Federal officials have escalated an investigation into accounting practices at Under Armour at a time when the Baltimore-based sports apparel maker is struggling with worsening losses amid coronavirus-related store shutdowns.
Under Armour and two top executives, including founder Kevin A. Plank, have been alerted that the U.S. Securities and Exchange Commission could file a civil or administrative case alleging unlawful accounting methods, the company disclosed Monday.
The warning came in the form of “Wells Notices” sent by the staff of the SEC to the company, as well as to Plank, executive chairman and brand chief, and David E. Bergman, chief financial officer, on July 22.
The notices recommend the SEC file an enforcement action against the company and each of the executives alleging violations of federal securities laws, according to Under Armour. Such notices are not formal charges of wrongdoing nor final determinations of any violations.
Under Armour reiterated Monday that its accounting actions were “appropriate” and said it would respond to SEC staff as part of the Wells Notice process.
The company and its executives “expect to engage in a dialogue with the SEC Staff to work toward a resolution of this matter,” Under Armour said in its filing.
The company last November confirmed that its accounting methods are being investigated by both the SEC and the U.S. Department of Justice. Federal officials have reportedly been looking into whether the company manipulated its sales numbers to make them appear stronger.
Wells Notices, typically issued by the SEC’s enforcement division, can represent a significant step in an ongoing SEC investigation, said Eric Beste, a former prosecutor with the Department of Justice who worked with the SEC on accounting and securities fraud cases. The SEC could decide to file a civil lawsuit or an administrative case within the agency. If violations are found, companies or individuals could face financial penalties and individuals could be barred from serving as officers or directors of public companies.
“Not every Wells Notice leads to an enforcement action,” Beste said. “Having said that … , it’s a significant event and escalation in the process.”
The company’s position that it did not violate laws could mean there will be no quick settlement, said Beste, a San Diego-based partner in the business law firm Barnes & Thornburg.
“This one looks like they’re fighting it,” he said.
The investigation adds one more obstacle to an already struggling brand.
For years, Under Armour experienced explosive growth. But a nearly seven-year streak of quarterly sales gains in excess of 20% ended in the last three months of 2016.
The company was in the midst of a multiyear turnaround plan designed to stabilize business and reverse a slide in sales when COVID-19 struck the U.S. The sports apparel seller posted a wider-than- expected loss for the first three months of the year as it temporarily shut stores, laid off 6,700 employees temporarily and saw unprecedented drops in demand in the U.S. and internationally.
The turnaround strategy has focused on the brand’s athletic performance roots and on innovation in its products. But it also has been forced to discount merchandise to slash excess inventory.
The government regulators’ notices relate to the company’s disclosures of so-called pull forward sales of goods to its customers, such as retailers, that were counted as revenue from the third quarter of 2015 through Dec. 31, 2016, Under Armour said in an SEC filing. A pull forward sale typically includes a sale to a customer that occurs earlier than originally planned. The SEC is looking at the company’s disclosures of the use of pull forward sales to meet sales objectives.
Beste said such “pull forward” sales can be legitimate if a company’s revenue recognition policy allows for it.
Problems can arise if such methods are not properly disclosed.
“By not disclosing the fact that you are using pull forward, you could be creating a misleading impression to investors that … normal sales are getting bigger and bigger, when instead you are managing your sales pretty aggressively,” he said.
Such practices could mask that sales are actually declining or sales goals were not met, he said.
The Evening Sun
“The SEC Staff has not alleged any revenue recognition or other violations of generally accepted accounting principles relating to that or any other period,” Under Armour said in its SEC filing.
On Monday, shares of Under Armour fell throughout the day before closing at $11.20 each, up 2.7%. The company plans to release its second quarter financial results Friday.
After the SEC notice was disclosed, CFRA Research said it expects a greater than expected loss for the brand this year. CFRA revised its estimate to a loss of $1.52 per share from its previous estimate of a $1.37 loss, mainly related to COVID-19-related shutdowns. CFRA maintained its “sell” rating on shares of Under Armour.
“We maintain our negative investment view on our belief that the market doesn’t fully appreciate that [Under Armour’s] growth narrative is broken,” Camilla Yanushevsky, a CFRA equity analyst, said in a report Monday.
She said the brand will be unable to meet its 5-year growth targets because of wider-than-expected losses last year and in the first three months of this year.
“Also, it has largely missed out on the athleisure trend, which we see as one of the most resilient fashion categories amid COVID-19 as consumers turn to comfort at home,” Yanushevsky said.
Under Armour has remained focused on performance apparel, targeting customers who buy gear to wear during workouts and sports.