Dell Settles Accounting Case With SEC
The Securities and Exchange Commission is revisiting allegations of a long, symbiotic relationship between Dell and Intel.
A complaint filed Thursday alleges Dell was a recipient of massive, multibillion-dollar, multi-year Intel payments in order to keep Dell from adopting processors from Advanced Micro Devices, an argument also put forward in an antitrust lawsuit last year by the New York attorney general and in an AMD 2005 lawsuit against Intel--settled last year--among other legal actions.
The SEC on Thursday announced a $100 million settlement with both Dell, the company, and Michael Dell, chairman and CEO. The PC maker is neither admitting nor denying the allegations in the SEC's complaint.
Dell, however, reiterated on Thursday that it had previously instituted remedial measures, including finance and accounting training, organizational structure changes separating the accounting function from the finance function, internal financial and accounting processes, and systems infrastructure investment to ensure effective, transparent accounting and appropriate internal financial controls.
Though Intel is not a party to the case, it made the following the statement: "We cooperated with the SEC in the case. Any characterization of Intel's relationship with Dell has not been tested or adjudicated by any court. This is strictly a settlement between Dell and the FTC."
The SEC filing on Thursday starts by alleging that "beginning at least as early as 2001, Intel began to provide additional 'rebates' to Dell and other personal computer makers that were not related to the contractual marketing program and that were different in character from ordinary course price discounts. No one disclosed these payments to the market."
The SEC continues, alleging that the percentage of Dell's operating income that was based on Intel payments increased dramatically between the third quarter of 2003 and the third quarter of 2007, and this jump in payments was tied to thwarting a competitive CPU offering from AMD. Dell acknowledged in its public filings that Intel was the sole source of CPUs, but disclosed little other pertinent information, the SEC alleges. (CPU stands for central processing unit, essentially the brain of a computer.)
"Disclosures omitted material facts relating to Intel's payments or credits to Dell, which...soared from $61 million in QIFY03 (10 percent of operating income) to over $720 million in QIFY07 (76 percent of operating income), an increase of about 1,000 percent in four years. The increase in Intel payments to Dell coincided almost exactly with AMD's introduction of its Opteron CPU that was, in the view of many, technologically superior to Intel's competing CPU."
The complaint continues. "From FY03 through FY05, investors did not have an actual understanding that Dell received exclusivity payments from Intel. In FY06, certain analysts began speculating that Dell received benefits from Intel for using their CPUs exclusively, though they could not estimate the value of these benefits."
Intel had several rebate programs, including Market Development Funds (MDF) and Mother of All Programs (MOAP)--the latter was changed later to Meet Competition Program (MCP), according to the SEC. MOAP (or MCP) was particularly problematic because it gave Dell a six percent rebate going forward on all of Dell's CPU purchases, the SEC alleges.
"This MOAP approach...relieved Dell of the need to justify each rebate that it sought," according to the SEC.
Intel's payments did not fit any fixed pattern, the SEC claims. "Instead, taken together, the overall growth of the MCP payments largely reflected Dell's desire to meet its quarterly forecasts and Intel's desire to keep Dell from buying AMD products."
Dell would cite a variety of reasons for its financial performance but never specify the hefty Intel payments, the SEC alleges. "Citing 'declining component costs' in its filings and earnings calls was materially misleading. Dell failed to disclose that the gross margin improvements were due to the MCP payments," according to the SEC.
The SEC complaint continues: "Dell would often seek additional rebates from Intel in order to close a gap between its forecasted results and its earnings targets. Dell was quite open with Intel about the reasons it was requesting additional money...In Q3FY04, the quarter in which Intel created the 'Tactical and Strategic Fund' that was intended to run from Q4FY04 to Q3FYQ5, Dell asked Intel to advance $40 million from that fund. Contemporaneous Intel notes prepared in September 2003 by Intel's lead negotiator with Dell stated that Dell sought the $40 million lump sum advance to 'save their quarter' and referenced Dell's 'current Qtr jam.' The advance, which comprised 4.4 percent of Dell's operating income in that period, contributed one penny to Dell's EPS. Dell met analysts' consensus estimate of 26 cents."
And in first fiscal quarter of 2005, Dell made it clear that payments from Intel would allow it to meet street estimates in an e-mail from Dell's chief accounting officer to Michael Dell, Chief Executive Officer Kevin Rollins, and Chief Financial Officer Jim Schneider. "In early March 2004 (QIFY05), Dell's then-Chief Accounting Officer ('CAO') informed Michael Dell, Rollins, and Schneider that Dell was running behind on its forecasts, but that Dell should be able to meet the consensus EPS number of 28 cents 'as long as we get $75 million from Intel.'"
Ultimately, Intel provided a $70 million lump sum payment to Dell, allowing it to meet analyst EPS estimates, according to the SEC.
And the financial stakes were high. Dell executives had been advised that Intel would cut MCP payments significantly if Dell adopted AMD processors. "Dell modeled the financial impacts of using AMD CPUs in addition to Intel's. In certain of these models...Dell assumed that it would lose about 50% of the MCP payments if it added any AMD products," the SEC alleges.
The SEC also alleges that Intel in the fourth quarter of 2005 created a $275 million program called the "Operton Fund." Opteron was the name of AMD's competing processor.
On May 18, 2006, Dell announced that it would add AMD to its product lines by the end of the year. "In response, Intel cut its MCP payments to Dell by over a quarter of a billion dollars," the SEC alleges.
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