Accounting Scandal Updates and Other Fraud on September 30, 2003
Bob Jensen at Trinity University

Many of the scandals are documented at http://www.trinity.edu/rjensen/fraud.htm 

Critics worry that auditors will advise companies on their controls and then end up approving their own work.
Jonathan Glater (See Below with respect to Section 404 of SOX)

WorldCom internal and external auditors testified in U.S. Bankruptcy Court that the company's books remain a tangled mess and that it may be impossible to properly apportion close to $1 trillion in transactions between more than 200 subsidiaries. WorldCom has argued that its books are so confused that it has little choice but to scrap much of the past three years of accounting records and begin anew on a consolidated basis. U.S. Bankruptcy Court Judge Arthur J. Gonzalez is holding a hearing on the company's reorganization plan, one of the last stages in the bankruptcy process. If Gonzalez approves the plan the company could exit bankruptcy later this fall. I have significant doubts the company could ever prepare accurate accounting statements for its various subsidiaries, testified Joseph L. DAmico, senior managing director of FTI Consulting, an Annapolis-based forensic accounting firm. DAmico testified that WorldCom's own accountants failed to keep accurate records of a blizzard of transactions between the company's various entities. Also testifying was WorldCom's interim corporate controller, Robert L. Pierson, who confirmed DAmicos assessment of the companys financial recordkeeping. We have never balanced our internal accounts, Pierson said.
See Christopher Stern's Washington Post article below.

New York State Attorney General Eliott Spitzer's charges of improper trading practices by several leading mutual fund families are another blow to public trust in financial institutions. Mutual funds have been the place you would advise the most unsophisticated investors to go: Mutual funds were designed for grandpa and grandma, and repeatedly recommended to them by all kinds of benevolent authorities. Thus scandals in the mutual fund sector are potentially much more damaging to public trust in our financial institutions than are scandals in other sectors -- such as the one playing out in the New York Stock Exchange right now.
See Robert Shiller's article below.

When the Manhattan Institute's researchers added it all up, the result was staggering: Not only have tort costs risen much faster than either inflation or GDP, the estimated $40 billion in revenues our tort warriors took in for 2001 was 50% more than Microsoft or Intel and double that of Coca-Cola.
See below.

August 3, 2003 excerpt from a speech by Art Wyatt (See the link below that Tracey provides)

The firms need to consider a number of initiatives.  The tone at the top of the firms needs to change.  As a starting point, leadership of the major firms might require that their managing partners meet the standards established by Sarbanes-Oxley for the individual on SEC-registrant audit committees that is designated as a qualified financial expert.  Recent managing partners have too often been chief cheerleaders promoting revenue growth or individuals with more administrative expertise than accounting and auditing expertise.  The policies established at the top of the firms must be approved by and articulated by individuals who have the professional respect of the managers and staff.  The challenge to restore the primacy of professional behavior in the conduct of services rendered will not be easily met.  Such restoration likely will not be met at all if the chief messenger is known throughout the firm as being primarily an advocate of revenue growth even when that growth may be at the expense of the firm's reputation for outstanding professionalism in the delivery of its services.

The top leadership in the firms also needs to consider whether the four largest firms are really effectively unmanageable.  In smaller accounting firms (or when the current four large firms were smaller), a key partner is able to monitor partner performance and be able to assess the strengths and weaknesses of the individual partners.  As the large firms have grown to their current size, the challenge to have such effective monitoring is substantial.  Maybe some consideration should be given to whether a split-up of a big firm would enhance the firm's quality control and permit more effective delivery of quality service.  While such a thought will no doubt be draconian to some, one only has to consider what might be the end result if one of the current four large firms meets the same fate as Andersen.  Firm break-ups might then be at the mercy of legislative or regulatory intervention--an even more draconian thought.  The bottom line, however, is, are the large firms able to manage their practices effectively to assure top quality service to their clients and the public?

The firms need to place greater internal emphasis on quality control in audit performance.  More effort should be devoted to assuring that clients have met the intent of the applicable accounting standards, and less effort should be devoted to assisting clients to structure transactions to avoid the intent (and sometimes the letter) of the standards.  In working with the FASB the focus of the firms should be on pressuring the FASB to develop standards that are conceptually sound and that avoid compromises that are designed to keep one segment of society happy at the expense of sound financial reporting.  Too often the accounting firms have acted at the direction of their clients in lobbying the FASB on specific technical issues and have not met the standards of professionalism that the public can rightfully expect from the leading accounting firms.  Too many of the FASB standards contain conceptual impurities that encourage gaming the system, and too many firms are active participants in the gaming activity.  Lobbying the FASB on behalf of particular client interests is not professional on its face and casts as much of a cloud on the firm's independence as does providing a range of consulting services to audit clients.

