Merck 'inflated revenue by $14bn'

NEW YORK (CNN/Money) -- Shares of Merck & Co. tumbled Monday in pre-market trading after a Securities and Exchange Commission filing by the company revealed that more than $14 billion, or 10 percent, of revenue reported since 1999 was never actually collected by the company.

The filing made Friday was for the initial public offering of Merck's Medco pharmacy benefits unit, which is scheduled to debut some time this week. The money involved reflects copayments on prescriptions which health plan members using Medco paid when filling prescriptions. The copayments stayed with the pharmacies, but Medco booked the money as both revenue and an expense, raising the total reported revenue for the unit as well as for Merck. The revenue equals about 10 percent of Merck's sales since 1999.

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Shares of Merck (MRK), a component of the Dow Jones industrial average, fell $3.76, or nearly 8 percent, to $45.10 in pre-market trading on Instinet Monday following a gain of $1.58 Friday.

The company's practice of reporting copayments as revenue was first reported in an April SEC filing, but not widely known by investors until an article two weeks ago in the Wall Street Journal. The amount of the copayments and the percentage of the company's total revenue was not known until Friday's 200-page filing, though. The June 21 article in the Journal estimated that the revenue involved could come to $4.6 billion, or less than a third of what was included in Friday's filing.

Medco's filing did not suggest that there was anything improper about the reporting of the copayments as revenue. But the Journal, in reporting on the filing in Monday's edition, questioned whether the practice is proper.

"For a company such as Merck to reflect as revenues in its financial statements billions of dollars of co-payments a customer makes directly to another company, the pharmacy, which the pharmacy collects and never remits to Merck, just does not reflect the economics of what is occurring," the paper quoted Lynn Turner, a former chief accountant at the SEC who is now an accounting professor and director of the Center for Quality Financial Reporting at Colorado State University in Fort Collins. "If that is what the SEC accepts, then investors are in trouble and our financial reporting indeed needs improving."

Merck plans to sell off 20 percent of Medco through the proposed IPO, and expects to shed its remaining stake in a tax-free transaction about a year from now. The Medco IPO has been delayed twice and the company has been forced to cut its price range for the offering to $20 to $22 a share, down from $22 to $24.

The filing comes amid continuing concern about corporate accounting following the collapse of energy trader Enron Corp. late last year. Officials of telecom service provider WorldCom (WCOME) are scheduled to testify before a House panel later Monday about the company's recently disclosed accounting irregularities. On Tuesday, President Bush will speak in New York about corporate accountability and how he proposes to deal with recent problems.

The Journal said that Merck now faces at least four shareholder lawsuits due to the booking of the copayments as revenue, and that Merck said that it believes the suits are without merit.