Risk & Compliance

Closing the Books on Arthur Andersen

Last official day of business for U.S. accounting firm; overseas units merged or shuttered. Elsewhere: SEC ups its probe of Bristol-Myers, an inter...
Joseph RadiganAugust 30, 2002

When a reporter from Reuters recently called Aldo Cardoso, chief executive officer of Andersen Worldwide SC, all Cardoso had to say was, “Andersen is dead.” He refused to answer any more questions.

While Andersen has been headed towards oblivion following a string of high-profile auditing scandals, today marks the last business day the firm will be in operation in the U.S. In June, the company was convicted of obstruction of justice in U.S. District Court for its actions related to the Enron Corp. bankruptcy.

At that time, the accounting firm’s management told the Securities and Exchange Commission Andersen would cease its auditing business at the end of August (see “Jury Verdict Could Close Andersen by Aug. 31”). By law, the SEC cannot accept corporate financial statements that have been audited by a convicted felon.

Andersen, or what’s now left of it, operates with a loose operating structure around the globe. Each national division runs itself autonomously from the global parent. But in country after country, Andersen’s offices have either being merged into those of rival offices from the other Big Four accounting firms — or they have quietly gone out of business.

On Tuesday, the European Union approved the merger of Andersen’s German affiliate Ernst & Young, Reuters reported. The EU is still studying the proposed merger of the two accountancies’ French affiliates. Ernst is also likely to acquire Andersen’s operations in 37 other countries. One exception is the U.K. branch, which is being absorbed by Deloitte & Touche.

The company will be sentenced on Oct. 17 by Judge Melinda Harmon, who presided over the obstruction-of-justice case. The sentencing will be a sorry end for a company once considered the pre-eminent accounting firm in the world. The firm has been in business, in one form or another, for over sixty years.

In a published interview, a former colleague of Cardoso summed up the Andersen CEO’s role over the past few months. Cardoso’s title may be chief executive, the source said, but “in fact, he is the liquidator.”

SEC Probes Bristol-Myers’ Inventory

Drugmaker Bristol-Myers Squibb Co. acknowledged Thursday afternoon that the Securities and Exchange Commission’s investigation into its inventory accounting has been upgraded into a formal investigation. The change in classification gives regulators expanded subpoena power.

The SEC had already been informally investigating Bristol-Myers’ accounting treatment of its sales incentives to wholesalers in 2000 and 2001. On August 14, the company disclosed in a 10-Q filing that an investigation was underway and could lead to earnings restatements for those two years.

The accounting practice in question may have overstated sales for the two years by as much as $1.5 billion. In a brief news release disclosing the investigation, the company’s management noted it “continues to believe that its accounting treatment for the wholesaler inventory buildup was appropriate.”

The pharmaceuticals giant has undergone a management shakeup of late. In April, announced that CFO Frederick Schiff, a 20-year veteran at the company, was leaving the drug maker. At the time, CEO Peter Dolan noted: “These management changes are clearly necessary in light of the company’s recent performance.”

IRS Issues Summons for Offshore Tax Records

The Internal Revenue Service filed court summonses seeking tax records from 40 companies in the airline, hotel, car rental, retailing, Internet, and shipping industries. Apparently, the IRS is attempting to chase down unpaid income taxes from consumers using credit cards linked to offshore accounts.

According to Bloomberg News, the summons are an expansion of an existing investigation by tax collectors. The taxmen are looking into purchases of goods and services done with offshore accounts to avoid U.S. taxes. The practice costs the U.S. Treasury approximately $20 billion to $40 billion a year.

The IRS is seeking tax data from companies such as UAL Corp., parent of United Airlines, Delta Airlines Inc., and hotel chain operators such as Ramada Inc. and Hyatt Inc.

The summons stem from an earlier investigation into offshore transaction data the IRS received from Visa International, MasterCard, and American Express. Bloomberg reported that although the credit card companies don’t necessarily have names and addresses, the retailers and other merchants do.

Reportedly, the IRS wants to link the account numbers from the credit card companies to the names and address on customers supplied by the merchants.

Citi Never Sleeps: Lawmakers Want to Subpoena Bank Again

As Congress prepares to return from the summer recess, it appears that corporate scandals and accounting fraud will continue to be one of the hottest topics on Capitol Hill.

One signal: the House Financial Services Committee is preparing to issue a subpoena to Citigroup Inc. for stock trading information on WorldCom Inc.’s former CEO Bernie Ebbers and former CFO Scott Sullivan. On Wednesday, Sullivan was indicted for securities fraud and filing false reports with the SEC.

According to Bloomberg News, lawmakers want to determine the timing of share purchases and sales, the prices at which they were sold, and the buyers’ names.

This will be the second subpoena the committee has issued to the bank holding company in less than a month. The documents that Citi supplied in response to the first subpoena disclosed that Ebbers received at least 869,000 shares from Citi in hot IPOs from June 1996 through August 2000.

Among other things, the House Committee appears to be examining whether Citi provided the IPO shares to help secure investment banking business from WorldCom. In recent years, WorldCom has undertaken a series of mergers and acquisitions, including its purchase of rival MCI. Advising on large M&A deals usually generates hefty fees for investment banks.

While Bloomberg said Citi is cooperating with the investigation, privacy laws prevent it from disclosing client information that is not specifically sought in a subpoena. The second subpoena is essentially filling in the gaps left by the earlier one.

