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Law and Order Script? Manhattan DA Questions PwC about Tyco

PwC confirms request from district attorney; claims the firm is only supplying info. Plus: SEC examining whether a $200 million Tyco settlement was really hush money. Also: Where'd all the IPOs go?
Stephen Taub, | US
October 1, 2002

What did partners at PricewaterhouseCoopers know—and when did they know it?

This is what prosecutors in New York are trying to figure out as they investigate what Tyco International's outside auditor, PwC, knew about secretive, hefty bonuses paid to former Tyco executives. This, according to an article in the Wall Street Journal, citing people knowledgeable with the situation. The Journal also says prosecutors are looking into the accounting practices allegedly used to hide the payments.

PwC spokesman Steven Silber confirmed to the paper that the firm was being questioned by the Manhattan district attorney's office about matters relating to Tyco. But Silber added: "We have no reason to believe we will be anything but a provider of information for them."

On Monday, a PwC spokesman told Reuters: "The story is inconsistent with our understanding. We are cooperating with the Manhattan district attorney on the basis that the firm is simply a witness, a provider of information in these proceedings...We have no reason to believe we are anything other than a witness."

Tyco also confirmed on Monday that its accounting treatment of nearly $100 million in secret loans is part of the second phase of an internal investigation led by lawyer David Boies, according to the wire service.

PwC management reportedly said it is cooperating and assisting that internal investigation.

PwC has served as Tyco's auditor since 1994.

Tyco has hired a different accounting firm to conduct a new review of its accounting practices since 1999.

The big question, of course, is whether prosecutors will bring charges against PwC for its role at Tyco. Prosecutors will likely be looking into whether the accounting firm discovered the secret bonuses in the normal course of performing its audit work.

TheJournal claimed that some accounting experts who have reviewed a recent Tyco report on its internal investigation, filed with the Securities and Exchange Commission, say the accounting for the bonuses appears so egregiously wrong that a thorough audit should have caught it.

The paper also said prosecutors are probing whether PwC was aware that Tyco's proxy filings were incorrect but failed to do anything about it. Tyco management has admitted it didn't disclose some of the secret bonus payments in its proxies.

This is not PwC's first brush with government lawyers. In July, the auditor and its broker-dealer, PricewaterhouseCoopers Securities LLC, agreed to pay $5 million as part of a settlement with the SEC, which charged PwC with violating auditor independence rules.

The violations, which took place from 1996 to 2001, stem from PwC's use of contingent fee arrangements with more than a dozen different audit clients for which the firm's broker-dealer provided investment-banking services.

"The SEC's order finds that, by virtue of PwC's independence violations, the firm caused 16 PwC public audit clients to file financial statements with the SEC that did not comply with the reporting provisions of the federal securities laws," the commission stated in its order at the time.

It was the second-largest payment ever by an accounting firm to the SEC.

In 2001, the SEC investigated PwC for possible auditor independence violations regarding Vencor. That company later changed its name to Kindred Healthcare Inc. after emerging from bankruptcy.

SEC Probing Tyco Payment
On Monday, the Wall Street Journal also reported that the SEC and the Manhattan district attorney's office are investigating whether a secret $40 million payment that Tyco made to settle a lawsuit in 2000 was really a payoff to hide possible accounting improprieties.

That lawsuit stemmed from Tyco's acquisition of U.S. Surgical Corp. The conglomerate's management settled the case after plaintiffs claimed to have proof that U.S. Surgical Corp. slowed revenue growth and wrote off assets before the acquisition was completed, said the paper.

Bear in mind, the SEC has already cleared Tyco of charges that it depressed the results of scores of merger partners before acquisitions were completed. The thrust of those allegations: camouflaging the financials of acquisition targets made Tyco management look like an astute purchaser of companies, particularly since most Tyco acquisitions suddenly "got well" after the transactions were complete.

However, the Journal reported that three people with knowledge of the 1998 U.S. Surgical takeover said they were unsure if the SEC had later received the documents that the plaintiffs in the settled lawsuit against Tyco uncovered.

