Accounting Scandal Updates and Other
Fraud on June 30, 2005
Bob Jensen at
Bob Jensen's Main Fraud Document ---
Many of the scandals are documented at
Resources to prevent and discover fraud
from the Association of Fraud Examiners ---
Self-study training for a career in
fraud examination ---
Source for United Kingdom
reporting on financial scandals and other news ---
Updates on the leading books on the
business and accounting scandals ---
I love Infectious Greed by Frank
American History of Fraud ---
Future of Auditing ---
U.S. Pushes Broad Investigation Into Milberg Weiss Law
Federal prosecutors are investigating
one of the nation's most aggressive class-action law firms,
Milberg Weiss Bershad & Schulman, for alleged fraud, conspiracy
and kickbacks in scores of securities lawsuits, and could seek
criminal charges against the firm itself and its principals. The
three-year investigation focuses on allegations that the New
York-based firm routinely made secret, illegal payments to
plaintiffs who appeared on securities class-action lawsuits
brought by the firm, according to court documents and lawyers
close to the case. A grand jury in Los Angeles convened last
October has been hearing evidence of alleged illegal payments in
dozens of suits filed against oil, biotechnology, drug and
chemical companies during the past 20 years, the lawyers close
to the case said.
John R. Wilke, "U.S. Pushes Broad Investigation Into Milberg
Weiss Law Firm," The Wall Street Journal, June 27, 2005,
Page A1 ---
KPMG could face criminal charges for obstruction of
justice and the sale of abusive tax shelters.
Federal prosecutors have built a
criminal case against KPMG LLP for obstruction of justice and
the sale of abusive tax shelters, igniting a debate among top
Justice Department officials over whether to seek an indictment
-- at the risk of killing one of the four remaining big
accounting firms. Federal prosecutors and KPMG's lawyers are now
locked in high-wire negotiations that could decide the fate of
the firm, according to lawyers briefed on the case. Under
unwritten Justice Department policy, companies facing possible
criminal charges often are permitted to plead their case to
higher-ups in the department. These officials are expected to
take into account the strength of evidence in the case -- the
culmination of a long-running investigation -- and any
mitigating factors, as well as broader policy issues posed by
the possible loss of the firm. A KPMG lawyer declined to
comment. The chief spokesman for the firm, George Ledwith, said
yesterday that "we have continued to cooperate fully" with
investigators. He declined to discuss any other aspect of the
John R. Wilke, "KPMG Faces Indictment Risk On Tax Shelters:
Justice Officials Debate Whether to Pursue Case; Fears of
'Andersen Scenario'," The Wall Street Journal, June
16, 2005; Page A1 ---
Bob Jensen's threads on KPMG scandals are at
J.P. Morgan Chase & Co. agreed to pay $2.2 billion to settle
a lawsuit filed by investors in Enron
J.P. Morgan Chase & Co. agreed to pay
$2.2 billion to settle a lawsuit filed by investors in Enron,
according to the
Associated Press. The decision by
the third largest bank in the United States comes just four days
after Citigroup said it would pay $2 billion to settle the
claims against it in the shareholder lawsuit, which is led by
the University of California’s Board of Regents.
"Another Enron Settlement," Inside Higher Ed, June 15, 2005 ---
Bob Jensen's threads on the Enron scandal are at
That's Enron-tainment: Positive review on the new
Alex Gibney's freewheeling -- and terrifically
entertaining -- documentary, newly entered into national release, puts faces and
voices to the men and women who've become household names since the scandal
broke four years ago. Some of these former executives have already enjoyed (or
endured) extensive face time on TV. But now they're characters in the context of
a film that's been adapted from the book of the same name by Bethany McLean and
Peter Elkind, and the big screen lends new immediacy to their appearance. That's
not to say Mr. Gibney's documentary turns its characters into real people. Given
the scale of the human and economic damage, of the deception and very possibly
the pathological self-deception, there may not be any real people behind those
scrupulously straight faces. Still, "The Smartest Guys in the Room" gives us the
same sort of perverse pleasure that's been a staple of "60 Minutes" over the
years -- watching world-class crooks tell world-class lies.
"That's Enron-tainment: Company's Chief Cheats Give 'Smartest Guys' Energy:
Documentary Tracing Firm's Fall Is Provocative, Proudly Partisan; 'Machuca':
Classy Class Drama," The Wall Street Journal, April 29, 2005; Page W1 ---
Bob Jensen's threads on the history of the Enron/Andersen scandals are at
You can download Enron's Infamous Home Video
Although it has nothing to do with the above professional movie, Jim Borden sent
me a copy of the amateur video recording of Rich Kinder's departure from Enron
(Kinder preceded Skilling as President of Enron). This video features
nearly half an hour of absurd skits, songs and testimonials by company
executives. It features CEO Jeff Skilling proposing
Hypothetical Future Value (HPV) accounting with in retrospect is
too true to be funny during the subsequent melt down of Enron. George W.
Bush (then Texas Governor Bush and his father) appear in the video. You
can download parts of it at
Warning: The above video is in avi format and takes a very long time to
download. It probably dovetails nicely into Alex Gibney's new Hollywood
Footnote: Rich Kinder left Enron, formed his own energy company, and
became a billionaire ---
Bristol-Myers to pay $300 million to settle an accounting scandal
Bristol-Myers Squibb Co. is expected
to pay about $300 million to settle a criminal investigation by the Justice
Department into its alleged accounting manipulations from several years ago,
people familiar with the situation said. As part of the settlement, longtime
board member James D. Robinson III is expected to become chairman, according to
a person familiar with the situation. Current Chairman and Chief Executive Peter
R. Dolan would retain the CEO title.
Paul Davies et al., "Bristol-Myers Expected to Pay $300 Million to Settle
Probe," The Wall Street Journal, June 6, 2005 ---
The independent auditing firm of PwC insisted on an earnings restatement for the
What is "markdown money?"
Saks Inc., facing an investigation by the U.S.
Securities and Exchange Commission into the improper collection of allowances
from its vendors, disclosed an additional internal investigation into its
practices. The additional probe will determine whether Saks's luxury chain, Saks
Fifth Avenue, wrongfully collected from its vendors "chargebacks," or fees for
failing to comply with Saks's logistics, transportation or billing policies. The
internal investigation also will review when "markdown money" was recorded.
Markdown money is the sum vendors pay retailers to compensate stores when
merchandise doesn't sell and has to go on sale, or be "marked down."
Ellen Byron, "Saks Studies Booking of Allowances: Retailer Reviews
Accounts Of Such Revenue Up to '05, Amid an SEC Investigation," The Wall
Street Journal, June 6, 2005; Page B10 ---
Sacks at Saks
Saks Inc. said it asked several senior executives to
resign after an internal investigation of allegedly improper collections of
vendor-markdown allowances at its Saks Fifth Avenue division.
Ellen Byron, "Saks Inc. Asks Several Executives For Resignations," The Wall
Street Journal, May 10, 2005; Page A6 ---
Finally a corporate board acts to end a fraud
The abrupt notice of termination given last week to the
head of MassMutual Financial Group, one of the nation's largest financial
companies, came after a board investigation concluded he had engaged in an
improper pattern of self-dealing and abuse of power, according to people
familiar with the probe. The probe made several allegations against former
Chairman and Chief Executive Robert J. O'Connell, among them that he inflated
the value of a special retirement account by tens of millions of dollars, bought
a company-owned condominium at a below-market price and interfered in efforts to
discipline his son and son-in-law, who worked at MassMutual, said people
familiar with the probe.
James Bandler and Joann S. Lublin, "MassMutual Board Fired CEO On Finding
'Willful Malfeasance'," The Wall Street Journal, June 10, 2005; Page A1
It's beyond me why anybody does business with Morgan
Morgan Stanley's past actions hardly inspire
confidence that the firm can be relied upon to analyze the legal potential of
the documents. All Wall Street firms play hardball when clients bring
arbitration cases. But Morgan Stanley is famous for its scorched-earth tactics.
The firm often stonewalls routine requests for documents and stalls even when
arbitration panelists order that materials be produced. During an October 2003
arbitration, for example, Morgan Stanley was penalized $10,000 a day until it
complied with an order that documents be produced. "Enough is enough," the
arbitration panel wrote. Morgan Stanley seems similarly obstructionist in its
dealings with regulators. New Hampshire's securities department last month cited
it for "improper and inadequate production of documents" in a case involving
allegations of improper sales. Jeffrey Spill, deputy director of the state's
Bureau of Securities Regulation, said in a statement: "What we have seen is a
consistent pattern of delay and obfuscation in relation to document production,
in addition to inadequate recordkeeping, both here in New Hampshire and in other
jurisdictions." Morgan Stanley settled the case W.A.O.D.W. - without admitting
or denying wrongdoing.
Gretchen Morgenson, "All That Missing E-Mail ... It's Baaack," The New York
Times, May 8, 2005 ---
Bob Jensen's threads on frauds by brokers and investment bankers are at
KPMG Ousts Executive, Partners; Steps Tied to
Accounting firm KPMG LLP this week fired a senior
executive who had headed its tax-services division as it promoted tax shelters
earlier this decade, another sign of the pressure KPMG is facing as
law-enforcement officials investigate the now-contentious sales effort. The New
York firm also dismissed two partners who had sat on its 15-member board, the
latest personnel change tied to the tax-shelter scrutiny. A KPMG spokesman says
the firm doesn't discuss personnel matters. Since February 2004, KMPG has been
under criminal investigation by the Justice Department's U.S. attorney's office
in Manhattan for its sale of tax shelters in the 1990s and as recently as 2002.
KPMG's marketing effort was publicized in hearings in 2003 by the Senate
Permanent Subcommittee on Investigations, which concluded in a report that KPMG
had been an "active and, at times, aggressive" promoter of tax shelters to
individuals and corporations that were later determined by the Internal Revenue
Service to be potentially abusive or illegal tax shelters.
