What do the subprime mortgage crisis and the WorldCom scandal of 2000-2002 have in common? For an interview in the upcoming February issue of CFO magazine, we asked Cynthia Cooper that question.
As much as anyone, Cooper, who will soon publish Extraordinary Circumstances, her gripping account of her travails at Worldcom, should know. You might remember her as the internal-audit director who unearthed the massive accounting fraud by the defunct merger-hungry telecom.(My take on the book will soon appear on CFO.com.)
In WorldCom's case, fraud stemmed from "an attempt to mask losses that resulted, at least in part, from excessive risk taking and the bursting of the dot.com and telecom market bubbles," Cooper said in an E-mail message. To be sure, no fraud has yet been found in the evolving subprime crisis. But she finds strong parallels in the two fiascoes: in the bubbles, the access to cheap capital, and, especially, the risk-taking.
In the telecom industry of the late 1990s, the hazardous behavior "involved borrowing billions to expand networks at a frenzied pace," Cooper says, while the subprime mess is rooted in the practice of lending to high credit-risk home buyers.
The problem, however, might not be in the excesses of risk taking, but in the attempts to avoid the downside when you take the risks. Bernie Ebbers, the egomaniacal chieftain of Worldcom, kept adding to his personal risk exposure, borrowing millions from banks and his own company to buy such stuff as yacht clubs and timberland. When the company's stock tanked, he tried to finagle his way out by drawing on his influence with accommodating banks. Similarly, his finance chief, Scott Sullivan, thought he could manage the company's real economic perils via fraudulent financial reporting adjustments.
A similar thing has happened in the mortgage banking business. Aided by the outcry against home foreclosures, the banks have obtained accounting relief from the Securities and Exchange Commission. First, the banks sought to dump their lending risks via securitization; now they're being bailed out by regulatory legerdemain. In both the subprime crisis and WorldCom, it wasn't the aggressive risk taking that was the culprit. It was the assumption that you can take big chances without suffering the consequences if you lose. |
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