The article indicated that the plaintiffs apparently possessed correspondence between two top former financial executives discussing how Tyco could help U.S. Surgical slow its growth after Tyco agreed to acquire that company—but before the purchase was completed.

Reportedly, a former Tyco executive described the company's plan for U.S. Surgical as "financial engineering," according to the paper's account, citing people with knowledge of the memoranda.

The plaintiffs also apparently produced a Tyco document recommending which divisions U.S. Surgical should keep—and which ones the company should divest—before the merger. Federal securities laws prohibits any kind of premerger tampering.

"This transaction is part of the Phase 2 investigation by the law firm of Boies, Schiller & Flexner," which has been retained by Tyco, a spokesman for the conglomerate told the Journal. "The company will not have a detailed comment on it until the investigation is completed."

The Tyco spokesman added that the "matter has been discussed recently with the SEC" and that Tyco is trying to determine whether all the documents that should have been produced in 1999 and 2000 actually were.

Going, Going, Gone
These days, IPO seems to stand for "In Principle Only."

While plenty of private companies have announced plans to take their businesses public, few have. Indeed, the last three months will go down as the worst quarter for equity public offerings in 25 years.

Just six companies launched initial public offerings during the period, the fewest since 1977, according to Bloomberg, citing Jay Ritter, a University of Florida professor who tracks IPOs.

More than a dozen companies canceled their IPOs at the last minute.

Altogether, the six companies that did go public raised $21 billion. That's down from more than $30 billion raised during Q3 last year, when 15 companies went public.

It's almost impossible to imagine that just two years ago, 138 companies went public in the third quarter, according to Dealogic LLC.

Remarkably, the last company to test the lousy equities market during Q3 was LeapFrog Enterprises Inc., maker of educational toys. The company, which is backed by Michael Milken and Larry Ellison, went public way back on July 24. The shares of LeapFrog sold at $13, the low end of the company's anticipated price range.

"The drought in technology is prolonged and deep and it's one of the reasons why Robertson Stephens was shut down—lack of deals," Ritter told the wire service. "There's just not a whole lot of reason for people to be working right now."

The latest companies to scrap IPO plans include LipoScience Inc.—which canceled its $80 million offering after two attempts—and automobile finance specialist Long Beach Holdings Corp. Management at Long Beach hadn't even set an offering price range for its offering before scrapping the deal.

The few companies that did manage to bring IPOs to market during the third quarter had to substantially scale back their ambitions.

For example, former Tyco unit CIT ended up reducing its offering by a third before the company could convince investors to buy its shares. Home-decorating retailer Kirkland's also had to settle for a third less than its management had hoped to raise.

Despite the tepid market, several companies have plans to come to market soon. The list of hopefuls includes Dick's Sporting Goods Inc., which on Friday increased its anticipated price from $14—$18 to $15—$18. The company decreased the number of shares in the IPO, however, from 8.4 million to nearly 7.3 million. Keep in mind, though, that insiders may sell 4.5 million of the shares, up from 4.2 million.

Reversal of Fortune
So much for the nascent recovery in the junk-bond market.

After four straight weeks of net inflow to mutual funds, investors yanked a record $1.403 billion from these portfolios in the week ended Wednesday, according to AMG Data Services.

Meanwhile, on Monday Moody's Investors Service downgraded the long-term senior unsecured debt ratings of Comcast Cable Communications to Baa3. Moody's also lowered the long-term senior unsecured debt ratings of two of AT&T Broadband's subsidiaries (MediaOne Delaware Inc. and AT&T Broadband LLC) to Baa3 from Baa2.

In addition, Moody's ratcheted down the long-term senior unsecured debt rating of Comcast Corp. from Baa3 to Ba1. Comcast Cable Communications's short-term rating was also downgraded to Prime-3 from Prime-2.

"The rating action is based on Moody's view that Comcast faces a significant challenge in integrating a cable MSO [multiple system operator] that is over one-and-one-half times its own size, has been experiencing significant subscriber erosion, has the lowest margins in the industry, and requires significant network upgrade," said Moody's in a statement. "But the rating action also considers the strength of Comcast's management and their historical track record in successfully integrating much smaller, cable system acquisitions and swaps."

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