On July 22, the Securities and Exchange Commission (SEC) commenced an enforcement action against Maynard L. Jenkins, former chief executive officer of CSK Auto Corporation, under Section 304 of the Sarbanes-Oxley Act of 2002 (SOX) to recover more than $4 million that he had received in bonuses and stock sales profits while CSK was allegedly committing accounting fraud. This is the first action brought by the SEC seeking reimbursement under the “clawback” provision of Section 304 from an individual who is not alleged to have otherwise violated the U.S. securities laws. This action by the SEC may be a harbinger of the agency’s renewed commitment to conducting a vigorous enforcement program.
The action against Mr. Jenkins is the SEC’s third enforcement action arising from its investigation into CSK’s alleged accounting misconduct. In March 2009, the SEC filed a civil injunctive action in federal court charging CSK’s former president, former chief financial officer, former controller and former director of credits and receivables with securities fraud. A couple of months later, the SEC instituted a cease-and-desist administrative proceeding against CSK and determined that the company had fraudulently filed false financial statements for fiscal years 2002 through 2004. In anticipation of the proceeding, CSK submitted an offer of settlement, which the SEC accepted, without admitting or denying its findings.
The crux of the SEC’s enforcement proceedings was that CSK had recognized millions of dollars of uncollectible vendor allowance receivables during the 2002–2004 fiscal years. Rather than writing off the uncollectible receivables, as required by U.S. Generally Accepted Accounting Principles (GAAP), CSK and its named senior officers had engaged in a scheme to hide the uncollectible receivables through various “accounting tricks.” CSK had, according to the SEC’s complaint, also over-recognized millions of dollars of vendor allowances during fiscal year 2003.
Had CSK properly written off the uncollectible vendor allowances as required by GAAP, the effect would have been to increase the company’s selling expenses and decrease its income. As a result of CSK concealing the uncollectible allowances, the company filed required periodic reports with the SEC that did not comply with financial reporting requirements under the federal securities laws. Specifically, CSK misled the public about the company’s financial performance by materially overstating its pre-tax income for the three-year period, by as much as 65% in the case of fiscal year 2004.
As a result of the alleged fraudulent conduct by CSK and certain of its officers, the company was required to prepare two accounting restatements. The first of the two restatements, which was signed by Mr. Jenkins and filed for the 2002 and 2003 fiscal years as part of CSK’s Form 10-K annual report for fiscal year 2004, failed to properly account for and write off all known uncollectible vendor allowance receivables and mischaracterized the adjustments as being due to errors in estimates and bookkeeping mistakes. In March 2006, after additional accounting irregularities had been uncovered, CSK conducted a special investigation and, for the second time, restated its 2002–2004 fiscal year financial statements as part of its 2005 Form 10-K filed on May 1, 2007. Mr. Jenkins signed this Form 10-K as well.
During the 12-month period following CSK’s filing of its fraudulent Forms 10-K for fiscal years 2002–2004, Mr. Jenkins received bonuses and other incentive-based and equity-based compensation of approximately $2 million from the company and realized profits of approximately $2 million from the sale of CSK stock. The SEC’s complaint asks the court to order Mr. Jenkins to reimburse CSK for these bonus and incentive payments as well as his stock sale profits under Section 304(a) of SOX.
This SEC enforcement action is significant because it is the first such clawback action the SEC has brought under Section 304 of SOX against a chief executive officer when there is no attendant allegation of fraud or other federal securities law violation. The SEC is making a statement: it has additional resources under the new administration and is committed to vigorously enforcing the federal securities laws, including SOX-related provisions, even in the absence of any alleged fraud or other securities law violations by the person or persons against whom enforcement proceedings are lodged.