U.S. accuses 8 former AOL executives

Federal regulators filed civil lawsuits Monday against eight former America Online executives, accusing them of participating in illegal accounting practices that inflated the online giant’s reported revenue by more than $1 billion.

Former Chief Financial Officers John Michael Kelly and Joseph A. Ripp, as well as several leaders of the company’s deal-making business affairs unit, were among those charged. Four executives agreed to settle with the agency for about $8 million. They include David M. Colburn, head of the business affairs team, who agreed to pay $4 million.

All four who settled did so without admitting to or denying the allegations against them.

In the complaints filed in a federal court in Manhattan, the Securities and Exchange Commission contended that the former AOL executives “knowingly or recklessly engineered, oversaw and executed a scheme to artificially and materially inflate the company’s reported online advertising revenue.”

The lawsuits were the result of a drawn-out investigation by the SEC that began in 2002 after a Washington Post story on a series of unconventional deals involving the online giant. In 2005, AOL’s parent company, Time Warner Inc., reached its own settlement with the SEC, agreeing to pay $300 million.

“From our perspective, this is one of the most egregious accounting frauds in recent memory,” said Scott W. Friestad, associate director of the SEC’s enforcement division.

Attorneys for defendants Kelly; Ripp; Steven E. Rindner, former senior executive of business affairs; and Mark Wovsaniker, former head of accounting policy, said the men did not settle with the SEC because they were not involved in the wrongdoing.

At the center of the charges is what the SEC described as an elaborate accounting scheme designed by the AOL business affairs unit between 2000 and 2002, around the time of AOL’s merger with Time Warner. At the time, the online firm was under intense pressure to prove to investors that its advertising business was healthy, despite the fact that many firms had begun to falter with the bursting of the technology bubble.

To bolster their earnings statements for investors and Time Warner, AOL executives allegedly worked up illegal marketing arrangements with firms such as WorldCom, Hewlett-Packard Co., Sun Microsystems Inc. and Veritas Software, according to the lawsuits. In those agreements, AOL allegedly paid the firms to buy online advertising space from AOL, booking the proceeds as revenue in a practice known as “round-trip” transactions.

The SEC contended that all eight executives participated in the alleged shams and that the four who declined to settle -- Kelly, Ripp, Rindner and Wovsaniker -- took part in at least one of three types of accounting maneuvers.

In one scheme, AOL is said to have offered to pay higher prices for goods and services from vendors, who in exchange promised to buy ads on the site.

Another tactic involved business mergers, in which AOL allegedly agreed to increase the price it paid to buy a company as long as the firm in turn agreed to buy ads on AOL’s site. AOL also allegedly took proceeds from legal settlements and counted them as advertising revenue, according to the government.

Ripp and Wovsaniker served as witnesses in separate federal cases against former AOL employees engaged in illegal accounting, which showed that the pair tried to expose the malfeasance of other executives, their lawyers said.

Ripp “exposed fraud that led to two federal prosecutions,” said his attorney, David Geneson. “In one of those cases, the federal prosecutor in open court called him a ‘white hat’ at AOL, who was fixing problems, not creating problems. There is no question this lawsuit is just plain wrong.”

The executives, whose careers have been beleaguered by the six-year investigation, hope a trial will bring an end to their ordeal, the lawyers said.

“Steven Rindner is a decent and honorable young man who conducted himself appropriately during his three years at AOL,” said his attorney, Mark J. Hulkower.

The SEC said it had e-mails and other evidence to back up its allegations.

In addition to Colburn, those who agreed to settle were a former senior manager of business affairs, Eric L. Keller; former controller James F. MacGuidwin; and Jay B. Rappaport, another former senior manager of business affairs.

Colburn and MacGuidwin promised not to serve as officers or directors of a public company for 10 years and seven years, respectively.