As a side note, I have seen comments by leaders of several of the Big 4 firms recently suggesting that the real cause of recent financial statement shortcomings is the failure of existing accounting standards to reflect the underlying economics of reporting companies.  These statements seem to be self-serving attempts to deflect criticism from accounting firm performance to the adequacy of the current set of generally accepted accounting principles.  To test the sincerity of these comments, I suggest one analyze the recent firm submission to the FASB on proposed standards that have emphasized economic reality over "backward-looking historical cost."  I suspect such analysis would suggest the several firms have missed numerous opportunities to encourage the FASB in its efforts to adopt standards that reflect better economic reality and, in fact, have often taken strongly contrary positions, at least in part at the urging of their clients.

While on the subject of the FASB, we need to recognize that the Board fared well in the Sarbanes-Oxley legislation.  Going forward, the Board needs to do a better job in educating congressmen and senators on their proposed standards and why the lobbying efforts of constituents are often far more self-serving than desirable from the perspective of fair financial reporting.  The Board needs to attack a significant number of its existing standards that are conceptually unsound and that embody a series of arbitrary boundaries that attempt to prevent users from misapplying the standard.  We should have learned by now that standards that contain arbitrary rules in the attempt to circumvent aberrant behavior really act to encourage that very behavior.  Firm leaders should recognize that their audit personnel will be far better off in dealing with aggressive client behavior if the standards that are operational are soundly based and consistent with the Board's conceptual framework.  Isn't it more important to provide your staff with the best possible tools to meet their challenges than it is to gain some short-term warm feelings by bowing to a client's wishes?  The big firms need to decide that the FASB is their ally, not their opponent, and become more statesmanlike in pursuing sound accounting standards.  This will require leaders who understand the nuances of technical accounting requirements and who are able to grasp that acceptable levels of profitability will flow from delivering top quality professional service to clients.

September 10, 2003 message from Tracey Sutherland [tracey@aaahq.org] 

The 88th Annual Meeting of the American Accounting Association was held August 3-6, 2003, in Honolulu, Hawaii. Opening speaker Arthur R. Wyatt's presentation garnered a standing ovation. So that his comments can be shared beyond those able to attend the meeting the full text of his challenging speech, "Accounting Professionalism--They Just Don't Get It!" is available online at http://aaahq.org/AM2003/WyattSpeech.pdf 

Tuesday morning featured Presidential Lecturer, Joel S. Demski, immediate past president of the Association. Joel's speech, "Endogenous Expectations," stimulated considerable discussion during the rest of the meeting. So that the conversation can continue, the full text of his comments is available online at http://aaahq.org/AM2003/expectations7.pdf 

Soon video and slides will be available on the AAA website for all plenary sessions for the 2004 Annual Meeting, as well as for the outstanding follow-up panel session to Art Wyatt's address.

While many filings in the Texarkana case are under seal, one internal PricewaterhouseCoopers document from October 1999 estimated the firm's annual credits from travel rebates at $45 million, mostly from postflight rebates on airline tickets. As an example, the court record contains a December 1999 contract under which Budget Rent A Car Corp. agreed to pay PricewaterhouseCoopers a rebate equal to 3% of all rental revenue that Budget received from the firm, if annual sales to PricewaterhouseCoopers topped $15 million. The plaintiff in the Texarkana case has alleged that some of the firms' airline rebates topped 40% of the plane tickets' purchase prices.
Jonathon Weil, The Wall Street Journal, September 23, 2003 --- http://online.wsj.com/article/0,,SB106452493527358700,00.html?mod=todays%255Fus%255Fmoneyfront%255Fhs 
Note from Bob Jensen: This is a classic problem of ethics. The issue is not so much what the largest accounting firms are/were doing before they got caught (I guess most have stopped doing it now).  It’s more of a matter of keeping it secret from their clients, potential clients, and the public in general.  For example, many (most) of us get frequent flier miles when we bill our airline tickets to universities and other organizations that pay our air fares.  However, it's no big secret that we get those frequent flier miles.  Some of us also get credit card rebates if we pay with credit cards such as Discover Card.  This is a bit more of a gray area, but if the price is the same no matter how we pay the bill, I guess we can hold our head high and declare that we are not ripping off anybody as long a another form of payment would not reduce the bill.  However, what the large accounting firms have been doing around the world for travel billings is a much more controversial matter of ethics.   The above article notes how the Justice Department is investigating this rip off (my words) in more than just one of the large accounting firms.  What gets me about the above revelation of the magnitude of this scheme is the hypocritical aspect in which large accounting firms are now preaching virtue but still show signs of practicing vice after all the scandals.  Sometimes it seems they are not really listening to Art Wyatt's advice quoted above.

