal controls. The Company developed action plans to address these weaknesses and as of the date of the filing of the Operating Report, these have been completed. The action plans contemplate ongoing implementation, training and monitoring. These material weaknesses, together with other as-yet unidentified issues affecting the Company's internal controls, could have a material impact on the accuracy of the Company's financial records and reports. Investors and creditors should be aware that additional amounts of improperly reported pre-tax earnings may be discovered and announced. Until the Company has completed its final review and KPMG is able to complete their audits of 2000, 2001, and 2002, the total impact on previously reported financial statements cannot be known. The Company intends to announce changes to previously reported consolidated financial statements once its review is complete...
Gravitas International Inc.
Digital photography services. ('02 Sales: $0.1m)
Feb. 20
COMPANY TAKEN STEPS TO CORRECT MATERIAL WEAKNESS
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By letter dated April 15, 2003, Grant Thornton advised the Audit Committee Members that several material weaknesses in internal control existed. Due to turnover in the personnel responsible for the Company's accounting function and the lack of experience and knowledge of accounting principles generally accepted in the United States of America, the Company's internal controls were deficient, and the Company was unable to timely and accurately close its books, resulting in many adjustments subsequent to closing its books at year end, resulting in an extension for its December 31, 2002 10-KSB filing. Grant Thornton recommended that a knowledgeable individual be pre-assigned to centralize the accounting records and prepare all schedules necessary for the review to ensure timely delivery of the required information. The Company has taken steps to comply with Grant Thornton's recommendations.
JLG Industries
Work platforms and construction equipment. ('03 Sales: $759.8m)
Feb. 18
MATERIAL WEAKNESS IDENTIFIED
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On February 18, 2004, JLG Industries, Inc. (the "Company") issued a press release announcing that it would restate its audited financial statements for the fiscal year ended July 31, 2003 and may restate its unaudited financial statements for the first quarter ended October 31, 2003 to correct the premature recognition of revenues from one transaction, originally recorded in July 2003. The restatement will result in a reduction of revenue and profit in the fourth quarter of fiscal 2003 and an equal or greater increase in revenue and profit recognized over the first three quarters of fiscal 2004. Ernst & Young LLP, the Company's independent auditors, has advised the Company's management and the Company's Audit Committee that the improper accounting of this transaction reflects a material weakness in internal controls.
The Company has commenced an internal review to determine the circumstances of this transaction, to rule out or identify any similar transactions within the current year and preceding three years and evaluate and recommend appropriate remedial action. The Company's outside counsel, Covington & Burling, is assisting in the review together with PricewaterhouseCoopers LLP, which serves as the Company's internal auditors. Pending completion of the review, the Company is delaying announcing earnings for its second fiscal quarter ended January 31, 2004.
Photon Dynamics
Flat panel display testing, repair equipment. ('03 Sales: $67.2m)
Feb. 17
MATERIAL WEAKNESS IDENTIFIED
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In connection with the audit of our financial statements for the fiscal year ended September 30, 2003, the independent auditors informed us that they had discovered a number of issues that constituted a material weakness in our internal control over financial reporting. The material weaknesses consist of issues with:
customer purchase order fulfillment and the associated recognition of revenue,
customer purchase order requirements review controls,
no formal credit memo policy,
no formal procedure for non-standard employee compensation review and
no formal procedure regarding the accounting treatment of variances uncovered during standard account reconciliations and analysis.
Both prior to the independent auditors disclosure of their discovery and in response to their discovery of these issues, senior management and the Audit Committee determined to take steps to strengthen our control processes and procedures to correct these material weaknesses and provide reasonable assurance that the noted weaknesses in internal control over financial reporting did not result in a material misstatement of our consolidated financial statements.
American Capital Access Holdings
Financial guaranty insurance. ('02 Sales: $39.6m)
Feb. 13
COMPANY BELIEVES CONTROLS ARE IMPROVED, BUT NO PROMISES
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In consultation with our auditors in early 2004, we determined to restate our financial statements for the year ended December 31, 2002 (see Note 3 to those financial statements). The restatement relates in part to the recognition of forward purchase agreements associated with the warehousing phase of our CDO business as derivatives in accordance with SFAS 133. This component of the restatement reduced our reported consolidated net income before taxes for the year ended December 31, 2002 by $8.3 million and consolidated shareholders' equity by $19.7 million.
Another component of the restatement related to the deferral of certain costs related to our structured finance business. Upon further review, we determined that these costs should not have been deferred. This component of the restatement reduced our reported consolidated net income before taxes for the year ended December 31, 2002 by $4.4 million and consolidated shareholders' equity by the same amount.
