GE, Tesla and Snap Are Under Accounting Investigation. Here’s What They Should Worry About.

Companies that lag their peers sometimes cut accounting corners to make themselves appear stronger than they really are. But is the risk of getting caught worth it?

The recent news that the Justice Department and Securities and Exchange Commission are looking at the accounting and disclosures of General Electric, Tesla and Snap does not bode well for the companies. An investigation of possibly faulty accounting typically looks deep into corporate books and public statements, and the government rarely commits resources without evidence that there may be significant misstatements.

GE has been under scrutiny since January for an insurance charge totaling $15 billion over seven years related to long-term care and other policies. In October, the company announced a $22 billion accounting charge to write down the value of its power business. A division rarely loses that much value overnight. The SEC and Justice Department expanded their investigations to include the latest charge, most likely to determine whether GE delayed recognizing such a sizable hit in the hope its fortunes would improve and allow it to avoid dealing with the problems.

Tesla already settled a securities fraud lawsuit with the SEC over improper tweets by Elon Musk, its chief executive, about potentially taking the company private. That case revealed a broader investigation of the company about how it forecast production of its Model 3 sedan in 2017, including disclosure that the SEC issued a subpoena about production rate projections for the vehicle.

Snap disclosed that the SEC and Justice Department sent it subpoenas for records related to its disclosure about competition from Instagram when it went public in March 2017. Regulators are investigating whether the company understated the impact of Instagram on its own growth — a key issue for investors in a tech company built around rapid user growth.

Unsurprisingly, all three companies vowed to cooperate with the government. Snap has taken the position that its disclosures were “accurate and complete,” while Tesla asserted that “to our knowledge no government agency in any ongoing investigation has concluded that any wrongdoing occurred.” Companies generally provide little information about how an investigation is progressing until they obtain a clear picture from the government about what might have gone awry.

Accounting investigations can take months, or even years, to be resolved. That leaves investors with uncertainty as investigators pore over corporate records and try to build a case — and little hobbles a company’s stock price more than investor uncertainty.

The presence of the Justice Department in all three investigations intensifies the pressure. Under a provision of the federal securities law, any person or company that “willfully and knowingly” makes a false statement in any report filed with the SEC can be prosecuted. Another rule makes it a violation for a company to “falsify or cause to be falsified, any book, record or account.” Unlike a securities fraud claim, which requires proving an intent to mislead investors, accounting violations only require proof that false information was incorporated into corporate documents and financial statements — a much easier standard to meet.

Unlike SEC regulators, who typically settle cases without an admission or denial of liability, federal prosecutors generally require a company to acknowledge its violations in a statement of facts that is then incorporated into a deferred prosecution agreement. Any resolution of a criminal case, even if the company does not have to plead guilty, means that investors will be able to piggyback on the acknowledgment in private securities fraud lawsuits. That could add to the cost of any penalty that might be imposed.

Warren Buffett once pointed out that “you only find out who is swimming naked when the tide goes out.” But when your competitors are posting record profits and sales, the incentive to make yourself appear better can be very tempting, at least as long as the tide is high.