"Travel-Billing Probe Has a Bigger Scope," Jonathan Weil, The Wall Street Journal, September 26, 2003 --- http://online.wsj.com/article/0,,SB106452493527358700,00.html?mod=todays%255Fus%255Fmoneyfront%255Fhs 

A Justice Department investigation that started two years ago with questions about PricewaterhouseCoopers LLP's travel-related billing practices as a government contractor also is focusing on possible overbillings by the other Big Four accounting firms, as well as several other companies.

Some details of the probe's scope are contained in a previously unreported November 2002 memorandum that the Justice Department filed with a Texarkana, Ark., state circuit court in connection with a separate civil lawsuit into travel-related billing practices. The lawsuit accuses PricewaterhouseCoopers, Ernst & Young LLP and KPMG LLP of fraudulently padding the travel-related expenses they billed to clients by hundreds of millions of dollars over a 10-year period starting in 1991.

In its memo to the court, the Justice Department said it is investigating each of the suit's defendants, "focusing on whether they have submitted false claims to the government, because they have failed to credit government contracts with amounts they have received as rebates from travel providers."

The Texarkana lawsuit originally was filed in October 2001 by closely held shopping-mall operator Warmack-Muskogee LP and had proceeded without publicity until reported last week in The Wall Street Journal. It alleges that the accounting firms systematically billed their clients for the full face amount of certain travel expenses, including airline tickets, hotel rooms and car-rental expenses, while pocketing undisclosed rebates they received under contracts with various travel-service providers.

The defendants have acknowledged retaining rebates on various travel expenses for which they had billed clients at their pre-rebate amounts. However, they deny that their conduct was fraudulent, saying that the proceeds offset amounts that otherwise would have been billed to clients. They say they have discontinued the practice.

Other defendants in the Texarkana lawsuit include the U.S. unit of Cap Gemini Ernst & Young, a French consulting company that purchased Ernst & Young's consulting practice in 2000, and BearingPoint Inc., a former KPMG unit previously known as KPMG Consulting Inc. that now is an independent public company. The Justice Department memo further disclosed that the defendants "are aware of" the investigation, which "concerns the same issues presented in the" Texarkana civil lawsuit, and that the government had obtained documents from each of the defendants in the Texarkana case through subpoenas.

According to a person familiar with the investigation, the Justice Department's overbilling probe also includes the travel-related billing practices of Deloitte & Touche LLP, as well as four other large government contractors. This person declined to identify the other four contractors under investigation, but said they are not professional-services firms. Federal contracts, this person explained, typically state that government contractors will bill the government for actual travel costs -- often referred to as "out-of-pocket" or "incurred" costs -- which the government interprets to mean the amount that a contractor actually paid for, say, an airline ticket, including any rebates.

Continued in the article.

"Audit Firms Overbilled Clients For Travel, Arkansas Suit Alleges," by Jonathan Weil and Cassell Bryan-Low, The Wall Street Journal, September 17, 2003 --- http://online.wsj.com/article/0,,SB106376088299612400,00.html?mod=todays%255Fus%255Fpageone%255Fhs 

Three of the nation's four biggest accounting firms have been accused in a lawsuit of fraudulently overbilling clients by hundreds of millions of dollars for travel-related expenses, and the Justice Department has been conducting an investigation of the billing practices of at least one of the firms, PricewaterhouseCoopers LLP.

Documents describing the government's investigation are contained in the previously unpublicized lawsuit filed here in October 2001 that could pose both a public-relations embarrassment and a big legal challenge to the firms. The industry has been under intense scrutiny for its audit work following the 2001 collapse of Enron Corp., which brought down another big accounting firm, Arthur Andersen LLP, and for its perceived lack of oversight at other companies, including Tyco International Ltd., Xerox Corp. and others.

The suit, pending in an Arkansas state circuit court, accuses PricewaterhouseCoopers, KPMG LLP and Ernst & Young LLP of padding the travel-related expenses they billed thousands of clients over a 10-year period dating back to 1991.

The suit alleges that the firms systematically billed their clients for the full face amount of certain travel expenses, including airline tickets, hotel rooms and car-rental expenses, while pocketing undisclosed rebates and volume discounts they received under contracts with various airline, car-rental, lodging and other companies. At times, the rebates retained by the various firms were for up to 40% of the purchase price of travel-related services, the suit has alleged, citing internal firm documents filed with the court.

