Northwest Pipe faces new allegations
Company accused of fraud in updated lawsuit
Tuesday, January 4, 2011
Investors in Northwest Pipe Co. have updated their class action lawsuit against the Vancouver-based steel pipe manufacturer, adding allegations of wrongdoing and fraud by former and current company executives.
The new claims build on a suit first filed in December 2009, when shareholders accused Northwest Pipe of making “false and misleading” statements that inflated the company’s stock. At the time, the pipe maker had said that it would have to restate past financial reports. The company finally filed those belated documents in November 2010, and used them to more fully explain why it had overstated its profits by tens of millions of dollars. The company pointed to a lack of internal financial controls, a failure of communication and other procedural hiccups.
But the updated shareholders’ class action lawsuit paints a darker picture of why the company was plunged into an internal investigation of its accounting methods that saw it stop regularly talking to investors and ultimately led it to restate several years’ worth of financial statements.
The updated lawsuit, refiled on Dec. 20 in U.S. District Court in Tacoma, levels new allegations, including that former and current company executives deliberately misled shareholders about when revenue was recognized, manipulated the assignment of costs to make unprofitable contracts look profitable and pressured plant managers to order steel before it was needed in order to inflate quarterly revenue.
The company’s restatement of its financial information “was not due to simple mathematical errors or honest misapplication or oversight of complex accounting standards,” wrote San Francisco attorneys Eli Greenstein and Christopher Wood, who are representing shareholders.
Reached by phone Monday, George Mernick, the Washington, D.C., attorney who is leading the defense of Northwest Pipe, said he will file a motion to dismiss by the Feb. 3 deadline. He declined to comment further on the allegations against the company.
Those allegations are based, in part, on first-hand accounts of confidential witnesses who are former employees of Northwest Pipe, according to the lawsuit. The suit names three defendants: former chief executive and president Brian Dunham, chief financial officer and senior vice president of finance Stephanie Welty and the company itself. It demands compensatory damages, in an amount to be proven at trial, and other costs, including attorneys’ fees.
The updated lawsuit — led by Plumbers and Pipefitters Local Union No. 630 Pension-Annuity Trust Fund — is the latest challenge to Northwest Pipe, which manufactures large-diameter, high-pressure steel pipelines, primarily for drinking water systems. The company has 1,100 full-time workers and owns several manufacturing plants, including in Oregon, Colorado, California, West Virginia, Texas and Utah.
Although the company’s major manufacturing operations are located elsewhere, its headquarters in Vancouver — which employs about 50 people and houses the accounting and executive offices — looms large in the company’s accounting woes, according to the lawsuit.
Attorneys allege that Northwest Pipe’s “premature ordering of steel to inflate revenues” and the “resulting accumulation of unneeded steel” was in large part due to the company’s decision to “centralize the procurement of steel in the company’s headquarters — giving ultimate authority to Dunham.”
Before steel orders were centralized in Vancouver, the company’s plants ordered their own steel and, at the company’s Adelanto facility in California, for example, “the steel was used quickly,” resulting in less inventory at any one time. However, when the Vancouver headquarters took over the purchase of steel, the Adelanto plant’s inventory of unused steel “skyrocketed …,” according to the lawsuit.
While Northwest Pipe was allowed to recognize revenue when materials such as raw steel entered the manufacturing process, attorneys allege the company implemented the “fraudulent practice” of recognizing revenue when such materials were purchased. This practice was “well known throughout the company” and the company’s employees “raised their concerns with the company’s senior management, only to be rebuffed.”
As a result of this “improper revenue recognition,” the lawsuit contends, reported net sales were “overstated by tens of millions of dollars.” Attorneys also allege Dunham and Welty were motivated to engage in such practices because a major portion of their annual compensation was “directly tied” to the company’s financial performance, including specifically the company’s net income. Had the company issued “honest” financial results, the lawsuit alleges, “defendants’ bonus compensation would have been significantly reduced, if not eliminated.”
As a result of Northwest Pipe’s actions, the company “caused tens of millions of dollars of losses” to shareholders who had purchased stock at prices inflated by the accounting misdeeds, attorneys allege.
Problems first emerged at Northwest Pipe in November 2009, when the company announced it had delayed its third-quarter earnings report until it could resolve an internal investigation of accounting matters.
In addition to the class-action lawsuit, the company faces other challenges, which it reported in 2010:
• On March 16, Northwest Pipe said in a regulatory filing that it was the subject of an investigation by the U.S. Securities and Exchange Commission and that it would “cooperate fully.”
• On May 17, the company announced it was unable to timely file its third and fourth quarterly earnings reports, its annual report for 2009 and its quarterly earnings report for the period ending March 31. This news put it at increased risk of being removed from the Nasdaq stock exchange.
• On July 30, the company disclosed through the SEC that it had overstated its profits by $37 million to $47 million over the course of a number of years.
• On Oct. 8, the company said Dunham had resigned as president, more than six months after he stepped down as chief executive. Richard Roman, CEO since April, became president, too.
On Nov. 4, Northwest Pipe finally brought itself up to speed with financial reports, releasing its 2009 annual report, along with other restated financial reports going back to 2007 and more recent results. In its 2009 annual report, the company listed its challenges but also said it was taking steps to improve financial controls and that it was confident in its ability to do business. On Nov. 23, the company held its first earnings conference call in more than a year.
The company reported a return to third-quarter profitability, with a gain of $693,000, or 7 cents per share, for the period ended Sept. 30. That compares with a loss of $5.5 million, or 59 cents per share, for the same period a year ago. “We’re glad to be back talking to people again,” Roman said during the earnings call.