Diya Guollapalli, "KPMG Ousts Executive, Partners; Steps Tied to Tax-Shelter
Scrutiny," The Wall Street Journal, April 28, 2005; Page C2 ---
Bob Jensen's threads on KPMG's abusive tax shelters that
exceeded $1 billion in revenue to the firm are at
David Reilly and Alessandra Galloni, "Facing Lawsuits, Parmalat Auditor
Stresses Its Disunity: Deloitte Presented Global Face, But Says Arms Acted
Alone; E-Mail Trail Between Units: A Liability Threat for Industry,"
The Wall Street Journal, April 28, 2005; Page A1 ---
The Big Four accounting firms -- Deloitte,
PricewaterhouseCoopers, KPMG and Ernst & Young -- have long claimed in court
cases that their units are independent and can't be held liable for each other's
sins. U.S. courts to date have backed that argument. The firms say the
distinction is important -- allowing them to boost the efficiency of the global
economy by spreading uniform standards of accounting around the world, without
worrying that one unit's missteps will sink the entire enterprise. But Deloitte
e-mails seized by Italian prosecutors and reviewed by The Wall Street Journal,
along with documents filed in the court cases, show how the realities of
auditing global companies increasingly conflict with the legal contention that
an accounting firm's units are separate. The auditing profession -- which plays
a central role in business by checking up on companies' books -- has become
ever-more global as the firms' clients have expanded around the world. But
that's creating new problems as auditors face allegations that they bear
liability for the wave of business scandals in recent years.
Bob Jensen's threads on Deloitte's legal woes are at
Bob Jensen's threads on the future of auditing are at
Beware of Counterfeit U.S. Postal Money Orders
In the last six months, the F.B.I. and postal
inspectors say, international forgers - mostly in Nigeria, but also in Ghana and
Eastern Europe - appear to have turned new attention to the United States postal
money order. More than 3,700 counterfeit postal money orders were intercepted
from October to December, exceeding the total for the previous 12 months,
according to postal inspectors. Moreover, 160 arrests have been made in the
United States since October in cases where people have been suspected of
knowingly receiving fraudulent postal money orders or trying to cash them, Paul
Krenn, a spokesman for the United States Postal Inspection Service, said.
Tom Zeller Jr., "Authorities Note Surge in Online Fraud Involving Money Orders,"
The New York Times, April 26, 2005 ---
Bob Jensen's threads on consumer fraud are at
Amazon may not be the place to plead your case
Several months ago, Christy Serrato bought a iPod
mini digital-music player through Amazon.com Inc.'s Web site. When it failed to
arrive, she sent a number of e-mails to the seller, without a reply. Only after
another round of e-mails did she finally get a refund, roughly two months after
her purchase. The challenge for Ms. Serrato, a software saleswoman in San
Francisco, was that, while she used Amazon's Web site -- the seller was actually
one of the 925,000 independent merchants that sell through Amazon. When one of
these purchases goes awry, consumers aren't always sure who is responsible, or
even where to complain.
Mylene Mangalindan, "Who's Selling What on Amazon: Some Shoppers Are
Confused As Independent Merchants Make Up More of Site's Sales," The Wall
Street Journal, April 28, 2005; Page D1 ---
During his four years as senior chairman of Tyson
Foods Inc., the perks Don Tyson received were striking even in an era of lavish
executive compensation. They included $464,132 for personal use by him and his
family and friends of company-owned homes in the English countryside and Cabo
San Lucas, Mexico, $20,000 for oriental rugs, $18,000 of antiques, $84,000 in
lawn maintenance at five homes where he and his family and friends lived, an
$8,000 horse, and other jewelry, artwork, vacations and theater tickets. The
company also paid Mr. Tyson $1.1 million to cover his personal income-tax
liability associated with all these benefits. Yesterday, the Securities and
Exchange Commission said those perks were among $3 million in benefits the
Springdale, Ark., company paid Mr. Tyson between 1997 and 2001. As part of a
broad crackdown on hidden executive compensation, the SEC said that Tyson Foods
failed to disclose over $1 million in perks and made misleading or inadequate
disclosures about other benefits.
Deborah Solomon, "In SEC Complaint, Tale of Chicken Mogul Feathering His Nest:
Don Tyson Took In Millions In Poorly Disclosed Perks; $84,000 in Lawn Care,"
The Wall Street Journal, April 29, 2005; Page A1 ---
Equitable trial: E&Y fights for its future
In one of the biggest court cases in British accounting
history, Ernst & Young battles it out with life assurance firm, Equitable Life,
at London's High Court. At stake? The future of the Big Four firm. Equitable
Life's £2bn lawsuit against Ernst & Young, its former auditors, kicked off on
Monday 11 April, 2005. Equitable is suing E&Y for alleged negligence in the
overseeing of its accounts in the late 1990s. As well as explaining their cases
in court, both parties submitted written explanations of their case. Here, you
can read Equitable's claim against the Big Four firm, and E&Y's furious
"Equitable trial: E&Y fights for its future," Financial Director, April
26, 2005 ---
Bob Jensen's threads on the legal woes of E&Y ---
Large CPA firms are in a settlement mood
Deloitte & Touche LLP is expected to announce today it
will pay a $50 million fine to settle Securities and Exchange Commission civil
charges that it failed to prevent massive fraud at cable company Adelphia
Communications Corp. In another case, the now-largely defunct accounting firm
Arthur Andersen LLP agreed to a $65 million settlement in a class-action suit by
investors in WorldCom Inc. over losses from stocks and bonds of the
once-highflying telecommunications company now known as MCI Inc. These follow a
$22.4 million settlement the SEC reached last week with KPMG LLP related to its
audits of Xerox Corp. from 1997 through 2000, and a $48 million settlement by
PricewaterhouseCoopers LLP last month to end class-action litigation over its
audit of Safety-Kleen Corp., an industrial-waste-services company that filed for
bankruptcy-court protection in 2000.
Diya Gullapalli, "Deloitte to Be Latest to Settle In Accounting Scandals,"
The Wall Street Journal, April 26, 2005; Page A3 ---
There are of course other suits that are not settled.
Bob Jensen's threads on the legal woes of large auditing firms are at
Adelphia Communications Corp. agreed to a $715 million settlement
Adelphia Communications Corp. agreed to a $715 million
settlement with the U.S. Justice Department and Securities and Exchange
Commission to resolve claims stemming from the corporate looting and
accounting-fraud scandal that toppled the country's fifth-largest
Peter Grant and Deborah Solomon," "Adelphia to Pay $715 Million In 3-Way
Settlement," The Wall Street Journal, April 26, 2005, Page A3 ---
But $715 only goes a small way in replacing the billions lost by creditors
The family that founded the Adelphia Communications Corporation, the big cable
operator, will forfeit almost its entire fortune to the company to pay for a
$715 million fund to compensate investors who lost money when the company
collapsed, the government said yesterday.
Geraldine Fabrikant, "Rigas Family to Cede Assets to Adelphia," The New York
Times, April 26, 2005 ---
At least they will spend a little time in prison
A federal judge in Houston gave two former Merrill
Lynch & Co. officials substantially shorter prison sentences than the government
was seeking in a high-profile case that grew out of the Enron Corp. scandal. In
a separate decision yesterday, another Houston federal judge said that
bank-fraud charges against Enron former chairman Kenneth Lay would be tried next
year, immediately following the conspiracy trial against Mr. Lay, which is set
for January. Judge Sim Lake had previously separated the bank-fraud charges from
the conspiracy case against Mr. Lay and his co-defendants, Enron former
president Jeffrey Skilling and former chief accounting officer Richard Causey.
The government had been seeking to try Mr. Lay on the bank-fraud charges within
about the next two months . . . Judge Ewing Werlein, Jr. sentenced former
Merrill investment banking chief Daniel Bayly to 30 months in federal prison and
James Brown, who headed the brokerage giant's structured-finance group, to a
46-month term. The federal probation office, with backing from Justice
Department prosecutors, had recommended sentences for Messrs. Bayly and Brown of
about 15 and 33 years, respectively. Mr. Brown had been convicted on more counts
than Mr. Bayly.
John Emshwiller and Kara Scannell, "Merrill Ex-Officials' Sentences Fall Short
of Recommendation," The Wall Street Journal, April 22, 2005, Page C3 ---
Jensen Comment: I double dare you to go to my "Rotten to the Core" threads
and search for every instance of "Merrill" ---
Bob Jensen's threads on the Enron scandals are at
Coke cooked the books
Richard Wessel, District Administrator of the
Commission's Atlanta District Office, stated, "MD&A requires companies to
provide investors with the truth behind the numbers. Coca-Cola misled investors
by failing to disclose end of period practices that impacted the company's
likely future operating results." Katherine Addleman, Associate Director of
Enforcement for the Commission's Atlanta District Office, stated, "In addition,
Coca-Cola made misstatements in a January 2000 Form 8-K concerning a subsequent
inventory reduction and in doing so continued to conceal the impact of prior end
of period practices and further mislead investors." In its order, the Commission
found that, at or near the end of each reporting period between 1997 and 1999,
Coca-Cola implemented an undisclosed "channel stuffing" practice in Japan known
as "gallon pushing" for the purpose of pulling sales forward into a current
period. To accomplish gallon pushing's purpose, Japanese bottlers were offered
extended credit terms to induce them to purchase quantities of beverage
concentrate the bottlers otherwise would not have purchased until a following
period. As Coca-Cola typically sells gallons of concentrate to its bottlers
corresponding to its bottlers' sales of finished products to retailers,
typically bottlers' concentrate inventory levels increase approximately in
proportion to their sales of finished products to retailers.
Andrew Priest, "THE
COCA-COLA COMPANY SETTLES ANTIFRAUD AND PERIODIC REPORTING CHARGES RELATING TO
ITS FAILURE TO DISCLOSE JAPANESE GALLON PUSHING,"
AccountingEducation.com, April 21, 2005 ---
Bob Jensen's threads on previous channel stuffing revenue recognition frauds are
Accounting rules are blamed for failure to stockpile children's vaccines
Although opinions differ, it appears that the
Pediatric Vaccine Stockpile has become an innocent bystander wounded in the
government's crackdown on deceptive accounting practices. Vaccine supply
dwindles No one has accused the vaccine manufacturers of wrongdoing. However,
they can no longer treat as revenue the money they get when they sell millions
of doses of vaccine to the stockpile because the shots are not delivered until
the government calls for them in emergencies. Instead, the vials are held in the
manufacturers' warehouses, where they are considered unsold in the eyes of
auditors, investors and Wall Street . . .The ranking Democrat on the Committee
on Government Reform, Waxman said he is willing to sponsor legislation to carve
out a legal exception that would allow companies to "recognize" revenue from
sales to the vaccine stockpile — if such a radical step becomes necessary. One
of the companies, however, said its problem is not with "revenue recognition"
but with the details of managing the vaccine inventory. Other parties were
reluctant to discuss possible solutions or who, if anyone, is to blame for the
empty shelves. The SEC, which enforces accounting practices, would not speak on
the record. HHS officials would not make available the person talking to the SEC
on the matter. The department referred questions to its subordinate agency, the
CDC, whose officials said important decisions about the stockpile are being made
at the department level.