The lawsuit shines a light on how some professional-services firms, including law firms and medical practices, in recent years have turned reimbursable out-of-pocket expenses, such as bills for travel and meals, into profit centers, which itself isn't illegal or improper. As big accounting, law and other firms have grown over the past decade, they increasingly have used their size in negotiations with travel companies, credit-card companies and others to secure significant rebates of upfront costs. Such rebates don't generate disputes between firms and their clients when fully disclosed. But any that aren't fully disclosed, as alleged in the Texarkana suit, could open firms up to potential liability.

The suit, filed by closely held Warmack-Muskogee Limited Partnership, a shopping-mall operator, also accuses the accounting firms of colluding with each other to secure favorable deals with various travel vendors. It also alleges the firms operated under an agreement not to disclose the existence of the rebates to clients or credit clients fully for the rebates.

The defendants in the suit, all of which deny the lawsuit's allegations, have filed motions seeking to dismiss the case as groundless and to defeat requests that the lawsuit be certified as a class action, the class for which could include a majority of the nation's publicly held corporations. Still, the lawsuit, for which no trial date has been set, already has proved costly to the firms. In an affidavit last month, a PricewaterhouseCoopers partner estimated the firm's partners and staff had spent 125,000 hours, valued at $10.3 million at the firm's billing rates, gathering and analyzing information to be produced for discovery. KPMG in a July court filing estimated that its discovery expenses could approach $26 million.

Continued in the article

"Pricewaterhouse's Records Indicate Some Partners Opposed Keeping Payments," by Johathan Weil, The Wall Street Journal, September 19, 2003 --- http://online.wsj.com/article/0,,SB106391830284530300,00.html?mod=mkts_main_news_hs_h 

PricewaterhouseCoopers LLP's practice of retaining undisclosed rebates on client-related travel expenses generated internal dissent within the accounting firm, some of whose partners complained it was improper to keep the payments rather than passing them on to clients, internal records of the firm show.

The records, including internal e-mails and slide-show presentations to top executives of the firm, were filed this year with a Texarkana, Ark., state circuit court as exhibits to a deposition of PricewaterhouseCoopers Chairman Dennis Nally. The deposition of Mr. Nally was conducted in February in connection with a continuing lawsuit against PricewaterhouseCoopers and four other accounting and consulting firms that accuses them of fraudulently overbilling clients for travel-related expenses by hundreds of millions of dollars.

Continued in the article.

"PricewaterhouseCoopers Partners Criticized the Firm's Travel Billing," by Jonathan Weil, The Wall Street Journal, September 30, 2003, Page C1 --- http://online.wsj.com/article/0,,SB106487258837700200,00.html?mod=mkts_main_news_hs_h

Attorneys alleging that PricewaterhouseCoopers LLP overbilled its clients for travel expenses have released a flurry of the accounting firm's e-mails, including one from April 2000 in which the head of its ethics department described the firm's practices as "a bit greedy."

The e-mails and other internal records, filed Friday with a state circuit court here, mark the broadest display yet of evidentiary material in the lawsuit by a closely held shopping-mall operator, Warmack-Muskogee LP, against three of the nation's Big Four accounting firms. The records include complaints by more than a dozen PricewaterhouseCoopers partners and other personnel about the firm's billing practices, as well as case logs for three separate internal ethics-department investigations into the practices since 1999. The firm halted the practices in question in October 2001.

PricewaterhouseCoopers has acknowledged that it retained rebates on various travel expenses for which the firm had billed clients at their prerebate prices, including rebates from airlines, hotels, rental-car companies and credit-card issuers. It also has acknowledged that it didn't disclose the rebates to clients and that most of its partners had been unaware of them. The firm, however, has denied Warmack-Muskogee's allegations that the rebate arrangements constituted fraud, saying the proceeds offset amounts it otherwise would have billed to clients through higher hourly rates.

In her April 2000 e-mail, the top partner in PricewaterhouseCoopers's ethics department, Boston-based Barbara Kipp, scolded Albert Thiess, the New York-based partner responsible for overseeing the firm's infrastructure, including its travel department. "Al, in general, while I appreciate the importance of managing as tight a fiscal ship as we can, I somehow feel that we are being a bit greedy here," she wrote. "I think that, in most of our clients' and partners'/staff's minds, when we say [in our engagement letters] that 'we will bill you for our out-of-pocket expenses, including travel ...', they don't contemplate true overhead types of items being included in that cost."

