Accounting Fraud Prompts $580 Million Write-Down at CAT

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By Frank Byrt

Underscoring the importance of performing extensive due diligence before investing in the world's second largest economy, construction equipment giant Caterpillar got burned to the tune of $580 million on its roughly $734 million investment in ERA Mining Machinery Ltd., a Chinese maker of mine safety equipment, due to accounting fraud.

Caterpillar will take the write-down, a noncash goodwill impairment charge equal to eighty-seven cents per share, in the fourth quarter of 2012, after determining that ERA, which it acquired last June, had overstated profits and improperly recognized revenues and inventories.

The construction equipment giant said in a January 18 press release that an internal investigation of the financials of ERA, including its wholly owned subsidiary Zhengzhou Siwei Mechanical & Electrical Manufacturing Co., Ltd. (Siwei), has "uncovered deliberate, multiyear, coordinated accounting misconduct concealed at Siwei, located in Zhengzhou, China. Caterpillar's investigation determined several Siwei senior managers engaged in deliberate misconduct beginning several years prior to Caterpillar's acquisition of Siwei."

Caterpillar removed several senior managers at Siwei who were responsible for the misconduct, and a new leadership team has been put in place. Caterpillar said its investigation is ongoing. Siwei designs and manufactures underground coal mining support equipment.

Caterpillar said it noticed discrepancies in inventories after taking its own physical inventory following the acquisition. Upon further investigation, it found several years' worth of faulty costs allocations that overstated profits and improper revenue recognition practices that boosted sales.

"The actions carried out by these individuals are offensive and completely unacceptable. This conduct does not represent, in any way, shape, or form, the way Caterpillar does business or how we expect our employees to work, which is spelled out in Caterpillar's Worldwide Code of Conduct", said Caterpillar Chairman and CEO Doug Oberhelman in a statement.

"Once our investigation confirmed that misconduct had taken place at Siwei, we moved quickly and decisively to hold the responsible leaders directly accountable for the wrongdoing", Oberhelman said. "Accountability is a critical way that we measure leaders at Caterpillar, and it is my expectation that leaders set an example and are accountable for their actions and results."

"Despite these actions, we continue to believe that the Siwei acquisition is well aligned with our strategy to expand our role as a leading equipment and solutions provider for the Chinese coal mining industry", said Steve Wunning, Caterpillar group president with responsibility for Resource Industries.

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By Chris Anderson
Jun 26th 2015 01:11

I am amazed that large fortune 500 companies like Cat and HP can write down as much as 80% of their investment. I would hope that their corrective action will include a review of their due diligence process and make changes to their acquisition policies and procedures.

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By blipet
Jun 26th 2015 01:11

Nothing new here, and you don't have to go overseas to find examples of this kind of shenanigans... My former employer paid too much for a company acquired due to accounting fraud that inaccurately boosted its market value. Among other things the other company had counted the value of products and services given away as marketing and promotional items over 10 years as accounts receivable. No one was ever held accountable because my employer was afraid of damaging their newly acquired brand and product line in any post hoc publicity. The responsible CEO went on to another CEO position and has now retired. My former employer was "reorganized" several times, and my department ceased to exist in the second round.

It's no coincidence that dramatic changes in strcture and operations, whether they seem good or bad, are warnings for business longevity.

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Jun 26th 2015 01:11


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