By Alison Rice. In yet another accounting scheme exposed, three former Homestore senior executives pleaded guilty to criminal corporate fraud charges in October for illegally manipulating Homestore's revenues.
Under plea agreements announced in September by the Department of Justice, former Homestore COO John Giesecke and former CFO Joseph Shew acknowledged a conspiracy to commit securities fraud; Giesecke admitted to wire fraud; and former Vice President John DeSimone pled guilty to insider trading.
According to government documents, Giesecke and Shew engaged in a complicated scheme called "round-tripping," which essentially used Homestore's own money to inflate its revenues.
It worked like this. The company paid inflated prices to vendors for goods and services, money which the vendors were expected to use to purchase advertising from "major media companies." These media companies, which also had agreements with Homestore, then purchased advertising from Homestore in amounts "dependent on, and correlated to, the amount of advertising purchased through Homestore's referrals," according to court documents.
It was complex--and illegal. "These 'round-trip' transactions and the accompanying circular flow of money enabled Homestore to recognize its own cash as revenue in violation of [generally accepted accounting principles (GAAP)]," according to charges filed by the U.S. attorney's office. "These illegal arrangements allowed Homestore to fraudulently inflate its revenue by essentially buying that revenue in violation of GAAP."
And it bought a lot of it. As a result of the fraudulent practice, Homestore inflated its advertising revenue by $46 million, or 64 percent, for the first three-quarters of 2001, according to the Securities and Exchange Commission (SEC). The company restated its 2001 financials in April of this year.
Photo: Doug Jones
Giesecke, Shew, and DeSimone also faced civil charges filed by the SEC, which accused them of securities fraud, lying to auditors, falsifying financial records, and "aiding and abetting Homestore's reporting and record-keeping violations," according to SEC documents. Those charges were also settled in September with the defendants neither admitting nor denying the allegations--but with significant impact to their pocketbooks. The three former execs will be required to repay millions in stock profits realized while they misled investors and analysts. Those "ill-gotten gains" add up to $4.6 million: $3.45 million for Giesecke, $1.05 million for Shew, and $177,796 for DeSimone. The money will go to Homestore shareholders. As for those vendors and other Homestore execs with insider trading profits, neither the Justice Department nor the SEC would comment on possible future charges, given that the investigation remains ongoing. "I can't get into the specifics of who else might be a target of the investigation," says Thom Mrozek, public affairs officer for the U.S. attorney's office in Los Angeles, where the three pled guilty.
Meanwhile, the Westlake Village, Calif.-based Homestore continues to operate under new management. It remains uncertain how the company, which has not been charged with any wrongdoing, will emerge from the situation. Its stock (Nasdaq: HOMS) closed at 85 cents Nov. 1--a long fall from its tech bubble high of $122.25 in January 2000. "The patient suffered great bodily damage--most of it self-inflicted--and it's not out of the ICU yet," says Lanny Baker, an analyst with Salomon Smith Barney.
But there is some cause for hope. Baker also sees promise in Homestore's plan to unbundle media offerings such as its "featured home" ads from technology products such as Web sites and offer them separately to customers. Those programs are expected to roll out sometime in 2003.
Improved financials may come shortly before that. Homestore, which currently provides "very little" guidance to analysts, expects operations to be "cash-flow positive" in December, according to company spokeswoman DeLise Keim.