Continued in the article.

Todd Boyle replied with a link to the following article.
"In the race to make money, some American businesses have been lying their pants off--but is success at any cost really worth the price?" by Joshua Kurlantzick,  Entrepreneur Magazine, October 2003 --- http://www.entrepreneur.com/Magazines/Copy_of_MA_SegArticle/0,4453,310950,00.html 

A major U.S. company's chief resigns after authorizing large payments to top executives while negotiating a deal to slash average workers' pay. A multinational with significant business in the United States restates its revenue by nearly $1 billion. A leading American firm based in a southern city is charged with massive financial fraud; its CEO, who had lived an extravagant lifestyle, is indicted. Scenes from scandal-ridden 2002? Nope. All these events--the resignation of American Airlines' chief, the restatement of revenues at food-service giant Ahold, and the charges against HealthSouth and Richard Scrushy--happened this year, just one year after the biggest wave of corporate scandals in decades and after the passage of new legislation to combat corporate malfeasance. 

Indeed, businesspeople and ethics specialists say, it's apparent that despite the 2002 scandals and legislation, little has changed in American business culture. Change appears slow in coming because lying and dishonesty simply have become a much more accepted part of business--and of American life. To fight this trend and to inculcate the idea that dishonesty is unacceptable, companies, business schools and corporate leaders will need to undertake massive, systemic reforms.

Selected Scandals in the Largest Remaining Public Accounting Firms --- http://www.trinity.edu/rjensen/fraud.htm#others 

Andersen's David Duncan is not the only Big Four partner arrested for destroying audit work papers.
"Former Partner at Ernst Is Arrested," by Callell Bryan-Low and Johathan Weil, The Wall Street Journal, September 26, 2003 --- http://online.wsj.com/article/0,,SB106451287418543900,00.html?mod=mkts_main_news_hs_h 

Federal agents arrested a former Ernst & Young LLP audit partner on criminal charges of obstruction of justice, in one of the first cases of alleged document destruction brought under the 14-month-old Sarbanes-Oxley Act.

The U.S. Attorney's Office for the Northern District of California alleged that the former partner obstructed an examination by federal-bank regulators, and later by securities regulators, into NextCard Inc., an Internet-based credit-card issuer, by destroying work papers from its audits of the company. The auditor, prosecutors alleged, altered and deleted documents to make it appear that Ernst & Young had thoroughly considered key financial issues at the San Francisco company.

Another former E&Y employee has pleaded guilty to a criminal-obstruction charge in connection with the matter, while a third faces civil-administrative proceedings brought by the Securities and Exchange Commission.

In a statement, E&Y said that it had contacted federal authorities when it first became aware of "the violation" and also launched an internal probe. All three employees are no longer with the firm as a result of the investigation, E&Y said, and the firm is co-operating with various governmental agencies. Ed Swanson, a lawyers for the former partner, Thomas C. Trauger, 40 years old, said that his client intends to pleas not guilty and to fight the charges. "Tom is a good man and well-respected accountant and I am confident he will be exonerated," said Mr. Swanson.

Federal officials noted the investigation continues, leaving open the possibility that E&Y itself could be charged. But some accounting and legal specialists noted significant differences between the E&Y matter and the case against Arthur Andersen LLP that led to its swift downfall.

Most notably, Andersen already was on a probation of sorts with the SEC when its auditors shredded thousands of pages of documents tied to its Enron Corp. audits; E&Y isn't under any similar probation. To date, no indication has surfaced that the alleged criminal conduct at E&Y reached beyond the former auditor and the two other former Ernst employees.

The legal action takes advantage of "additional tools" provided by last year's sweeping securities reform, Sarbanes Oxley, "to aggressively prosecute this kind of conduct," said Ross Nadel, head of the criminal division in the U.S. Attorney's Office in San Francisco. Specifically, the act gives prosecutors more leeway in prosecuting those who seek to destroy, alter or falsify financial information and records.

Continued in the article.

