## Facts

- Valley Systems, Inc. (Valley) provided industrial-cleaning services.
- Fiscal year (FY) 1992 was Valley’s first year after its initial public offering.
- During FY 1992, Valley’s financial condition began to decline.
- Valley’s former chief financial officer directed that certain costs be recorded as capital expenditures, claiming they related to “equipment.”
- In fact, the purported equipment did not exist.
- Valley included this capitalization in its FY 1992 quarterly reports, affecting the company’s reported financial results.
- During Valley’s year-end audit, outside auditors discovered the unsupported capitalization.
- After the discovery, Valley restated its quarterly reports for the year to correct the reporting.
- The Securities and Exchange Commission instituted an administrative proceeding against Valley, alleging that the original quarterly financial reports violated SEC regulations.

## Issues

1. Whether Valley’s FY 1992 quarterly reports were materially misleading, and therefore violated SEC reporting requirements, when they capitalized expenses as “equipment” that did not exist.
2. Whether Valley’s subsequent restatement, made after auditors found the unsupported entries, eliminated or reduced responsibility for the original quarterly reports as filed.
3. What issuer-level reporting and recordkeeping obligations apply when improper accounting entries directed by an officer result in inaccurate periodic reports.

## Decision

- The SEC instituted and resolved an administrative enforcement matter (AAER No. 707) concerning Valley’s FY 1992 quarterly reporting.
- The SEC treated the capitalization of expenses as “equipment” that did not exist as improper accounting that rendered the original quarterly reports inaccurate under SEC reporting rules.
- The SEC viewed Valley’s later restatement as corrective action after discovery by auditors, but not as a retroactive cure for the previously filed quarterly reports.
- The SEC issued an enforcement release reflecting its findings and the resulting administrative disposition of the matter.

## Legal Principles

- An issuer’s periodic reports must present financial information that is not materially misleading; misstated financial statements can violate SEC reporting requirements.
- Costs may be capitalized only when they properly relate to a real, supportable asset; recording ordinary expenses as an asset, especially where the asset does not exist, is improper and can materially affect reported results.
- A public company remains responsible for the accuracy of its filings even when the improper accounting was directed by a senior officer.
- Correcting errors through a restatement may be relevant to remedial outcomes, but it does not make earlier filed reports accurate as of the time they were filed.
- Year-end audit detection of unsupported entries does not eliminate the issuer’s duty to maintain accurate accounting records and reliable reporting processes throughout the fiscal year.

## Conclusion

In AAER No. 707, the SEC addressed Valley Systems’ FY 1992 quarterly reports, which capitalized expenses as “equipment” that did not exist, and treated the original filings as improper under SEC reporting requirements; Valley’s later restatement corrected the record going forward but did not erase the earlier reporting problem reflected in the quarterly reports as filed.


In re Valley Systems, Inc., Accounting & Auditing Enforcement Release No. 707 [1995–1998 Transfer Binder] Fed. Sec. L. Rep. (CCH) ¶ 74,222 (Sept. 14, 1995)