Risk & Compliance

Enron Scandal, the Sequel

Ex-CFO, former finance staffer at company's broadband unit charged with fraud; alleged scheme known as "project Braveheart." Elsewhere: Signal's ch...
Stephen TaubMarch 13, 2003

Enron Corp. is in a mess of legal trouble again.

Two financial executives with Enron Broadband Services were arrested Wednesday in connection with a new accounting scandal at the bankrupt energy company.

The Department of Justice charged Kevin Howard, the former chief financial officer of Enron Broadband Services, and Michael Krautz, a former Enron Broadband Services financial employee, with securities fraud, wire fraud, conspiracy and making false statements to FBI agents, according to the Houston Chronicle.

Howard and Krautz both turned themselves in at FBI headquarters and were driven handcuffed to the downtown courthouse where they appeared before U.S. Magistrate Marcia Crone, the paper said.

The two were then released on separate $500,000 bonds secured by assets in Krautz’s 401(k) and stocks owned by Howard, according to the report.

Howard could face between 24 and 30 years in prison if convicted on the charges, while Krautz could face between 21 and 27 years, said The Chronicle.

The SEC filed a parallel complaint in U.S. District Court for the Southern District of Texas. The commission alleges that Howard and Krautz engaged in a scheme to overstate the reported earnings of Enron, and its EBS subsidiary, by $111 million during the fourth quarter of 2000 and the first quarter of 2001.

The SEC says the scheme, known as “Project Braveheart,” involved a sham sale of assets to accelerate recognition of income from a long-term agreement to develop and provide video-on-demand services.

Essentially, the two former executives tried to sell an interest in the future revenues associated with this agreement with the goal of immediately recognizing the income, the complaint charges.

“The transaction had no economic substance and was created solely for the purpose of generating income,” said the SEC.

According to that agency, Howard and Krautz carried out the scheme by forming a purported joint venture, assigning the agreement to the joint venture, and selling an interest in the joint venture to a third-party financial institution. The entity enlisted by the two individuals to form the joint venture was a partner in name only and was never intended to participate in the joint venture, the commission added.

The complaint notes that the equity stake of this joint venture partner was not at risk because Enron guaranteed the entity a short-term take-out at a specified rate of return

Symbol Finance Exec Resigns

Management at Symbol Technologies, Inc. said Robert W. Korkuc resigned as vice president and chief accounting officer, effective March 11.

Richard Bravman, vice chairman and chief executive officer, said the search for a chief accounting officer is under way and that Mark T. Greenquist, senior vice president and chief financial officer, is serving as interim CAO.

Symbol’s statement provided no reason for the resignation.

Last month, management at the bar-code company indicated Symbol may have to restate revenues and earnings for the years 1999 through 2002.

At the time, Symbol’s management said that it was working with its auditors to determine the exact amounts and time periods of any potential restatement.

The company’s management did say, however, that it anticipated that the potential restatement would likely result in a net reduction of net income and revenue in fiscal 1999 and fiscal 2000 and a net increase in revenue in fiscal 2001 and fiscal 2002.

The SEC and Department of Justice are currently investigating the company.

At the end of last year Kenneth V. Jaeggi resigned as senior vice president and chief financial officer of Symbol.

A few months before that, Michael DeGennaro, the senior vice president of corporate finance, left the company.

Adelphia CFO Resigns

Meanwhile, the chief financial officer of Adelphia Communications has resigned.

Christopher Dunstan, who was appointed CFO by interim chief executive Erland Kailbourne one month before the company filed for bankruptcy, submitted his resignation last week, the company said in a securities filing.

Adelphia spokesman Eric Andrus told Reuters the company is “actively searching for a CFO.”

Dunstan became CFO in May, shortly after the resignations of Timothy Rigas, the company’s CFO, and John Rigas, the founder and chief executive officer.

Timothy and John Rigas and former executive vice president of operations, Michael Rigas, have been indicted on fraud charges.

SEC Puts Schering-Plough on Notice

Schering-Plough Corp. said it received a Wells notice on Tuesday from the SEC. The notice is in connection with the SEC’s inquiry into the company’s meetings with investors and other communications that occurred during the week of Sept. 30, 2002.