Bob Jensen's threads on other Ernst & Young scandals can be found at http://www.trinity.edu/rjensen/fraud.htm#E&Y 

September 19, 2003 message from Risk Waters Group [RiskWaters@lb.bcentral.com] 

Merrill Lynch has agreed sweeping reforms that will require all complex structured finance transactions effected by a third party with the bank to be authorized by a new Special and Structured Products Committee (SSPC). The development is the result of a deal struck with the US Department of Justice (DoJ) over charges of conspiracy with Enron. The bank has also agreed for the SSPC to be monitored for 18 months by an independent auditing firm. At the same time, a DoJ-selected attorney will review and oversee the work of the auditing firm. Merrill Lynch has declined to comment on any aspect of the deal. The co-operation agreement arose after three former Merrill executives were indicted on Wednesday by a federal grand jury on charges of conspiracy to commit wire fraud and falsify books and records. Merrill Lynch has accepted responsibility for the conduct of the three defendants - Daniel Bayly, former head of global investment banking; James Brown, head of Merrill's strategic asset lease and finance Group; and Robert Furst, the Enron relationship manager for Merrill Lynch in the investment banking division.

Bob Jensen's "Rotten to the Core" threads are at http://www.trinity.edu/rjensen/fraud.htm#Cleland 

Beware of the fine print in popular gift cards issued by major stores. 
Each $50 card may decline by as much as 5% per month even though you paid full value up front.  Looks like a consumer rip off from the big chain retailers.

"Gift Cards May Bite Recipient," by Lisa Munoz, San Antonio Express News, September 22, 2003 (the article originally appeared in the Orange County Register).

Gift cards have steadily grown in popularity with both retainers and consumers since the 1990s.  But the Vinsons, and an increasing number of other consumers, have learned that gift cards can come with many strings attached.

Bob Jensen's threads on consumer frauds are at http://www.trinity.edu/rjensen/fraud.htm#OnlineFraud 

This Is Broken (Voice Your Consumer Complaint & Read Complaints) --- http://www.goodexperience.com/broken/ 

When I got an email with the following message, I was taken to a link that, in turn, said I had to install some Korean language software.  Beware of any site that wants to install software on your computer.  Check with your Webmaster or other expert before installing such software.

Spy on Anyone by sending them an Email-Greeting Card! Spy Software records their emails, Hotmail, Yahoo, Outlook, ACTUAL Computer Passwords, Chats, Keystrokes.  Check up on your SPOUSE, KIDS, or EMPLOYEES! 

Question
What profession adds little to the nation's GDP, and yet has $40 billion in revenues in 2001, 50% more than Microsoft or Intel and double that of Coca-Cola?

Answer
'Trial Lawyers, Inc.,"Editorial in The Wall Street Journal, September 23, 2003, Page A24 --- http://online.wsj.com/article/0,,SB106427905041783200,00.html?mod=opinion%255Fmain%255Freview%255Fand%255Foutlooks 

That's how the folks at the Manhattan Institute now refer to what may be America's only recession-proof industry: the plaintiffs' bar.

We hope the moniker catches on. For decades trial attorneys have nurtured a public image as little Davids standing up with their slingshots to America's corporate Goliaths. But as a study to be released later this morning on Capitol Hill underscores -- "Trial Lawyers, Inc.: A Report on the Lawsuit Industry in America 2003" (www.triallawyersinc.com) -- these litigators have become an industry unto themselves

By now, most every American has his own tale about some silly lawsuit run amok, from the post-tobacco obesity suits targeting McDonald's to the $7.2 million settlement former "Tonight Show'' sidekick Ed McMahon won after suing over house mold he claimed had killed his dog. When the Manhattan Institute's researchers added it all up, the result was staggering: Not only have tort costs risen much faster than either inflation or GDP, the estimated $40 billion in revenues our tort warriors took in for 2001 was 50% more than Microsoft or Intel and double that of Coca-Cola.

One good measure of their size is their political clout: In 2002 the trial lawyers' PAC ranked third in America -- and was the Democratic Party's most generous contributor. We're not saying that there's no role for trial attorneys in the American legal system, or that they don't occasionally secure justice for a wronged individual. But with the billions its firms rake in each year putting them squarely in the category of Big Business, shouldn't their self-serving claims be treated with the same skepticism routinely directed at, say, Halliburton or Philip Morris

The Specialist Myth 

Question
Who are the real bad guys that paid the NYSE's Richard Grasso nearly $180+ million per year to cover their evil ways?  They willingly paid this because Grasso was so darn good at his job protecting them.

