OSC misses the mark on Corel

…U.S. regulators have been zealous in their pursuit of revenue inflating, phony-sales-posting companies — often tech companies — which stuffed product that hadn't a hope of being sold into the distribution channel to create the appearance of revenues being more robust than they were. The channel stuffing deception victimized untold investors, and recalls the infamous days of Sunbeam Corp.'s Al Dunlap, who shipped unwanted barbecues — all expenses paid — to a wholesaler, only to have them all shipped back again. For a couple of quarters, Dunlap looked like a hero. Then Sunbeam went bankrupt.

The Toronto Star
October 23, 2003

OSC misses the mark on Corel
Jennifer Wells

Another fine mess the Ontario Securities Commission has gotten itself into.

More than eight months after an OSC panel bitterly rejected a proposed settlement with techpreneur Michael Cowpland, lawyers for both the commission and Cowpland have re-recommended the penalty proposed in the first place.

No doubt Cowpland, who last February was heard to utter the dazed phrase, "I thought we had a deal," has become more acclimatized to the ways of the OSC in the intervening months. But it should bring no comfort to investors to see the commission once again acting out a routine that's more Laurel and Hardy than Eliot Ness.

It's worth remembering that the enforcers at the OSC attempt to carefully cherry pick their investigations. Translation: ones they think they can win.

The Cowpland file offered all the essential elements: a high-profile, high-living target who traded in shares in Corel Corp. through his private holding company when possessed of a "material fact" not in the public domain.

Last February, Cowpland had what he thought was a bifurcated deal. His holding company, M.C.J.C. Holdings Inc., pleaded guilty to one count of insider trading before the Ontario Court of Justice, which in turn meted out a $1 million penalty to M.C.J.C.

The Court of Justice charges had been initiated by commission staff, so there was undoubtedly a high degree of internal satisfaction in seeing a million-dollar penalty imposed, and paid.

But the optical distance between the holding company and the man himself clearly posed a problem for the OSC panel whose job it was to weigh the attendant penalties to be paid by Cowpland personally. The agreed sanctions: a reprimand; a $500,000 payment to the commission; and a prohibition on Cowpland acting as a director for a period of two years. (An additional $75,000 was to be paid by M.C.J.C. to defray commission costs.)

The panel, chaired by Paul Moore, pondered the need to send the "right message" and to "protect the integrity of the marketplace." And rejected the deal as being too lenient. "We believe," said Moore, "that if we were to approve this settlement agreement on the agreed facts, members of the public would be entitled to criticize the regulatory system as not looking after investors."

In throwing the case back into the lap of commission counsel, Moore uttered a couple of high-dudgeon sound bites. "Insider trading by its very nature is a cancer that erodes public confidence in the capital markets," he said. And, "it is one of the most serious diseases our public markets face."

No argument there.

And he invited the parties to return to the commission "with additional factual disclosure."

This last point recalls the old adage, commonly embraced in legal circles, that you don't ask a question to which you don't know the answer. In the event, the additional disclosure surrounding the August, 1997, sale of 2.4 million Corel shares took counsel for Cowpland to the new conclusion that the profit on the sale wasn't the previously assessed $5.2 million, but rather something closer to $1.3 million.

I'm not going to enter the legal quagmire surrounding the so-called "loss avoided by the suppression of a material fact" except to say that OSC counsel did not dispute the dollar figure tabled by Cowpland's lawyer.

It now falls to a fresh panel, which includes Paul Bates, past CEO of Charles Schwab Canada, to consider the fresh interpretation of events.

It should frustrate the new crew to come to understand just what was going on at Corel while Cowpland was directing those share trades. It was the company's vice-president of sales who informed Cowpland directly that Corel hadn't a hope of meeting its sales target for the third quarter of 1997. Rather than posting revenues of $94 million (U.S.) for the quarter, Cowpland was told, he could expect a shortfall of approximately $32 million.

According to the agreed statement of facts released this week on the case, Cowpland acknowledged that such a precipitous decline "would be a disaster for the company."

It was Cowpland who directed that inventories be boosted to previous year's levels, a target achieved via a so-called "buy-in" in which Corel's largest distributor, Ingram Micro U.S.A., agreed to purchase $70 million worth of product. The arrangement assumed the return of $18 million worth of Corel goods, and delivered credits and marketing incentives to Ingram. Whatever the sales outcome, it was predetermined that the arrangement would be a profitable one for Ingram.

It was Corel's own controller who argued that such revenues would be improperly recognized, as there was not a "reasonable likelihood" of the product selling in the quarter.

On August 11 and 14, Cowpland authorized the share sales. On the Labour Day weekend, he recommended the adoption of a more conservative revenue recognition policy. On September 10, Corel issued a news release stating that the company would post revenues of $54 million for the quarter.

Cowpland informed the commission that he "honestly believed" the initial sales target of $94 million would be met, a position the commission found to be "not reasonable."

A lot of this can sound like gobbledygook until we recall that U.S. regulators have been zealous in their pursuit of revenue inflating, phony-sales-posting companies — often tech companies — which stuffed product that hadn't a hope of being sold into the distribution channel to create the appearance of revenues being more robust than they were. The channel stuffing deception victimized untold investors, and recalls the infamous days of Sunbeam Corp.'s Al Dunlap, who shipped unwanted barbecues — all expenses paid — to a wholesaler, only to have them all shipped back again. For a couple of quarters, Dunlap looked like a hero. Then Sunbeam went bankrupt.

The OSC, for whatever reason, appears not to have tried to gain any traction on Corel's practices.

Focused instead on insider trading, the commission panel has to uncomfortably consider whether the previously determined financial penalty is punishment enough. There's precious little room to manoeuvre. If the panel fails to up the ante, investors will fairly be asking the question, once again, whether the OSC is up to the task. And this new one: Does it even know what it's doing?


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Risks: Insider trading, Ontario Securities Commission, Canada, 20031023 OSC misses

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