Herley Industries' Bizarre Saga

Aug.29.06 | About: Herley Industries, (HRLY)

Defense contractor Herley Industries (NASDAQ:HRLY) has a strange saga going on: the firm and its former chairman were indicted for fraud by the Defense Department in early June. Its auditors, BDO Seidman, unilaterally withdrew from their review and audit engagements because of scope limitations placed on them by the management in their review of the April 30 quarterly financials. And the NASDAQ has announced its intention to delist the company because of its lateness in filing those financials. For good measure, BDO Seidman is disassociating itself from the audit it performed in 2005 because it can “no longer rely on the representations of management provided to date.”

It might be handy for Herley to have an audit committee stacked with financial experts. Yet they don’t have even one, at least in accordance with the definition of “financial expert” as commonly applied to publicly traded companies these days. Go back to the audit committee report in the last proxy for Herley, and you’ll see a couple of startling admissions:

The members of the audit committee have substantial experience in assessing the performance of companies, gained as members of the Company’s board of directors and audit committee, as well as by serving in various capacities in other companies or governmental agencies. As a result, they each have an understanding of financial statements. However, none of them keep current on all aspects of generally accepted accounting principles. Accordingly, the board of directors does not consider any of them to be a financial expert as that term is defined in applicable regulations. Nevertheless, the board of directors believes that they competently perform the functions required of them as members of the audit committee and, given their backgrounds, it would not be in the best interest of the Company to replace any of them with another person to qualify a member of the audit committee as a financial expert.

Well, there’s a lot to be said for experience being the best teacher, and that “book-smart” isn’t always so smart. But looking back at this mess with 20-20 hindsight, the words “not in the best interest of the Company to replace any of them with another person to qualify a member of the audit committee as a financial expert” seem sadly comical. There’s a reason why a financial expert belongs on audit committees, and Herley has provided an excellent example.