Revenue-Recognition Problems in the Communications Equipment Industry Essay

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REV: AUGUST 23, 2007


Revenue-Recognition Problems in the Communications Equipment Industry
On November 21, 2000, Lucent Technologies announced that it was revising its fourth-quarter results as a result of revenue-recognition problems discovered by its auditors during the year-end financial review. The revision lowered revenues by $125 million and earnings per share by 2 cents from 18 cents. In response, Lucent’s stock price fell by 16%, to $17.56. One month later, on December 22, Lucent announced that after a more comprehensive review, revenues for the fourth quarter would need to be adjusted downward by $679 million, to $8.7 billion, and that earnings per share would be revised from the initially predicted 18
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Not surprisingly, most analysts responded negatively to the announcements of Lucent’s revenuerecognition problems. Michael Ching, an analyst with Merrill Lynch, lowered his rating of the company from long-term buy to long-term accumulate and lowered his 2001 earnings expectations from 65 cents a share to 20 cents a share after the November announcement (and to nil after the December announcement). In supporting his revision, Ching argued “it’s very dangerous to assume some of those revenue-recognition issues won’t impact revenue figures going forward. That’s why we’re being so cautious.”3 Paul Sagawa, at Sanford C. Bernstein, commented: “Over the last two or three years, lax financial controls have resulted in sales force pulling orders ahead into the last weeks of a quarter, often with the aid of customer discounts, in order to post quota-beating results”4 but remained optimistic: “. . . Debbie Hopkins, CFO is spearheading the implementation of strong financial controls and information systems.”5

1 Shawn Young, “Lucent Revises Its Revenues Downward—Total of $679 Million Is Cut For Fiscal 4 Quarter; 1 -Period Loss Is Seen,” Wall Street Journal, December 22, 2000. th st

2 Source of information on reasons for restatements: Ibid. 3 Michael Ching, Lengthening List of Questions: Lowering Long-Term Rating, Merrill Lynch, November 21, 2000.