"Pediatric vaccine stockpile at risk Many drug makers hesitant to supply
government," Washington Post via MSNBC, April 16, 2005 ---
Bob Jensen's threads on revenue accounting are at
It's always serious when the NASD takes action
Citigroup Inc.'s Smith Barney unit expressed
disappointment with an arbitration ruling awarding $2.5 million to an investor
who alleged he received bad stock-option advice from brokers in Citigroup's
Smith Barney branch in Atlanta. Smith Barney spokeswoman Kimberly Atwater said
the company was "disappointed with this decision, which is inconsistent with
those made in other cases." Virginia resident Travis Brown claimed during the
National Association of Securities Dealers hearing that the brokers advised him
to use an "exercise and hold" strategy with his WorldCom stock options from 1999
to 2000. Mr. Brown's account lost value as WorldCom's stock price began to
tumble in 2000.
"Ruling Disappoints Smith Barney," The Wall Street Journal, April 12,
2005; Page A6 ---
Bob Jensen's threads on "Rotten to the Core" are at
Labor officials doing personal things at an increasing rate
But Mr. Yud said that if the department
(Department of Labor) had been doing audits as
vigorously as in decades past, it might have prevented corruption like the
embezzlement of more than $2.5 million by leaders of the Washington Teachers
Union. Among the items bought with the stolen union money were a $57,000 Tiffany
tea service for 24, a $13,000 plasma television and a $20,000 custom-tailored
mink coat. There were also the 277 checks totaling $41,309 that the secretary of
an autoworkers' local wrote to herself over two and a half years, and the dues
money stolen by the office secretary of a Minnesota plumbers' local, who, in
ultimately pleading guilty, agreed to repay $54,469. Since 2001, department
officials say, more than 500 union officials have been indicted on charges
including fraud and embezzlement.
Steven Greenhouse, "Labor Dept. Plans Increasing Scrutiny of Union Finances,"
The New York Times, April 17, 2005 ---
Ex-Specialists Face Indictment For NYSE Deals
Several former New York Stock Exchange traders who
oversaw stock auctions on the floor face indictment today on charges that they
traded to benefit their firms at the expense of their customers, people familiar
with the matter said. The criminal probe by federal prosecutors in New York City
grew out of a civil case against the seven firms that employ the traders, known
as specialist firms. Without admitting or denying wrongdoing, those NYSE
specialist firms last year paid a total of $247 million to settle charges that
their employees interfered with customer orders or put them aside, usually for
just a few crucial seconds, so they could trade their firm's own money, taking
advantage of their knowledge of which way the market was moving.
Kara Scannell and Aaron Lucchettii, "Ex-Specialists Face Indictment For NYSE
Deals," The Wall Street Journal, April 12, 2005; Page C1 ---
Sounds good, but there are well known dangers
For years, a company's highest boss often got rewarded
very well for very little performance. Now, in response to a growing outcry from
investors -- and their increased clout -- more boards are raising the bar even
higher so their leader can't reap supersized pay without supersized performance.
Hints of the nascent trend include: bonuses partly based on how a company stacks
up against others; difficult triggers for all equity awards; elimination of
guaranteed minimum pay; and severance accords that forbid windfalls for poor
Joann S. Lublin, "Goodbye to Pay for No Performance," The Wall Street Journal,
April 11, 2005, Page R1 ---
Jensen Comment: Much depends upon how "performance" is evaluated. If
it is based on trends in annual earnings this can be a formula for disaster.
A CEO wanting the highest current bonus available can "eat the company's seed
corn" so to speak. Some items of expense, R&D comes to mind reap a harvest
in future years rather than current years. It is well known that the CEOs
of many companies are willing to hurt the future in order to get their current
bonuses and other performance-based compensation short-term rewards.
Discontent is rightfully rising over CEO pay versus performance
In fact, the boss enjoyed a hefty raise last year.
The chief executives at 179 large companies that had filed proxies by last
Tuesday - and had not changed leaders since last year - were paid about $9.84
million, on average, up 12 percent from 2003, according to Pearl Meyer &
Partners, the compensation consultants. Surely, chief executives must have done
something spectacular to justify all that, right? Well, that's not so clear. The
link between rising pay and performance remained muddy - at best. Profits and
stock prices are up, but at many companies they seem to reflect an improving
economy rather than managerial expertise. Regardless, the better numbers set off
sizable incentive payouts for bosses. With investors still smarting from the
bursting of the tech bubble, the swift rebound in executive pay is touching some
nerves. "The disconnect between pay and performance keeps getting worse," said
Christianna Wood, senior investment officer for global equity at Calpers, the
California pension fund. "Investors were really mad when pay did not come down
during the three-year bear market, and we are not happy now, when companies
reward executives when the stock goes up $2."
Claudia H. Deutsch, "My Big Fat C.E.O. Paycheck," The New York Times,
April 3, 2005 ---
Bob Jensen's threads on corporate fraud are at
Bob Jensen's updates on fraud are at
How close is the A.I.G. fraud of today to the Enron fraud of yesterday?
There are, however, some disturbing similarities
between A.I.G. and Enron: Asleep-at-the-switch
auditors. Secretive off-balance-sheet entities that
should have been included on the company's financial statements but weren't. A
management team willing to try any number of accounting tricks to make the
company's results appear better than they actually were. And one more likeness:
As A.I.G.'s shares have plummeted, the financial position of one of the
Gretchen Morgenson, "A.I.G.: Whiter Shade of Enron," The New York Times,
March 3, 2005 ---
Bob Jensen's threads on the A.I.G. fraud are at
A billion here, a billion there --- PS the debits are on the left
The American International Group, the embattled
insurance giant, said last night that an in-depth examination of its operations
had turned up additional accounting improprieties going back to 2000 that would
reduce its net worth by $2.7 billion, or $1 billion more than it had previously
Gretchen Morgenson, "Giant Insurer Finds $1 Billion More in Flaws, The New
York Times, May 2, 2005 ---
Bob Jensen's updates on fraud in the insurance industry are at
Flashback on AIG Fraud (forwarded to me by Miklos Vasarhelyi
American International Group Inc. agreed to pay a $10
million fine to settle Securities and Exchange Commission allegations that the
insurance company participated in an accounting fraud at Brightpoint Inc. The
SEC also alleged that New York-based American International, the world's largest
insurer by market value, failed to cooperate with its investigation. The SEC
charged Brightpoint with accounting fraud in a scheme to conceal losses by using
an AIG insurance policy. "AIG worked hand-in-hand with Brightpoint personnel to
custom-design a purported insurance policy that allowed Brightpoint to overstate
its earnings by a staggering 61 percent," said Wayne M. Carlin, director of
SEC's Northeast Regional Office in New York. Carlin said the transaction
amounted to a "round-trip" of cash from Brightpoint to AIG and back to
Brightpoint. In the past year, the SEC also has charged energy companies, such
as Reliant Resources Inc. and Reliant Energy Inc., in "round-trip" arrangements
that misled investors.
Reuters, "AIG Pays $10 Million Fine in Brightpoint Accounting Fraud," The New
York Times, September 11, 2003
You can read more about the recent AIG scandals at
You can read more about round tripping at
I have a longer quotation on this article at the above link. You can also
read about Enron's round trips to the plate.
Over the last two weeks we have been flooded with
revelations of problems with AIG accounting, in particular, some "round trip
like" transactions between AIG and Berkshire's General Re: that will reduce
AIG's net worth by 2% max according to AIG. However, a much deeper issue came to
light that has widely been ignored by the press and maybe by the regulators and
the FASB. AIG had extensive dealings with offshore companies which were also
owned or controlled by AIG or its executives. These companies paid compensation
to the executives that was not included in AIG's 10Ks. As IAG and / or its
executives including Mr. Grenberg controlled for example Richmond and Union
Reinsurance a Barbados based company the relationship was not arms-length...
consequently it is possible that the deals included substantial "extra fat" for
rich payments for these same executives in the privately held companies... This
arrangement makes it feel very much like Mr. Fastow's Enron SPEs. As I have
argued many times, any privately held company or partnership that does extensive
business with publicly held companies should be subject to the same onus of
disclosure of public companies... consequently the distinction is very murky and
like some European countries most companies publicly or privately held including
partnerships, LLPs and LLCs should have SEC-like disclosure requirements.
April 3, 2005 message from Miklos Vasarhelyi
The Supreme Court overturned the conviction of the Arthur Andersen accounting
firm for destroying documents related to its Enron account before the energy
giant's collapse. The ruling is not based upon guilt or innocence. It is
based only on a technicality in the judge's instructions to the jury. The
ruling will not lead to a revival of this once great firm that in the years
preceding its collapse became known for some terrible audits of firms like Waste
Management, Enron, and Worldcom. For more see
"AIG Probes Bring First Charges: New York Suit Accuses Insurer,
Greenberg and Ex-Finance Chief Of Manipulating Firm's Results," by Ian McDonald
and Theo Francis, The Wall Street Journal, May 27, 2005; Page C1 ---
In the first formal charges to come
In the first formal charges to come from the probes
of American International Group Inc.'s accounting, New York state
authorities sued AIG, former Chairman Maurice R. "Hank" Greenberg and the
insurance company's former chief financial officer, painting a picture of
widespread accounting gimmickry aimed at duping regulators and investors.
New York State Attorney General Eliot Spitzer and
the New York State Insurance Department alleged that AIG engaged in "sham
transactions," hid losses and created false income. On one occasion, Mr.
Greenberg even laughed at a joke about one of the alleged maneuvers, the
civil lawsuit says.
The goal, the suit contends, was to exaggerate the
strength of the company's core underwriting business, propping up the price
of one of the nation's most widely held stocks.
AIG shares rose 3% yesterday after the lawsuit was
announced, as investors saw that the charges were civil, not criminal,
though a criminal investigation of individuals continues. AIG is the world's
biggest publicly traded seller of property-casualty insurance to companies
and is the largest life insurer in the U.S., as measured by premiums.
Continued in article
Bob Jensen's threads on insurance company frauds are at
What has been one of the most massive, if not these most massive, fraud in the
history of the U.S.?
The attorney/physician rip off on phony asbestos health damage claims.
"Diagnosing for Dollars A court battle over silicosis shines a harsh light on
mass medical screeners—the same people whose diagnoses have cost asbestos
defendants billions," by Roger Parloff, Fortune, June 13, 2005, pp.
