UNITED STATES OF AMERICA Before the SECURITIES AND EXCHANGE COMMISSION SECURITIES EXCHANGE ACT OF 1934 Release No. 36670 / January 3, 1996 ACCOUNTING AND AUDITING ENFORCEMENT Release No. 745 / January 3, 1996 ADMINISTRATIVE PROCEEDING File No. 3-8911 --------------------------: : In the Matter of : ORDER INSTITUTING PROCEEDINGS : PURSUANT TO SECTION 21C OF THE : SECURITIES EXCHANGE ACT Fernando Cappuccio, : OF 1934, AND FINDINGS AND : CEASE AND DESIST ORDER : Respondent. : : --------------------------: I. The Commission deems it appropriate and in the public interest that public administrative proceedings be instituted pursuant to Section 21C of the Securities Exchange Act of 1934 ("Exchange Act") to determine whether Fernando Cappuccio ("Cappuccio") committed or caused violations of Sections 10(b), 13(a) and 13(b)(2) of the Exchange Act and Rules 10b-5, 12b-20, 13a-1, 13a-11, 13a-13, 13b2-1 and 13b2-2 thereunder by causing Path Communications Corporation ("Pathe") to improperly recognize revenue from a sale and leaseback agreement with an entity that Pathe owned and/or controlled. II. In anticipation of the institution of these administrative proceedings, Cappuccio has submitted an Offer of Settlement ("Offer"), which the Commission has determined to accept. Solely for the purpose of these proceedings, and any other proceedings brought by or on behalf of the Commission or in which the Commission is a party, and without admitting or denying the findings contained herein, Cappuccio consents to the issuance of this Order and the entry of the findings contained herein. III. Accordingly, IT IS HEREBY ORDERED that proceedings pursuant to Section 21C of the Exchange Act be, and they hereby are instituted. IV. On the basis of this Order and Respondent's Offer of -------------------- BEGINNING OF PAGE #2 ------------------- Settlement, the Commission finds-[1]- the following: A. Facts 1. Path Communications Corporation Pathe, during the relevant period, was a motion picture company with common stock registered pursuant to Section 12(b) of the Exchange Act. Pathe filed with the Commission periodic and other reports including quarterly reports on Form 10-Q, Annual Reports on Form 10-K and Current Reports on Form 8-K. Pathe's common stock was traded on the New York Stock Exchange until August 1992, when it was delisted. 2. Credit Lyonnais Bank Nederland ("CLBN") CLBN is the Dutch subsidiary of Credit Lyonnais, S.A. which is a French bank. CLBN was the primary banker for Pathe. 3. Respondent: Fernando Cappuccio Cappuccio was Pathe's chief financial officer from August 1988 through November 1989 and was a director of Pathe from November 1989 through April 1991. 4. The Sham Sale and Leaseback Transaction with Cinema 5 On December 29, 1989, Cappuccio and certain officers of Pathe caused the company to enter into an agreement by which it purported to sell and lease back a number of movie theaters and other real estate in the United Kingdom and the Netherlands to a third party, Cinema 5 Europe N.V. ("Cinema 5"). Cinema 5 was to pay $231 million for the properties, $184 million in cash and $47 million in the form of a six-month demand note. As a result of reporting revenue from the Cinema 5 transaction, Pathe improperly recognized gains of $56 million at 1989 year-end and $47 million in the first quarter of 1990. Cappuccio falsely represented to Pathe's independent accountant, and to others, that Cinema 5 was owned and/or controlled by a prominent Italian media magnate. Instead, as Cappuccio knew, Cinema 5 was not an independent third party, but was controlled entirely by Pathe. Pathe itself provided the funds to establish Cinema 5. Several days before the sale/leaseback, Pathe changed the name of a dormant subsidiary, Cannon Japan B.V., to Cinema 5. On December 29, Pathe purportedly sold Cinema 5 to Fininvest International Ltd., a Seychelles Island company, for $2.5 million. However, Pathe loaned that money to Fininvest through a line of credit provided by CLBN. The $184 million cash portion of the consideration Cinema 5 thereafter "paid" Pathe for the theaters and other real estate was financed entirely by CLBN. CLBN did not advance new credit, but in effect substituted Cinema 5 for Pathe as the debtor on preexisting loans. The Managing Directors of Cinema 5 --------- FOOTNOTES --------- -[1]- The facts, findings, and conclusions herein and the entry of this Order are solely for the purposes of this proceeding and shall not be binding on any other person or entity named in any other proceeding. 2 -------------------- BEGINNING OF PAGE #3 ------------------- after its purchase by Fininvest were friends and business associates of Giancarlo Parretti, Pathe's Chief Executive Officer. Cappuccio knew that Pathe controlled Cinema 5, and took steps to facilitate the transaction and to conceal the true ownership and/or control of Cinema 5. Cappuccio, while on Pathe's board of directors, was given power of attorney by Cinema 5 to negotiate the sale/leaseback transaction with Pathe on behalf of Cinema 5, and acted as Cinema 5's sole representative in arranging the transaction. He did not choose the United Kingdom properties that Cinema 5 purchased on the basis of ordinary factors such as location or anticipated revenues. Instead, he delegated the selection of particular properties to a Pathe official, directing him to identify properties with a total value of $130 million, the amount of a delinquent loan Pathe's United Kingdom subsidiary owed CLBN. Cappuccio acknowledged to another Pathe official that the Cinema 5 transaction was "an in- house transaction and as such, there was no third party principal," and that the Italian media magnate was "the face" that Pathe was putting on the Cinema 5 transaction. In January, 1990, Cappuccio met with Pathe's auditors in Los