Red flags revealed in filings of firm linked to Caterpillar fraud

Thu Jan 24, 2013 6:15am EST
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By Clare Baldwin

HONG KONG (Reuters) - A Chinese mining equipment company at the centre of an alleged accounting fraud was also involved in a web of insider loans and asset transfers prior to its purchase by Caterpillar Inc., public filings show.

The transactions, while not illegal, should have sounded warnings about the company's finances when the U.S. firm came calling last year, corporate governance experts said.

The world's largest maker of tractors and excavators said last week it was writing off most of the $654 million value of its purchase of ERA Mining Machinery Ltd after uncovering "deliberate, multi-year, coordinated accounting misconduct" at its subsidiary Zhengzhou Siwei.

Caterpillar said an internal investigation had uncovered improper accounting of inventories, revenue recognition and cost allocation at Siwei, designed to overstate the profitability of the business in the years before it bought it.

Corporate disclosures from ERA filed prior to the takeover show some unusual transactions, including directors lending the company cash at relatively high interest rates and asset-shuffling between Siwei and related parties.

Investors and corporate governance experts say these were potential red flags that should have prompted Caterpillar and its team of lawyers, accountants and bankers to ask some searching questions before pulling the trigger on the deal.

"Every time there's a horror story like this, it acts as a damn good wake-up call that you need to look carefully before you do a deal," said David Holloway, senior managing director at FTI consulting and an expert in investigation of business fraud.

Caterpillar declined to comment on the ERA directors' loans and did not respond to a request for comment on Siwei's operations. ERA directors could not be reached for comment.   Continued...

CAT machines are seen on a lot at Milton CAT in North Reading, Massachusetts January 23, 2013. REUTERS/Jessica Rinaldi