"Hello Michael, your portfolio is down $6.1 billion"--The Tragedy of MicroStrategy, part II
washtech.com
At the Height of a Joy Ride, MicroStrategy Dives
By Mark Leibovich,
Washington Post Staff Writer
Monday, January 7, 2002; 4:26 PM
Michael Saylor, the founder and CEO of the bull market sensation MicroStrategy Inc., was enjoying a sunny weekend at his home in Vienna. His paper fortune had just hit $13.6 billion, which was $4.5 billion more than it was the previous weekend and $6.2 billion more than it was the weekend before that.
But that Sunday, March 12, 2000, the company's chief financial officer, Mark Lynch, received a call at home from Warren Martin, a partner at PricewaterhouseCoopers, MicroStrategy's financial auditors. Martin told Lynch the firm's national office was reviewing three large contracts that MicroStrategy had booked the previous fall. Could MicroStrategy possibly delay the $2 billion stock offering it had planned for later that month? Martin asked.
Impossible, Lynch replied. The company had already begun its "roadshow," the tour that leads up to a stock offering in which top executives pitch their firms to big investors in several cities. Martin told Lynch he would get back to him.
Lynch explained the situation to Saylor the next day during a roadshow stop in Philadelphia. Saylor was unconcerned at first. He assumed that Pricewaterhouse's past approval of MicroStrategy's financial statements would insulate the company from having to revise its numbers. "Please make this go away," Lynch told Saylor, and Saylor went back to what he loved most, delivering evangelical pitches for MicroStrategy.
In early 2000, investors were falling heavily for "Mike's Come-to-Jesus speech," as some MicroStrategists called it. And they were not the only ones hearing his ever more sweeping declarations. "I think my software is going to become so ubiquitous, so essential, that if it stops working, there will be riots," Saylor told the New Yorker's Larissa McFarquar in an article that appeared that March. "I mean that literally. I mean that people will die this year because they didn't buy my software."
Friends and aides warned Saylor to tone down the rhetoric, telling him he risked sounding offensive or ridiculous. His staff and MicroStrategy's board members reminded him to stay focused on business "fundamentals" – operations, finance, customer service. But Wall Street was the oracle that Saylor heeded the most, and he relied heavily on Lynch to please it.
Lynch, then 37, was affable, soft-spoken and well liked at MicroStrategy. With a sheepish, Woody Harrelson-like disposition, he was viewed as a sort of everyman ambassador to the volatile Saylor. He was one of the few people in the chief executive's inner circle who did not talk like a whiz kid or boast an MIT or Ivy League pedigree. Lynch, who attended Penn State, worked hard, avoided confrontation and was one of the few outside executives who succeeded at MicroStrategy, largely, in the words of one insider, "by being a good soldier."
Lynch was also gifted at "managing Mike." This meant he could steel himself from Saylor's outbursts and also keep the chief executive happy while he performed his increasingly difficult job. What was clear to anyone inside MicroStrategy was that Lynch was under enormous stress. As the company revised its business model to suit the online mania of the late 1990s, Lynch and his small financial team faced tricky accounting challenges. They were no longer a simple "business intelligence" company that made its money by licensing software to firms that helped them mine their corporate databases for useful information.
Now MicroStrategy's expanded business was more complex. It included Strategy.com, Saylor's fixation, which delivered information like weather updates and sports scores directly to consumers by phone, computer and wireless tools. The subsidiary made deals with companies such as Ameritrade, the online brokerage that used MicroStrategy's software to relay stock quotes to its customers. MicroStrategy could no longer account for every deal as a straight-forward, one-time transaction. Once-simple questions about how and when to account for sales were opened up to interpretation.
Quietly, and over several months, people within MicroStrategy had raised questions about the company's accounting methods. Some midlevel officials who came to work at the company from larger software firms such as Oracle or Sybase were amazed at how much revenue MicroStrategy was able to book up-front. While a deal might span for several years, MicroStrategy would often take credit for a large proportion of the money at the start.
