SEC List of Accounting-Fraud Probes
Grows, Stretching Agencies Resources
By MICHAEL SCHROEDER
Staff Reporter of THE WALL STREET JOURNAL
WASHINGTON -- The Securities and Exchange Commission's list of companies under investigation for possible accounting fraud is growing longer, just as the agency's limited resources are being stretched more than ever before.
SEC officials say they have nearly 260 accounting investigations under way, a big jump from recent years. They aren't just small firms -- the chief focus of the SEC's enforcement actions historically. Some 15% of the probes, or about 40, are focusing on companies that are among the nation's 500 biggest.
"If we had nothing else to do, the accounting investigations alone could keep us busy for the next five or 10 years," Richard Walker, the SEC's enforcement chief, said in an interview. "The size and magnitude are crushing."
The drumbeat of headline-grabbing accounting scandals, at firms led by Cendant Corp., Sunbeam Corp. and Rite Aid Corp., is also getting attention on Capitol Hill. Lawmakers are beginning to call for more SEC resources to combat fraud. The SEC's division of corporation finance has the staffing to review only a tiny fraction of earnings statements filed by public companies, and until this year it has been swamped by the huge crush of technology initial public offerings of stock.
The current crackdown on accounting misdeeds began in mid-1998. The SEC's then-chairman, Arthur Levitt, beefed up policing efforts, approved new auditor-independence rules and issued new accounting guidance to curb bookkeeping practices used to inflate revenue. Last year, the regulator brought 100 financial-fraud actions, and there has been a 28% increase in accounting-related cases in the past three years.
The most visible indicator of improper accounting -- and source of new investigations -- is the growing number of restated financial reports. Restatements ballooned to 233 last year, twice the number in 1997, according to a recent study by Arthur Andersen LLP. Of those, only 9% resulted from new accounting methods required by the SEC.
Xerox Corp. is an example of the major companies being scrutinized. In recently restating its results for the past three years, Xerox conceded it had "misapplied" a range of accepted accounting rules in a variety of ways, including improperly using a $100 million reserve to offset unrelated expenses. To correct the reserve error, Xerox cut its 1998 and 1999 pretax profit by $100 million, while adding $6 million to 2000's pretax figure. Xerox's acknowledgment of problems hasn't dissuaded the SEC from conducting a broad inquiry into its accounting practices.
Recently, ConAgra Foods Inc. said its restatement is the subject of an SEC investigation. ConAgra announced that a subsidiary, which sells seed, fertilizer and chemicals, recorded fictitious sales, among other accounting possible violations. The company said the revisions would reduce pretax earnings for fiscal 1998, 1999 and 2000 by a total of about $123 million. For fiscal 2001, the company said its revenue will rise $350 million.
The pressure to assure maximum compensation, which is tied to share price, is tempting more financial executives to play games to manage earnings -- such as recognizing revenue too early or improperly setting up reserves, SEC officials say. Companies fear that missing Wall Street's quarterly earnings targets even by a few pennies can send a stock price tumbling.
The accounting industry argues that the number of restatements and accounting-fraud cases is minuscule as a percentage of the 13,000 public companies that file annual financial reports. But regulators believe the accounting violations may be even more pervasive than the statistics suggest.
"Is it an ice cube or an iceberg?" said Lynn Turner, the SEC's chief accountant. "There's definitely something there below the water line."
The SEC relies on the press, company whistleblowers and its investigators for leads. While the regulator investigates most alleged frauds after word of a company's accounting problems has leaked and battered its stock price, SEC accountants are focusing on ferreting out questionable accounting in financial statements earlier.
With the cooling of the IPO market, the SEC is using its freed-up resources to ramp up its review of annual financial reports. During the fiscal year ended Sept. 30, 2000, the SEC reviewed about 1,100 of the 13,000 annual reports filed on form 10K with the agency, or about eight of every 100. This year's goal: one of every four annual reports.
"The commission's resources have been absorbed during the last two years by the hot IPO market, leaving little time for more random selection of annual reports and other filings," said Robert Bayless, the division's chief accountant.
Accounting-fraud cases, which typically take at least a couple of years to prepare, often rest on complicated and hard-to-prove allegations. The largest cases are handled by the SEC's special accounting-fraud unit staffed by eight attorneys and seven forensic accountants. An additional 60 accountants in Washington and the regional offices also work on cases. Because of limited resources, the SEC doesn't pursue scores of less-egregious cases involving violations caused by negligence.
Rep. John LaFalce (D., N.Y.), ranking member of the House financial-services committee, said recently that his panel will look into the accounting-fraud issue and has called for a 200% to 300% increase in the SEC's enforcement staff to bolster oversight. Such an increase would boost the SEC's total $423 million annual budget this year by as much as $400 million.
Critics also complain that the SEC would also be less burdened if the accounting industry did a better job of policing auditors, ostensibly the first line of defense in the fight against fraud. Last year, the SEC worked with industry groups to improve self-regulation and the disciplinary peer-review process, but progress has been slow.
At the request of Rep. John Dingell, (D., Mich.), the General Accounting Office, an independent research arm of Congress, has agreed to study whether the various accounting regulatory groups should be replaced by one full-time self-regulatory organization.
-- Jonathan Weil |
