The Company They Kept, Part II
The banking organizations have declined to comment. Generally, they maintain that their two functions, lending and underwriting, were separated by a Chinese wall and that the underwriters were in the dark with regard to the loans (even though they were arranged by their own affiliates). This does not square with the facts. In February 1999, Brown bluntly informed a large group of bankers and investment bankers, ''The Rigas family intends to use the proceeds of this distribution to purchase equity securities from Adelphia.''
Anyone looking for mere gaps in the Chinese wall is missing the larger point: banks weren't trying to separate departments but to integrate them. That was the whole reason they had lobbied for Glass-Steagall's repeal. Thus, the banks would send teams of 8 or 10 investment bankers and commercial bankers -- no distinction was evident, according to Tim Rigas -- to Adelphia pitching every financial service under the sun.
Bank of America's securities unit was so proud of the way it combined its services, which it referred to as ''delivering the one-stop shop,'' that it produced a case study for interns in 2001 on how the technique had worked with a particular client. The client was Adelphia. Page after page describes how Bank of America had devised ''an integrated financing solution'' for Adelphia, including underwritings, strategic advice, supportive (i.e., positive) research from its analyst and co-borrowing debt. Apparently, the only time Bank of America did not have an integrated approach to Adelphia was when it added up the debt that was disclosed in Adelphia prospectuses.
And the Rigases were on an investing binge, all of it on credit. From 1998 on, the family bought a phenomenal $1.8 billion of Adelphia stock and other securities -- an extravagance made even more reckless by the securities' high prices. Both Tim and his father were incredibly cavalier about the risk. They craved the growth of a public company and the control of a private one; apparently, none of their advisers pointed out that these priorities were in conflict.
To anyone who knew about the co-borrowing loan, investments of such magnitude could have had only one source. But most investors didn't know about it. Most assumed that Adelphia was selling stock in normal, arms-length transactions, thus replenishing its capital. Had they known that Adelphia was acting as a guarantor in those sales, they would have realized that Adelphia wasn't really selling stock -- it was recycling its own credit.
Alvin Davis, an attorney for three of the outside directors, said: ''None ever had an understanding that a portion of co-borrowings would be used to purchase Adelphia stock. That was so manifestly improper as to be inconceivable.'' However, materials distributed at a board meeting in October 2000 made it clear that the Rigases were doing just that. One page of the briefing packet said, ''Rigas family to purchase $250 mm'' of an Adelphia stock offering. Another page disclosed that the Rigases were drawing an identical $250 million of the co-borrowing.
Such details almost put too fine a point on it. Corporate directors weren't in the habit of challenging management, certainly not on a board where the founding family had a majority of seats. And the interests of the outside directors were, in many cases, somewhat tied to the company's. Erland Kailbourne, a prominent civic booster in Buffalo, was a Rigas family friend and a promoter of Adelphia's plans to build a skyscraper downtown there. Two other directors, Dennis Coyle and Les Gelber, were executives at Florida Power and Light, Adelphia's partner in some cable systems in Florida. F.P.L. wanted out, and it was hoping that Adelphia would eventually buy its share, which it did.
Davis, the lawyer, said that those directors relied on the independence of the board's audit committee. But by then the audit committee consisted of only Pete Metros, a John Rigas chum from upstate New York, and Tim Rigas, who was the chairman of it. No minutes of the audit committee meetings have been produced, and it isn't clear that the committee formally met. In other words, Metros seems to have been a rubber stamp allowing the company's chief financial officer to supervise himself.
THE Rigases still had to suffer their outside auditing firm, Deloitte & Touche. Early in 2001, Deloitte began an intensive review of Adelphia's annual report for 2000, due at the S.E.C. early that spring. Deloitte was particularly worried about how to account for the co-borrowing. In previous years, Adelphia disclosed the size of the credit line but not how much the Rigas entities had actually borrowed under it. In an early draft of the 2000 report, Adelphia stuck with that approach. Deloitte, however, wanted more disclosure. One auditor scribbled in the margin, ''Disclose how much drawn.''
Adelphia's next draft looked no different. So again, a Deloitte auditor suggested the change. Under generally acceptable accounting principles (GAAP), a company that guarantees a third party's debt is required to show the loan on its own books if it thinks a loss is probable. But even if that standard isn't met, if the guarantor believes there is at least a reasonable possibility of a loss, it has to disclose the contingency, say in text or in a footnote. This was the path advised by Deloitte.