Answer:
The best account of the inherent corruption in the NYSE system that I have read is an editorial by John C. Bogle (founder of the huge Vanguard Group) that appears on the Editorial Page (Page A10) of the September 19, 2003 edition of The Wall Street Journal --- http://online.wsj.com/article/0,,SB106393576986578400,00.html?mod=opinion%255Fmain%255Fcommentaries 

The NYSE has perpetuated myths that mislead regulators and the investing public into believing that specialists serve the public. For instance, the NYSE asserts that investors need specialists because without them, "who is going to be there to buy or sell when nobody else wants to?" The NYSE claims that the specialist reduces market volatility by acting as the buyer or seller of last resort.
SpecialistMan, by JOHN C. BOGLE 
Selected quotations are shown below:

While the NYSE bills itself as "a private company with a public purpose," there is no doubt that its chairman's most important role is to protect the interests of its members. And no interest is more important than the protection of the trading profits derived by the NYSE's floor-based specialists. Thanks in large part to Mr. Grasso's efforts, the NYSE has, until recently, enjoyed a remarkable level of prestige, providing the cover necessary to protect its inherently unfair and inefficient trading system.

Every security traded on the NYSE is assigned exclusively to a specialist firm. The specialist ultimately sees every order in its assigned stocks submitted to the exchange either electronically or through brokers on the floor. But while the NYSE grants specialists a privileged position in order to maintain a "fair and orderly market" (which, curiously, is nowhere defined), the specialist is also permitted to simultaneously trade for his own account -- an obvious conflict of interest.

NYSE rules attempt to limit the specialist's ability to improperly use inside information by limiting specialists to trading only when there is a temporary disparity between supply and demand, buying when there are no other buyers and selling when there are no other sellers. Yet if specialists really traded only when there is an absence of buyers or sellers, one would think they would lose money.

The fact is that specialists are profitable, in Samuel Johnson's words, "beyond the dreams of avarice." A forthcoming study by Precision Economics will reveal that publicly traded firms with specialist units last year enjoyed pre-tax profit margins ranging from 35% to 60%. Labranche, the largest NYSE specialist, generated more than a quarter of a billion dollars in revenues, almost entirely from trading for its own account on the floor. Pretty profitable for trading only when nobody else wants to!

. . .

The NYSE has perpetuated myths that mislead regulators and the investing public into believing that specialists serve the public. For instance, the NYSE asserts that investors need specialists because without them, "who is going to be there to buy or sell when nobody else wants to?" The NYSE claims that the specialist reduces market volatility by acting as the buyer or seller of last resort.

Think about that: Envision SpecialistMan, emerging amongst the bedlam of a fast falling stock with a giant "S" on his chest. Quickly calming the crowd, he exclaims "I will buy from every one of you because it is my duty, even though I will lose money." They sell their shares to SpecialistMan, praising him for his willingness to selflessly provide liquidity, regardless of the impact on his profits.

While this notion is ridiculous on its face, it is still put forward to defend the NYSE specialist when nearly every other major instrument is traded completely electronically without anyone being given an informational advantage. The truth is that when a stock like Enron starts falling, just like everyone else, SpecialistMan gets out of the way.

We ought to ask ourselves why we even want a specialist to manage the decline of a stock. In an efficient market, that is the last thing we should want. The market should be permitted to clear -- move to its equilibrium point -- as quickly as possible, without somebody trying to manage the process. A slowly declining stock only hurts buyers at the expense of sellers, and vice versa.

Continued in the article.

Bob Jensen's "Rotten to the Core" threads are at http://www.trinity.edu/rjensen/fraud.htm#Cleland 

Bob Jensen's September 30, 2003 updates on the current accounting, finance, and corporate governance scandals can be found at http://www.trinity.edu/rjensen/fraud093003.htm 

Question
If your company, MCI, is troubled by burdensome debt that made it difficult to compete, what can a poor company do?

Answer
Get bought out by a parent company, Worldcom that assumes all the debt and then have the parent company declare bankruptcy.  Then your company, MCI, can emerge from bankruptcy virtually debt free and have a competitive edge on the competition.  It's all part of the accounting/bankruptcy game.  At the time that Worldcom filed for protection from its creditors, WorldCom held most of the corporation's $41 billion in debt and MCI had 90 percent of the assets.

"WorldCom Tells Of Snarled Records," Christopher Stern, Washington Post, Page E1, September 16, 2003 --- http://www.washingtonpost.com/wp-dyn/articles/A15828-2003Sep15.html 

WorldCom Inc.'s internal and external auditors testified in U.S. Bankruptcy Court today that the company's books remain a tangled mess and that it may be impossible to properly apportion close to $1 trillion in transactions between more than 200 subsidiaries.

WorldCom has argued that its books are so confused that it has little choice but to scrap much of the past three years of accounting records and begin anew on a consolidated basis.

The testimony came on the first full day of a hearing here on Ashburn-based WorldCom's plan for emerging from bankruptcy protection. Under the proposed plan, the company will combine the assets of WorldCom with MCI and other subsidiaries that have previously been held as 222 legally separate entities. It was unclear from the testimony whether the chaotic internal accounting had any impact on the $11 billion in fraudulent bookkeeping already reported by the company; witnesses did not address the subject.

