Funny Auditing’s Fallout
Abruptly it is dawning on investors: The sort of scandal that crippled Enron is not limited to that energy giant. Their diminished faith in the reliability, accuracy and truthfulness of corporate accounting could well hamstring the stock market too.
In refraining from reducing interest rates again, Federal Reserve Chairman Alan Greenspan last week gave the economy a modest vote of confidence. The latest gross domestic product report estimated that the economy grew at 0.2% last quarter. The current recession may turn out to be one of the mildest in history. So far, so good. Now, investors need to be reassured that capitalism works--that they aren’t at the mercy of dishonest corporate executives and accounting firms that have rigged the system.
The government is on the case. The Federal Reserve and the Securities and Exchange Commission are investigating the accounting methods that PNC Financial Services Group used to get bad corporate loans off its balance sheets. The accounting firm Ernst & Young has admitted that it was both advisor and accountant in dealing with these loans. Then there is the bankrupt Global Crossing, which used the same auditor as Enron: Andersen.
The Global Crossing saga seems eerily similar to Enron’s. Roy Olofson, a former vice president of finance, warned in August about deceptive accounting techniques. Like Enron, Global Crossing also stopped its employees from selling company stock in 401(k) plans in December and January. And, like Enron, Global Crossing was a fat-cat donor to both Democrats and Republicans.
The revenues of a number of other telecom firms may be shaky as well. Qwest Communications and other start-ups relied on a practice called “indefeasible rights of use,” or IRU, that led to some imaginative bookkeeping. Companies bought an IRU--essentially a share of Internet bandwidth--marked it up as a capital expense for coming years, then turned around and sold it, claiming it as money made. The expense is left out of the equation, so it looks like pure profit. This may not be illegal, but it surely is deceptive.
To reassure an anxious public, Congress and the SEC need to crack down harder still. Harvey Pitt, the SEC’s chairman, has indignantly rejected suggestions that, as a former lawyer for the accounting industry, he won’t pull it into line. But Pitt has remained mum about the industry’s biggest problem: the tens of millions in extra fees that auditors can earn as consultants for the very companies they are supposed to be policing.
Sens. Christopher J. Dodd (D-Conn.) and Jon Corzine (D-N.J.) are proposing legislation that drastically curtails the nonauditing functions that auditors can carry out. Fast reform is direly needed. Until it takes place, rumors about the financial health of companies, not facts, will drive the stock market. That’s not something America can afford.