Meanwhile, Adelphia was furiously discussing the matter with its securities counsel, Buchanan Ingersoll. Adelphia was one of the firm's top clients, worth $6 million to $7 million in fees a year. Buchanan handled all of Adelphia's securities filings and was intimately acquainted with the company. A spokeswoman for the firm gave me a boilerplate description of its involvement: ''Appropriate and professional legal advice based on the information we were given.'' She added that Buchanan didn't know the ''breakdown'' of the Rigases' private debt.
But on March 27, just before the filing deadline, a secretary in Adelphia's finance department e-mailed Buchanan: ''The managed entities have outstanding borrowing of 1,599,733 [000's omitted].'' Allowing for a convenient memory lapse, Buchanan also says that the decision about what to disclose was left to Deloitte. Funny, according to Deloitte, the auditors heard from Adelphia that Buchanan had signed off.
In any case, Deloitte was still seeking fuller disclosure on March 29, just before the filing was due. An auditor scrawled on draft No. 5, ''The Managed Entities have outstanding borrowings of $1,599,733 as of December 31, 2000.'' An Adelphia employee wrote over it, ''No.''
Tim Rigas, who was glib and low-key in answering almost any question, told me he figured it was enough to disclose the potential size of the credit line -- not the amount borrowed. And ultimately, he noted, Adelphia's auditor agreed. That will no doubt be the theme of his defense: blame the gatekeepers. ''The outside directors approved the co-borrowings,'' Tim repeated. ''Deloitte was comfortable with the disclosure. Buchanan Ingersoll was comfortable.'' He allowed that in retrospect, full disclosure would have been better, but he maintained that at the time, the accounting treatment hadn't been a big deal either way. However, in an instant message that Brown sent to a colleague with whom he had been discussing the co-borrowing, Brown said pointedly, ''Tim has this as his highest Audit priority.'' So it appears likely that Tim Rigas was actively involved in the decision not to disclose.
That didn't mean Deloitte had to acquiesce. It could have refused to sign the annual report, known as the 10-K -- in fact, it was required to do so if it felt the disclosure was misleading. And the filing omitted $1.6 billion of debt. Even if it did sign, Deloitte was obligated to notify the audit committee of any disagreement it had with management. But Deloitte blinked.
Greg Dearlove, a 25-year veteran at Deloitte who was the lead partner on the Adelphia account, justified Deloitte's silence by maintaining that Deloitte hadn't disagreed with Adelphia but had merely suggested changes to its filing. Indeed, Deloitte (but not the S.E.C.) still maintains that the filing was in accord with GAAP. But the real truth behind Deloitte's passivity lies in Dearlove's admission that on occasion, when he did call the audit committee, only Tim Rigas would show up. In effect, the Rigases had found a way to short-circuit the early-warning system.
That September, Dearlove resigned from Deloitte -- which news Jim Brown described, in an internal message, as ''a huge bummer.'' A colleague of Brown's responded hopefully that perhaps his replacement would, similarly, be Adelphia's ''advocate.'' A collection of these messages shows the employees in Adelphia's finance department to be increasingly engaged in keeping the lid on the company's accounting. Messages about Sabres games and getting haircuts are interspersed with notes on ''stretching'' the numbers, and it is clear that the people in Coudersport were starting to worry that Deloitte could be pushed only so far. In November 2001, Brown queried, ''I wonder if we can use the impairment rules to create some cookie jars?'' (''Cookie jars'' are places to hide expenses.)
Tim Werth, a fellow employee, replied, ''D.T.'' -- Deloitte & Touche -- ''will be watching that like a hawk.''
Brown shot back, ''Hawks don't catch all the mice.''
Ominously, the Street was focusing on Adelphia's debt, and Adelphia's stock was falling. Moody's, the credit-rating agency, downgraded Adelphia's bonds. The one bright spot, Moody's allowed, was the persistent support shown by the Rigases. Indeed, Adelphia maintained that the infusions of capital from the Rigases were ''deleveraging'' the company. This was patently untrue.
The Rigases weren't infusing capital but borrowing it. In most cases, their infusions consisted of mere accounting entries, whereby money that Adelphia had borrowed from the banks, under one of the co-borrowing arrangements, was ''reclassified'' as debt pertaining to the Rigases. And, voila, the debt would vanish from Adelphia's books, though Adelphia, according to the terms of the co-borrowing agreement, remained co-liable for it. By 2002, the total of such vanished debt had soared to $3 billion.
Moody's, which couldn't know this, issued a bulletin early in 2002 saying that the outlook for Adelphia was improving. Most of the securities analysts on the Adelphia beat seconded the ''deleveraging'' story.