Angeles, California in connection with their audit of Pathe's financial statements for fiscal 1989 ("the 1989 audit"). In the course of that meeting Cappuccio was questioned about the Cinema 5 transaction. Cappuccio did not disclose that Cinema 5 was controlled by Pathe; nor did he disclose that the transaction was a financial sham entered into for the purpose of artificially inflating Pathe's income and reducing its debt. On January 22, 1990, Pathe filed with the Commission a Current Report on Form 8-K concerning the Cinema 5 transaction, which falsely stated that Cinema 5 was an unrelated third party and failed to disclose that Pathe controlled Cinema 5. On or about February 1, 1990, Cappuccio drafted and arranged for the dissemination of a press release concerning the Cinema 5 transaction that was materially false and misleading in that it described the transaction as an arms-length sale. On March 27, 1990, Pathe filed its annual report on Form 10-K for the fiscal year ended December 31, 1989, which Cappuccio signed. That filing included the same materially false statements concerning the Cinema 5 transaction. In addition, because Pathe improperly recognized revenue from the Cinema 5 transaction, the financial statements included in the Form 10-K were materially false in that they reported a loss before income taxes and extraordinary items of $44 million instead of a loss of $100 million, an understatement of more than 125 percent. Pathe also recognized revenue from the Cinema 5 transaction during its first fiscal quarter in 1990. As a result, the financial statements in Pathe's first quarter report on Form 10-Q for 1990 reported earnings before income taxes and extraordinary items of $46 million instead of a loss of $1 million. That revenue was also incorporated in the financial statements included in Pathe's second and third quarter reports, and caused them to be materially false. Those quarterly reports also failed to disclose that Pathe controlled Cinema 5 and falsely stated that Cinema 5 was an unrelated third party. B. Legal Discussion 3 -------------------- BEGINNING OF PAGE #4 ------------------- Section 10(b) of the Exchange Act and Rule 10b-5 promulgated thereunder prohibit the use of any means or instrumentality of interstate commerce or the mails to employ devices, schemes or artifices to defraud, to make any untrue statement of a material fact or omit to state a material fact necessary in order to make the statements made, in the light of the circumstances under which they were made, not misleading, or to engage in any act, practice or course of business which operates or would operate as a fraud upon any person in connection with the purchase or sale of a security. Section 13(a) of the Exchange Act and Rules 13a-1, 13a-11 and 13a-13 thereunder require issuers of registered securities to file with the Commission annual, quarterly and current reports. Implicit in the Commission's reporting rules is the requirement that information contained in a required report must be accurate. See, e.g., SEC v. Savoy Industries, Inc., 587 F.2d 1149, 1165 (D.C. Cir. 1978), cert. denied, 440 U.S. 913 (1979). Exchange Act Rule 12b-20 requires that these periodic reports contain all information necessary to ensure that statements made in them are not materially misleading. Section 13(b)(2)(A) of the Exchange Act requires issuers to make and keep books, records, and accounts that accurately and fairly reflect the transactions and dispositions of their assets. Rule 13b2-1 prohibits any person from, directly or indirectly, falsifying or causing the falsification of any books, records, or accounts subject to Section 13(b)(2)(A). Rule 13b2-2 prohibits officers and directors from, directly or indirectly, making or causing to be made materially false or misleading statements, or omitting to state, or causing another person to omit to state, any material fact in order to make statements made not misleading, to an accountant in connection with any audit or examination of the financial statements required to be filed with the Commission, or the preparation or filing of any document or report to be filed with the Commission. As described above, Cappuccio caused Pathe to enter into the sham transaction with Cinema 5. He drafted a press release and signed Pathe's 1989 Annual Report on Form 10-K, both of which were materially false in that they did not disclose that Pathe controlled Cinema 5. Moreover, the transaction was falsely described and improperly accounted for in Pathe's books and records, and in its 1990 Quarterly Reports on Form 10-Q and Current Report on Form 8-K. Cappuccio failed to acknowledge that Pathe owned or controlled Cinema 5 when he was questioned about the transaction by Pathe's auditors. Cappuccio thereby caused Pathe's violations of Sections 13(a) and 13(b)(2) of the Exchange Act and Rules 12b-20, 13a-1, 13a-11, and 13a-13 thereunder, and violated Section 10(b) of the Exchange Act and Rules 10b-5, 13b2- 1 and 13b2-2 thereunder. V. FINDINGS Based on the above, the Commission finds that Cappuccio committed or caused violations of Sections 10(b), 13(a) and 13(b)(2) of the Exchange Act and Rules 10b-5, 12b-20, 13a-1, 13a- 11, 13a-13, 13b2-1 and 13b2-2 thereunder. 4 -------------------- BEGINNING OF PAGE #5 ------------------- VI. ORDER In view of the foregoing, the Commission deems it appropriate and in the public interest to accept the Respondent's Offer of Settlement. Accordingly, IT IS HEREBY ORDERED, pursuant to Section 21C of the Exchange Act, that Cappuccio cease and desist from committing or causing any violation, and committing or causing any future violation, of Sections 10(b), 13(a) and 13(b)(2) of the Exchange Act and Rules 10b-5, 12b-20, 13a-1, 13a-11, 13a-13, 13b2-1 and 13b2-2 thereunder. By the Commission. Jonathan G. Katz Secretary 5