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Saturday, December 29, 2012

Questions Remain Over Hewlett\'s Big Charge on Autonomy Acquisition

The $5 billion fight over accounting allegations at Hewlett-Packard shows no sign of abating.

In November, H.P. took a $8.8 billion charge as it wrote down its acquisition of Autonomy, a British software company that it acquired in 2011. H.P. said that “more than $5 billion” of the charge was related to accounting and disclosure abuses at Autonomy. H.P. added that a senior executive at Autonomy pointed to the questionable practices after Mike Lynch, Autonomy's founder and former chief executive, left H.P.

Mr. Lynch denied the allegations. In November, he said the accounting moves that H.P. highlighted were legitimate under international accounting rules, and he demanded that the company be more specific in how it arrived at the $5 billion number. H.P. on Thursday released its annual report for its 2012 fiscal year, noting that the United States Justice Department “had opened an investigation relating to Autonomy.”

The report discusses the methodology it employed when making the $8.8 billion charge, but it did not break out exactly how the alleged accounting improprieties were behind $5 billion of that charge.

Mr. Lynch seized on that. In a statement on Friday, he said that H.P.'s report had “failed to provide any detailed information on the alleged accounting impropriety, or how this could possibly have resulted in such a substantial write-down.”

This accounting rabbit hole has real world consequences.

H.P. management, led by the company's chief executive, Meg Whitman, has proceeded with a feisty certainty since the outset of this spat. If the $5 billion figure is not ultimately substantiated, shareholders may doubt H.P. management's judgment. Also, annual reports are supposed to be exactly the place that investors can go to get their questions answered.

The fact that the $5 billion part of H.P.'s case is not repeated there should give shareholders pause. The report avoids words and phrases that would help a reader understand just how much of an impact the alleged improprieties had. The report says lower financial projections for Autonomy contributed to the write-down. In one part, it said those financial projections “incorporate” H.P.'s analysis of what it believed to be improper accounting. In another section, the report says the changed financial projections were “driven” by the alleged abuses.

That sort of language led Mr. Lynch to say in his Friday statement that, “H.P. is backtracking.”

H.P., however, says it's doing nothing of the sort. In a statement released after Mr. Lynch's on Friday, the company. said, “As we have said previously, the majority of this impairment charge, more than $5 billion, is linked to serious accounting improprieties, disclosure failures and outright misrepresentations.”

The statement also appeared to respond to the criticism that more details about the $5 billion should have appeared in the annual report. H.P. said the report, “is meant to provide the necessary overview of H.P.'s financial condition, including our audited financial statements, which is what our filing does.” The company added, “We continue to believe that the authorities and the courts are the appropriate venues in which to address the wrongdoing discovered at Autonomy.”

Sifting through the Autonomy weeds could obscure the bigger question: Was everything above board at Autonomy? H.P. may have overstated the impact of what it calls improprieties in the charge. But Autonomy may still have had unreliable numbers that overstat ed its value at the time of its acquisition.

Mr. Lynch says the poor performance of Autonomy once it was part of H.P. was down to H.P.'s mismanagement. But it could also have been because the new owners were not benefiting from the accounting that they have since questioned.

In some ways, the most intriguing detail in this mystery is the supposed whistle-blower who brought the accounting issues to management's attention. This person may have been able to show how what he or she believed to be chicanery was hidden from the accounting firms that checked Autonomy's books.

H.P. has enough performance issues that its executives will probably see the Autonomy issue as a distraction and shareholders may get little extra detail. By the sounds of it, that probably won't satisfy Mr. Lynch.

“It is time for Meg Whitman to stop making allegations and to start offering explanations,” is how he signed off his Friday statement.