Struggling dot-coms still face accounting probes

PALO ALTO, Calif., Aug. 7 (Reuters) -- Many of them are dead, or dying, or have been long since dismissed by wary investors.

But lawmakers are watching the dot-com companies more closely than ever for signs of the sort of accounting fraud plaguing the rest of corporate America.

This week the San Francisco office of the Federal Bureau of Investigation set up a hotline for individuals to report any kind of suspected securities fraud, such as insider trading, faulty accounting or generally misleading statements.

Although the office maintains it has no special focus on all the dot-com companies that reside or once resided in its shadows, it also said it is not writing them off, even the dead ones.

"If the officers of (those defunct companies ) deceived their shareholders, or the public, we are very much interested in those types of cases," said Andrew Black, an FBI spokesman.

Echoing the same sentiment, Matt Jacobs, an assistant U.S. Attorney in San Francisco, said accounting fraud, including that which occurred at now-defunct companies, remains a major area of focus in his office.

Earlier this year the San Francisco U.S. Attorney prosecuted a case against the former president of the Internet software company Critical Path, who eventually pleaded guilty to securities fraud and said he recorded revenue that did not exist at all.

Asked whether the office would be bringing more cases of that sort, Jacobs replied, "Absolutely, yes."

"There was such a boom and people made so much money and then with the bottom falling out so severely, the economic stakes and the volatile stock prices made it a more fertile ground for fraud," he said.

Any new dot-com scandals would probably cause surprise on Wall Street since most of the companies have dropped off investors' radar and industry analysts say the bad news has mostly been aired already.

Long before accounting scandals broke at Enron and Worldcom, dot-com companies were already coming under fire for the way they stretched the truth about everything from the size of the markets they served to the amount of revenues they booked.

Delaying the storm

"I think there was a wave of issues with revenue recognition that were brought up more than a year ago," said Derek Brown, an Internet analyst with W.R. Hambrecht in San Francisco.

"Revenue recognition appears to have been the largest area of concern and that appears to have been dealt with quite some time ago."

Clearly, aggressive revenue recognition is old news for Internet companies. During the industry's go-go days three-to-five years ago, online content sites took a lot of heat for barter transactions, in which they swapped ad space on one content site for space on another, and then booked it as revenue, even though no real money changed hands.

Such barter transactions got tossed out when many content sites lacking in cash went out of business, and the surviving ones had to grow up and find real sources of revenue.

Likewise, a number of other aggressive practices that were once popular among dot-coms, such as reporting pro-forma earnings rather than bottom-line losses, and quickly writing down the cost of massive acquisitions, have also been exposed.

As early as the year 2000, for example, Internet media company Yahoo was publicly pledging to clean its income statement of the poor quality ad revenue from other dot-com companies.

When Yahoo reported third quarter earnings that year, it devoted considerable discussion to the fact that a large chunk of its ad revenue came from somewhat shaky dot-com companies, and warned that it might be lost in future quarters.

"If you look back at the last couple of years, we've been pretty transparent," said a Yahoo spokeswoman. She said that two years ago the company had already disclosed that some 40 percent of its advertising revenue came from dot-com companies, and that much of that was nonrecurring.

Safa Rashtchy, an analyst at U.S. Bancorp Piper Jaffray, suggested the candor that companies like Yahoo showed could help explain why they were showing steep declines in revenue a long time ago, while AOL Time Warner was still maintaining its online advertising business was solid.

A lot of leads

In retrospect, he said, it was not that AOL was so much better at bringing in revenue as its reported revenue declined more slowly than the rest.

"AOL was kind of the last of the dot-coms to fall," said Rashtchy. "They kept on going when everyone else said the ad market was coming apart. It was a situation where they were going against the trend."

Last week AOL Time Warner said that the U.S. Department of Justice had started an inquiry into the accounting practices of its America Online division. The Securities and Exchange commission has also opened an inquiry. AOL has said it is cooperating in the investigations and that it's comfortable that it followed correct accounting rules.

In two of the strongest signs of a crackdown, U.S. President George W. Bush last month signed a law quadrupling the penalties for accounting fraud. In addition, the SEC has set a deadline of Aug. 14 for executives to swear to the accuracy of their financial statements.

One other dot-com company that, like America Online, managed to go against the trend for a long time was the real estate site Homestore.com. Westlake Village, Calif.-based Homestore distinguished itself years after the dot-com business started to go south, by insisting that it had averted the storm.

But late last year the company, whose Web site features information related to buying or renting a home, disclosed it had overstated revenue and restated results for 2000 and 2001 because of advertising barter deals.

Are there more Homestore's still to be discovered?

Joshua Ronen, a professor of accounting at New York University's Stern School of Business, believes so. Ronen said any trick one company found to "window dress" results was bound to be copied throughout the business world.

"These practices are very prevalent, and more (Internet) companies are likely to make headlines," said Ronen.

The FBI's new securities fraud hotline also seems to be producing good tips. Barely a day after the phone line was set up (at (800) 207-7676 or "href="http://sanfrancisco.fbi.gov">http://sanfrancisco.fbi.gov), more than 20 calls and e-mails had been received.

"Some of the tips we've gotten are very promising and even corroborates ongoing investigations," Black said.