New Bookkeeping Problems Are Disclosed by WorldCom
The New York Times
July 2, 2002
By SIMON ROMERO and FLOYD NORRIS
The WorldCom accounting scandal threatened to grow yesterday as the company disclosed that its profits might have been
exaggerated as far back as 1999, or two years earlier than previously disclosed.
The disclosure of new accounting problems, which one person briefed on the situation said could indicate that WorldCom
overstated profits by more than $1 billion in 1999 and 2000, was the latest blow for the company. Last week it said that it had
overstated pretax profits by $3.8 billion in 2001 and early this year.
It also disclosed yesterday that it was in default on some debts and that its stock would be delisted from the Nasdaq stock
market on Friday. Its share price plunged on volume that set a record for Nasdaq. Worries over the possibilities of more
scandals helped send the Nasdaq composite index down 4 percent to a five-year low.
WorldCom's disclosure of possible new accounting problems came in a filing that the Securities and Exchange Commission had
ordered to provide details of its 2001 and 2002 accounting irregularities. The S.E.C. filed civil fraud allegations against the
company last week.
WorldCom said yesterday that it was investigating whether accounting reserves had been improperly used in 1999 and 2000.
Such reserves, which are set up after mergers and other events, can be used later to increase profits, a tactic that may be
improper under some circumstances. The company did not give details. Tapping into those reserves could have allowed
WorldCom to create a facade of robust financial health when its strategy of aggressively acquiring other companies was at its
peak.
A number of WorldCom executives and directors sold shares during 1999 and 2000, the period covered by the new accounting
issues. Scott D. Sullivan, the ousted chief financial officer, sold shares worth $18 million in August 2000. John Sidgmore, a
director who became chief executive after the resignation of Bernard J. Ebbers in April, made more than $35 million from the
sale of his shares in June 1999. Max Bobbitt, the chairman of WorldCom's audit committee, made $1.8 million from selling his
stock in February 1999.
WorldCom's new statements about the already disclosed accounting problems were sketchy and provided little additional
information. They were denounced by Harvey L. Pitt, the S.E.C.'s chairman. "WorldCom's statement is wholly inadequate and
incomplete," he said. "It demonstrates a lack of commitment to full disclosure to investors and less than full cooperation with
the S.E.C."
Companies have used creative accounting methods well within the law to finesse their financial results for years, but these
strategies appear to have been pushed ever further near the end of the bull market. WorldCom's announcement follows similar
disclosures about so-called cookie-jar reserves.
A reserve can be set up to cover expected costs from things like the costs of closing a business or dealing with layoffs after a
merger. Such reserves were often ignored by investors and analysts when they were established, so there was no penalty to
taking a large loss from one. If the amount proved to be too large, the reserve could later be reversed to increase current profits,
sometimes without disclosing to investors what had happened. It is not clear which reserves at WorldCom are involved.
"The complexity of accounting strategies often masks a simple goal, to do whatever it takes to meet Wall Street's expectations,"
said Barbara Lougee, an accounting professor at the University of California at Irvine.
Almost 1.5 billion WorldCom shares changed hands yesterday, to close down 77 cents, to 6 cents.
"Questions have been raised regarding certain material reversals of reserve accounts during 2000 and 1999," WorldCom said in
the statement prepared by its general counsel, Michael H. Salsbury, and submitted yesterday to the S.E.C.
"No conclusion has been reached regarding these entries," the company said. "If, after review, the company believes additional
actions are required, it will make an announcement promptly."
WorldCom now suggests that it may have begun to tamper improperly with its reserves four years ago. That is when the
company's growth strategy, which hinged on cutting redundant costs after dozens of acquisitions, appears to have faltered. In
June 1999, WorldCom's shares reached a high of $62, giving the company a market value of more than $100 billion.
In its statement to the S.E.C. yesterday, WorldCom disclosed that Mr. Sullivan, who was fired by WorldCom's board last week,
was told only on June 20, or several weeks after an internal audit discovered irregularities, to preserve documents and records
related to his decision to capitalize the costs of leasing space on competitors' phone lines. Instead, those costs should have
been recorded as an ordinary business expense, the company said last week, reducing its cash flow and its profits.
Bradford Burns, a spokesman for WorldCom, said the company was surprised by Mr. Pitt's reaction to its statement. "Our
response is entirely in line and is in fact a summary of what we know at this point," Mr. Burns said.
WorldCom did not say in its statement exactly when in May that Cynthia Cooper, a vice president for internal auditing, began
an investigation of the company's accounting practices or exactly when Ms. Cooper informed Mr. Sullivan of her findings. Nor
did it say why she began the investigation.
It said Ms. Cooper told Mr. Bobbitt of the company's audit committee about her concerns on June 12 and that WorldCom's
outside auditor from KPMG questioned Mr. Sullivan about the matter on June 19. Mr. Sidgmore, the company's chief
executive, was notified on June 20.
The report said that Mr. Sullivan prepared a document defending the accounting. But it did not provide a copy of that
document. Nor did it say whether Mr. Sullivan had said that others, besides David F. Myers, the company's former controller,
were aware of the accounting transfers at the time.
WorldCom said yesterday that it was in default on its loans, a development that could hasten a bankruptcy filing. The company
has borrowed $2.65 billion from a group of banks, and the company said in its statement yesterday that the banks notified it
that "these events permit lenders holding 51 percent of the loans under the $2.65 billion facility to vote to accelerate the date
for repayment of the loans, which would then become immediately due and payable if the lenders chose to do so."
With WorldCom already low on cash, it would be difficult for the company to pay the banks back right now. But officials close to
the bank group said that the lenders were merely informing the company of their legal rights in a routine move. Talks between
the company and the banks, led by Citigroup and Deutsche Bank, are just starting, one executive said.
The bankers must decide whether they are comfortable lending more money to WorldCom now or whether they will only lend
in the context of a Chapter 11 filing, which would give them priority in repayment for the new loans.
WorldCom also said it would be barred from borrowing money from another credit line, for $1.65 billion.
The company confirmed that it would no longer have access to $1.5 billion in financing tied to anticipated payments from
customers, known as accounts receivable.
Separately, the Bush administration said yesterday that the General Services Administration was reviewing federal contracts
with WorldCom. At risk is a prestigious $450 million contract to WorldCom to manage communications services for the Defense
Department.
In Congress, the House Financial Services Committee said Mr. Sidgmore; Bert Roberts, who is WorldCom's chairma; and Jack
Grubman, who is a stock analyst at Salomon Smith Barney, had agreed to testify at a hearing on WorldCom's collapse
scheduled for next Monday.
Mr. Ebbers and Mr. Sullivan have not agreed to testify after receiving subpoenas, a spokeswoman for the committee said. Mr.
Ebbers did not return calls to his personal office in Mississippi. Aron Raskas, a lawyern for Mr. Sullivan, also did not return
calls placed to his office.
nytimes.com
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