Much has been written about stock analysts: they were, it was said, dishonest arbiters and hype-artists. Those who followed Adelphia certainly remained bullish, even as the market retreated from its dot-com-induced high. But what stands out from the analysts' reports is less the hype than the utter superficiality. Nowhere does a reader gain a feeling for what distinguished Adelphia -- its cloistered weirdness, its familial obsessions, its precarious capital structure and persistent deficit of free cash flow. The analysts beat their breasts over minutiae, they obsess over stock charts, they deliver pages upon pages of spread sheets crammed with figures, yet nowhere do they scrutinize, or even critically question, the convenient company projections on which the numbers are based.
In the end, it was a bond analyst who sniffed out the problem. Oren Cohen at Merrill Lynch had followed the company since 1992 and had been perturbed by the stream of payments that went back and forth between Adelphia and a Rigas entity. Cohen didn't suspect fraud; he only knew that there was something he couldn't figure out and that the company was chary with answers. In particular, no one would tell him how the Rigases were paying for all that stock. Therefore, he wondered about Adelphia's ''deleveraging'' story. ''The large equity issuance does raise some questions,'' Cohen wrote early in 2002. ''We are somewhat hesitant to fully endorse the notion that Adelphia is plainly deleveraging for all the right reasons.''
Around that time, the S.E.C. had persuaded the stock exchanges to amend their rules, so that listed companies had to appoint an outside director as head of its audit committee. As of mid-2001, Tim Rigas was out, and Kailbourne, his dad's old friend, was in. Kailbourne wanted to make the committee more rigorous, and in particular, he wanted to know more about the co-borrowing.
Deloitte was also insisting on more disclosure. The firm says that its change of heart was triggered by an S.E.C. bulletin from January 2002, which reminded auditors to consider ''the amounts of any guarantees.'' But the S.E.C. bulletin didn't change the rules; it merely affirmed them. The real change was that the Enron scandal was headline news. No one wanted to be the next Enron.
At the end of February, Adelphia informed the Deloitte team that as of the end of 2001, the Rigases had drawn $2.3 billion under the co-borrowing. Deloitte and Kailbourne agreed that this should be disclosed in a footnote in Adelphia's next 10-K, due on March 31. There is no sign that either regarded the disclosure as scandalous or even as grounds for rebuke. Adelphia's board meeting in the first week in March, held in Cancun, went off without a hitch. In fact, the outside directors agreed to a substantial raise in the younger Rigases' pay. And by the morning of March 27, the Deloitte team had no major issues with the company outstanding.
Adelphia reported its earnings before the opening bell, including a footnote reporting ''co-borrowing credit facilities balances [of] approximately $2,284,000 [000's omitted].'' Wall Street paid more attention to the headline ''Management Increases 2002 Guidance for Digital and Data Deployments.'' The stock, which closed the previous afternoon just above $20, headed upward. Then, at 10 a.m., the analysts dialed into a conference call during which each, in succession, was able to put a question to Adelphia's financial team, Tim Rigas and Brown.
Such conference calls are usually scripted affairs in which executives try to seem candid and analysts pretend to be curious. And that's how this one started off. But occasionally, as in presidential debates, a truth is laid bare.
Rigas and Brown affected a jocular, eager-to-please manner. The stock continued to rise during the call, suggesting that some analysts were phoning their trading desks. After an hour, Brown said he had time for one last question, which turned out to be from Oren Cohen.
Cohen referred to the footnote. ''That's an awful lot of debt,'' he pointed out. Indeed, it was too much debt to be supported by the Rigases' cable assets. ''What is backing up that debt?''
Either Brown or Tim Rigas replied, ''We've not provided any further breakout of that.''
The unsung Cohen persisted, ''Well, is there any way you can provide further breakout?''
Investors may not read footnotes, but they know when a company is ducking. By day's end, the stock was under $17. Bank of America coyly suggested to Adelphia that they prepare a coordinated spin to handle investor questions. But neither it nor the Rigases guessed they were on the verge of a crisis.
The stock, however, continued to fall. Deloitte, which had been on the verge of approving the annual report, now wanted more information. Eventually, it refused to proceed with the audit. Without a 10-K, Adelphia was in violation of loan covenants, and the news of such troubles kept pounding the stock. The S.E.C. opened an investigation into the co-borrowing, and within six weeks, the Justice Department was probing an array of supposed wrongdoing, from falsifying subscriber numbers and cash-flow totals to creating phony payment receipts. In the middle of May, the directors Kailbourne and Metros, John Rigas's former buddies, made a late-night trip to Coudersport and met with the family till well past midnight. Within 48 hours, Tim and his father had resigned from management. Adelphia sent a man to repossess the family's 22 cars; John wondered abjectly, ''What will I drive?''
