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When should registrants disclose aggressive sales initiatives?

floyd-josephDoes your company use special sales programs at quarter end to meet revenue targets? Do these programs involve discounts and other special payment terms?

If so, the Securities and Exchange Commission’s recent settlement with Under Armour, an athletic apparel, footwear and accessories business, raises important subjects to consider regarding your financial statement disclosures.

Per the SEC, the company’s disclosures failed to describe the impact of special initiatives at quarter end to increase reported revenues and meet analysts’ estimates, and the lack of proper disclosures rendered the statements misleading.

Needless to say, quarter end sales initiatives occur at many companies, which is why it is important for registrants to understand the SEC’s comments and consider whether there is any applicability to their sales programs.

The allegedly flawed disclosures in Under Armour’s public filings related to the impact of what the company termed “pull forward sales” for the third quarter of 2015 through the fourth quarter of 2016.

Importantly, the term “pull forward” should be read literally as the company incentivized customers to take shipment on orders sooner than otherwise required and did so by offering discounts and favorable payment terms.

Before discussing the information and key considerations from the SEC’s release, a couple facts worth highlighting include:

  • First, there were no findings by the SEC that sales during these periods failed to comply with generally accepted accounting principles (GAAP).
  • Second, the SEC did not file any enforcement action against management for what are described as allegedly misleading disclosures regarding sales information and trends.
  • Finally, even with no findings of GAAP violations and no enforcement actions against management, the company agreed to pay a civil monetary penalty of $9 million for alleged misleading disclosures caused by the failure to describe the impact of the pull forward program.
  • The company neither admits nor denies any wrongdoing.

Below is a summary of the SEC’s required disclosure guidance; an overview of the pull forward program; quotes from select emails regarding the program that were cited in the release; and, finally, matters to consider from the release when evaluating quarter end sales efforts for possible disclosures in public filings.

Management discussion and analysis guidance

The management discussion and analysis section of a registrant’s public filing allows interested parties insights into management’s understanding and views about the business’s future opportunities and risks.

Guidance for the disclosures required in this section is found in Item 303 of Regulation S-K, Management’s Discussion & Analysis. Item 303(a)(3)(ii) of Regulation S-K requires that management describe, among other things, “any known trends or uncertainties that have had or that the registrant reasonably expects will have a material favorable or unfavorable impact on net sales or revenues or income from continuing operations” in its annual report on Form 10-K.

In addition, Item 303 requires that reports describe “any other significant components of revenues or expenses that, in the registrant’s judgment, should be described in order to understand the registrant’s results of operations.”

Instruction 3 to Item 303(a) of Regulation S-K requires that the “discussion and analysis shall focus specifically on material events and uncertainties known to management that would cause reported financial information not to be necessarily indicative of future operating results or of future financial condition.”

Item 303(b) of Regulation S-K also requires discussion of material changes in such known trends or uncertainties in quarterly reports on Form 10-Q.

Per the release, and as explained below, Under Armour’s use of pull forwards created an uncertainty or event that was known to the company’s senior management and was reasonably expected to have a material effect on the registrant’s future revenues. The failure to disclose and attribute its growth in revenue to the use of pull forwards therefore resulted in misleading disclosures.


Per the SEC, for six consecutive quarters from the third quarter of 2015 through the fourth quarter of 2016 (“periods under review”), the company used pull forwards to help it meet analysts’ revenue estimates.

The company reported its financial results for the periods under review in earnings calls and in periodic reports filed with the SEC. At all times, the company described various factors underlying its consistent revenue growth without ever disclosing that a significant portion of its revenue and revenue growth resulted from the use of pull forwards.

In essence, the company engaged in a continual acceleration of revenue until the market could no longer absorb the inventory.

The significance of the pull forward sales program was evident in the emails cited in the release, including, for example, per the SEC:

  • A company senior executive acknowledged the challenges caused by the 2015 pull forwards by stating in an email: “Let’s see how of [sic] this goes and if we can get enough pull-forwards or extra business to close the Q1 gap. The issue is that we pulled forward a lot in Q4 and there is not as much room in Q2 but we will see.”
  • In September 2016, the company requested additional pull forwards from a key customer, after already having asked to move more than $30 million in sales from the fourth quarter of 2016 to the third quarter of 2016. The customer responded by saying: “We just bought a bunch of your goods in early to help out your quarter … Now you want more … More … More … more … 30% [price discount] please.” The company ultimately agreed to a 25 percent price discount and an extra 30 days to pay to secure an additional $6.7 million of pull forwards.
  • Anticipating a revenue shortfall in the fourth quarter 2016, in September 2016 company senior management discussed a plan to ship a large dollar amount (ultimately over $50 million) of orders to a new customer in December 2016, rather than in 2017 as the customer had initially contemplated. A company senior executive acknowledged that the desire to ship the product early was being driven by pressure to meet analysts’ revenue estimates, saying that the customer “isn’t setting [Under Armour product in its stores] until February, so whether we thought it was $20 or $53 [million] or whatever, really [the customer] doesn’t want any of that product in December but we are shipping it and they are absolutely taking it from us as a favor. If we were a privately held company, we would not ship that product to them in December.”

Per the SEC, failing to disclose that the revenue growth being reported resulted from such aggressive sales efforts that effectively pulled sales from a subsequent period created a misleading impression of how Under Armour was performing and able to meet or beat analysts’ revenue estimates.

Internally, per the release, the company described the pull forward revenue as “bad,” “unnatural” and “unhealthy.” Without the same information, investors did not have the ability to fully and fairly evaluate the company’s financial results and compare results across periods.

Considerations when assessing quarter end sales programs

It would be naïve to deny that many companies don’t push for sales at quarter end, or that sales pipeline reports aren’t closely monitored to bring as much revenue to closure as possible and or needed to meet targets.

There is nothing wrong with these efforts, and consistent with the company’s accounting, special initiatives including discounting can be completely acceptable under GAAP for revenue recognition.

The SEC’s apparent concern, and thereby the question for registrants to ask themselves, is at what point do your sales initiatives at quarter end potentially harm your ability to meet future sales expectations?

The reporting requirement to discuss trends and uncertainties is certainly brought into focus when aggressive sales efforts, led by management, are nothing more than moving future sales into the current period.

The difficulty in making this assessment is estimating the point when, as mentioned above, the market can no longer absorb inventory, thereby causing an inevitable drop in future revenue. This concept is very similar to what’s referred to as “channel stuffing,” in which so much inventory is pushed into a network of distributors and resellers that they inevitably take less product in the subsequent quarters.

Generally, there are warning signs when special quarter end sales programs reach the problematic stage. For example, the amount of sales required under the special initiatives is greater each quarter. This happens because the company starts each quarter with a bigger hole to fill. Also, as noted above, the customers recognize the vendor’s conduct and demand greater discounts or other favorable terms to play the game. These warning signs were evident to the company.

Every registrant’s facts and circumstances will differ, so there is no bright line test for when disclosure of sales programs may be required. That said, registrants should be mindful of the goal for the management discussion and analysis section: Let investors see the company through management’s eyes.

Joseph J. Floyd, a CPA and attorney, is president of Floyd Advisory, a consulting firm in Boston and New York City that provides financial and accounting expertise in the areas of business strategy, valuation, SEC reporting and transaction analysis.

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