How, then, to account for this: Of 8,629 people
diagnosed with silicosis now suing in federal court in Corpus Christi,
5,174—or 60%—are "asbestos retreads," i.e., people who have previously filed
claims for asbestos-related disease.
That anomaly turns out to be just one of many in
the Corpus Christi case that sorely challenge medical explanation. At a
hearing in February, U.S. District Judge Janis Graham Jack characterized the
evidence before her as raising "great red flags of fraud," and a federal
grand jury in Manhattan is now looking into the situation, according to two
people who have been subpoenaed.
The real importance of those proceedings,
however, is not what they reveal about possible fraud in silica litigation
but what they suggest about a possible fraud of vastly greater dimensions.
It's one that may have been afflicting asbestos litigation for almost 20
years, resulting in billions of dollars of payments to claimants who weren't
sick and to the attorneys who represented them. Asbestos litigation—the
original mass tort—has bankrupted more than 60 companies and is expected to
eventually cost defendants and their insurers more than $200 billion, of
which $70 billion has already been paid.
The odor around asbestosis diagnosis has been so
foul for so long that by 1999, professor Lester Brickman of the Benjamin N.
Cardozo School of Law was referring to asbestos litigation as a "massively
fraudulent enterprise." At the request of his defamation lawyer, Brickman
says, he toned that down to "massive, specious claiming"
Continued in the article
Bob Jensen's working paper on the history of
fraud in the U.S. is at
From The Wall Street Journal Weekly
Accounting Review on April 1, 2005
TITLE: AIG's Mistakes Over Accounting May Be in Billions
REPORTER: Monica Langley and Ian McDonald
DATE: Mar 25, 2005 PAGE: A1 LINK:
TOPICS: Accounting Changes and Error Corrections, Advanced Financial Accounting,
Regulation, Reserves, Revenue Recognition, Auditing, Consolidation
SUMMARY: AIG "disclosed the initial findings of its internal investigation in
a conference call Tuesday evening that its lawyers initiated with authorities
from the New York Insurance Department, the New York Atotrney General and the
Securities and Exchange Commission. The internal investigation has focused on
questionable deals over the past five years..." undertaken with reinsurers.
1.) What is re-insurance? What is the purpose of undertaking a re-insurance
2.) What is the revenue recognition issue at the heart of this investigation
into AIG's accounting practices? What accounting standard (or standards)
establishes required practice in this area?
3.) What consolidation issue also is being questioned in this investigation?
What accounting standard (or standards) addresses requirements for these
4.) How must auditors assess the propriety of transactions described in this
article? List and explain all procedures you think might be necessary.
5.) Do you think auditors face a risk of not uncovering problematic
practices, even systemic ones, covering a period of five years and relating to
multiple accounting areas? Support your answer, then explain what audit
practices must be used to address this risk.
6.) Refer to the related article. AIG "is considering hiring forensic
accountants to work with them..." What is a forensic accountant? How might such
an accountant's work be used in this investigation?
7.) Again refer to the related article. "AIG hasn't yet determined whether to
restate past years' earnings or take a charge against current earnings,
according to one person familiar with the matter." Is there a choice between
these two methods of handling any problems uncovered by this investigation?
Explain, supporting your answer with reference to the accounting literature and
the nature of the issues discussed in these articles.
8.) Again refer to the related article. "AIG continues to 'believe that the
matters subject to review are unlikely to result in significant changes to the
company's financial position,' meaning shareholders' equity..." Define the terms
"financial position" and "shareholders' equity". Would you use the terms
interchangeably? How are they related? How is shareholders' equity particularly
of concern in the insurance industry, as in the banking industry?
Reviewed By: Judy Beckman, University of Rhode Island
--- RELATED ARTICLES ---
TITLE: SEC Subpoenas Senior Executives In Probe at AIG
REPORTER: Monica Langley, Deborah Solomon, Theo Francis and Ian McDonald
ISSUE: Mar 28, 2005
A quote from Katherine
After months of government investigations of
financial-engineering products in the insurance industry, the nation's
accounting rule makers said they will consider tightening standards that govern
how companies account for their dealings with insurance companies. The Financial
Accounting Standards Board yesterday voted unanimously to add a project to its
agenda aimed at clarifying when contracts structured as insurance policies
actually transfer risk from the policies' buyers, and when they don't. The
FASB's decision is an acknowledgment that the current accounting rules for the
insurance industry in many respects are porous. "We've got a specific problem
that's been brought to our attention in which there are allegations that the
accounting is not representationally faithful and not comparable," said
Katherine Schipper, a member of the FASB, the private-sector body that sets
generally accepted accounting principles. "So we need to craft a solution that
addresses that specific set of allegations."
Diya Gullapalli, "FASB Weighs Its Finite-Risk Rules: Accounting Body to
Start By Defining 'Insurance Risk'; Changes Could Take Years, The Wall Street
Journal, April 7, 2005; Page C3
After months of government investigations of
financial-engineering products in the insurance industry, the nation's
accounting rule makers said they will consider tightening standards that
govern how companies account for their dealings with insurance companies.
The Financial Accounting Standards Board yesterday
voted unanimously to add a project to its agenda aimed at clarifying when
contracts structured as insurance policies actually transfer risk from the
policies' buyers, and when they don't. The FASB's decision is an
acknowledgment that the current accounting rules for the insurance industry
in many respects are porous.
"We've got a specific problem that's been brought
to our attention in which there are allegations that the accounting is not
representationally faithful and not comparable," said Katherine Schipper, a
member of the FASB, the private-sector body that sets generally accepted
accounting principles. "So we need to craft a solution that addresses that
specific set of allegations."
In recent years, many companies are believed to
have used structured insurance-industry products to burnish their financial
statements. The FASB's current standards don't define even basic concepts
like "insurance contract" and "insurance risk." FASB members said that
defining those terms will be their first order of business as they tackle
the project. For years, the lack of clarity over what qualifies for
insurance accounting, combined with lax public-disclosure requirements, made
it fairly easy for companies to interpret the rules aggressively without
fear of attracting scrutiny by outside investors.
The accounting for "finite-risk" reinsurance
policies is at the heart of regulators' investigations at a host of
insurance companies, including American International Group Inc. and MBIA
Inc. These nontraditional insurance products blend elements of insurance and
financing. To qualify for more-favorable insurance accounting, policies must
transfer sufficient risk of loss to a seller from a buyer. Regulators have
contended that, in some cases, finite-risk policies appear more akin to
FASB members debated several approaches yesterday.
Possibilities include enhancing disclosure rules, issuing new guidance in a
question-and-answer format, and amending one of the key standards on risk
transfer in reinsurance contracts, known as Financial Accounting Standard
113. Formally amending FAS 113 could require months or years of work,
The subject of risk transfer also is under review
by the National Association of Insurance Commissioners, whose members are
the insurance industry's chief regulators. In addition, the London-based
International Accounting Standards Board and the U.S. Securities and
Exchange Commission's staff are considering issuing new guidance on
accounting for finite-risk reinsurance. With the IASB also in the kitchen,
Michael Crooch, an FASB board member, wonders if the FASB's work on the
matter will be "seen at least across the pond as the FASB meddling or
getting ahead of them."
The least likely scenario would be for the FASB to
adopt what, until recently, had been a widely used rule of thumb in the
accounting and insurance industries for determining when risk is transferred
to an insurer. This held that risk is transferred when there is a 10% chance
of a 10% loss by an insurer or reinsurer. That industry guidepost --
developed largely because of the FASB's lack of guidance on the subject --
today is being frowned upon because of its arbitrariness and its openness to
Large auditing firms are trying to stay on top of
finite-risk reinsurance rules, as well. On its internal Web site, for
example, PricewaterhouseCoopers LLP, which is AIG's outside auditor,
recently posted a 20-page summary for personnel and clients on accounting
issues surrounding these products. And at Grant Thornton LLP, the nation's
fifth-largest accounting firm, Chief Executive Ed Nusbaum said: "We're more
on the lookout for insurance transactions with these accounting issues."
April 7, 2005 reply from
This looks relevant to your quote from Katherine Schipper.
"Accounting for the Abuses at AIG," Insurance
and Pensions at the Wharton School of Business," ---
Improper Use of Finite Policies
But in practice, finite policies have
sometimes been used improperly. In 2000 and
2001, AIG's Greenberg asked General Re to do
an unusual deal involving a bundle of finite
contracts General Re had written for
clients. AIG took over the obligation to pay
up to $500 million in claims on the
contracts. At the same time, General Re
passed to AIG $500 million in premiums the
clients had paid. AIG paid General Re a $5
million fee for moving these contracts to
Last year, General Re reported the deal to
investigators who were questioning a number
of reinsurers about finite policies. This
deal carried a red flag because it was
backwards: Typically, it would be AIG
seeking a finite policy to shift risk to
General Re. Because the $500 million in
premiums had to be paid back to General Re,
AIG seemed to be losing money on the deal,
not making it. So why had Greenberg asked to
take over those contracts?
In accounting for the deal, AIG tallied the
premiums as $500 million in revenue and
applied that amount to its reserve funds
used to pay potential claims. This helped
satisfy shareholders who had been concerned
AIG did not have enough in reserve.
The issue in this deal, as in many finite
insurance contracts, is whether AIG was
providing insurance coverage or receiving a
loan. To be insurance, AIG would have to
assume a risk of loss. An industry rule of
thumb known as "10/10" says the insurer
should face, at a minimum, a 10% chance of
losing 10% of the policy amount for the
contract to be considered insurance.
In the absence of that degree of risk, the
premiums transferred from General Re to AIG,
and repayable later, would be a loan. AIG
would then not be able to count the $500
million in premiums as additional reserves,
as it had.
On March 30, AIG directors announced that:
"Based on its review to date, AIG has
concluded that the General Re transaction
documentation was improper and, in light of
the lack of evidence of risk transfer, these
transactions should not have been recorded
As a result, the company said it would
reduce its reserve figure by $250 million
and show that liabilities had increased by
$245 million. However, it added, these
changes would have "virtually no impact" on
the company's financial condition. Bottom
line: The AIG-General Re deal was an
accounting gimmick to make AIG's reserves
look healthier than they were -- an apparent
effort to deceive regulators, analysts and
More Cases of Questionable Accounting
The directors then surprised observers by
announcing they had uncovered a number of
additional cases of questionable accounting.
The most serious involved reinsurance
contracts AIG had taken with a Barbados
reinsurer, Union Excess, allowing AIG's risk
to pass to the other company and off AIG's
books. AIG found that Union did business
exclusively with AIG subsidiaries, and that
Union was partially owned by Starr
International Company Inc. (SICO), a large
AIG shareholder controlled by a board made
up of current and former AIG managers.
