As expected, Homestore’s former CFO and two other former senior executives settled charges by the Securities and Exchange Commission and the U.S. Attorney’s office that they inflated advertising revenues in 2001.
The commission Tuesday filed charges in U.S. District Court in Los Angeles against Joseph J. Shew, Homestore’s former chief financial officer; John Giesecke Jr., former chief operating officer; and John DeSimone, former vice president of transactions.
In the suit, the SEC charged that three men caused Homestore to overstate its advertising revenues by $46 million, or 64 percent, for the first three quarters of 2001. The U.S. Attorney’s office for the Central District of California simultaneously announced related criminal charges against the three individuals, who agreed to cooperate with the government in its investigation.
The commission’s complaint charges Giesecke, Shew, and DeSimone with arranging fraudulent “round-trip” transactions for the sole purpose of artificially inflating Homestore’s revenues to help the company exceed Wall Street analysts’ forecasts.
The SEC charged Shew, Giesecke, and DeSimone with securities fraud, lying to the auditors, falsifying Homestore’s books and records, and aiding and abetting Homestore’s reporting and record-keeping violations.
Giesecke agreed to disgorge $3,445,021, including interest, from the exercise of his Homestore stock options and pay a $360,000 civil penalty. He also agreed to be permanently barred from serving as an officer or director of a public company.
Shew agreed to disgorge $1,053,751 and to be permanently barred from serving as an officer or director of a public company.
DeSimone agreed to disgorge $177,796 and to not serve as an officer or director of a public company for 10 years.
While agreeing to settle the case, the three men neither admitted nor denied the charges.
The Westlake Village, California-based Homestore, known at the time of the violations as Homestore.com, was one of the top Internet portals for real estate and related services.
The commission alleged that the three former executives circumvented accounting principles and lied to Homestore’s independent auditors about these transactions. While the fraud was ongoing, the defendants exercised stock options at prices ranging between roughly $21 and $32 per share, reaping profits ranging from approximately $169,000 to about $3.2 million, the SEC added.
The commission elaborated that in 2000 and 2001, Homestore engaged in a series of complex round-trip barter transactions to inflate revenues and meet Wall Street estimates. “The essence of these transactions was a circular flow of money by which Homestore recognized its own cash as revenue,” the regulatory agency added.
The SEC said Homestore paid inflated sums to various vendors for services or products; in turn, the vendors used these funds to buy advertising from two media companies. The media companies then bought advertising from Homestore either on their own behalf or as agents for other advertisers.
“Homestore recorded the funds it received from the media companies as revenue in its financial statements, in violation of applicable accounting principles,” the commission added.
As a result of a significant revenue shortfall in the first quarter of 2001, the company devised a plan to use a major media company as an intermediary in some round-trip transactions, the SEC stated.
It did not name the major media company. But as part of an internal investigation into its own accounting practices, Homestore has been looking into deals with AOL Time Warner Inc.’s America Online division, according to published reports.
Some media outlets thought AOL’s name would come up in the complaint or at Wednesday’s press conference. But Attorney General John Ashcroft and Homestore refused to comment on whether AOL was being investigated in connection with the Homestore case.
In further explaining the scheme, the SEC said Homestore would “refer” vendors to the media company, and the vendors would purchase online advertisements from that company. In return, the major media company purchased online advertising from Homestore, for which the media company acted as a media buyer.
Using this structure, Homestore paid a total of $49.8 million to various vendors in the first two quarters of 2001. These vendors then paid $45.1 million to a major media company to purchase online advertisements. Homestore, in turn, recorded $36.7 million in revenue from the major media company’s related purchase of Homestore online advertisements.
“In short, Homestore recycled its own money to generate revenues,” the SEC said.
Homestore used this same general plan with another media company in the second and third quarters of 2001 to fraudulently recognize an additional $9.7 million in revenue, the commission added.
Interestingly, the commission noted that it would not bring any enforcement action against Homestore because of the company’s “swift, extensive and extraordinary cooperation” in the investigation. Apparently, that cooperation included reporting its discovery of possible misconduct to the SEC immediately upon the audit committee’s learning of it. The commission also indicated that Homestore management conducted a thorough and independent internal investigation—and quickly shared the results of that investigation with the government.