We took steps to improve our systems and controls in 2003 and believe that these steps have adequately addressed the material weakness in our internal controls in the 2002 period affected by the restatement. However, we cannot guarantee that similar or other issues with systems and controls will not be identified in the future. Furthermore, we cannot assure you that we will be able to recruit and hire employees with the requisite skills and qualifications on acceptable terms, or at all.
Briazz Inc.
Operates cafes and kiosks. ('02 Sales: $30.6m)
Feb. 13
UPDATE ON MATERIAL WEAKNESSES ALREADY DISCLOSED
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On May 13, 2003, PwC advised management and the Audit Committee that a reportable condition existed. This reportable condition was the result of a significant deficiency as defined in Statement on Auditing Standards No. 60, Communication of Internal Control Related Matters Noted in an Audit. The reportable condition is a result of the following:
The Company was operating without a full time CFO and an experienced public company controller, which resulted in an accounting staff that did not have the level of experience necessary for a public Company...
The routine financial closes were slower than most public companies and the timing for quarterly review and filing is tight.
The Sarbanes-Oxley 302 compliance process is not well supported by sub-certifications or well documented policies and procedures.
The Company does not have an internal audit function, which increases the burden on management and the board of directors.
Management and the Audit Committee have considered this communication and steps are being taken to address the points raised. These steps include increasing the amounts and frequencies of account reconciliations, the hiring of qualified external financial consultants to evaluate and recommend enhancements to the Company's internal control system and a closer monitoring of the Company's financial results by the Audit Committee of the Board of Directors. In addition, the Company has implemented a more formal budgeting process that allows for more effective monitoring of the Company's operations and financial results.
EUniverse Inc.
Operates entertainment Web sites. ('03 Sales: $65.7m)
Feb. 12
MATERIAL WEAKNESSES IDENTIFIED
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On August 22, 2003, the Company restated previously reported quarterly financial results for the first three quarters of the year ended March 31, 2003 ("fiscal year 2003") because of accounting errors it had previously identified in the Company's financial statements. As a result of the discovery of the accounting errors, management and the Audit Committee initiated an internal review of the Company's accounting records and its accounting policies and procedures. In an effort to identify the extent of the accounting errors, and to identify any deficiencies in the Company's system of internal controls that gave rise to the errors, management significantly expanded its accounting and finance staff and retained an outside accounting firm to assist in the process. The Company's Board of Directors also directed the Audit Committee to explore the facts and circumstances giving rise to the restatement as well as to evaluate the Company's accounting practices, policies and procedures. During management's and the Audit Committee's reviews of the Company's accounting records and procedures, and during the audit of the Company's financial statements for fiscal year 2003, a variety of deficiencies in internal controls were identified. We believe such deficiencies were attributable to the following broad factors: insufficient supervision and oversight of the Company's accounting systems and personnel; a poorly designed, non-integrated accounting system; the rapid growth in our business operations during fiscal year 2003; difficulties in absorbing and integrating the acquisition of a sizable e-commerce company, ResponseBase, during the third and fourth quarters of fiscal year 2003; the loss of critical personnel; and limited human resources in the accounting and financial reporting function...
Corvu Corp.
Business intelligence software. ('03 Sales: $15.7m)
Feb. 12
NO WEAKNESS FOUND, BUT LACK OF SEGREGATION OF DUTIES IS NOTED
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There was no change in the Company's internal control over financial reporting identified in that evaluation that occurred during the fiscal quarter covered by this Quarterly Report on Form 10-QSB that has materially affected, or is reasonably likely to materially affect, the Company's internal control over financial reporting. Management is aware that there is a lack of segregation of duties due to the small number of employees dealing with general administrative and financial matters. However, management has decided that considering the employees involved and the control procedures in place, risks associated with such lack of segregation are insignificant and the potential benefits of adding employees to clearly segregate duties do not justify the expenses associated with such increases.
Goodyear Tire & Rubber Co.
