Medical-device maker ArthroCare agreed this month to pay $30 million to the Department of Justice to settle criminal charges that senior executives at the company engaged in a massive securities fraud scheme. The company's self-reporting of the fraud, however, also earned it a deferred prosecution agreement.

On Jan. 7, ArthroCare entered into a DPA with the Justice Department in the United States District Court in the Western District of Texas. The agreement resolves an investigation first brought to light in December 2008, when ArthroCare self-disclosed findings of securities fraud to the Securities and Exchange Commission. According to ArthroCare, the fraud was committed under a previous management team.

John Raffle and David Applegate, both former senior vice presidents of ArthroCare, previously pleaded guilty to conspiracy to commit securities and wire fraud in connection with the fraud scheme. ArthroCare's former chief executive officer, Michael Baker, and chief financial officer, Michael Gluk, are scheduled to stand trial on related charges on May 5, 2014.

In reaching its settlement, ArthroCare admitted that senior executives of the company inflated ArthroCare's revenue by tens of millions of dollars; concealed the nature and financial significance of ArthroCare's relationship with its largest distributor, DiscoCare, and other distributors; and used a series of sham transactions to manipulate ArthroCare's revenue and earnings as reported to investors.  

ArthroCare further admitted that its executives determined the type and amount of product to be shipped to distributors—mainly, DiscoCare—based on ArthroCare's need to meet sales forecasts, rather than the distributors' actual orders.

In July 2008, after ArthroCare announced that it would be restating its previously reported financial results from the third quarter 2006 through the first quarter 2008 to reflect the findings of its internal investigation, the price of ArthroCare shares plummeted, resulting in more than $400 million in shareholder losses. In November 2011, ArthroCare entered into a $74 million securities class-action settlement with shareholder victims.

Inside the DPA

Under the terms of the DPA, the Justice Department agreed to defer prosecution of ArthroCare for two years. ArthroCare agreed to continue to implement an enhanced compliance program and internal controls designed to prevent and detect violations of federal securities laws relating to the company's relationships and transactions with health care providers. It also agreed to cooperate with the Justice Department in the ongoing investigation.

ArthroCare also must report annually to the Justice Department on the status of the compliance program. "There is no independent monitor requirement," ArthroCare stated.

If ArthroCare abides by the terms of the DPA, the Justice Department will dismiss the criminal information when the term of the agreement expires.