IT distributor Ingram Micro paid a hefty price for helping Network
Associates (now McAfee) in an elaborate channel stuffing scheme over a period
of two years that inflated Ingram Micro’s profit margins and McAfee’s revenues
by hundreds of millions of dollars during the height of the dot-com boom.
Ingram Micro has paid a $15 million fine to the U.S. Securities and Exchange
Commission in compliance with the commission’s cease and desist order, issued May 12, 2009, an SEC
spokesman confirms.
The fine will be added to the $50 million fine paid by McAfee in 2006 and will
be ultimately distributed to those who were harmed by the scheme—McAfee
investors—according to the SEC spokesman.
“Ingram Micro neither admits nor denies any wrongdoing regarding this matter,
and is pleased that the settlement puts this issue to rest,” an Ingram Micro
spokeswoman tells Channel Insider.
The events in question began when McAfee switched its accounting to a “sell-in”
method, accounting for goods sold to distribution as sold (rather than waiting
for those goods to be sold to the end user).
McAfee extended a series of discounts, rebates and other highly favorable terms
to Ingram Micro, along with an unwritten agreement that would give Ingram Micro
the right to return unsold products to McAfee, an unusual agreement during the
time period—1998 to 2000, according to the SEC’s cease and desist order.
This agreement led to a circular arrangement in which Ingram Micro would accept
more product than it reasonably expected it could sell, inflating McAfee’s
revenues in the process. Between 1998 and 2000, McAfee overstated its revenues
by $622 million in order to meet its revenue and earnings targets and
understated its cumulative losses by $353 million, according to the SEC. At
the same time, Ingram Micro, which normally kept just eight weeks of inventory
on hand, built up its McAfee inventory to 22 months.
“During the relevant period, Ingram Micro and McAfee engaged in various circular
transactions that were lacking in economic substance and were designed solely
to inflate McAfee’s reported revenues,” the SEC says in the document. “Ingram
Micro profited from these transactions by receiving unearned compensation from
sales that it did not originate.”
According to the SEC, starting in Q2 of 1998, Ingram Micro’s Product Management
Group realized that McAfee was willing to provide deep discounts and
off-contract enhancements. And as a result, Ingram Micro changed its purchasing
practices and began ordering “extraordinary large amounts” of McAfee products.
The practice resulted in significantly higher profit margins for Ingram Micro
in return for taking on excess inventory from McAfee, and quickly making the
McAfee account Ingram Micro’s most profitable vendor relationship.
The SEC document says that Ingram Micro retained the discounts regardless of
whether it later sold the products or ended up returning them to a McAfee
subsidiary called Net Tools.
“McAfee carried out this subterfuge by using a subsidiary called Net Tools to
repurchase approximately $45.5 million of inventory it had sold to Ingram
Micro,” the SEC says in its cease and desist order. “In order to avoid
accepting returns directly from Ingram Micro, McAfee acted as a reseller and
instructed Ingram Micro to ship the products to buyers identified by McAfee.
McAfee reimbursed Ingram Micro for the shipping costs and paid an inflated
profit margin to Ingram Micro, even though Ingram Micro had done nothing to
bring about the sale of the products.”
McAfee has since restated its revenues and earnings from the period in question
to reflect its actual performance, according to the SEC spokesman.
Ingram Micro accounted for losses associated with the issue in 2007 and
expects no further adjustments to its financials, according to the Ingram Micro
spokeswoman.