Document management systems designer and manufacturer Xerox listed on the New York Stock Exchange in July 1961. The company issued three profit warnings over four quarters in the year leading up to 2Q00. In June 2000, Xerox announced that the SEC had launched an investigation into accounting issues related to the its Mexican business where it claimed to be having issues with customer receivables. In April 2002, the SEC charged Xerox with fraud which had overstated revenues between FY97 and FY01 by 3% and profit by around 40% (although these amounts were subsequently revised up). The company had been pulling forward revenues on contracts, running down provisions and factoring receivables to hide the lack of cash flow.
Last updated August 2022.
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Xerox Holdings designs, develops, and sells document management systems and solutions worldwide. It listed on the New York Stock Exchange (NYSE) on 11 July 1961.
On 16 June 2000, Xerox issued a profit warning for 2Q00 results, its third profit warning in four quarters. Its shares fell 19% on the day and were 67% below its share price high of May 1999. Sales of its DocuPrint and DocuTech machines, which could cost more than $400,000, were being hurt by increased competition. Xerox said problems with customer receivables at its Mexican operations could cut profit further.
On 29 June 2000, Xerox announced that the Securities and Exchange Commission (SEC) had launched an investigation of accounting issues related to the company's Mexican business. This followed after the company had warned that its earnings would likely fall short of expectations due to problems in Mexico. The company had also launched an internal investigation.
On 3 February 2001, the company announced that following its independent investigation, it had fired 13 senior managers in Mexico. Xerox said it had conducted a worldwide review of its internal audit controls to determine whether other divisions had similar issues. It said the problems found in Mexico were not found in any other major unit operated by Xerox.
On 31 May 2001, Xerox restated its results for the previous three years and acknowledged that it had misapplied accounting rules in a variety of ways, including improperly using a US$100m reserve to offset unrelated expenses. To correct the reserve error, Xerox cut its FY98 and FY99 pre-tax profits by US$100m, while adding US$6m to 2000's pre-tax figure. In the footnotes of an SEC filing, the company revealed for the first time that its pre-tax profits in FY98, FY99 and FY00 had been boosted by a total of US$845m (cc40%) through a series of one-time transactions and changes in accounting estimates.
On 4 October 2001, Xerox changed auditors from KPMG to PricewaterhouseCoopers. KPMG had been auditors for over 40 years. Media reports suggested a tension between the auditor and the company over whether Xerox had taken adequate steps to shore up accounting controls.
On 11 April 2002, the SEC filed a complaint against Xerox charging the company with fraud. The SEC alleged that Xerox accelerated the recognition of equipment revenue and increased earnings from leases of Xerox copiers that historically were recorded in future periods. It allowed Xerox to portray its business and growth as far more robust, in 1997-99, than it in fact was. The impact of this fraud was to overstate FY97-FY01 revenues by US$2bn (2.7%), profit by US$1.4bn (cc40%). The fraud had three main components:
- Xerox brought forward revenue recognition on equipment leases that under Xerox’s historical accounting practices would have been recognized in later periods. These equipment leases were treated as sales-type leases whereby the company could recognize immediately the portion of the lease payments relating to equipment sale, while interest and other services were to be recognized over the life of the lease. The equipment sales were to be recorded at fair value. However, Xerox claimed it was impractical to estimate the equipment fair value and instead established a fair value for interest and servicing and assumed the residual value of the lease contract was the equipment. However, the method of calculating interest and servicing was successively changed in order to lower the value of interest and servicing and hence boost the upfront recognition of equipment sales. The SEC estimates these irregularities boosted FY97-FY00 revenues by US$3.1bn and pre-tax profit by US$717m. Xerox also fraudulently changed lease equipment residual values and incorrectly recognized revenue from the sale of portfolios of its leases.
- The company ran down provisions and accruals, which were partly set up when company acquisitions had been made. The SEC estimates the inappropriate release of provisions and accruals amounted to US$496m. US$100m of provisions were fraudulently established in connection with the acquisition of a 20% stake in Rank Xerox in 1997.
- The company factored receivables to hide the balance sheet impact of its acceleration of revenue recognition. In FY99, Xerox failed to disclose that it has factored receivables amounting to US$288m. Furthermore, out of this amount, Xerox undertook to repurchase US$54m of receivables after the year end, which meant these receivables had not been actually sold.
Without admitting or denying the allegations, the company agreed to pay a US$10m fine, restate its financial results for the years FY97 through FY00, and to conduct a special review of its accounting controls.
On 28 June 2002, Xerox filed its annual report for FY01 including its restatement of previous years. As part of the settlement with the SEC it agreed it would reclassify more than US$2bn of revenue from previous years. It, in fact, restated a much larger amount, US$6.4bn. The result of the restatement was to lower the company's revenues and profits in FY97, FY98 and FY99 and increase them in FY00 and FY01.
