I have previously written on the Caterpillar kerfuffle. Search Warrant Executed Against Caterpillar HQ, Apparently Related to Tax (Federal Tax Crimes Blog 3/6/17; 3/8/17), here; and The Whistleblower Behind Caterpillar Tax Commotion (6/2/17), here. A district court has just dismissed a shareholder claim of securities fraud against Caterpillar for inadequate and misleading disclosures about the search warrant and criminal investigation. Société Générale Securities Services, GbmH v. Caterpillar, Inc. (N.D. Ill. No. 17 cv 1713), order dated 9/26/18, here.
Several government agencies, including the IRS, obtained and executed a search warrant. The apparent focus was:
Caterpillar’s creation of a Swiss subsidiary, Caterpillar S.A.R.L. (“CSARL”) in 1999, through which Caterpillar paid an effective tax rate of 4-6% to the Swiss government. Société Générale alleges that CSARL lacked a proper business purpose and thus was not a legitimate tax reduction plan. A former employee filed a whistleblower lawsuit that was resolved through a settlement. After that lawsuit, however, the IRS, Congress, and other government agencies began investigating Caterpillar’s tax position.Large dollars are potentially involved, which could substantially affect Caterpillar's financial position and stock price. In addition, if indeed Caterpillar participated in illegal tax shenanigans, major fines and other financial and reputational consequences could apply.
When a registered public company has a significant event that could affect its share price, it has to make appropriate public announcements. Obviously, a previously undisclosed criminal investigation with a search warrant is a major event requiring some disclosures. Caterpillar made announcements which, according to the opinion, the plaintiff alleged were actionably inadequate by downplaying the potential financial effect of the investigations, particularly the potential for significant tax, penalties and interest. The Court summarized and categorized the claims as follows:
(1) General statements that Caterpillar’s consolidated financial statements are prepared in accordance with generally accepted accounting principles (“GAAP”). These statements appear in nearly identical form in Caterpillar’s Form 10-K (2013-2017) and Form 10-Q for each quarter of 2013 and 2014.
(2) Statements disclosing the IRS examination of tax returns from 2007 to 2009 in Form 10-K (2013 and 2014) and Form 10-Q (each quarter of 2014). The forms further state: “In the opinion of management, the ultimate disposition of these matters will not have a material adverse effect on our consolidated financial position, liquidity or results of operations.” In 2014, Caterpillar included the additional statement that this opinion included “the impact of a loss carry-back to 2005.”
(3) Lagacy’s testimony before the Senate Subcommittee and corresponding press release in advance of that testimony in which she referred to Caterpillar’s legal compliance with tax laws, that CSARL is not a shell corporation, and that Caterpillar remains convinced that its restructuring complied with the tax code.
(4) Caterpillar’s Form 10-K, 2015-2016 (all quarters) and 2017 (first quarter) disclosed the grand jury subpoena from January 8, 2015, stating: “The Company is cooperating with this investigation. The Company is unable to predict the outcome or reasonably estimate any potential loss; however, we currently believe that this matter will not have a material adverse effect on the Company’s consolidated results of operations, financial position or liquidity.” Caterpillar further states: “we believe that taxing authorities could challenge certain positions[,]” and reported that “[o]n January 30, 2015, we received a Revenue Agent’s Report (RAR) from the Internal Revenue Service (IRS) indicating the end of the field examination of our U.S. tax returns for 2007 to 2009 including the impact of a loss carryback to 2005. The RAR proposed tax increases and penalties for these years of approximately $1 billion primarily related to two significant areas that we intend to vigorously contest through the IRS Appeals process…. Based on the information currently available, we do not anticipate a significant increase or decrease to our recognized tax benefits for these matters within the next 12 months. We currently believe the ultimate disposition of these matters will not have a material adverse effect on our consolidated financial position, liquidity or results of operations. We expect the IRS field examination of our U.S. tax returns for 2010 to 2012 to begin in 2015. In our non-U.S. jurisdictions, tax years are typically subject to examination for three to eightI won't get into the details of the Court's treatment of the securities and fraud claims because they relate to law other than the focus of this blog -- federal tax crimes. But, federal tax crimes enthusiasts might be interested in the following excerpts (which at least I found interesting):
years.”
