The Securities and Exchange Commissions campaign to clamp down on how companies recognize revenue in the free-wheeling Internet world is beginning to cause pain.
FreeMarkets announced last week that SEC staff asked it to reclassify revenue from its largest customer, Visteon, because Visteon received warrants to buy 1.75 million shares of FreeMarkets stock.
The SEC wants FreeMarkets to call the $8 million it received from Visteon last year and the $2.8 million booked in the first quarter as payment for the warrants, and not revenue for products and services.
Analysts said the commission is trying to force companies to keep to the straight and narrow when booking revenue. Commerce One could be at risk because it has similar warrants with automotive exchange Covisint, said Doug Augenthaler, a securities analyst at CIBC Oppenheimer, in a note after the FreeMarkets announcement.
"It appears that the SEC is paying closer attention to the way companies present their statements for review," said Kaushik Shridharani, a securities analyst at Bear, Stearns & Co. "It is a fair comment that the SEC is making. This was more than Visteon and FreeMarkets agreeing to do business."
The SEC refused to comment on FreeMarkets warrant problems.
The commission acted after FreeMarkets filed notice of plans to acquire software vendor Adexa, said Joan Hooper, senior vice president and chief financial officer at FreeMarkets. The transaction with Visteon took place a year ago and auditors had already certified FreeMarkets annual statement, she noted.
Hooper said she would not be surprised to see other companies face the same issue because the SEC is "just catching up" with the way transactions have been made in the new economy.
"This position is still developing and emerging," Hooper said. FreeMarkets has not decided whether it will appeal the SEC staff recommendations, because to do so might delay the Adexa acquisition, she said. If the company has to abide by the SECs guidelines, the results will be lower revenue but no change in profits, because expenses will be reduced, she noted.
The day before FreeMarkets reported its earnings, SeeBeyond Technology reported pro forma first-quarter revenue of $50.3 million. After a deduction for amortization of warrants issued to General Motors, revenue was $49.4 million, the middleware vendor said. SeeBeyond gave GM warrants to acquire 624,000 shares of its stock when GM became a customer.
Revenue tied to warrants also bit Broadcom earlier this year, and the company in March restated last years results after 3Com canceled purchase orders connected to warrants. Still, Broadcoms earnings rose because of the restatement.