On January 29, 2003, the SEC sued KPMG and four KPMG partners, including the head of the firm's department of professional practice, in connection with the audits of Xerox from 1997 through 2000. The action charged KPMG and four partners with fraud, and sought injunctions, civil money penalties and repayment of all fees. The SEC alleged that KPMG and its partners...
- permitted Xerox to manipulate its accounting practices to close a US$3bn "gap" between actual operating results and results reported to the investing public;
- that year after year, KPMG represented to the public that their audits were conducted in accordance with applicable auditing standards;
- that KPMG represented that Xerox's financial reports fairly represented the company's financial condition and were prepared in accordance with GAAP.
On 5 June 2003, the SEC charged six former senior executives of Xerox with fraud. These included its former CEOs, Paul A. Allaire and G. Richard Thoman, and its former CFO, Barry D. Romeril. The complaint alleged that the executives, from 1997 to 2000, misled investors about Xerox's earnings. They did this to polish its reputation on Wall Street and to boost the company's stock price. The complaint alleged that the defendants' fraudulent conduct was responsible for accelerating the recognition of equipment revenues by approximately US$3bn and increasing pre-tax earnings by approximately US$1.4bn in Xerox's FY97-FY00 financial results. The six defendants agreed to pay over US$22m without admitting or denying the allegations.
On 19 April 2005, KPMG agreed to pay US$22.5m to settle the SEC charges related to its audits. KPMG agreed to refund US$9.8m in fees it received, pay US$2.7m in interest and pay a US$10m civil penalty.
On 22 February 2006, the four KPMG Partners settled the SEC litigation. Three partners agreed to permanent injunctions, payment of record civil penalties, and suspensions from practicing before the commission; a fourth agreed to censure. The individuals were Ronald Safran, partner on the Xerox audit for 1998 and 1999; Michael Conway, senior partner for 2000; Anthony Dolanski, partner for 1997; and Thomas Yoho, SEC concurring review partner for KPMG on the Xerox engagement from 1997 to 2000. Safran was suspended from practicing before the SEC for three years; Conway, for two years; and Dolanski, for one. In addition, Safran and Conway agreed to a civil penalty of US$150,000 each; Dolanski, to a penalty of US$100,000. Yoho agreed to a censure.
On 30 March 2008, Xerox and KPMG agreed to settle a shareholder lawsuit dating back to 2000, claiming that Xerox manipulated its accounting to inflate its earnings. Under the agreement, Xerox made cash payments totalling US$670m, while KPMG paid US$80m into the settlement fund. Xerox made its payments in five instalments during the year.
COMMENT: Xerox's financials have been restated and so we can't put the originals through our A&G Screen. However, our analysis of the originals suggests that large receivables and a lack of operating cash flows were warning signals.
Xerox: SEC Investigation, 29 Jun 2000
CNN Money: Xerox faces SEC probe, 29 Jun 2000
Associated Press: Xerox Finds Accounting Irregularities in Mexico, 3 Feb 2001
Xerox: Restatement of Financials, 31 May 2001
WSJ: Xerox Restates Results From Past Three Years, 1 Jun 2001
Xerox: Change of Auditor, 5 Oct 2001
WSJ: Xerox Fires Auditor KPMG as Tension Continues Following Financial Scandal, 8 Oct 2001
SEC: Xerox Settles SEC Action Agrees to Pay $10 Million Fine, 11 Apr 2002
US Court: SEC v Xerox Corporation – Complaint, 11 Apr 2002
WSJ: SEC Says Xerox Misled Its Investors And Conducted Improper Accounting, 12 Apr 2002
The New York Times: Xerox Revises Revenue Data, Tripling Error First Reported, 29 Jun 2002
SEC: Charges KPMG and 4 Partners with Fraud in Connection with Audits of Xerox, 29 Jan 2003
SEC: Six Former Senior Executives of Xerox Settle SEC Action Charging Them With Fraud, 5 Jun 2003
US Court: SEC v 6 Xerox Execs – Complaint, 5 Jun 2003
SEC: KPMG Pays $22 Million to Settle SEC Litigation Relating to Xerox Audits, 19 Apr 2005
The New York Times: KPMG Settles With S.E.C. on Xerox Audits, 20 Apr 2005
SEC: Four Current or Former KPMG Partners Settle SEC Litigation Relating To Xerox Audits, 22 Feb 2006
CFO: KPMG Partners Settle Xerox Charges, 22 Feb 2006
The New York Times: Xerox to Pay $670 Million to Settle Securities Case, 28 Mar 2008
Xerox: Annual Report - YE Dec. 2001
Xerox: Annual Report - YE Dec. 2000
Xerox: Annual Report - YE Dec. 1999
Xerox: Annual Report - YE Dec. 1998
SEC: Xerox Filings