More accounting shocks may be on the way

Since WorldCom Inc.’s revelation last week of the largest accounting deception in corporate history, a snowball effect has kicked in, with company after company admitting to bookkeeping irregularities and management crises. The flood is unlikely to end soon: With a corporate earnings season beginning and increasing pressure from politicians and regulators, the next few months will be a prime time for further disclosures.

A new edict from the U.S. Securities and Exchange Commission (SEC) last week boosted the liability of top corporate officers for the contents of their companies’ financial reports. The order requires the chief executive and chief financial officers of the 947 largest publicly traded U.S. companies to certify under oath the accuracy of their recent reports. Putting CEOs and CFOs under oath leaves them open to prosecution for perjury – a prospect that could prompt some officers to amend recent filings before swearing to their validity.

With elections in the U.S. looming, politicians here are rushing to appear tougher on corporate fraud. Several congressional committees already have fired off subpoenas related to WorldCom’s admissions, and President George W. Bush is planning a July 9 speech in New York on corporate responsibility.

WorldCom is currently dominating headlines, but a number of companies are facing their own bookkeeping troubles:

– Xerox Corp. shuffled billions in revenue and trimmed its 1997 to 2001 pretax income by US$1.4 billion in the wake of an SEC audit and US$10 million fine. Although the restatement had been expected since Xerox’s April settlement with the SEC, its size startled investors, who have shaved 25 per cent off Xerox’s (XRX) share price since Thursday.

– Vivendi Universal SA replaced CEO Jean-Marie Messier on Wednesday following accounting questions and a Moody’s Corp. downgrade of the debt-riddled company’s credit rating to junk bond status.

– Bankrupt telecommunication company Global Crossing Holdings Ltd. is under investigation by a U.S. House of Representatives committee probing its auditing practices. Global Crossing’s auditor was Arthur Andersen LLP, the Enron Corp. auditor recently found guilty of obstruction of justice.

– Qwest Communications International Inc. changed CEOs and replaced Andersen as its auditor in the wake of credit rating downgrades and an ongoing SEC investigation of its accounting.

– Microsoft Corp. settled with the SEC last month regarding allegations that it had misstated its income. Microsoft set aside income in flush quarters to pad results in leaner times, according to the SEC. The settlement required Microsoft to end such tactics but did not require the company to restate any results.

– Software vendor Peregrine Systems Inc. is in danger of losing its Nasdaq stock market listing following its failure to file an annual report on time. The company is now conducting an internal investigation of its accounting and says it expects to restate nearly three years of financial reports because of improper booking of up to $100 million in revenue. Formerly audited by Andersen, Peregrine Systems briefly hired KPMG LLP, then fired it citing a potential conflict of interest, and is now audited by PricewaterhouseCoopers LLP. Peregrine’s CEO and CFO resigned amid the turmoil.

– Computer Associates International Inc., currently the subject of a joint SEC/Department of Justice investigation, faces a rematch of last summer’s proxy fight with disgruntled investor Sam Wyly. Wyly’s organization is once again seeking to replace several CA board members, including the company’s CEO and chairman, with outside directors. While those leading Wyly’s campaign say they won’t make an issue of the federal investigations into the company’s accounting, they do plan to focus on CA’s share price plunge – caused in large part by investor nervousness over CA’s accounting and the federal probe.

With June 30 marking the end of the financial quarter for many companies and the subsequent onset of earnings announcements, the next few months are a likely time for further disclosures of bookkeeping problems.

The tech boom of the last few years drove publicly traded companies to push for the rapid growth needed to keep up with the market and satisfy shareholders. High spending and taking on debt to expand was one common practice for spurring growth; massaging the books was also a strategy employed by some. Pro forma reporting and similar tactics, popularized by fledgling dot-coms with monster IPOs (initial public offerings) but little financial history, spread throughout the industry.

Now, a backlash against such bookkeeping tricks is in full swing. Credit rating firm Standard & Poor’s Corp. recently revamped its method for evaluating corporate results, creating a formula it calls “core earnings” that is intended to more accurately reflect companies’ operating financial performance. IBM Corp., Microsoft Corp., Verizon Communications Inc., AOL Time Warner Inc. and Cisco Systems, Inc. are among the IT mainstays that will see their reported earnings shrink or losses widen under S&P’s core earnings calculation, the credit rating firm has said.

Not all in the industry are expecting increased scrutiny to bring more bad news.

Telecom analyst Frank Dzubeck said he suspects that most of the firms in crisis – at least in the ailing telecommunications sector – have already been flushed out.

“We’re starting to get down to the bottom of the barrel. Most of the garbage is gone,” said Dzubeck, president of Communications Network Architects Inc., in Washington, D.C.

Dzubeck said he sees no signs of widespread ethical breaches in the industry. The problem, instead, is a few “rotten apple” executives and the flawed practices of Andersen, he said, noting that Andersen audits are a common thread linking many of the companies revealing bookkeeping violations.

But Gartner Inc. analyst David Neil voiced the fear troubling many employees and investors.

“The concern that we have now is that there are potentially more disclosures to come,” Neil said Wednesday during a conference call about WorldCom fallout. “The real scary thing (about all the accounting troubles) is that we’re only halfway through the year.”

(With additional reporting by Sam Costello, in Boston, and Laura Rohde, in London.)

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