Some creditors have objected to the consolidation, saying it unfairly benefits WorldCom creditors at the expense of others who own debt in subsidiaries such as MCI. U.S. Bankruptcy Court Judge Arthur J. Gonzalez is holding a hearing on the company's reorganization plan, one of the last stages in the bankruptcy process. If Gonzalez approves the plan, which among other things, establishes how much each creditor will get paid, the company could exit bankruptcy later this fall.

At the time that the company filed for protection from its creditors, WorldCom held most of the corporation's $41 billion in debt and MCI had 90 percent of the assets.

Continued in the article.

Some of these teens are good CEO candidates!

"Teens Would Act Unethically to Get Ahead," SmartPros, September 19, 2003 --- http://www.smartpros.com/x40628.xml 

If there was no chance of getting caught, one-third of teens would act unethically to get ahead or to make more money, according to a poll released this week.

The Junior Achievement/Harris Interactive Poll, as part of the national roll out of a $1 million initiative of Junior Achievement and Deloitte & Touche to promote business ethics among today's young people, tapped the views of about 600 teens between the ages of 13 and 18.

While 33 percent said they would act unethically, 25 percent said they were "not sure" and 42 percent said they would not.

"Even though some of these numbers are disconcerting, the poll also showed that 56 percent of teens do believe that people who are ethical are more successful in business," said David S. Chernow, president and CEO of Junior Achievement Inc. "We have a way to go, but there is an underlying optimism among students that honesty is still the best policy. We'd like to reinforce -- and build upon -- that belief. JA is pleased to work with Deloitte & Touche to do just that."

Deloitte Ups the Ante on Ethics Education With K-12 Pilot Program --- http://www.smartpros.com/x37531.xml 

Corporate Accountability: A Toolkit for Social Activists
The Stakeholder Alliance (ala our friend Ralph Estes and well-meaning social accountant) --- http://www.stakeholderalliance.org/ 

"Identity Theft Costs Businesses Nearly $48 Billion Each Year," by Sara Schaefer, The Wall Street Journal, September 4, 2003 --- http://online.wsj.com/article/0,,SB106262483782072000,00.html?mod=your%255Fmoney%255Ffinancial%255Fplanning%255Fhs 

The Federal Trade Commission tallied 9.9 million consumer victims of identity theft last year, costing consumers $5 billion and businesses and financial institutions nearly $48 billion.

Victims spent a total of 297 million hours resolving problems related to the thefts, according to an FTC study released Wednesday.

"We knew there was a problem before we did this report, we just didn't have any idea of the contour of the problem," said Howard Beales, director of the commission's Bureau of Consumer Protection.

According to the study, 23% of identity theft occurred because personal information such as driver's licenses, credit cards and mail was lost or stolen. In 13% of the cases, theft occurred during transactions, including information taken from a credit card receipt during or after a purchase, or through purchases made via the Internet, mail or phone.

Also see http://www.smartpros.com/x40471.xml 

Bob Jensen's threads on identity theft and how to prevent it are at http://www.trinity.edu/rjensen/fraud.htm#IdentityTheft 

Sarbanes-Oxley Update Forwarded by Scott Bonacker

The following is the testimony of William H Donaldson, Chairman of US Securities and Exchange Commission, before the Senate Committee on Banking, Housing and Urban Affairs, September 9, 2003. ... http://www.riskcenter.com/cgi-bin/article.pl?id=7261 

William McDonough, the head of the Public Company Accounting Oversight Board, issued his first public policy address this week, and his tone left no question about his approach to oversight. http://www.accountingweb.com/item/98080 

The PCAOB will be inspecting all accounting firms which will be auditing public companies. "We will pry into your records and your work habits, and, yes, the rules will change," McDonough said.

Mr. McDonough indicated that he is committed to helping the profession restore its reputation, which he admitted was tarnished by a few rogue members. "I would not be here as [PCAOB] chairman, if the accounting profession had not already been weighed and found wanting."

A recent survey of corporate chief financial officers found concern, confusion, and more than a little "sticker-shock." http://www.accountingweb.com/item/98082 

Auditing With SOX On!

"How Sarbanes-Oxley Will Change the Audit Process," by Donald K. McConnell, Jr. and George Y. Banks, Journal of Accountancy, September 2003, pp. 49-56 --- http://www.aicpa.org/pubs/jofa/sep2003/mcconn.htm