Data Collection. You will collect all the data and facts about this case. Do your initial draft/write-up.In Your report, you should, at the very least, address the following sections:
Why this Case:
- which you would have done already last week.
Description:
- describe the fraud very well including details on the accounting and financial statement effects, and journal entries if possible
Relation to Fraud Diamond:
- relate it to the fraud diamond, and be particular about the parties to the fraud and the role of professionals like the Management, auditors, the internal accountants of the organization, etc, and what role if any, that a fraud examiner could have played
Implications and Impact:
- discuss its implications and impact (direct and indirect, explicit and implicit), and outcome
Prevention:
- discuss how such fraud could have been prevented
Speedy Detection:
- discuss how the fraud could have been detected sooner or quickly
Investigation:
- explain how to investigate the fraud
Concealment:
- explain how to fraud was concealed, how the concealment of the fraud was unraveled, how else it could have been unraveled
Conversion:
- explain how to unravel the conversion of the fraud
Further Recommendations:
- provide further recommendations
Lessons:
- discuss other relevant lessons, issues or comments in connection with the fraud
Akorn, Inc., Timothy Dick, and David Hebeda 1 UNITED STATES DISTRICT COURT NORTHERN DISTRICT OF ILLINOIS EASTERN DIVISION SECURITIES AND EXCHANGE COMMISSION, Plaintiff, C.A. No.: 18-2150 v. AKORN, INC., TIMOTHY DICK, AND DAVID HEBEDA Defendants. COMPLAINT Plaintiff U.S. Securities and Exchange Commission (the “Commission”) alleges as follows: NATURE OF THE ACTION 1. This is a case of financial reporting, books and records, and internal accounting controls violations by Akorn, Inc. (“Akorn”). In May 2016, Akorn restated its financial statements for fiscal year 2014. Its restatement, among other things, acknowledged material weaknesses in its internal control over financial reporting (“ICFR”) and disclosed that previously reported net revenue for 2014 was overstated by approximately 7 percent and previously reported income from continuing operations before income taxes for 2014 was overstated by approximately 136 percent. Akorn’s inaccurate 2014 financial statements resulted from various errors in Akorn’s accrual of rebates and other contractual allowances using a process known as “gross-to-net” revenue accounting as well as its recognition of $2.9 million in revenue for a portion of a transaction with one of its wholesaler customers despite a lack of a basis on which to properly recognize such revenue in accordance with generally accepted accounting principles (“GAAP”). Case: 1:18-cv-02150 Document #: 1 Filed: 03/26/18 Page 1 of 18 PageID #:1 2 2. In its 2013 Form 10-K, filed on March 14, 2014, Akorn disclosed that it did not have sufficient controls designed to validate the completeness and accuracy of underlying data used in the determination of significant estimates and accounting transactions, and that, as a result, errors were identified in the underlying data used to support significant estimates and accounting transactions, primarily relating to gross-to-net revenue adjustments, inventory reserves and the determination of useful lives of acquired intangible assets. Akorn further disclosed that it did not have an adequate process in place to support the accurate and timely reporting of its financial results and disclosures in its Form 10-K. Akorn had previously disclosed in its 2012 Form 10-K, filed on March 1, 2013, that it did not maintain sufficient effective controls to provide reasonable assurance that accounts were complete and accurate and agreed to detailed support. The risks associated with these unremediated material weaknesses became magnified during 2014 as a result of Akorn’s decisions to undertake significant acquisitions, as well as changes to the nature of Akorn’s business. 3. Timothy Dick (“Dick”), as Chief Financial Officer (“CFO”) at Akorn, and David Hebeda (“Hebeda”), as Controller at Akorn, had supervisory responsibilities for Akorn’s internal accounting controls, gross-to-net revenue accounting and revenue recognition, and exercised control over these company functions. JURISDICTION AND VENUE 4. The Commission brings this action pursuant to the authority conferred by Section 21(d) of the Exchange Act [15 U.S.C. § 78u(d)]. 5. This Court has jurisdiction over this action pursuant to Section 27 of the Exchange Act [15 U.S.C. § 78aa], and 28 U.S.C. § 1331. Case: 1:18-cv-02150 Document #: 1 Filed: 03/26/18 Page 2 of 18 PageID #:2 3 6. Venue is proper in this Court pursuant to Section 27 of the Exchange Act [15 U.S.C. § 78aa]. Acts, practices and courses of business constituting violations alleged herein have occurred within the jurisdiction of the United States District Court for the Northern District of Illinois. Moreover, all Defendants reside in this district. 7. Defendants, directly and indirectly, made use of means or instruments of transportation or communication in interstate commerce, or of the mails, or of any facility of a national securities exchange in connection with the acts, practices, and courses of business alleged herein. DEFENDANTS 8. Akorn, Inc., a Louisiana corporation headquartered in Lake Forest, Illinois, is a specialty generic pharmaceutical company that develops, manufactures, and markets generic and branded prescription pharmaceuticals and branded and private-label over-the-counter consumer and animal health products, specializing in alternative dosage forms. Akorn’s common stock is registered with the Commission pursuant to Section 12(b) of the Exchange Act and trades on the NASDAQ as “AKRX.” Akorn files periodic reports, including Forms 10-K and 10-Q, with the Commission pursuant to Section 13(a) of the Exchange Act and related rules thereunder. In 2003, Akorn was ordered to cease and desist from committing or causing any violations and any future violations of Section 13(a), 13(b)(2)(A) and 13(b)(2)(B) of the Exchange Act and Rules 12b-20, 13a-1, and 13a-13 thereunder. Akorn, Inc., Exchange Act Release No. 48546 (Sept. 25, 2003). 