Likewise , the audit committee of MicroStrategy's board of directors – Ralph Terkowitz, a vice president of technology at The Washington Post Co., and Frank Ingari, chief executive of Wheelhouse Corp. – had repeatedly expressed dissatisfaction with the quality of Pricewaterhouse's reviews of its books. Terkowitz and Ingari met regularly with Lynch and Warren Martin. Terkowitz and Ingari told Martin that Pricewaterhouse's quarterly audits seemed sparse and undetailed, board sources said, especially given the mounting revenue that MicroStrategy was recording.
Each time they complained, Martin reassured Terkowitz and Ingari that the accounting was "accurate and conservative."
Saylor said later he was never made aware of the audit committee's concerns about Pricewaterhouse's work. But suspicions about MicroStrategy's accounting had also entered the public domain. In November 1999, the Center for Financial Research and Analysis, a Rockville firm that studies corporate financial statements, issued a report that expressed "concern about the quality of MicroStrategy's September quarter revenue and earnings" as well as "the timing of revenue and income recognized in the September quarter." Then, a brief article by David Raymond in the March 6, 2000, Forbes magazine cast suspicions about three deals that MicroStrategy had recorded in the third and fourth quarters of 1999.
None of this particularly troubled Saylor. Warren Martin had approved everything, after all. Nor did the skeptics seem to bother Wall Street – indeed, MicroStrategy's stock price jumped $21 on the issue date of the Forbes piece. And Saylor was feeling emboldened. "I feel that if I don't succeed," he was quoted saying in the New Yorker, "it's an abomination in the eyes of God."
An Urgent Message
Continuing the roadshow, Saylor and Lynch arrived at the Ritz-Carlton Hotel in Houston late Monday night, March 13. Lynch had a message waiting from Martin when he checked in: Call him back at 10:30, East Coast time, the message said. He would be his office.
Worried by the urgency of the message, Saylor and Lynch called Martin together from Saylor's suite. Martin put John Dirks, the head of Pricewaterhouse's national technology practice, on the phone. Dirks, whom Saylor had never met, said he had reviewed some contracts booked in the previous quarter and concluded that the original accounting had been done incorrectly. Saylor's face became red.
"We believe it would be appropriate for us to retract the previously audited financial statement of December 1999," Dirks said, according to a source familiar with that conversation. He suggested that MicroStrategy issue a press release announcing it would be restating its revenue figures from the previous quarter.
Dirks focused on a large deal that MicroStrategy had struck the previous fall with NCR Corp, a computer equipment and services firm. MicroStrategy sold $27.5 million worth of software and services to NCR for NCR to "resell" to its own customers. As part of the transaction, MicroStrategy agreed to pay $25 million in stock and cash to NCR for one of its business units and a data warehousing system. Some stock analysts saw the deal as a virtual revenue wash, but MicroStrategy still issued a press release on Oct. 4, 1999, hailing its "52.5 million agreement with NCR." MicroStrategy recorded $17.5 million in sales from the NCR deal in the quarter that ended that Sept. 30. NRC accounted for the deal in the following quarter.
Without that $17.5 million, MicroStrategy's revenue for the third quarter would have dropped nearly 20 percent from the previous quarter, instead of growing by 20 percent. It would have reported a loss of 14 cents a share instead of a profit of 9 cents. And it would have fallen well below Wall Street's expectations, making it unlikely its stock price would have risen as much as it did the following month, when Saylor and a group of company insiders sold shares at a collective value of $82 million.
The firm's accountants had approved MicroStrategy's financial statements until as late as Jan. 26, 2000. They were acting now, they privately told MicroStrategy officials, in response to the Forbes article, which had examined the NCR deal in detail. Citing an ongoing client relationship with MicroStrategy, Pricewaterhouse refused to respond to several written questions for these articles. Dirks and Martin also declined to comment through Pricewaterhouse spokesman Steven Silber.
"Wait," Saylor said to Dirks and Martin, his voice cracking, "you guys signed off on this." If MicroStrategy issued a press release, he said, "there will be a collapse of confidence and trust in our company that will cause great collateral damage."
Everyone agreed to talk again the next morning. Lynch bought cigarettes, and neither he nor Saylor slept that night.
At midnight Washington time, Saylor and Lynch called the Arlington home of MicroStrategy's chief counsel, Jonathan Klein. This set off a flurry of sleep-jangling calls between Klein, other MicroStrategy attorneys, executives and members of the company's board of directors.
(cont'd) |
