What Caused SEC Investigation for Healthcare Services Group, Inc.?

Note – This article has been updated to clarify the following: In the notification of late filing for their 2018 annual report, Healthcare Services Group disclosed the receipt of an SEC subpoena, after nearly 18 months of investigation. Previously, the article stated the subpoena was issued after nearly 18 months of investigation.

On March 4, 2019, Healthcare Services Group, Inc. [HCSG] disclosed that the company will delay its 2018 annual report because the Securities and Exchange Commission (SEC) is conducting a formal investigation into earnings per share (EPS) calculation practices. The investigation has been ongoing since November 2017, and the company received a subpoena related to this matter in March 2018.

Here is the disclosure:

“Healthcare Services Group, Inc. (the “Company”) received a letter in November 2017 from the Securities and Exchange Commission (the “SEC”) regarding an inquiry that the SEC is conducting into earnings per share (“EPS”) calculation practices and requesting that the Company voluntarily provide certain information and documents relating to its EPS rounding and reporting practices. The Company also received a subpoena in March 2018 from the SEC in connection with these matters.

Since the inception of the inquiry, the Company has been providing information and documents to the SEC. Additionally, during the fourth quarter of 2018, the Company authorized its outside counsel to conduct an internal investigation, under the direction of the Company’s Audit Committee, into matters related to the SEC subpoena. The Company continues to cooperate with the SEC’s investigation.”

Interestingly, back in July 2018, Dave Michaels of The Wall Street Journal (WSJ) reported that the SEC is investigating the EPS rounding practices of at least 10 companies. According to the article, the SEC probe was triggered by an academic article that explored the phenomena of “quadrophobia”, or an abnormally low rate of number “4” appearing in the tenth digit of EPS calculations.

At the time the WSJ article was written, the names of the companies were not disclosed. Based on the regulatory filing alone, we cannot say with certainty whether Healthcare Service Company was one of the ten companies noted in the WSJ article.

Yet, the language in the 8-K filing looked similar to the SEC probes discussed in the WSJ article, so we decided to follow the spirit of the academic paper and look at the history of the EPS disclosures for the quarterly periods in 2015 through 2018.

Health Services Group rounds EPS numbers to the second number after the decimal point, so we looked at the third number after the point. The third number after the decimal point of at least five would allow EPS rounding up to the next penny per share.

At least on the surface, the Diluted EPS disclosure appears to follow the pattern discussed in both the paper and the WSJ article. The third digit was equal to “4” in only Q2 of 2017. Also, in nine out of twelve quarterly periods, the third digit after the decimal point was greater than “4”.

In any case, regardless of the exact cause of the SEC investigation, circumstances appear to be turning worse for the company – with a formal subpoena disclosed after nearly 18 months of investigation.

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