9. Timothy Dick was employed by Akorn from June 2009 until August 2015 and was Akorn’s CFO during his entire tenure at the company. As CFO, Dick certified the material accuracy of Akorn’s financial statements. Dick, 47 years old, is a resident of Hawthorn Woods, Illinois. Dick has never been licensed as an accountant. Case: 1:18-cv-02150 Document #: 1 Filed: 03/26/18 Page 3 of 18 PageID #:3 4 10. David Hebeda was employed by Akorn from May 2012 until August 2016 and was Akorn’s Controller from May 2012 until May 2015. Hebeda, 50 years old, is a resident of Carol Stream, Illinois. Hebeda is an Illinois-registered certified public accountant. FACTS Background 11. During the relevant period, Akorn’s policies required it to recognize revenue and liabilities in accordance with GAAP. 12. Akorn sold its products through multiple distribution channels. Among other things, Akorn sold its products to pharmaceutical wholesalers, which then resold the products to downstream retailers (such as pharmacies), and it also sold products directly to retailers. Akorn negotiated contractual prices with both wholesalers and retailers. These resulted in rebates and contractual allowances owed by Akorn to both wholesalers and retailers that needed to be recognized as reductions to revenue. See Accounting Standards Codification (“ASC”) 605-50- 45-2. 13. Wholesaler chargebacks occur when a wholesale customer of Akorn sells to a retailer with a negotiated product price lower than the wholesale acquisition cost (“WAC”). The wholesaler then recovers the price difference from Akorn. A retailer billback occurs when a retailer has negotiated a price directly with Akorn but purchases goods from a wholesaler at a higher price. The retailer then bills Akorn for the price difference. The chart below depicts how both chargebacks and billbacks occur in a typical pharmaceutical sales transaction involving a wholesaler, compared to a hypothetical direct sale to a retailer. Case: 1:18-cv-02150 Document #: 1 Filed: 03/26/18 Page 4 of 18 PageID #:4 5 14. Akorn estimated and accrued amounts to cover chargebacks and billbacks. This process is commonly referred to in the pharmaceutical industry as “gross-to-net” accounting, and involves recording the gross revenue from product sales and establishing accruals for anticipated future chargebacks, billbacks and other forms of rebates associated with those sales. Akorn estimated its wholesaler chargeback liability at period-end based on the amount of inventory held by its wholesalers and historical experience with regard to how much of that inventory was typically sold through to retailers at below-WAC prices. Akorn accrued for retailer billbacks at period-end based upon actual invoices received from retail customers and estimates derived from sales data during that period. Dick and Hebeda oversaw the gross-to-net accounting process and approved the relevant gross-to-net adjustments in connection with the financial close for each quarter. 15. The financial close for each quarter was completed during the month after the end of each quarter. After the quarterly financial close was completed, Dick and Hebeda presented final quarterly financial results to Akorn’s CEO, COO and others in management. Case: 1:18-cv-02150 Document #: 1 Filed: 03/26/18 Page 5 of 18 PageID #:5 6 16. Akorn’s chargeback, billback, and other rebate liabilities increased significantly in 2014 due to a number of events. First, Akorn acquired Hi-Tech Pharmacal Co., Inc. (“Hi- Tech”), a publicly-traded specialty pharmaceutical company roughly equal in size to Akorn which developed, manufactured and marketed generic and branded prescription and over-the- counter drug products. This acquisition, along with others in 2014, significantly increased Akorn’s retail business and the volume and amount of billbacks due to retailers and further complicated and strained Akorn’s accounting processes and systems. Second, a number of Akorn’s products experienced dramatic market-wide increases in WAC, which resulted in significant additional chargeback, billback and other rebate liabilities. Finally, Akorn’s retail and wholesale customers formed “alliances,” which resulted in changes to those customers’ contractual prices and their entitlements to rebates and contractual allowances. Akorn’s Insufficient Internal Accounting Controls 17. At all times relevant to this complaint, Dick, as CFO, and Hebeda, as Controller, had supervisory responsibilities for – and control over – the policies related to and finance department staff involved in devising and maintaining a system of internal accounting controls at Akorn. Through their supervisory responsibilities and control, Dick and Hebeda had the power and ability to devise and maintain internal accounting controls sufficient to provide reasonable assurance, among other things, that transactions are recorded as necessary to permit preparation of financial statements in conformity with GAAP. 18. From 2013 to 2015, Akorn’s management identified and publicly disclosed recurring material weaknesses in the company’s ICFR. In relevant part, Akorn disclosed the following material weaknesses in its 2013 Form 10-K, filed on March 14, 2014, which related to its controls surrounding its gross-to-net reserve accounts: Case: 1:18-cv-02150 Document #: 1 Filed: 03/26/18 Page 6 of 18 PageID #:6 7 We did not have controls designed to validate the completeness and accuracy of underlying data used in the determination of significant estimates and accounting transactions. As a result, errors were identified in the underlying data used to support significant estimates and accounting transactions, primarily relating to gross to net revenue adjustments, inventory reserves and the determination of useful lives of acquired intangible assets. We did not have an adequate process in place to support the accurate and timely reporting of our financial results and disclosures in