On November 12, 2009, the SEC announced the settlement of its first Regulation G enforcement action.  Regulation G prohibits the presentation of non-GAAP financial measures in a misleading way and requires companies to present—alongside the non-GAAP financials—the most directly comparable GAAP measures and a clearly understandable reconciliation of the GAAP and non-GAAP measures.  Although the SEC created Regulation G in 2003 in the wake of the Sarbanes-Oxley Act, this is the first time the SEC has used it as a basis of an enforcement action.

In this case, the SEC alleged that the CEO, CFO and other senior officers of SafeNet, Inc. directed SafeNet employees to use improper accounting procedures to intentionally misstate the financial condition of the company, as well as to mischaracterize these accounting issues on a company earnings call.  Specifically, the SEC claimed that SafeNet employees improperly classified ordinary operating expenses as nonrecurring expenses and excluded significant recurring operating expenses from its non-GAAP results in order to meet earnings targets.  In addition, the SEC asserted that SafeNet officers engaged in a stock option backdating scheme.

While the SafeNet case involved fraud related to pro forma financial statements and the Regulation G claim itself was only one part of the SEC's prosecution, the case nevertheless serves as a good reminder of Regulation G's two principal mandates:

• Don't confuse or mislead.  The SEC pursued SafeNet and its employees because they reported non-GAAP financial measures in ways the SEC viewed as misleading to investors.
• Reconcile to GAAP.  Companies must present the most directly comparable GAAP measures and a clearly understandable reconciliation of the GAAP and non-GAAP measures.

© 2009 Perkins Coie LLP