SEC subpoenas Elanco records related to sales practices

First, investors accused Elanco Animal Health Inc. of “channel stuffing,” the controversial practice of forcing more products through a distribution channel than a company can normally expect to sell.

Now the feds are getting involved.

Elanco disclosed on Monday that it received a subpoena from the U.S. Securities and Exchange Commission on July 1 related to its channel inventory and sales practices prior to mid-2020.

“The company has cooperated in providing documents and information to the SEC and will continue to do so,” Elanco said in its quarterly earnings statement. “Management believes its actions were appropriate.”

For months, the Greenfield-based maker of animal feeds and vaccines has denied it engaged in the controversial practice of overstuffing its distribution channels and inflating sales figures.

Under generally accepted accounting principles, companies that overstuff their distribution channels cannot book sales as revenue because the distributors will eventually return much of the products.

Elanco is facing a class-action investor lawsuit, claiming that it produced misleading financial information in 2020 that led to falsely increased stock prices.

The controversy began shortly after January 2020, when Elanco said it expected to post adjusted earnings per share between $1.09 and $1.16.

But as the COVID-19 pandemic hit, many companies, including Elanco, saw markets and revenue shrink. On March 24, 2020, Elanco said it expected possible revenue decline. On May 7, it released first-quarter results, which included a $60 million loss in channel inventory.

“In the first quarter, we made initial progress to meaningfully reduce channel inventory, primarily in our U.S. companion animal business, and we expect to further tighten channel inventory across all business areas, primarily in the second quarter,” CEO Jeff Simmons said in written remarks in the company’s quarterly earnings release.

He added: “The decrease in channel inventory is a structural change that will improve our working capital and maximize our operational flexibility in the current environment and beyond. While the actions we are taking with our commercial partners negatively impact our reported sales performance in the near term, these changes will strengthen our position, optimize our promotional approach and enable us to direct investment to the internal commercial activities that drive demand for our products over the long term.”

In August, Elanco reported that second-quarter sales fell 25%, to $586 million, due to lower demand and a reduction in channel inventories.

By this time, several investors had filed class-actions suits, claiming that Elanco’s engaged in improper business practices and issued misleading forecasts.

Specifically, the complaints said that when Elanco consolidated its distributors from eight to four, and increased the amount of inventory held by each distributor, the new distributors were not seeing sufficient demand to sell through the inventory and company’s revenue was reasonably likely to decline.

In January 2021, Elanco asked a federal judge in Indianapolis to throw out a “meritless” investor suit.

The company denied engaging in channel-stuffing, and said the sales incentives it gave to distributors, urging them to buy more products, was standard industry practice, and one the company had disclosed.

“Plaintiffs’ channel-stuffing allegations are meritless and do not come close to stating the type of facts that courts have recognized as indicative of channel-stuffing,” Elanco said in a court filing on January 13, 2021.

The SEC did not return a phone call Monday to IBJ asking for additional information on its subpoenas.

But Elanco reiterated in an email Monday that its business practices were appropriate.

“Ensuring continued transparency is important to us,” company spokeswoman Colleen Dekker said in the email,” and that’s why we chose to voluntarily disclose the subpoena we received from the SEC last month.”