WorldCom Inc.'s internal auditors have uncovered an additional $3.8 billion in improper accounting, deepening the company's already severe financial crisis and doubling the amount of its known accounting errors to more than $7.6 billion over the past two years.
WorldCom blamed its latest problems on how its executives treated so-called reserve accounts that are commonly used to cover potential losses. The company's internal auditors determined that WorldCom executives improperly manipulated these accounts to dramatically inflate revenue during 1999, 2000 and 2001.
The second-largest long-distance company and parent of MCI Group, WorldCom already said it would restate earnings for all of 2001 and the first quarter of this year. It now says it must issue revised financial statements for 2000 and 1999 as well. The errors revealed Thursday will reduce 2000 pretax profit alone by more than $3.26 billion.
WorldCom chief executive John Sidgmore blamed the company's former chief financial officer, Scott Sullivan, and former controller, David Myers, for the new problems. The two are the same executives who decided to claim $3.9 billion in regular expenses as capital investments during 2001 and part of this year -- inflating net income.
"Scott (Sullivan) and David (Myers) certainly made those decisions," Sidgmore said in an interview.
Thursday's disclosure widened the already-epic scale of WorldCom's downfall.
WorldCom has been charged with defrauding its investors in a civil suit brought by the Securities and Exchange Commission in connection with its June disclosure of the earlier accounting issue. Sullivan and Myers were charged with criminal fraud individually for their roles in that matter.
Lawyers for Sullivan and Myers did not return calls for comment.
MAY NOT BE LAST CORRECTION
Sidgmore noted Thursday night that there is no guarantee the company has uncovered the last of its accounting problems. "You never really know for sure, " he said.
WorldCom also announced Thursday night that it may write off $50.6 billion in goodwill and other intangible assets when it restates its finances to correct its faulty accounting. That would be one of the largest write-offs of assets in corporate history.
When the company filed for bankruptcy protection last month, it claimed assets of $107 billion and debts of more than $41 billion. The expected goodwill write-off would effectively cut the book value of the company almost in half. Sidgmore said the expected write-offs were mostly because of declining value of the company's investments, including its acquisitions of other companies.
"We paid billions and billions of dollars for companies that are not worth as much now," Sidgmore said.
Analysts say it will be virtually impossible to get an accurate reading on the value of the company until a comprehensive audit for the past several years is completed -- a process that is expected to take several more months at the very least.
"This ratchets up the level of distrust," said Scott Cleland, an analyst with the Precursor Group, based in Washington.
Asked if the latest revelations will affect the company's plans to emerge from bankruptcy, Sidgmore said, "Given that we are already bankrupt, it's hard to see how this changes the situation."
RESERVE ACCOUNTS USED
At the core of WorldCom's latest revelations are reserve accounts that the company set up to cover predicted losses from unpaid receivables, litigation and taxes. A source close to the company said executives set up reserve accounts that dramatically overstated the anticipated losses.
As the telecommunications sector headed into a steep decline in 2000, the company took money back out of reserves and reported it as revenue. The accounting gimmick allowed the company to boost its earnings before interest, taxes and amortization, or EBITDA, a measure analysts use to monitor the financial health of telecommunications companies.
Reserve accounts are one of the most subjective areas of financial reporting because they require company executives to guess what future shortfalls may be. Because of that, they are often one of the first things that auditors scrutinize in a troubled company, according to Ed Soule, professor of business ethics at Georgetown University's McDonough School of Business.
"They are a judgment call. They present an opportunity for manipulation," Soule said.
BIGGEST CORPORATE FRAUD
Still, Soule added that despite the size of WorldCom's restatement, which may go down as the largest corporate fraud in history, it's relatively hard to catch accounting misdeeds spread over several years -- even of the size the company has already reported. Soule noted that the company reported assets of more than $100 billion and revenue of more than $35 billion.
Arthur Andersen LLP, WorldCom's auditor during the period when the improper accounting took place, declined to comment Thursday.
WorldCom fired Andersen in May, after the accounting firm's credibility was questioned because of its role in the downfall of Enron Corp., Adelphia Communications Inc. and other firms.
CONCERNS ABOUT MANAGEMENT
Sidgmore also downplayed reports that some creditors would like to remove him from his role as chief executive. Only two of the company's 15 major creditors have raised "concerns about management," Sidgmore said.
WorldCom chronology Key developments in the history of WorldCom Inc.:
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