Hence, the AIG statement said, SICO could be
viewed as an AIG unit, or "consolidated
entity," and SICO's risks were therefore
actually AIG's. As a result, AIG had to
reduce its shareholders' equity by $1.1
Another case involved a Bermuda insurer,
Richmond Insurance Company, that the
directors found to be secretly controlled by
AIG. A third concerned Capco Reinsurance
Company, another Barbados insurer, and
"involved an improper structure created to
recharacterize underwriting losses as
capital losses," the directors said. Fixing
this meant listing Capco as a consolidated
entity and converting $200 million in
capital losses to underwriting losses.
Yet another case involved $300 million in
income AIG improperly claimed for selling
outside investors covered calls on bonds in
AIG's portfolio. Covered calls are supposed
to give their owners the option to buy bonds
at a set price for a given period, but AIG
used other derivatives transactions to
assure it could retain the bonds.
The directors also stated that certain debts
owed to AIG might be unrecoverable,
resulting in after-tax charges of $300
million. And they noted that the company was
revising accounting for deferred acquisition
costs and other expenses involving some AIG
subsidiaries, resulting in as much as $370
million in corrections.
Some of the revelations seemed eerily
similar to ones raised in the Enron case,
which included use of little known offshore
subsidiaries to hide liabilities, although
the scale of the abuse so far appears to be
far smaller at AIG.
The scandal highlights one of the dilemmas
of American accounting, says
Catherine M. Schrand, professor of
accounting at Wharton. "We have
one-size-fits-all accounting for firms in
this country. If the standard-setters try to
make it too specific and take out all the
gray areas, then they would have a problem
creating financial statements that are
The degree of risk assumed by a company that
takes out a finite insurance policy is
difficult to measure, so it may not be
absolutely clear, even to the most well
intentioned accountant, whether the policy
should be counted as insurance or a loan.
Companies like AIG are so big, and their
accounting so complex, that it's impossible
to write regulations to prevent all abuse,
Strand suggests. "They will just find
another way to do it.... Flexibility gives
companies the opportunity to make their
financial statements better. But it also
gives them the opportunity to abuse the
KPMG settles Xerox case for $22.475 million in a rare "fraud" action
The Securities and Exchange Commission has announced
that KPMG LLP has agreed to settle the SEC's charges against it in connection
with the audits of Xerox Corp. from 1997 through 2000. As part of the
settlement, KPMG consented to the entry of a final judgment in the SEC's civil
litigation against it pending in the U.S. District Court for the Southern
District of New York. The final judgment, which is subject to approval by the
Honorable Denise L. Cote, orders KPMG to pay disgorgement of $9,800,000
(representing its audit fees for the 1997-2000 Xerox audits), prejudgment
interest thereon in the amount of $2,675,000, and a $10,000,000 civil penalty,
for a total payment of $22.475 million. The final judgment also orders KPMG to
undertake a series of reforms designed to prevent future violations of the
Andrew Priest, "KPMG PAYS $22 MILLION TO SETTLE SEC LITIGATION RELATING TO XEROX
AUDITS," AccountingEducation.com, April 21, 2005 ---
Jensen Comment: The SEC has filed many civil lawsuits against auditing
firms. However, it is rare to actually accuse a CPA firm of outright
fraud. I keep a scrapbook of the legal problems of CPA firms, including
|On January 23, 2003 I pasted in the
following from the The Wall Street Journal
SEC Set to File Civil
Action Against KPMG Over Xerox The Securities and
Exchange Commission is set to file civil-fraud
charges against KPMG LLP as early as next week for
its role auditing Xerox Corp., which last year
settled SEC accusations of accounting fraud, people
close to the situation said. The expected action by
the SEC would represent the second time in recent
years that the SEC has charged a major accounting
firm with fraud. It comes at a crucial juncture for
the accounting industry, which is attempting to
rebuild its credibility and make changes following
more than a year of accounting scandals at major
corporations. It also indicates that, while the
political furor over corporate fraud has died down,
the fallout may linger for some time.
The Wall Street Journal, January 23, 2003 ---
If the S.E.C. files a
complaint, KPMG would become only the second
major accounting firm to face such charges in
recent decades. The first was Arthur Andersen,
which settled fraud charges in connection with
its audit of
Waste Management in 2001, the year before it
was driven out of business as a result of the
The S.E.C. settled a
complaint against Xerox in April, when the
company said it would pay a $10 million fine and
restate its financial results as far back as
1997. The company later reported that the total
amount of the restatement was $6.4 billion, with
the effect of lowering revenues and profits in
1997, 1998 and 1999 but raising them in 2000 and
Bob Jensen's threads on the legal woes of CPA firms are at
"Krispy Kreme Ousts Six Executives," by Rick Brooks, The Wall Street
Journal, June 22, 2005; Page B3 ---
Six top executives at Krispy Kreme Doughnuts Inc.
resigned or retired after a special committee of directors investigating the
company's finances concluded they should be discharged.
The Winston-Salem, N.C., company refused to
identify the ousted officers, though it said the six included senior
executives who oversaw or helped lead the company's operations, finance,
business development, manufacturing and distribution. Krispy Kreme
spokeswoman Brooke Smith declined to comment beyond a written statement from
the company and wouldn't identify the discharged executives.
"Insurer's Filings Had Accounting Clues," By Jonathan Weil and Theo Francis,
The Wall Street Journal, April 11, 2005, Page C1 ---
It might have taken an eagle eye and extensive
knowledge of accounting rules to spot the no-expense treatment as a
potential problem. But unlike most of the accounting issues AIG disclosed
March 30 -- involving complex insurance contracts, derivative financial
instruments and offshore reinsurance dealings -- the information about the
stock plan was out there for anybody to see. AIG now says it will change its
policy to treat such payments as expenses -- though it has stopped short of
saying the original accounting was wrong.
Here is why AIG's prior accounting treatment looks
questionable to some accounting specialists: Under the accounting rules for
stock compensation, if a principal stockholder of a company establishes a
stock plan to pay that company's employees, the company must account for the
payments as an expense on its own income statement.
The rules define a principal stockholder as one
that either owns 10% or more of a company's common stock or has the ability
to exert significant influence over a company's affairs, directly or
AIG spokesman Chris Winans declined to clarify
whether AIG believes the prior accounting treatment was improper. He said
AIG will provide further details when it files its 2004 annual report this
The history of the rules governing such stock plans
dates to a June 1973 pronouncement by the now-defunct Accounting Principles
Board. David Norr, a board member at the time, recalled that it was
responding to a move by Ray Kroc, McDonald's Corp.'s founder, to distribute
portions of his own stock to the burger chain's employees.
The accounting board noted the difficulty for
outsiders of establishing whether a principal stockholder's intent is to
satisfy his generous nature or attempt to increase his investment's value.
If the latter, it said, "the corporation is implicitly benefiting from the
plan by retention of, and possibly improved performance by, the employee,"
in which case "the benefits to a principal stockholder and to the
corporation are generally impossible to separate."
Continued in the article
From The Wall Street Journal's Accounting Weekly Review on April 8,
TITLE: SEC Brings New Federal Oversight to Insurance Industry with Probes
REPORTER: Deborah Solomon
DATE: Apr 01, 2005
TOPICS: Insurance Industry, Regulation, Securities and Exchange Commission,
SUMMARY: "The Securities and Exchange Commission [SEC], using its power as an
enforcer of accounting rules, is asserting for the first time in 60 years a key
role for federal oversight of the insurance industry."
1.) Why is the insurance industry regulated? Why is it regulated primarily by
the states as opposed to the federal government?
2.) What accounting measures are used to regulate the insurance industry?
List those that are mentioned in the article and any that you know of from
experience or reading.
3.) How might improper transactions be undertaken to "dress up" the
accounting information that is used in the regulatory process over the insurance
industry? As one example, specifically comment on the product referred to in the
article as "thinly disguised loans". (Hint: you may refer to the related article
to help with this answer.)
4.) How has the SEC used its regulatory control over accounting issues to
effect change in industries over which it has little jurisdiction, such as the
Reviewed By: Judy Beckman, University of Rhode Island
--- RELATED ARTICLES ---
TITLE: AIG Admits 'Improper' Accounting
REPORTER: Ian McDonald, Deborah Solomon, and Theo Francis
ISSUE: Mar 31, 2005
Bob Jensen's threads on the insurance industry
accounting scandals are at
From The Wall Street Journal Weekly
Accounting Review on April 1, 2005
TITLE: MCI Warns About Internal Controls
REPORTER: David Enrich
DATE: Mar 17, 2005
TOPICS: Auditing, Financial Accounting, Income Taxes, Accounting Information
Systems, Internal Controls, Sarbanes-Oxley Act
SUMMARY: MCI has disclosed material weaknesses in its internal control over
accounting for income taxes and other areas.
1.) Why has MCI uncovered weaknesses in its internal controls? Over what areas
of accounting are its controls in question?
2.) How do the circumstances faced by MCI demonstrate the need to assess
internal controls every year?
3.) Why do you think that the steps undertaken by MCI to resolve its
deficiencies in income tax accounting for the current year are not sufficient to
allow auditors to conclude that the company's income tax controls are, in
4.) The company lists several factors that are particularly difficult areas
in which to consider income tax implications, including fresh-start accounting,
asset impairments, and cancellation of debt. Define each of these terms. From
what transactions do you think each issue arises? For each term, why do you
think that it is particularly difficult to assess income tax implications?
Reviewed By: Judy Beckman, University of Rhode Island
Bob Jensen's threads on the WorldCom/MCI scandal ---
"Tyco Ex-Auditor Testifies on Bonuses," by Chad Bray, The Wall Street
Journal, April 1, 2005; Page C4 ---
Prosecutors have alleged that Mr. Kozlowski, Tyco's
former chief executive, and Mr. Swartz, its former chief financial officer,
improperly granted themselves millions of dollars in compensation without
However, Mr. Scalzo said the audit firm's job
wasn't to determine whether the compensation was properly approved, but
rather to determine that it was properly recorded on the company's books and
records. As Tyco's former top auditor, Mr. Scalzo is considered a key
witness in the case.
. . .
Under questioning from prosecutors, Richard Scalzo,
an outside auditor at PricewaterhouseCoopers LLC, said he was told the
Bermuda conglomerate had determined the bonuses, which were granted to a
number of Tyco employees, to be "direct and incremental" costs associated
with the gain on a public offering of the company's Tycom unit and the sale
of its ADT Automotive subsidiary.