The government investigation revealed that the intermingling of private and public accounts was deeper than suspected -- indeed, downright epidemic. Because the co-borrowing funds were generally deposited first at Adelphia and then tapped by the family on an as-needed basis, the Rigases had come to treat the corporate treasury as their own. Usually, when they ''purchased'' stock, they didn't pay for it as others did; they merely shifted some of the co-borrowing debt from Adelphia to themselves. And when John needed money for the farm, the money was simply disbursed and noted by a journal entry. Then, at the end of each quarter, the entries were toted up and an appropriate amount of co-borrowings were reclassified.
This process became so routine that even after March 27, when Adelphia came under intense public scrutiny, the Rigases still tapped $170 million of corporate funds to meet margin calls on their stock. This became Rigas ''co-borrowing'' debt as well. Then, as the stock tumbled toward zero, the Rigases' collateral vanished, meaning that the infamous co-borrowing debt had become Adelphia's problem after all.
The investigation, of course, has revealed numerous problems unrelated to the co-borrowing, like Ellen's movie project, the free use of apartments for family members, a timber deal that seems to favor the Rigases personally and the supposed manipulations of the company's cash flow and subscriber numbers. The outside directors, as well as Deloitte, and also the bankers and lawyers, are right to say that most of these were undetectable. However, they didn't occur until after the co-borrowing began. So you have to wonder if the family's history would have been different if any of its advisers -- or even the S.E.C.- had acted on what they did detect and delivered the family a lesson in corporate civics.
For the one trait that distinguishes the Rigases from virtually every other culprit on Wall Street is that they didn't sell their stock. The evidence suggests less that they intended to defraud than that they intended to hide inconvenient facts until they could be righted. This is also, of course, against the law; it's just a more tragic crime than ordinary looting.
TIM Rigas is bitter about his ouster and the way that David Boies, the celebrity litigator hired by the directors, engineered it. According to Tim, the Rigases stepped down for what they were told would be a temporary respite, then watched in horror as Boies and the directors locked them out of their company and needlessly put it into bankruptcy. ''We built this company from 45,000 subscribers to five million. How did it get to filing for bankruptcy in two months?'' he asked. Tim is fond of pointing out that Adelphia's business did not suffer a downturn. But Adelphia is hardly the first company to suffer a crisis of confidence. The question is always whether a debtor has the financial strength to withstand a crisis; Adelphia did not.
The aftermath has been nasty. The independent directors, who oversaw the initial phase of bankruptcy proceedings, produced highly sanitized versions of events to the S.E.C. and to the bankruptcy court. In an effort to renounce a contract between Adelphia and Merrill Lynch regarding a cable system in Puerto Rico, the directors produced a second set of minutes for the board meeting at which the deal was approved. Merrill says the minutes were altered to hide the fact that the directors, who have sought to distance themselves from the Rigases, had O.K.'d the deal; the directors say their minutes are the accurate ones. All have resigned from the board.
Adelphia hopes to emerge from bankruptcy this year, but meanwhile it is in litigation with Merrill, Deloitte, the Rigases and the banks too. The new C.E.O., a former AT&T executive, is trying to put all that behind him. A corporate type, he has taken a stock-option package and moved the company headquarters to Denver.
People in Coudersport, where Adelphia still employs 1,200, are nervous about the company's commitment to the town, but some things have changed for good. The water system is being improved, and they have started serving espresso at City News. And a Chinese restaurant opened.
I mentioned to residents that the Rigases weren't very neighborly in what they chose to include in their disclosures, but that isn't what people here are focusing on. They wonder if John will take the stand and how he will fare, and in the meantime, 300 turned out late last year to wish him a happy birthday. ''Are we angry?'' said Kim Mitchell, a bookkeeper. ''I wouldn't say so.'' Although the company's collapse caused four of her clients to file for bankruptcy and to stick her with unpaid receivables, she remains loyal. ''The Rigases did so much for the community. They hired contractors, they modernized the schools,'' but now she was unconsciously confusing the Rigases with their company and with their town, and further embroidering their unhappy saga.
Roger Lowenstein is a contributing writer for the magazine and the author of ''Origins of the Crash: The Great Bubble and Its Undoing.''
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