Enron’s Creditors Score Some Points in Court

It was a busy day for U.S. Bankruptcy Judge Arthur Gonzalez, who is overseeing Enron Corp.’s Chapter 11 proceedings in a New York courtroom.

Bloomberg News reported that Gonzalez granted a motion by a panel of Enron’s creditors to investigate 400 financial institutions, 63 law firms, and two accounting firms that did business with the energy trading firm. The creditors can also subpoena documents from 30 former executives of Enron.

Gonzalez also extended the temporary freeze on the forfeiture of $12 million from Michael Kopper, who pled guilty to fraud charges a week ago in Houston. The creditors are arguing that the money was stolen from Enron’s limited partnerships, is rightfully theirs, and, therefore, should go to them instead of prosecutors.

The freeze has been extended to September 16, which gives both sides time to submit arguments regarding the merit of moving the dispute over the forfeited $12 million from the bankruptcy court to U.S. District Court.

Yesterday, Gonzalez also approved Enron’s $25 million settlement with Dynegy Inc. regarding last year’s aborted merger between the two companies. Enron had sued Dynegy for $10 billion for breaking off the merger, but the two companies settled the case two weeks ago.

The settlement also calls for Dynegy to cede about $63 million to Enron from an escrow account related to Enron’s January sale to Dynegy of the Northern Natural Gas Pipeline.

Meanwhile, the government investigation into former Enron CEO and Chairman Kenneth Lay is said to be zeroing in on Lay’s stock trades. Bloomberg News reported that investigators are looking into the timing of Lay’s purchases and sales of shares and his exercises of options.

Government lawyers are reportedly trying to determine if those trades coincide with the accounting fraud that Kopper pled guilty to earlier this month.

According to Bloomberg, Enron’s accounting irregularities began in 1997. That’s roughly the same time that Lay was being pressured by Enron’s board to improve the company’s financial performance. The Houston trading company missed its performance targets for both 1996 and 1997.

The failure to meet the company’s goals reportedly cost Lay bonus money and an opportunity to have his options vest early.

Enron’s finances improved markedly in 1998, however, and Lay qualified for early vesting of grants that had been issued in 1994, 1996, and 1997, Bloomberg reported. Lay then realized $189.3 million by exercising options from 1998 through 2000.

Bloomberg reported that prosecutors could be working on the theory that the board pressure on Lay — along with the chance to cash in on his options — caused him to pressure then-CFO Andrew Fastow to manipulate the company’s financial statements.

Wild, Wild WorldCom

How outrageous were the accounting practices at WorldCom Inc.? Even worse than is spelled out in Wednesday’s indictment of former CFO Scott Sullivan, according to a story published in The Washington Post.

Long before Sullivan made his alleged decision to shift billions of dollars of operating costs to the capital expense line, the Post reports that the telco had been plagued by lax or non-existent internal controls. Reportedly, WorldCom’s management was so focused on revenue growth and mergers and acquisition that it never even bothered to institute rudimentary cost controls.

According to The Post, WorldCom employees routinely purchased new equipment without ever bothering to check existing inventory, double-booked customer sales to earn unwarranted commissions, racked up $2 million in expenses to generate an extra $1 million in sales, and authorized fictitious payments to outside contractors to pad their own paychecks. In one instance, managers in Richardson, Texas, reportedly hired a bartender friend to do data entry work, paying him at a rate that worked out to $120,000 per year.

Sullivan’s alleged manipulation of $7.2 billion in expenses may have been the most egregious example of fiscal malfeasance at the telco. But according to the article, he was simply following a well-established company practice.

As The Post reported, WorldCom was able to use a series of mergers throughout the 1990s to mask the true state of its finances. By 2000, its proposed merger with long-distance rival Sprint Inc. promised to be the biggest deal of all. Had it gone through, the party would have likely continued.

But that deal was ultimately blocked by regulators. At the same time, the Internet bubble had burst, slashing the revenue growth that WorldCom’s management was banking on to help grow its way out of its trouble.

As The Post recounts, WorldCom was due to report its third quarter 2000 results on Oct. 26. Five days earlier, while he was preparing the quarterly results, Sullivan reportedly E-mailed then Vice Chairman (and current CEO) John Sidgmore, that the company was faced with a “really scary” combination of escalating costs and declining sales.

But on Oct. 26, the company was able to report a 12 percent increase in overall revenue, strong sales overseas, and an improving operation margin.

How was that possible? As The Post reported, in his E-mail exchange with Sidgmore five days earlier, Sullivan assured him that he could reclassify two sources of revenue totaling $225 million as cost reductions. That helped improve the operating margin.

In addition, as is spelled out in Wednesday’s grand jury indictment, in 2000 Sullivan had allegedly been masking hundreds of millions of operating expenses with reserves that had been set aside for taxes. Such a tack would clearly violate the Generally Accepted Accounting Principles that all publicly traded U.S. companies must follow.

Sullivan reportedly kept the charade up until this spring, when a committee of internal auditors discovered the practice and asked him to explain it. As The Post reports, Sullivan and controller David Myers (who was named but not indicted in the grand jury complaint), lobbied hard to derail the investigation. But the internal audit proceeded over their objections.

When the two finance executives couldn’t explain the suspect practices, Myers resigned, while Sullivan was fired.