U.S. SECURITIES AND EXCHANGE COMMISSION

Litigation Release No. 19215 / May 3, 2005

Accounting and Auditing Enforcement
Release No. 2242 / May 3, 2005

Securities and Exchange Commission v. Chesapeake Corporation, et al., C.A. No. 05 CV 00872 (D.D.C.) (HHK)

SEC Sues Chesapeake Corporation and Four Former Executives in Financial Fraud Case

On May 3, 2005, the Commission filed a civil injunctive action in the United States District Court for the District of Columbia against Chesapeake Corporation, a company headquartered in Richmond, Virginia; William T. Tolley, Chesapeake's former chief financial officer; Carlos A. Gonzalez, Chesapeake's former corporate controller; William D. Wiseman, a former chief financial officer of Chesapeake's former subsidiary, Chesapeake Display & Packaging ("CD&P"); and Douglas J. Rex, the former controller of CD&P's largest business unit, U.S. Display. Without admitting or denying the allegations of the Commission's complaint, four of the defendants have agreed to settle this matter by consenting to the entry of final judgments against them. The fifth, defendant Rex, has consented to the entry of a judgment which imposes injunctive and other non-monetary relief against him but defers for determination by the Court the amount of civil money penalty he will be ordered to pay.

The Commission's complaint alleges, among other things, that the defendants engaged in a financial fraud which resulted in Chesapeake materially misstating its reported quarterly earnings for the first and second quarters of 2000 and its anticipated earnings for the third quarter of 2000. Specifically, the complaint alleges that, in an effort to bolster CD&P's flagging financial performance and forestall a possible sale of CD&P, Wiseman and Rex improperly recorded revenue and delayed recording write-offs which had the result of materially overstating Chesapeake's net income for the first quarter of 2000, and smoothing improperly the earnings impact of the delayed write-offs over the second and third quarters of 2000. Tolley and Gonzalez knew, or were reckless in not knowing, of certain of the improper accounting practices prior to Chesapeake's filing of its first and second quarter financial statements with the Commission in quarterly Forms 10-Q, which Tolley signed in his capacity as Chesapeake's chief financial officer and Senior Vice President of Finance, and Chesapeake's issuance of an October 2, 2000 press release announcing its anticipated third-quarter earnings.

As alleged in the complaint, these improper accounting practices included:

• failing to offset $1 million in credit memos issued by U.S. Display to its customers in the first quarter of 2000 against first quarter 2000 revenues, and then improperly amortizing the $1 million in credit memos over the second and third quarters of 2000;
   
• failing to correct a $4.8 million overstatement of inventory in the first quarter 2000, opting instead to improperly amortize the $4.8 million incrementally over the second and third quarters of 2000;
   
• improperly recognizing a purported $1.5 million contingent receivable in the first quarter of 2000; and
   
• failing to write off approximately $1.1 million of this same receivable in the second quarter of 2000 when it became apparent that U.S. Display was unlikely to collect that amount, opting instead to improperly amortize the uncollectible portion in $214,000 increments each month through the close of the fiscal year.
   

In addition to the foregoing, the complaint also alleges that Rex posted two unsupported and fictitious journal entries, which Wiseman approved, that artificially increased U.S. Display's third-quarter 2000 earnings by $7.3 million in order to meet the earnings forecast previously provided to Chesapeake's senior management. These false journal entries were discovered before Chesapeake filed its third-quarter Form 10-Q with the Commission. Chesapeake undertook an internal investigation that identified certain of the accounting improprieties alleged in the complaint. In November 2000, Chesapeake restated its reported earnings for the first and second quarters of 2000 in filings with the Commission, and reduced its previously announced earnings for the third quarter of 2000.

Based on the facts alleged, the Commission charged the following violations:

• Chesapeake was charged with: (i) securities fraud in violation of Section 10(b) of the Securities Exchange Act of 1934 (the "Exchange Act") and Exchange Act Rule 10b-5; and (ii) with violating the reporting, books-and-records and internal controls provisions of Exchange Act Sections 13(a), 13(b)(2)(A), and 13(b)(2)(B) and Exchange Act Rules 12b-20 and 13a-13;
   
• Tolley, Gonzalez, Wiseman and Rex were each charged with: (i) securities fraud in violation of Exchange Act Section 10(b) and Exchange Act Rule 10b-5; (ii) knowingly falsifying Chesapeake's books, records, and accounts, and circumventing or failing to implement internal accounting controls, in violation of Exchange Act Section 13(b)(5) and Exchange Act Rule 13b2-1; and (iii) aiding and abetting Chesapeake's violations of Exchange Act Sections 13(a), 13(b)(2)(A), and 13(b)(2)(B), and Exchange Act Rules 12b-20 and 13a-13; and
   
• Tolley was charged with making false representations to Chesapeake's outside auditors, in violation of Exchange Act Rule 13b2-2, in connection with the outside auditors' reviews of Chesapeake's first and second quarter 2000 financial statements.
   

Without admitting or denying the allegations of the complaint, all of the defendants have agreed to settle the Commission's charges by consenting to the entry of final judgments (or, in the case of Rex, a judgment) that, if approved by the Court, would permanently enjoin each of them from further violations of the federal securities laws. In addition, Wiseman and Rex have consented to be permanently barred from serving as officers or directors of any public company. Tolley and Wiseman have consented to pay civil penalties in the amount of $50,000 each, and Gonzalez has consented to pay a civil penalty of $45,000. Rex has consented to the entry of a judgment which defers for determination by the Court the amount of civil penalty he will be ordered to pay.

Based upon the Court's anticipated entry of a final judgment permanently enjoining him, Wiseman has also consented to the Commission's issuance of an administrative order, pursuant to Rule 102(e)(3) of the Commission's Rules of Practice, that will suspend him from appearing or practicing before the Commission as an accountant.

SEC Complaint in this matter

http://www.sec.gov/litigation/litreleases/lr19215.htm