Third largest tire maker. ('02 Sales: $13.9b)
Feb. 11
COMPANY HAS YET TO IMPLEMENT IMPROVEMENT PLAN
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Goodyear has not yet completed the implementation of its plan to improve the Company's internal controls. On October 22, 2003, Goodyear announced that the Company would restate its previously-issued financial results for the years ended 1998 through 2002 and for the first and second quarters of 2003. The restatement principally arose out of an intensified effort to reconcile certain general ledger accounts. As a result of the Company's efforts to reconcile these accounts, Goodyear initially recorded adjustments that reduced net income for the quarter ended June 30, 2003. Goodyear subsequently identified additional adjustments arising out of account reconciliations. Following the identification of these adjustments, Goodyear's independent auditors advised the Company in writing that the failure to identify certain issues that had affected several years related to the monitoring and review of general ledger accounts collectively resulted in a material weakness in the Company's internal controls that required strengthening of procedures for account reconciliation and internal reporting and monitoring of these matters. Based on an assessment of the impact of the adjustments to the expected 2003 results, Goodyear decided to restate certain of the Company's previously issued financial statements. Since April 2003, Goodyear has been implementing enhanced measures designed to strengthen the Company's account reconciliation control process. In connection with the restatement process, the Company dedicated more resources and took additional steps to strengthen the Company's control process and procedures in order both to identify and rectify past accounting errors. Goodyear is currently planning to implement new programs and procedures that will further upgrade the Company's controls and procedures, but these programs and procedures are not yet fully implemented.
Vicon Industries
Closed-circuit TV security and surveillance systems. ('03 Sales: $52.0m)
Feb. 10
MATERIAL WEAKNESS IDENTIFIED
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In connection with the audits of the two fiscal years ended September 30, 2003 and 2002, there were no "Reportable Events" within the meaning of Item 304(a)(1)(v) of Regulation S-K. However, KPMG communicated to the Registrant a matter it considered to be a weakness in the Registrant's internal controls relating to the adequacy of staffing of its finance department. The Registrant is addressing this concern and is in the process of further enhancing its finance staff.
Technical Olympic USA Inc.
National homebuilder. ('03 Sales: $1.6b)
Feb. 10
COMPANY IN THE PROCESS OF IMPROVING CONTROLS
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Since the merger, the Company has substantially strengthened its management and operational resources and streamlined its operational and corporate structure. This plan consisted of placing experienced controllers in its divisions and regional offices as well as developing a corporate center to efficiently manage the Company's finance, operations, legal and corporate governance functions. The creation of the Company's corporate center has resulted in the development of an internal audit function, centralization of its treasury function and creation of a centralized shared services organization to oversee and manage its land acquisition, supply management, product development and building science functions. The Company believes that the development of a strong corporate center is a key component of improving the effectiveness of the Company's critical business processes and strengthening its internal control structure and corporate governance. In connection with this initiative, the Company incurred recruiting fees and other costs of $1.2 million. By the middle of 2004, the Company expects to have completed this portion of its transition plan.
ICT Technologies
Products and services for telecom, auto and air-conditioning industries ('02 Sales: $0.4m)
Feb. 9
MATERIAL WEAKNESS IDENTIFIED
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Prior to his dismissal, Mr. Engels had advised ICT Technologies' audit committee that a substantive audit was required in light of weaknesses in ICT Technologies' system of internal controls, the most significant of which was the absence of adequate internal accounting staff. After a review of the internal controls by Drakeford & Drakeford the system of internal controls was deemed by the new certifying accountants to be adequate and no material adjustments were made to the financial statements. The Registrant plans no changes to address the unfounded concerns of Mr. Engels.
Candela Corp.
Maker of medical lasers. ('03 Sales: $80.8m)
Feb. 9
RECENTLY MADE CHANGES TO INTERNAL CONTROLS
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As previously disclosed, during fiscal 2003 we began the implementation of a new accounting software system. In response to complications associated with the implementation of this system and the transition from our prior system, we made certain changes in our internal control over financial reporting. These changes were primarily made during the fiscal quarter ended September 27, 2003. We continued to monitor these changes during the fiscal quarter ended December 27, 2003, and also continued our ongoing process of routinely reviewing and evaluating our internal controls over financial reporting. Based on that review and evaluation, management believes that it has implemented additional controls sufficient to prevent the problems we encountered during the implementation of our new accounting software system from occurring in the future, and that it has taken the necessary steps so that adequate control procedures are in place and will be followed. There were no other changes in our internal controls over financial reporting during the fiscal quarter ended December 27, 2003 that have materially affected, or are reasonably likely to materially affect, our internal controls over financial reporting.
AstroPower Inc.
Makes solar cells and panels. ('03 Sales: NA)
Feb. 2
AUDITOR CITES POTENTIAL WEAKNESSES; COMPANY DISAGREES
—[Item below refers to a Jan. 7, 2004 filing in which "KPMG advised the Company’s Audit Committee that it noted potential inadequacies in internal controls relevant to revenue recognition with respect to certain transactions during 2002]. We disagree with the phrase "potential inadequacies in internal control" appearing in the first sentence of the third paragraph, since KPMG informed the Chairman of the audit committee via telephone on April 2, 2003 that there were materials weaknesses in internal control, specifically in the design and effectiveness of controls over revenue recognition, which constituted a reportable condition and therefore communicated directly to the Audit Committee.
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