SEC details charges in Homestore scam
Feds allege former employees hid truth from auditors
Thursday, September 25, 2003
By Marcie Geffner
Inman News
$1,770.
That was the total amount one now-disgraced former Homestore employee profited from his sale of company stock during the period when a fraudulent scheme was used to inflate the company's revenues, according to charges the Securities and Exchange Commission brought last week against the employee and four others.
The five former Homies and two vendors were named in a 13-page SEC complaint that detailed how the scheme worked and the securities laws the seven latest defendants allegedly violated.
Westlake Village, Calif.-based Homestore operates the National Association of Realtors official Realtor.com Web site and the National Association of Home Builders official HomeBuilder.com Web site, among others. The company's Realtor.com unit sells online personal and property promotional packages to Realtors.
The employee who netted $1,770 was Adam Richards of Oak Park, Calif., a certified public accountant, who was a financial planning manager at Homestore. The others were Sophia Kabler of Mill Valley, Calif., who was SVP of advertising sales, Thomas Vo of Los Angeles, who was an advertising sales manager, Sailesh Patel also of Los Angeles, who was a business development director, and Jessica McLellan of San Francisco, who was a business development manager.
Beside Richards' small sum, the others netted significantly more from their questionable activities at the company. Kabler received $455,000 in profits from exercising Homestore stock options and $42,958 in commissions. Vo received $18,000 in commissions, a $7,000 kickback from a vendor and $308 in profits from exercising Homestore stock options. Patel received $138,900 in kickbacks while McLellan received $18,530 in profits from exercising Homestore stock options and $12,500 in commissions, according to the SEC's complaint.
Homestore's stock traded higher than $150 a share during the heady dot-com days. Shares were trading at $2.77 this morning on the NASDAQ Small Cap Market System.
None of the five former employees admitted or denied guilt last week as part of their settlement agreements with the SEC. However, Vo, Patel and McLellan plead guilty to criminal charges brought by the U.S. Justice Department and are expected to appear in court for sentencing next month. Neither Kabler nor Richards was charged with criminal wrongdoing.
The fraudulent activities at Homestore took place over a period of seven months or perhaps longer in 2001. The point of the fraud was to inflate Homestore's revenues to exceed Wall Street analysts' expectations, according to the SEC and other documents.
The scheme allegedly involved not only inflating the company's revenues, but also taking deliberate actions to deceive Homestore's auditors as to the true nature of the transactions, according to the SEC's document.
The SEC said the former employees structured the deals so the auditors wouldn't be able to determine that they were circular, used vendors that weren't audited by the same auditors, didn't tell the auditors the advertising buys were linked, prepared memoranda for the auditors that falsely justified the inflated prices Homestore paid for the first leg of the triangular transactions, instructed vendors to use sister entities and/or shell companies to purchase advertising, directed vendors to use false names and addresses on contract documents and insertion orders, didn't disclose kickbacks from customers and misled the auditors as to material facts of the transactions.
The SEC complaint again outlines how the scam worked: Homestore paid inflated sums to more than a dozen vendors, which then bought advertising from two media companies, which then bought advertising from Homestore either for themselves or as agents for other advertisers. Homestore recorded the money it received for the advertising buys as revenue. These transactions violated generally accepted accounting principles because they recognized the company's own cash as revenue without any true economic substance.
"The essence of the fraud was to inject one or more third parties into transactions which were, in reality, two-way barter deals involving the exchange of advertising between Homestore and a second company," the SEC complaint charged.
The inflated sums amounted to $119 million, or 64 percent of the company's advertising revenue and 15 percent of its total revenue, for the first three quarters of 2001. Those sums were reported to the SEC on Homestore's financial statements for those quarters. Filing false SEC reports is a violation of U.S. securities law.
"Homestore paid the vendors the entire purchase price up-front while agreeing to receive the goods or services over a period of two to five years. As an unwritten condition of these transactions, Homestore required the vendors to buy online advertisements at the media company with most or all of the money the vendor received from Homestore," the SEC complaint alleged.
The SEC and DOJ investigations are continuing and the employees named by the SEC are expected as terms of their settlement agreements to cooperate with those investigations.
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