Merck said its Medco unit had included 12.4 billion dollars in "co-payments" collected by pharmacies from patients as revenue, even though Medco never received the cash.

The copayments -- 2.838 billion dollars in 1999, 4.036 billion dollars in 2000 and 5.537 billion dollars in 2001 -- were revealed Friday in a filing with the Securities and Exchange Commission (SEC) prior to the sale of 20 percent of Medco to the public.

But Merck, which first informed the SEC of the copayments system in April, managed to avert a widely-feared rout on a jittery Wall Street. Its stock fell 1.56 dollars, or 3.19 percent, to 47.30 dollars in early afternoon trade.

"Merck is confident that Medico's practice of recognizing retail copayments as revenue is in accordance with generally accepted accounting principles," Merck spokesman Christopher Loder said.

"The practice has no impact on Merck net income or earnings per share because a corresponding equivalent amount is also included in the cost of revenue."

Merck, based in Whitehouse Station, New Jersey, had included an explanation of the copayments in its registration of the Medco initial public offering with the SEC, Loder said.

Plans for the Medco sale were proceeding.

"We are proceeding with the offering and hope to price (the stocks) this week," Loder said.

Merrill Lynch analyst Steven Tighe downgraded his rating on Merck from a "buy" recommendation to a "neutral" position.

While the accounting treatment had no impact on the net profit of Medco or Merck, the size of the sums involved was significant, he said in a report.

The increased investor and SEC scrutiny threatened to delay the initial public offering in Medco, Tighe said.

"With the SEC looking at the amendments that Merck filed on Medco, we are concerned about any further irregularities that may be found and any concerns that this investigation will generate regarding the ability of Medco to secure new contracts as well as maintain existing contracts," Tighe added.

In its SEC filing, Merck said it had booked the co-payments as gross revenue because the company had special responsibilities to customers that made it the "principal" actor in the transaction under official accounting rules.

Wall Street, meanwhile, was nervous. Its blue-chip barometer, the Dow Jones industrials average, fell 118.03 points, or 1.26 percent, to 9,261.47 in early afternoon trade.

"Trading volume is still very low but the Merck news is definitely intensifying jitters among investors about corporate profits just as the reporting season is about to kick off," said Jay Susskind, director of trading with Ryan, Beck and Co.

Investor confidence has also been undermined ahead of testimony by current and former WorldCom top executives to Congress to provide their version of events relating to the company's 3.8 billion dollar profit restatement.