Mr. Scalzo's testimony that the bonuses were
"direct and incremental" costs of the various deals could be important for
the prosecution in attacking the credibility of the defense case. In the
first trial, Mr. Swartz testified in his own defense that the bonuses in
question were part of the regular annual-bonus plan for himself and Mr.
Kozlowski. But under accounting rules, regular bonuses can't be booked as
"direct and incremental" costs of a particular deal. Pro-conviction jurors
from the first trial seized on the contradiction in deciding that the
defendants were guilty.
The prosecutor, Assistant District Attorney Marc
Scholl, focused on just that point yesterday, getting Mr. Scalzo to testify
that a bonus couldn't be booked as incremental on Tyco's books and records
if it was included as part of the annual year-end bonus to Messrs. Swartz
From The Wall Street Journal Accounting Weekly Review on April 29,
TITLE: Deloitte to Be Latest to Settle in Accounting Scandals
REPORTER: Diya Gullapalli
DATE: Apr 26, 2005
TOPICS: Auditing, Fraudulent Financial Reporting, Securities and Exchange
SUMMARY: Deloitte & Touche LLP agreed to pay a $50 million fine to settle SEC
civil charges related to fraud at Adelphia Communications Corp. One related
article discusses Adelphia's fine. A second related article discusses a negative
reaction by the SEC to Deloitte's statement about Adelphia executives
"deliberately misleading" their auditors in its public disclosure about payment
of the fine.
1.) The author describes the fine of $50 million paid by Deloitte & Touche as
resulting from failure to "prevent massive fraud" as cable company Adelphia
Communications Corp. What is the purpose of a financial statement audit? Can an
audit "prevent" fraudulent financial reporting? In your answer, define the
phrase "fraudulent financial reporting."
2.) Refer to the first related article. Of what failure did the SEC accuse
Deloitte & Touche?
3.) Given your answers to #'s 1 and 2 above, how can auditors serve as
gatekeepers in a line of defense against fraud?
4.) Refer to the second related article. What steps did the SEC require
Deloitte to undertake in relation to its fine regarding Adelphia audits?
5.) Why was the SEC concerned about Deloitte & Touche's characterization of
the reason for the failure of the Adelphia audit to detect fraudulent financial
reporting? In your answer, comment on the intent of the agreement associated
with the payment of the $50 million fine.
Reviewed By: Judy Beckman, University of Rhode Island
--- RELATED ARTICLES ---
TITLE: Adelphia to Pay $715 Million in 3-Way Settlement
REPORTER: Peter Grant and Deborah Solomon
PAGE: A3 ISSUE: Apr 26, 2005
TITLE: Deloitte Statement About Adelphia Raises SEC's Ire
REPORTER: Deborah Solomon
PAGE: C3 ISSUE: Apr 27, 2005
Bob Jensen's threads on Deloitte's legal woes are at
Forwarded by Miklos on April 8, 2005
Guarding the Guards:
Rethinking the PCAOB Review Function
Rutgers Business School
In August the PCAOB released the
first set of reviews of audit firms as mandated by the Sarbanes/Oxley Act,
comprising an examination of 16 engagements from each of the Big 4 audit
firms. While fault was found with each firm (with E&Y being a clear negative
outlier), the errors were relatively minor, either being immaterial
departures from GAAP, or the failure to perform certain tests. But in no
case was the previously determined audit opinion affected by the review, a
not surprising result given that the samples were taken from engagements
that had already gone through the firms own review processes. The PCAOB
stated in advance that the 2004 reviews would not be as comprehensive or
thorough as ones it will conduct in the future. Thus in 2005 the Big 4 (who
are required to be reviewed annually) will see some 500 of their engagements
reviewed, while the PCAOB will also begin the required triennial review of
smaller audit firms, with some 150 subject to examination.
Given this ambitious agenda, it is
time to stop and consider what the best use that the PCAOB can make of the
power is granted to it to conduct reviews of the audit industry. The reviews
are conducted by auditors drawn from the same firms as the ones they are
reviewing, trained in the same traditional methodologies and one has to fear
that this will lead to a failure in imagination and innovation in how the
PCAOB conceives of the role of the review process.
Thus, evidently the PCAOB feels
that the main instrument it should rely on are sample engagement audits,
which will then help pinpoint failures in the audit firm’s procedures and
policies. The engagement focused approach can certainly lead to some useful
information about how the audit firms are operating, but how much is learned
clearly depends on how the sample is chosen. Engagements that are subject of
firm review are that are inherently problematic and high risk, but it is a
good question whether the majority of audit failures are with such
engagements since they are already subject to closer scrutiny. An astute
manager might feel that the best candidates for fraud are precisely in those
quiet, routine accounts that are considered too dull for an auditor to worry
too much about—consider that the misrepresentation of expenses as assets at
WorldCom far exceeded the total liability at Enron with its sexy SPEs.
Inspecting engagements will help
firm do those engagements better, but the approach is not explicitly
designed to improve the 95% of audits that will not be inspected, and
provides no protection for the industry if one of those unexamined
engagements ends in a spectacular failure. By contrast, consider the basis
of Section 404 of the Sarbanes/Oxley Act which requires managers to certify
as to the effectiveness of the company’s controls over the preparation of
financial reports with the auditor then attesting to the certification. A
glaring absence in the Sarbanes/Oxley regulatory framework is a 404 type
requirement on audit firms themselves with regard to the controls on their
audit engagements. The PCAOB can potentially fill that gap by focusing its
review on the audit firms control systems rather than almost exclusively on
actual engagements. The point is to help the firm improve how it does an
audit in the first place rather than to catch a badly done one. The
preventive rather than corrective approach underlies Total Quality Control
and there is no reason why those principles long used in American
manufacturing cannot be applied to auditing.
A justification for an inspection
regime is to serve as a deterrent to badly conducted audits, an approach
that may appeal to a public burned by the Andersen meltdown. But deterrent
only works if it is credible and one has to seriously question whether the
Big 4 firms are now too large to fail, meaning that the PCAOB is constrained
in how hard it can come down on these audit firms even when a review finds a
serious flaw in an engagement. If the PCAOB realistically cannot de-register
one of the Big 4, or even publicly reveal enough information that could lead
to a crippling lawsuit, then what is gained from these inspections? It is
equivalent to an audit in which both the auditor and the manager knows that
at the end of the day a qualified opinion will not be issued. In these
circumstances a better approach may be to act explicitly like an internal
rather than an external auditor, focusing on improving the audit process and
helping prevent problems rather than catching errors that have already
Another credibility problem with
the inspection regime proposed by the PCAOB is whether, given the staff and
resources at the PCAOB’s disposal, expanding the sample size almost tenfold
will result in more or less thorough reviews of each engagement than the
rather shallow examinations in 2004. What is noteworthy about the proposed
review process is that it is little different in substance from the old and
reviled peer review system that it replaced, despite the fact that the PCAOB
has far more legal authority to demand access and cooperation from the firm
and its documentation than the peer reviewers ever did. That is an
indication of the fundamental problem with the PCAOB approach, that it is
simply trying to do the old peer reviews better rather than starting from
scratch and asking what is the optimal method of assuring auditing.
Such a reengineering approach would
surely begin with technology, which when allied with the new requirements
for comprehensive documentation by both firm and auditor (“if it isn’t in
writing, it doesn’t exist.”) can potentially lead to the creation of a vast
depository of digitized audits. Sophisticated audit tools can then be
applied against this dataset to provide real time monitoring of audit
procedures and to develop models of emerging audit failures.
This approach would also enable the PCAOB to take advantage of a major new
capability that it potentially has, the ability to benchmark across audit
firms and to find both discrepancies and best practices. What the PCAOB
ideally needs is a monitoring system, as real time as possible,
incorporating a large set of business rules based on statistical analysis
that calls attention not to unhealthy high audit risk firms but to profiles
of audit failure, and which would issue alarms as audit failures are
occurring rather than after an opinion has been issued.
Finally, recall that an auditor
checks whether a firm has prepared income in accordance with GAAP, but the
auditor is not responsible for developing GAAP itself. By contrast, the
PCAOB both audits auditors and now also has the duty to develop audit
standards. This suggests that reviews have to provide a mechanism to
understand and improve the way in which auditing takes place, something
which cannot happen if the reviews use traditional methodologies to
perpetuate the current system. The PCAOB needs to rethink how a properly
configured audit review system, imaginatively using the latest information
technology, can be part of a systematic continuous improvement process that
leads to audits that better serve the needs of financial markets and
PwC's Current Developments for Audit Committees in 2005 ---
From The Wall Street Journal Accounting Weekly Reviews on April 15,
TITLE: GM Didn't Disclose All Details of Two Transactions with Delphi
REPORTER: Mark Maremont and Karen Lundegaard
DATE: Apr 13, 2005
TOPICS: Disclosure, Disclosure Requirements, Financial Accounting
SUMMARY: GM reported two transactions with Delphi during Q3 2000 and Q4 2001
for which Delphi's accounting is now being questioned by the SEC. The article
questions the propriety of accounting and disclosure by GM and relies on
assessments by several accounting faculty members.
1.) The first transaction questioned in the article relates to warranty/recall
costs. Why did Delphi make a payment to GM? How was the payment from Delphi
accounted for? How did that accounting impact GM's 3rd quarter income statement
2.) Provide summary journal entries for all of the transactions in this
warranty issue that are described in the article.
3.) What accounting standards address how this payment should be accounted
for and whether the item should be disclosed in the company's final reporting?
In your answer, list the relevant standard and explain the requirements related
to this issue.
4.) GM's spokesperson explained that the $237 million payment was not
separately disclosed in the Q3 2000 financial statements. How should materiality
be assessed in relation to this item and its required disclosure? (Note that the
assessment of these transactions is presented in terms of quarterly income.)
5.) Describe the second transaction discussed in the article. What is being
credited for $85 million? What account, or financial statement classification,
6.) What was the justification for the accounting treatment of the $85
7.) Why does one accounting professor question this treatment on the basis of
the time span it took to resolve the accounting question? In your answer,
identify the accounting standard which imposes this time limitation.
Reviewed By: Judy Beckman, University of Rhode Island
"GM's Handling of Transactions With Delphi Raises Questions," by Mark
Maremont and Karen Lundegaard, The Wall Street Journal, April 13, 2005, Page A1
General Motors Corp. handled two transactions with
Delphi Corp., its former parts subsidiary, in 2000 and 2001 in ways that
raise questions about the auto giant's accounting and disclosure practices.
