Title: The%20Rise%20and%20Fall%20of%20WorldCom%20(Now%20owned%20by%20Verizon)
1The Rise and Fall of WorldCom (Now owned by
Verizon)
- One (of many) Accounting Frauds Leading to the
Sarbanes-Oxley Act - By John P. Meyer (JFZ edited)
2Overview of WorldCom
- WorldCom was the darling of Wall Street and the
Telecom Industry of the 1990s - Grew rapidly through acquisitions and from
increased demand for telecom services - High stock price was a powerful currency to make
acquisitions - WorldCom was a casualty of the Dotcom Bubble
Burst of 2000 - Mgmt resorted to acct fraud to meet financial
targets - Mgmt Motive to Manipulate Earnings (see text pg
19)
3Overview of WorldCom
- Key Events
- 1996 Acquired MFS Communications (internet
backbone) - 1998 Acquired MCI (more than twice its size)
- 2000 Failed merger with Sprint (would have been
the largest merger in history) - 2000 Dotcom Bubble Burst (rapid decline in
telecom stock values) - 2000-02 WorldCom loans 400M to CEO (Ebbers)
- 2002 Accounting Fraud uncovered
- 2002 Filed for Bankruptcy Protection
- 2004 Emerged from Bankruptcy as MCI (changed
name) - 2005 Verizon agrees to acquire the company for
6.75B (plus assumption of 6B of Debt)
4Financial Overview of WorldCom
Financial Highlights Financial Highlights 1994 1999 2001 2004
( in billions) ( in billions)
Revenues 2.2 37.1 35.2 20.7
Total Assets Total Assets 3.4 91.1 103.9 17.1
Employees (in 000's) Employees (in 000's) 7.5 97.6 87.8 40.4
Market Cap (total shs market price) Market Cap (total shs market price) 3.3 150.5 42.8 6.4
Debt 0.8 13.1 30.0 5.9
Total Capitalization Total Capitalization 4.1 163.6 72.8 12.3
Source Original SEC Filings, before restatements for accounting fraud. Source Original SEC Filings, before restatements for accounting fraud. Source Original SEC Filings, before restatements for accounting fraud. Source Original SEC Filings, before restatements for accounting fraud. Source Original SEC Filings, before restatements for accounting fraud. Source Original SEC Filings, before restatements for accounting fraud. Source Original SEC Filings, before restatements for accounting fraud.
5Nature of the Accounting Fraud
11 Billion Accounting Fraud over 3 year period (1999 - 2002) 11 Billion Accounting Fraud over 3 year period (1999 - 2002) 11 Billion Accounting Fraud over 3 year period (1999 - 2002)
Accounting Fraud occurred in two main forms Accounting Fraud occurred in two main forms
1) Understatement of operating expenses through improper 1) Understatement of operating expenses through improper 1) Understatement of operating expenses through improper 1) Understatement of operating expenses through improper
accruals and through improper capitalization of operating expenses. 2) Overstatement of revenues of 1B. accruals and through improper capitalization of operating expenses. 2) Overstatement of revenues of 1B. accruals and through improper capitalization of operating expenses. 2) Overstatement of revenues of 1B. accruals and through improper capitalization of operating expenses. 2) Overstatement of revenues of 1B.
6Impact of the Fraud
- Shareholders
- 180 Billion of shareholder value lost (based on
peak stock price) - Debt Preferred Stock holders
- 37.5 Billion of debt and preferred stockholder
value lost - Company
- 750 Million settlement paid to SEC
- Employees
- 57,000 employees lost jobs
- Also, current and former employees lost most of
their retirement savings (invested in WorldCom
stock)
7Impact of the Fraud
- Executives and Accounting Staff
- 6 individuals convicted of fraud / conspiracy /
false filings - Ebbers CEO 25 years in prison
- Sullivan CFO 5 years in prison
- Myers Controller 1 year in prison
- Yates Dir of Acctg 1 year in prison
- Vinson Acctg Dept 5 months in prison
- Manager 5 months
house arrest - Normand Acctg Dept 3 years probation
- Manager
- Above 6 individuals agreed to pay a total of 34M
to settle securities class action case.
8Impact of the Fraud
- Independent Auditor
- Arthur Andersen agreed to pay 65M to settle
securities class action case. - Insurance Companies
- Agreed to pay 36M to settle claims against
WorldCom directors and officers.
9How It Happened
- WorldCom Environment
- Substantial Problems with the Companys Internal
Controls - WorldCom was dominated by Ebbers and Sullivan,
with virtually no checks and constraints placed
on their actions. - Significant pressure to meet the numbers.
- Lack of courage of employees to communicate the
fraudulent activates believed it would have
cost them their jobs. - A financial system in which controls were
extremely deficient. - The BOD and Audit Committee did not appear to
have had an adequate understanding of the company
and culture. - Inadequate audits by independent auditors.
- ___________
- Source Report of Investigation by the Special
Investigative Committee of the Board of Directors
of WorldCom, Inc.
10Why good managers make bad ethical choices
(Source Saul W. Gellerman)
- Rationalizations To Justify Questionable Conduct
(One part of the Fraud Triangle) - Belief that the activity is not really illegal.
- Belief that it is in the individuals or
corporations best interest. - Belief that it will never be found out or it will
correct itself in the future. - Belief that the company will condone actions that
are taken in its interest and will even protect
the managers responsible.
11Why good managers make bad ethical choices
(Saul W. Gellerman)
- Conclusion
- A good way to avoid management oversights is to
subject the control mechanisms themselves to
periodic surprise audits - The point is to make sure that internal audits
and controls are functioning as planned. - It is a case of inspecting the inspectors and
taking the necessary steps to keep the controls
working efficiently. - It is up to Top Management to send a clear
pragmatic message to all employees that good
ethics is still the foundation of good business
12Key Take Aways
- History repeats itself.
- Be aware of your environment.
- If it seems too good to be true, it probably is.
- No job is worth breaking the law or committing
unethical acts for. - Your personal integrity is your most important
asset you own it and control it. - Trust, but Verify.
13References
- First Interim Report of Dick Thornburgh,
Bankruptcy Court Examiner United States
Bankruptcy Court Southern District of New York
re. WorldCom, Inc. (November 4, 2002) - Report of Investigation by the Special
Investigative Committee of the Board of Directors
of WorldCom, Inc. (March 31, 2003) - Second Interim Report of Dick Thornburg,
Bankruptcy Court Examiner (June 9, 2003 - Why good managers make bad ethical choices by
Saul W. Gellerman Harvard Business Review (July
August 1986) - Order to Commit Fraud, A Staffer Balked, Then
Caved by Susan Pulliam Wall Street Journal
(June 23, 2003) - Ebbers Is Convicted in Massive Fraud by Almar
Latour, Shawn Young and Li Yuan WSJ (March 16,
2005) - At Center of Fraud, WorldCom Official Sees Life
Unravel by Susan Pulliam WSJ (March 24, 2005) - WorldComs Myers Gets One-Year Prison Term by
Shawn Young WSJ (August 10, 2005) - WorldComs Sullivan Gets Five Years in Jail by
Dionne Searcey and Shawn Young WSJ (August
11,2005) - Settlements WorldCom Securities Litigation
www.worldcomlitigation.com