Prosecutors' Party at Qwest

With new federal indictments and civil suits for fraud at Qwest... observers say this is just the beginning

February 25, 2003

5 Min Read
Prosecutors' Party at Qwest

Surprise! It would seem that Qwest Communications International Inc.’s (NYSE: Q) accounting adventures weren’t all Arthur Anderson’s fault after all.

That, at least, appears to be the U.S. Department of Justice and the Securities and Exchange Commission (SEC)’s view after completing the first phase of their investigations into the Denver-based carrier. A federal grand jury today indicted four of the company’s former executives for concocting a scheme to falsely report $33 million in revenues in 2001 (see Former Qwest Execs Indicted for Fraud). Also today, the SEC filed civil fraud charges against seven former and one current Qwest employee for artificially inflating the company’s revenues by about $144 million in 2000 and 2001 (see SEC Sues Qwest Execs for Fraud).

Qwest, which has placed most of the blame for its creative accounting blunders on its former auditor Arthur Anderson, has already said it will restate $2.2 billion misstated revenues (see Qwest's Amazing Shrinking Revenues and Qwest Overstated Another $357M). SEC spokesman Donald Hoerl today said that it is unclear if the amounts revealed in today’s indictments and lawsuits were reflected in that number. The investigations into the carrier’s accounting practices are still ongoing, he says.

Industry observers say they expect investigators to find a lot more dirt at Qwest as they continue to dig deeper. “The rot is more widespread than a few individuals,” says Davenport & Co. LLC analyst Drake Johnstone. “Certainly at headquarters… that behavior seemed to be pervasive… It’s good that they’ve weeded out a lot of the corporate officers.”

“The [investigative] strategy is to find lower-level people who will squeal, and move up the food-chain,” agrees Craig Johnson, an independent analyst based in Portland, Ore. “I really hope that they’ll be able to get Nacchio [Qwest’s CEO until last June (see Notebaert Takes Out Nacchio)]. I really hope they take his toys away.”

The 12-count federal indictment alleges that four former Qwest executives in the company’s Global Business Unit tried to fill an expected revenue gap in the second quarter of 2001 with misleading reporting of a purchase order from the Arizona School Facilities Board. According to the indictment, the executives violated strict SEC requirements when they immediately recognized revenue from the order, while holding the merchandise for later delivery. The executives knew they were breaking SEC regulations, and filed false documents to hide their actions, the indictment states.

Attorney General John Ashcroft announced the indictment today, claiming that it is proof that the Bush government is serious about its fight against corporate crime. “We will protect the integrity of our markets by punishing those who falsify financial information out of sheer greed,” he stated in a Justice Department press release today.

Accounting for the Arizona purchase order is also the subject of the SEC civil suit against eight former and current Qwest employees. “Without the fictitious revenue from the ASFB transaction, Qwest would have fallen short of its projected 12 to 13 percent revenue growth for the quarter,” today’s SEC announcement states.

In addition, the Commission charges that former and current Qwest employees artificially reported one transaction with Internet service provider Genuity Inc. (Nasdaq: GENU) as two separate contracts. This allowed Qwest to improperly recognize $110.6 million in revenues in 2000, the suit claims.

"Qwest continues in its efforts to cooperate with the government in connection with the investigations,” Qwest said in a statement following the DOJ and SEC announcements today. “Fundamental to the Spirit of Service is complete integrity in all we do. As a company and as individual employees, we hold ourselves to the highest ethical standards as we conduct our business."

The defendants in the 12-count federal indictment are:

  • Grant Graham, former CFO of Qwest’s Global Business Unit

  • Thomas Hall, former senior VP in the Government and Educational Solutions Group, which is part of Qwest’s Global Business Unit

  • John Walker, former VP in the Government and Educational Solutions Group

  • Bryan Treadway, former Assistant Controller at Qwest

Arrest orders have been issued for all four defendants, and they have been given 48 hours to surrender [ed. note: then they go in with the dogs and the tear gas?].

All four of the former Qwest executives are also mentioned in the SEC’s civil suit.

In addition, that suit names the following two defendants in connection with the Arizona School Facilities Board case:

  • John Arnold, former SVP of Qwest’s Global Business Unit

  • Douglas K. Hutchins, former director of Global Business at Qwest

As for the Genuity transaction, the SEC suit names the following defendants:

  • Richard L. Weston, the former SVP of product development in Qwest’s Internet Solutions Unit

  • William L. Eveleth, the current CFO of Qwest’s Corporate Planning and Operational Finance Unit

  • John Arnold, former SVP of Qwest’s Global Business Unit

  • Grant Graham, former CFO of Qwest’s Global Business Unit

"This is just further distractions for them,” Johnstone says, pointing out that the company recently issued disappointing results, and that last week’s FCC decision was also a blow (see Qwest: Decent Quarter, Drab Outlook and Powell Loses FCC Vote). “This just makes it harder for them to turn their business around.”

But while analysts worry, the market didn’t seem to be too shaken by today’s news. Qwest’s stock price actually improved a half a percent in trading today, closing up $0.02 at $3.40 a share.

— Eugénie Larson, Reporter, Light Reading

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