HP and Autonomy: Material Writedown With A Side Of Serious Fraud

I wrote something quick and dirty today at Forbes about HP’s allegations of “willful misstatements” by former executives of its acquisition Autonomy. The accusations were made to partly explain an $8 billion writedown – yes, that’s a really big number – including more than $5 billion of goodwill related to the acquisition.

It’s crazy!

There’s tons more to write about this and I will write more over the holiday. A good sum up of all the writing today, an unexpectedly busy day after the announcement was made, can be found at GoingConcern.com.

My post at Forbes starts like this:

You can bring a Big Four audit firm to court for missing a major accounting fraud but it’s much harder to bring the auditor to justice.

Deloitte was the auditor of Autonomy, a UK software firm acquired by HP in 2011 for $11.1 billion. HP announced today it is writing down more than $5 billion, or almost half of the acquisition price, because of “serious accounting improprieties, misrepresentation and disclosure failures”.

HP, in the understatement of the year, says it is “extremely disappointed” to find out some former members of Autonomy’s management team inflated Autonomy’s underlying financial metrics – GAAP and non-GAAP. HP boldly called it a “willful effort to mislead investors and potential buyers”.

That’s PR-speak for fraud.

The Wall Street Journal’s All Things D blog has a good summary of all the revenue recognition related allegations that HP is making against Autonomy.

So what is alleged to have happened? For one thing, Autonomy, as HP tells it, was selling some hardware at a loss. During a period of about eight quarters prior to HP’s acquisition, Autonomy sold some hardware products that had a very low margin or on which it may have even taken a loss. It then allegedly turned around and booked those hardware sales as high-margin software sales. At least some portion of the cost on these products, Whitman said, was booked as a marketing expense, not as cost of goods sold.

There’s a second piece of the puzzle, where HP says that Autonomy was selling software to value-added resellers — the middlemen in so many technology transactions — in which there are ultimately no end users. That, too, inflated apparent revenue.

Third, there were some long-term hosting deals — essentially, Autonomy hosting applications for its customers on a subscription basis — that were converted to short-term licensing deals. Future revenue for software subscriptions — that should have been deferred or recorded as coming in the future but not yet booked — were stripped out and booked all at once.

Autonomy’s founder told The Wall Street Journal today that his management team depended on Deloitte to get the accounting right. HP’s CEO Meg Whitman told CNBC her company depended on Deloitte’s audited financial statements of Autonomy when they performed their due diligence during the acquisition process.

So, why would it be hard to prove Deloitte missed something big and should be held accountable? It would be easier if auditors, as an industry, agreed it was their responsibility to detect fraud and material misstatements of the financial statements.

For more please go to my column at Forbes, Accounting Watchdog, for “Hewlett-Packard’s Autonomy Allegations: A Material Writedown Puts All Four Audit Firms On The Spot”.