| The U.S. Securities and Exchange Commission and the Ontario Securities Commission have imposed penalties on Cronos Group Inc., a cannabis producer with listings on the Toronto Stock Exchange and Nasdaq, for an accounting fraud from 2019. The SEC claims that Cronos overstated its revenue by $5.8-million. (All figures are in U.S. dollars.) It also failed to record a $234.9-million impairment charge related to its underperforming Lord Jones venture in a timely manner, according to the SEC. The allegations against Cronos are contained in an administrative order that the SEC filed on Monday, Oct. 24, alongside a parallel proceeding brought by the OSC. Cronos has agreed to pay $1.34-million (Canadian) to settle the OSC matter, with the SEC content to impose no fine based on the OSC settlement. In addition, the company's former chief financial officer, William Hilson, has agreed to pay $70,000 (Canadian) to settle the case. Neither admitted any wrongdoing in reaching the deal. The case, as set out in the SEC's order, stems in part from dealings in 2019 that Mr. Hilson arranged. The SEC says that the company found itself with a large amount of lower-quality cannabis (or "biomass" as the SEC calls it) sitting in storage. According to the order, the company struck a deal to unload the product for $2.5-million, with the sale to coincide with Cronos buying $2.1-million worth of resin from the same party. The problem, at least as the SEC sees things, is that Cronos treated the product it sold as one that generated revenue. The transactions, however, "lacked commercial substance" and should not have resulted in any revenue recognition, according to the SEC. The transactions were essentially an exchange of inventory. The companies repeated the same formula more than once, the order states. The SEC says that the arrangement went awry after a September, 2019, transaction that Mr. Hilson entered. According to the order, he led negotiations to sell a quantity of cannabis, with the buyer agreeing to buy the cannabis only on the condition that Cronos would buy it back the next quarter as some sort of "derivative product" (such as vaporizers). The problem arose when the buyer learned that Mr. Hilson would be leaving Cronos in December, 2019. The buyer could not obtain any assurance that Cronos would follow through with the deal after his departure, so it refused to pay for the cannabis. The SEC also cited Cronos for its ultimately disastrous acquisition of the Lord Jones brand in the U.S. in 2019. Cronos purchased the brand for $300-million, with the products under that name including CBD-infused lotions, gummies, bath salts and oils. Within two years, it was clear that the brand's value was considerably less than Cronos had recorded. According to the order, Cronos's internal projections showed that revenue from the brand would drop by 60 per cent. The brand faced significant competition as other sellers were discounting their products. As the SEC sees things, Cronos should have looked closely at a writedown for Lord Jones (or, in accounting speak, it should have performed an "interim impairment test"). The problems were apparent in the second quarter of 2021, but it was not until February, 2022, that the company wrote down the asset, the SEC says. The company then recorded charges totalling $234.9-million. As part of its settlement with the SEC, Cronos must hire a consultant to evaluate its internal accounting controls. The SEC has also imposed a three-year officer and director ban on Mr. Hilson. For shareholders, the sanctions come with Cronos trading far from its 2019 heights. The stock, which briefly touched $32.95 (Canadian) in 2019, closed at $4.02 (Canadian) Monday. |