According to Schering-Plough’s management, it’s likely that the SEC will bring a civil action against the company and Richard Jay Kogan, chief executive officer, regarding possible violations of Regulation FD.

The company said that it will continue to cooperate with the commission staff in the matter.

In October, the company said it was being investigated by the SEC for possible violations of Reg FD.

The prior week, Schering-Plough had issued an earnings warning after its stock price dropped 20 percent in a three-day period.

According to published reports at the time, Kogan met with Putnam Investments, one of its biggest investors, and that day the share price began tumbling.

Two days later, Schering-Plough held an invitation-only meeting with about two dozen analysts and fund managers at its headquarters, according to a Reuters report at the time.

Then, 10 hours after the meeting ended, the company issued a press release warning that 2003 earnings would come in as much as 37 percent lower than 2002 and well below consensus analysts estimates.

Shareholders Still Suing

Shareholders continue to sue companies at a record pace.

In 2002, there were 224 securities class-action suits filed — up from 171 the prior year, according to a report released Wednesday by the Stanford Law School Securities Class Action Clearinghouse.

The companies sued in 2002 lost more than $1.9 trillion in market capitalization during the class periods, up 24 percent from 2001.

Bear in mind, these figures do not include the 312 “IPO allocation” securities class action filings in 2002. Those suits allege fraud in the IPO underwriting process. The numbers also do not factor in “Analyst” class actions — suits naming securities analysts and investment banks as defendants. The Clearinghouse categorized the two separately.

The average market cap loss of $9.3 billion for companies sued in 2002 is similar to the $9.7 billion average loss in 2001. In 40 large filings alone in 2002, dependant companies each lost more than $10 billion in market cap.

According to the Clearinghouse’s study, lawsuits filed in 2002 cut across a wide range of industries, but hit especially hard at communication companies (including Internet-relate companies), consumer products companies, and financial services firms.

The Clearinghouse also found that 85 percent of the filings charge defendants with affirmative fraud or failures to disclose material information.

More than 80 percent of the complaints cite misrepresentations in financial documents. Nearly 60 percent allege GAAP violations and half of those contain allegations related to revenue recognition.

Insider trading is alleged in 26 percent of the complaints.

Short Takes

  • Lucent Technologies Inc. promoted Mark Gibbens to vice president and treasurer, from assistant treasurer. Gibbens will be responsible for all treasury functions including corporate finance, risk management, customer finance, contract management and pension fund management. He replaces Martina Hund-Mejean, who left the company in December.
  • Tyco International Ltd. said it expects to take non-cash, pre-tax charges of between $265 million and $325 million for its Fire & Security Services business. The charges stem from a new commitment to “implementing a process of intensified internal audits, detailed controls and in-depth operating reviews of each business segment,” the company said in a press release.

The company also fired Jerry Boggess, who had served as president of Tyco Fire & Security Services. The embattled conglomerate replaced him with David Robinson, currently the president of Tyco Plastics & Adhesives.

  • Calpine Corp. said the SEC concluded its review of the accounting for two power sales contracts and that no adjustments to the financial statements related to these contracts will be required. Last month, Calpine contacted the SEC seeking their review and concurrence on the appropriate accounting treatment for two power sales contracts, which were entered into with third parties during 2001. Calpine said both Deloitte & Touche LLP, the company’s independent auditor, and Calpine’s former independent auditor had concurred that the company’s accounting treatment for the revenue from these contracts was acceptable.
  • Citigroup Inc. issued $1.5 billion in three-year global floating-rate notes, led, of course, by Citi unit Salomon Smith Barney. The size of the deal was increased from an originally planned $1 billion. It was rated Aa1 by Moody’s and AA-minus by S&P.
  • Former Gemstar-TV Guide Chief Executive Henry Yuen and former Chief Financial Officer Elsie Ma Leung agreed to testify before the SEC in connection with an investigation into the company’s public reporting of its financial results for 1999 through 2002. This, according to reports citing the SEC. The two had previously failed to appear before the commission.

On Monday, Gemstar-TV Guide indicated it plans to further restate its results as a result of a previously disclosed review of its accounting policies.