How Delphi accounted for the two transactions
already is part of a broader investigation by the Securities and Exchange
Commission into improper accounting at the auto-parts company, which was
spun off from GM in 1999.
GM spokesman Jerry Dubrowski said the company
accounted for its side of both transactions properly and provided proper
The first transaction, in the third quarter of
2000, involved a payment of $237 million from Delphi to GM that comprised
19% of the auto maker's pretax profit for that quarter, and helped it beat
earnings estimates. At the time, GM did not disclose the impact of the
payment to investors.
The second transaction came in late 2001, when GM
credited $85 million to Delphi. In that case, GM accounted for the credit in
a way that didn't reduce its reported income.
Delphi has said it improperly accounted for a
number of items, including the $237 million transaction with GM in 2000,
since disclosing in early March that an internal investigation found a
number of accounting problems. Delphi still is reviewing how it handled the
2001 deal. It has said it will restate financial results since 2001, and
that the Justice Department has launched a criminal probe into the matter.
GM's Mr. Dubrowski declined to comment on whether
the SEC had contacted GM about its transactions with Delphi.
GM has faced heavy investor pressure in recent
months, amid slumping sales in North America and questions about its
strategy and leadership. The company recently cut its profit forecast for
2005 and shook up its North American unit, which now is directly controlled
by Chairman and Chief Executive Rick Wagoner.
Each of the transactions involves small amounts for
a company of GM's size. GM last year posted profit of $2.8 billion on $193.5
billion in revenue.
But four accounting experts who were asked to
review the transactions by The Wall Street Journal said they raise questions
about the quality of GM's reported earnings and disclosure to investors.
The $237 million pretax payment in the third
quarter of 2000 helped GM beat by one penny the earnings estimates of Wall
Street, which already had been reduced from earlier estimates. Without it,
the company would have fallen about 28 cents shy of the $1.54-a-share
estimates of Wall Street analysts for that quarter. At the time, the auto
giant was struggling with losses in Europe.
For the quarter, GM reported net income of $829
million on sales of $42.7 billion, or $1.55 on a fully diluted per-share
Mr. Dubrowski said GM didn't need to disclose
details about the payment to investors at the time because it wasn't
material, adding that at the time GM provided less detail on warranty or
recall costs. A GM spokeswoman, Toni Simonetti, said that GM reviewed its
accounting of the transactions recently, after Delphi announced the probe of
its accounting, and provided a report to the audit committee of its board of
directors. "We were satisfied the accounting treatment was correct," she
The $237 million payment arose from a dispute
between the companies over who was responsible for warranty or recall costs
associated with Delphi-produced parts. In an interview last month, Peter
Bible, GM's chief accounting officer, said that when GM announces a recall,
it typically allocates a share of the cost to any supplier whose parts
played a role in the vehicle problem. But with Delphi, he said, "we had not
done that," adding "we weren't certain they were going to honor those."
After lengthy negotiations, Delphi in September
2000 agreed to pay GM to cover what Delphi has said were pre-spinoff
warranty issues. GM declined to say if the parts were made by Delphi before
the May 1999 spinoff, but said the recalls happened after the spinoff.
Ms. Simonetti, the GM spokeswoman, said that GM had
previously booked a cost for significantly more than $237 million to cover
the recalls, depressing income in prior quarters. She said the payment from
Delphi was simply a recovery of Delphi's share of those expenses. "This was
a partial recovery of a recall expense from a supplier," she said. "It was
not a gain."
But the accounting experts contacted by the Journal
said it appeared that the size of the payment was material to GM's earnings
in that quarter and likely should have been reported separately.
Continued in the article
It appears SOX is here to stay, but there may be new designs almost every
Jonathan D. Glater, "Here It Comes: The Sarbanes-Oxley Backlash," The New
York Times, April 17, 2005 ---
For corporate America, it is always a good time to
lobby - even when the public image of business is increasingly associated
with executive perp walks.
Last week, business representatives gathered in
Washington at an all-day roundtable discussion held by federal regulators
and complained about the cost of complying with a provision of the
Sarbanes-Oxley corporate reform law. Not one business leader asked to repeal
the law, which was passed in 2002 after a wave of financial scandals, or to
gut it. Nearly every executive, however, lamented the costs of compliance
The criticism is striking, given that it comes
against a backdrop of continuing revelations of potential fraud, criminal
prosecution of fraud and convictions on fraud charges. Bernard J. Ebbers,
the former chief executive of WorldCom, is awaiting sentencing after being
convicted last month of fraud, conspiracy and filing false reports. Trials
of former Enron executives are set to begin this week. Arthur Andersen,
audit firm to both WorldCom and Enron, is still fighting to save its
reputation and its few remaining assets in a lawsuit brought by WorldCom
"There've been so many companies that have gotten
in trouble, none of them want to come out now and say we oppose" the law,
said Lynn E. Turner, a former chief accountant at the Securities and
Exchange Commission who now works at Glass, Lewis & Company, an investment
research firm in San Francisco. "It just leaves people with a bad feeling
about that company."
He added that the last person whom he had heard was
bashing Sarbanes-Oxley was Maurice R. Greenberg of the American
International Group, who resigned as chief executive last month amid a
review of the company's accounting and who invoked the Fifth Amendment when
being interviewed by investigators last week.
"I don't think you're going to see that anymore,"
Mr. Turner said of executives' campaigning against Sarbanes-Oxley.
Instead, executives are pushing for what they
describe as specific changes in the implementation of the law, while singing
its praises in general terms.
"There is no question that, broadly speaking,
Sarbanes-Oxley was necessary," said John A. Thain, chief executive of the
New York Stock Exchange, in remarks echoed by others at the roundtable.
Nick S. Cyprus, controller and chief accounting
officer for the Interpublic Group of Companies, was even more specific,
praising a provision of the law that has become a particular target for many
critics. "I'm a big advocate of 404," he said, referring to Section 404 of
the law, "and I would not make any changes at this time."
Section 404 requires companies and their auditors
to assess the companies' internal controls, which are the practices or
systems for keeping records and preventing abuse or fraud. Something as
simple as requiring two people to sign a company check, for example, is one
type of internal control.
Of the 2,500 companies that filed internal controls
reports with the Securities and Exchange Commission by the end of March,
about 8 percent, or 200, found material weaknesses, the agency's chairman,
William H. Donaldson, said at the roundtable. That exceeds the 5.6 percent
rate that Compliance Week magazine found in a review of the first 1,457
companies to report.
Executives at the roundtable consistently said that
complying with Section 404 has been more expensive than they had
anticipated, and they questioned whether the benefit - which no one has been
able to quantify - is worth the cost.
There are, perhaps unsurprisingly, several studies
of the cost of compliance from various business groups. Financial Executives
International, a networking and advocacy organization, said last month that
a survey of 217 publicly traded companies showed they had spent $4.36
million, on average, to comply with Section 404.
A different survey, of 90 clients of the Big Four
accounting firms - Deloitte Touche Tohmatsu, Ernst & Young, KPMG and
PricewaterhouseCoopers - found that the companies spent an average of $7.8
million on compliance. That was about 0.10 percent of their revenue, and
less than the $9.8 million paid, on average, to C.E.O.'s at 179 companies
whose annual filings were surveyed earlier this month in Sunday Business.
Continued in the article
Bob Jensen's threads on reforms are at
From The Wall Street Journal's Accounting Weekly Review on June 3,
TITLE: SEC, Heal Thyself: Tighten Controls, GAO Says in Audit
REPORTER: Siobhan Hughes
DATE: May 27, 2005
TOPICS: Audit Report, Auditing, Governmental Accounting, Internal Controls,
Sarbanes-Oxley Act, Securities and Exchange Commission
SUMMARY: Add the Securities and Exchange Commission (SEC) "..to the growing
list of institutions disclosing weaknesses in financial controls..."
1.) Summarize the Sarbanes-Oxley requirements regarding internal controls and
reporting on them. (Hint: you may find it helpful to review the AICPA's summary
of the impact of this law on the accounting profession at
2.) Who audits the Securities and Exchange Commission (SEC) and issued this
report? Why is the SEC audit not done by a public accounting firm? What is the
function of the entity that performed the SEC's audit?
3.) Why is it important that the SEC comply with these requirements of the
Sarbanes-Oxley Act? In your answer, comment on public companies' concerns with
Reviewed By: Judy Beckman, University of Rhode Island
"GRANT THORNTON LLP ANNOUNCES FIVE STEPS TO INCREASED CHOICE AND COMPETITION
FOR PUBLIC COMPANIES AND AUDITORS," by Andrew Priest, AccountingEducation.com,
April 21, 2005 ---
Calling on regulators, public company boards and
executives, auditors and other capital markets influencers to take action to
protect capital markets and investors, Grant Thornton LLP announced its Five
Steps to Increased Choice and Competition for Public Companies and Auditors.
"Sarbanes-Oxley - not to mention the numerous
accounting failures leading up to it - has dramatically changed the audit
environment," CEO Ed Nusbaum told members of The National Press Club in
Washington on Friday. "But there is also another, less-reported factor in
play, and that's the ongoing consolidation and resulting concentration in
the accounting profession."
Citing a Government Accountability Office (GAO)
study, which found that 97 percent of public companies with sales between
$250 million and $5 billion are audited by the Big Four, Mr. Nusbaum said
that the high level of concentration in the accounting profession is the
result of decades of consolidation, the fall of Andersen, and unchecked
liability exposure that prevents smaller firms from competing.
Misconceptions among capital markets influencers who believe only the four
largest firms are capable of auditing public companies further limits
company choice, he added.
Managing Partner of Strategic Relationships Cono
Fusco further explained that there is an array of firms capable of serving
the varying and diverse needs of public companies. "Effectively matching
company size and requirements with firm size and capabilities allows
companies to find the best combination of quality, service, value and reach,
and protects markets by spreading risk among a greater number of firms," he
To accomplish this objective and to protect
markets, Grant Thornton LLP proposes the following Five Steps to Increased
Choice and Competition for Public Companies and Auditors: The SEC and our
nation's stock exchanges must encourage, as a best practice, that public
companies conduct a periodic review of their audit firm. As a matter of good
governance and good business, companies should be encouraged to periodically
evaluate their audit firm to be sure they are getting the best combination
of quality, service, value and reach from their firm.
Public company boards and audit committees must
embrace the new market realities and "right-size" their audit firm.
