Price Waterhouse & Co., one of the "Big Eight" accounting firms, was charged yesterday by the Securities and Exchange Commission with failing to discover that two of its corporate clients were making fraudulent claims of profitability to stockholders over a two year period.
Both PW clients, National Telephone Co. of Hartford, Conn., and Continental Mortgage Investors (CMI) of Boston, which at one time was the country's second biggest real estate investment trust, have since filed for bankruptcy.
The two SEC civil suits, naming the companies, certain of the companies' executives, and PW, were filed yesterday in U.S. District Court here.
All the defendants, except Sheldon Hart who is chairman of National Telephone, consented to entry of final judgments and other relief without either admitting or denying the SEC allegations.
A SEC spokesman said he thought that these were the first two SEC cases in which PW has been named as a defendant. Increasingly, in recent years, the commission has been holding accountants responsible for the actions of their clients.
Boards of directors have also been held responsible for their corporation's actions. And in its suit against National the SEC said that six outside directors, some of them prominent Hartford businessmen, "failed in their obligation to see to it that the company adhere to the mandate of full disclosure. . ."
National designed, installed, leased and maintained telephone systems for corporate customers. These lines connected with lines leased from regulated telephone companies.
The SEC complaint alleged that between 1974 and 1975, when National filed under Chapter XI of the Bankruptcy Act, revenues, earnings and assets were materially overstated by the company.
Under its method of accounting, long-term leases of its equipment were immediately recognized as sales on company books, even though a "substantial portion of National's leases were actually cancellable."
The SEC said National reported that its revenues increased from $261,-000 in 1971 to $19.3 million in 1974, but in 1975 it suddenly had a loss of $10.8 million.
PW gave National unqualified opinions for 1973 and 1974, because, the SEC said, the firm's partner and audit manager on the account did not use "due professional care."
In the CMI suit, the SEC said that the one-time REIT had assets exceeding $825 million.
After reporting steadily increasing earnings, going from $16.3 million in 1971 to $19 million in 1974, CMI suddenly reported losses of $140.2 million for the fiscal year ending March 31, 1975. A year later the REIT filed for Chapter XI Bankruptcy.
CMI the third largest company to go into bankruptcy reorganization, behind Penn Central Co. and W.T. Grant Co. Grant eventually went into liquidation, and, according to an SEC official, the courts may soon decide whether CMI will be forced into liquidation, too.
The SEC charged that CMI inflated earnings, falsely claimed that its business was "broadly diversified," failed to disclose high risk real estate loans, and failed to disclose "exorbitant" advisory fees paid to CMI's management company Continental Advisers.
CMI also "attempted to conceal losses in loans," the SEC said, through "sham" financial transactions.
As part of the settlement of the SEC suit, PW said it would return to the court-appointed receiver audit fees of $120,000 paid by CMI in 1973 and 1974. Moreover, PW agreed to have its auditing practices reviewed by an independent committee and to implement "reasonable recommendations."