WorldCom on Thursday moved closer to bankruptcy as United States regulators formally charged the telecoms giant with fraudulently inflating its profits through improper accounting.
One day after WorldCom rocked the markets with the US’s latest financial mega scandal, the Securities and Exchange Commission (SEC) filed a civil lawsuit in a federal court in New York accusing WorldCom of manipulating its earnings to keep them in line with Wall Street’s expectations.
The SEC said WorldCom engaged in a scheme “directed and approved by its senior management” that allowed it to fraudulently report 2001 cash flow of $2,3-billion, rather than its actual loss of $662-million. In the first quarter of this year WorldCom incorrectly reported cash flow of $240-million, rather than a loss of about $557-million.
Seeking to pre-empt the shredding of important documents that occurred in the Enron scandal last year, the SEC asked the court to block WorldCom from destroying or altering any documents, or making any extraordinary payments to executives. The SEC said it would also seek financial penalties against the company.
In a scandal that threatens to eclipse Enron, WorldCom shook the markets on Wednesday when it admitted reporting expenses as long-term capital investments, an accounting sleight of hand that had the effect of inflating profits by $3,8-billion. Asian and European markets on Thursday firmed up, buoyed by a late bounce on Wall Street.
The SEC action could deal a fatal blow to WorldCom’s efforts to secure $5-billion in new financing and push it into bankruptcy. The company is weighed down with $30-billion of debt and unless it finds new financing, it will be unable to cover interest payments.
Seeking to put the best possible light on WorldCom, Enron and other financial scandals, President George W Bush said that they were not representative of US business.
Speaking at the G8 summit in Canada, Bush said: “The good news is most corporate leaders in [the US] are good, honest, open people who care deeply about shareholders and employees.”
Investors in the US have been rattled by a succession of frauds, allegations of tax evasion and alleged insider dealing and the massaging of balance sheets over the past six months.
A series of big name companies have already filed for bankruptcy, leaving shareholders nursing losses of billions of dollars.
“If you can’t trust the accountants or the companies then the whole thing falls down like a pack of cards,” said Henk Potts, an investment analyst at Barclays Private Clients.
A European analyst said: “The problem is more than WorldCom; it’s which companies, which people can you trust? We all knew about Enron and we had hoped it would stop the scandals.”
WorldCom has now said it would axe 17 000 workers, about a fifth of the total, in an effort to stay in business. The company, which has fired its chief financial officer, Scott Sullivan, was accounting for day-to-day costs, such as network maintenance, as capital investments, and therefore not offsetting them against earnings — and therefore unaware of the loss.
The company, which recently also replaced its CEO, discovered the problems during a routine internal audit.
WorldCom was already being investigated by the SEC because of its accounting practices. The SEC said the latest fraud was of an “unprecedented magnitude”.
The US Justice Department has opened a criminal investigation into the events at WorldCom.
Arthur Andersen, the accounting firm already crippled by its relationship with Enron, was auditor to the WorldCom accounts. The accounting firm said it had fully complied with standards and blamed the company for withholding information.
“The WorldCom chief financial officer did consult Andersen about the accounting treatment,” the firm said.
WorldCom also attracted the scrutiny of the SEC when it emerged that the company’s board had approved massive loans to its former CEO, Bernie Ebbers. He quit in April, owing the firm $408-million.
WorldCom’s debt rating has now been downgraded to junk and the company will find it difficult to raise any further money.