Matching company size, complexity and requirements
with firm size and capabilities, companies may very well reaffirm their
decision to continue working with their current audit firm. But, they also
may find that another firm combines the same or better technical expertise
with service, attention and market or industry expertise that makes for a
Companies and other capital markets influencers -
including investors, analysts, commercial and investment bankers, and
attorneys - must recognize the new paradigm between companies and their
external audit firms and open the door to more audit firm choices.
There are more than four audit firms capable of
serving public companies, but misconceptions in the capital markets preempt
company choices. This cannot be allowed to continue. Influencers must reach
out to the broader array of audit firm choices and conduct proper due
diligence before discouraging a company from selecting a non-Big Four firm
better suited to meet its needs. Auditors must facilitate this process by
reaching out to and increasing their visibility with gatekeeper groups.
The PCAOB and the audit profession must implement
coordinated best practices for the audit process, and firms must
periodically assess whether or not they have the requisite attributes to
serve specific clients.
Sharing best practices - including audit
procedures, evaluation of fraud risk and possibly even audit software -
among the leading audit firms would significantly enhance audit
effectiveness and increase public confidence in quality audits.
Because the best audits are completed when
companies and audit firms are appropriately matched, auditors should also
evaluate their resources in relation to client needs to determine if they
are still appropriately matched in terms of size and service capabilities.
A debate and discussion on the topic of caps on
auditor liability exposure must begin.
The possibility of being held responsible not only
for the magnitude of an error but also for the current market psychology and
valuation levers for an individual company creates what could become
unlimited liability. This makes it difficult for smaller firms to compete.
To eliminate this barrier to entry and promote
competition in the accounting profession, the insurance industry, elected
officials, the accounting profession, businesses and others in the capital
markets must work together to implement liability caps. Firms should be
accountable for their work, but not for the vagaries of market psychology.
Bob Jensen's threads on the Future of Auditing are at
"Eliot Spitzer's Case Book," by Elizabeth Weinstein, The Wall Street
Journal, April 28, 2005
Eliot Spitzer is a man on the hunt. From mutual
funds to music, executive compensation to counterfeit drugs, the New York
attorney general has pursued investigations of alleged misdeeds in half a
Though sometimes criticized for focusing too
closely on Wall Street -- and on his own bid for New York state governor in
2006 -- Mr. Spitzer's probes have led to stricter controls on Wall Street
research and spurred other attorneys general to action. His landmark
investigations have zeroed in on high-profile executives, most recently
Maurice Greenberg at insurer American International Group.
Last year alone, the New York attorney general's office recovered a record
$2.38 billion earmarked for restitution to individual shareholders and other
consumers. Mr. Spitzer's office, which has an annual budget of $214 million,
has added nearly 50 lawyers to its staff of more than 500 attorneys since
Here is an overview of key investigations:
Investment Banking Stock research
Probe launched: 2001
At issue: Misleading information in analysts' public research reports
An investigation into the stock research issued by Merrill Lynch & Co.'s
Internet group, whose star analyst was Henry Blodget, showed that some
analysts harbored different opinions privately from those they expressed in
their public research reports. The investigation spawned a wide-ranging
probe over nearly two years into the procedures at many firms. Ultimately,
10 of the largest securities firms
agreed to pay $1.4 billion to settle charges that
they routinely issued misleading stock research to curry favor with
corporate clients during the stock-market bubble of the late 1990s. The
firms consented to the charges without admitting or denying wrongdoing. The
$1.4 billion settlement was among the highest ever imposed by securities
regulators, and both Mr. Blodget and Jack Grubman of Salomon Smith Barney
were banned from the securities business.
Investment Banking - IPOs
Probe launched: 2001
At issue: Unfair allocations of shares in initial public offerings
Mr. Spitzer's office also charged that several big Wall Street firms
improperly doled out coveted shares in initial public offerings to corporate
executives in a bid to win banking business. Two companies, Citigroup Inc.'s
Citigroup Global Markets unit, formerly Salomon Smith Barney, and Credit
Suisse Group's Credit Suisse First Boston, settled these charges as part of
the $1.4 billion pact with securities firms and did so without admitting or
denying wrongdoing. In a related probe, former star CSFB banker Frank
convicted of obstruction of justice for impeding
and investigation of CSFB's IPO allocations.
Insurance - Improper transactions
Probe launched: 2003
At issue: Whether several AIG business deals were designed to manipulate its
In 2003, the Securities and Exchange Commission and Mr. Spitzer's office
looked into insurance transactions that American International Group Inc.
conducted with two firms, cellphone distributor Brightpoint Inc. and PNC
Financial Services Group Inc. AIG paid $126 million in a settlement without
admitting or denying guilt. Later, both the SEC and Mr. Spitzer's office
scrutinized a deal struck between AIG and Berkshire Hathaway's General
Reinsurance unit in 2000 to determine if the deal was aimed at making the
giant insurer's reserves look healthier than they were. Longtime Chairman
Maurice R. "Hank" Greenberg
retired from the company, and in late March, AIG
admitted to a broad range of improper accounting.
Other AIG executives were forced out, including chief financial officer
Howard Smith. Meanwhile, Berkshire chief Warren Buffett this week told
investigators that he
didn't know details about the contentious
transaction. Mr. Greenberg also was deposed and repeatedly invoked his
constitutional right against self incrimination.
Insurance - Broker fees
Probe launched: 2004
At issue: Whether fees paid by insurance companies to insurance brokers and
consultants posed a conflict of interest
Mr. Spitzer and other state attorneys general as well as insurance
regulators in New York and Illinois alleged that insurance companies
routinely paid fees to brokers and consultants who advised employers on
where to buy policies for workers, a potential conflict of interest. Mr.
Spitzer accused several insurance brokers of accepting undisclosed
commissions and, in the case of Marsh & McLennan, of bid-rigging --
soliciting fake bids from insurers to help steer business to favored
providers. In February 2005, Marsh
agreed to pay $850 million in restitution to
clients of its Marsh Inc. insurance brokerage firm who allegedly were
cheated by Marsh brokers. Marsh neither admitted nor denied wrongdoing.
The investigations shook up an insurance dynasty. Marsh was run by Jeffrey
W. Greenberg, the eldest son of AIG's former head Maurice Greenberg, before
he was ousted as a result of the probe. Another insurance firm included in
the probe, Ace Ltd., is run by Evan Greenberg, Jeffrey's younger brother.
Meanwhile, Aon Corp.
reached a $190 million settlement without
admitting or denying wrongdoing, and earlier this month, insurance broker
Willis Group Holdings Ltd.
said it would pay $51 million and change its
business practices to end an investigation by attorneys general in New York
and Minnesota. Willis admitted no wrongdoing or liability.
NYSE - Executive Compensation
Probe launched: 2004
At issue: Whether then-New York Stock Exchange Chairman Dick Grasso's
compensation was excessive
Mr. Spitzer sued Mr. Grasso, the NYSE and the Wall Street executive who
headed its compensation committee for what Mr. Spitzer claimed was a pay
package so huge that it violated the state law governing not-for-profit
groups. Mr. Spitzer said the compensation -- valued at nearly $200 million
-- came about as a result of Mr. Grasso's intimidation of the exchange's
board of directors. Mr. Grasso, who denied there was anything improper about
his pay, was
forced to resign from the Big Board in September
2003 following a public outcry over his compensation. The lawsuit, which is
still in progress, led to new governance oversight at the Big Board.
Probe launched: 2004
At issue: Antitrust violations by retailers
Mr. Spitzer claimed that Federated Department Stores Inc. and May Department
Stores Co. conspired to pressure housewares makers Lenox Inc., a unit of
Brown-Forman Corp. and Waterford Wedgwood PLC's U.S. unit to pull out as
planned anchors of Bed Bath & Beyond Inc.'s new tableware department. The
case was settled in August when the four companies agreed to pay a total of
$2.9 million in civil penalties but admit no wrongdoing. Later, Mr. Spitzer
charged James M. Zimmerman, Federated's retired
chairman, with perjury, alleging that he lied under oath to conceal evidence
of possible antitrust violations. Mr. Zimmerman has pleaded not guilty.
Probe launched: 2004
At issue: Payments by music companies middlemen aimed at securing better
airplay for the labels' artists
investigation, which is continuing, centers around independent promoters
-- middlemen between record companies and radio
stations -- whom music labels pay to help them secure better airplay for
their music releases. Broadcasters are prohibited from taking goods or cash
for playing songs on their stations. The independent-promotion system has
been viewed as a way around laws against payola -- undisclosed cash payments
to individuals in exchange for airplay. Last fall, Mr. Spitzer requested
information from Warner Music Group, EMI Group PLC, Vivendi Universal SA's
Universal Music Group, and Sony Corp. and Bertelsmann AG's Sony BMG Music
Entertainment. Warner Music received an additional subpoena
Probe launched: 2004
At issue: Software secretly installed on home computers to put ads on
After a six-month investigation into Internet marketer Intermix Media Inc.,
Mr. Spitzer in April 2005
filed suit, claiming the company installed a wide
range of advertising software on home computers nationwide. The software,
known as "spyware" or "adware," prompts nuisance pop-up advertising on
computer screens, setting users up for PC slowdowns and crashes. The
programs sometimes don't come with "un-install" applications and can't be
removed by most computers' add/remove function. Mr. Spitzer said the suit is
designed to combat the practice of redirecting of home computer users to
unwanted Web sites, the adding of unnecessary toolbar items and the delivery
of unwanted ads that pop up on computer screens. The civil suit accuses
Intermix of violating state General Business Law provisions against false
advertising and deceptive business practices, and also of trespass under New
York common law. Intermix has said it doesn't "promote or condone spyware"
and has ceased distribution of the software at issue, which it says was
introduced under prior leadership.
Probe launched: 2005
At issue: Covert sales of counterfeit drugs
Mr. Spitzer's office has
sent subpoenas to three big drug wholesalers --
Cardinal Health Inc., Amerisource Bergen Corp. and McKesson Corp. -- related
to the companies' purchase of drugs on the secondary market. Although few
details about the probe have emerged, some industry analysts have said that
the subpoenas are likely connected to sales transactions involving
counterfeit products. Counterfeit drugs are those sold under a product name
without proper authorization -- they can include drugs without the active
ingredient, with an insufficient quantity of the active ingredient, with the
wrong active ingredient, or with fake packaging. The investigation focuses
on the secondary market, where the wholesalers buy drugs from each other,
often at lower prices, and counterfeit drugs are hard to track. It isn't
clear whether the wholesalers are the focus of a probe or just sources of
Bob Jensen's threads on "Rotten to the Core" are at
Bob Jensen's home page is at