Enron, 2001 Prior to this debacle, Enron, a Houston-based energy trading company was,

based on revenue, the seventh largest company in the U.S. Through some fairly complicated
accounting practices that involved the use of shell companies, Enron was able to keep
hundreds of millions worth of debt off its books. Doing so fooled investors and analysts into
thinking this company was more fundamentally stable, than it actually was. Additionally, the
shell companies, run by Enron executives, recorded fictitious revenues, essentially recording
one dollar of revenue, multiple times, thus creating the appearance of incredible earnings
figures.
Eventually, the complex web of deceit unraveled and the share price dove from over $90 to
less than 70 cents. As Enron fell, it took down with it Arthur Andersen, the fifth leading
accounting firm in the world at the time. Andersen, Enron's auditor, basically imploded after
David Duncan, Enron's chief auditor, ordered the shredding of thousands of documents. The
fiasco at Enron made the phrase "cook the books" a household term, once again.
WorldCom, 2002 Not long after the collapse of Enron, the equities market was rocked by
another billion-dollar accounting scandal. Telecommunications giant WorldCom came under
intense scrutiny after yet another instance of some serious "book cooking." WorldCom
recorded operating expenses as investments. Apparently, the company felt that office pens,
pencils and paper were an investment in the future of the company and, therefore, expensed
(or capitalized) the cost of these items over a number of years.
In total, $3.8 billion worth of normal operating expenses, which should all be recorded as
expenses for the fiscal year in which they were incurred, were treated as investments and
were recorded over a number of years. This little accounting trick grossly exaggerated profits
for the year the expenses were incurred; in 2001, WorldCom reported profits of around $1.3
billion. In fact, its business was becoming increasingly unprofitable. Who suffered the most
in this deal? The employees; tens of thousands of them lost their jobs. The next ones to feel
the betrayal were the investors who had to watch the gut-wrenching downfall of WorldCom's
stock price, as it plummeted from more than $60 to less than 20 cents.
Tyco International (NYSE: TYC), 2002 With WorldCom having already shaken investor
confidence, the executives at Tyco ensured that 2002 would be an unforgettable year for
stocks. Before the scandal, Tyco was considered a safe blue chip investment, manufacturing
electronic components, health care and safety equipment. During his reign as CEO, Dennis
Kozlowski, who was reported as one of the top 25 corporate managers by BusinessWeek,
siphoned hordes of money from Tyco, in the form of unapproved loans and fraudulent stock
sales.
Along with CFO Mark Swartz and CLO Mark Belnick, Kozlowski received $170 million in
low-to-no interest loans, without shareholder approval. Kozlowski and Belnick arranged to
sell 7.5 million shares of unauthorized Tyco stock, for a reported $450 million. These funds
were smuggled out of the company, usually disguised as executive bonuses or benefits.
Kozlowski used the funds to further his lavish lifestyle, which included handfuls of houses,
an infamous $6,000 shower curtain and a $2 million birthday party for his wife. In early
2002, the scandal slowly began to unravel and Tyco's share price plummeted nearly 80% in a
six-week period. The executives escaped their first hearing due to a mistrial, but were
eventually convicted and sentenced to 25 years in jail.

ENRON
Enron is a company that reached dramatic heights, only to face a dizzying collapse. The story
ends with the bankruptcy of one of America's largest corporations. Enron's collapse affected
the lives of thousands of employees, many pension funds and shook Wall Street to its very
core. To this day, many wonder how a company so big and so powerful disappeared almost
overnight. How did it manage to fool the regulators and the Wall Street community for so
long, with fake off-the-books corporations? What is the overall lasting impact that Enron has
had on the investment community and the country in general?
Tutorial: Introduction To Accounting
Collapse
of
a
Wall
Street
Darling
By the fall of 2000, Enron was starting to crumble under its own weight. CEO Jeffrey
Skilling had a way of hiding the financial losses of the trading business and other operations
of the company; it was called mark-to-market accounting. This is used in the trading
of securities, when you determine what the actual value of the security is at the moment. This
can work well for securities, but it can be disastrous for other businesses.
In Enron's case, the company would build an asset, such as a power plant, and immediately
claim the projected profit on its books, even though it hadn't made one dime from it. If
the revenue from the power plant was less than the projected amount, instead of taking the
loss, the company would then transfer these assets to an off-the-books corporation, where the
loss would go unreported. This type of accounting created the attitude that the company did
not need profits, and that, by using the mark-to-market method, Enron could basically write
off any loss without hurting the company's bottom line. (Read more about the disastrous
implications of mark-to-market accounting in Mark-To-Market Mayhem.)
Part of the reason the company was able to pull off its shady business for so long, is that
Skilling also competed with the top Wall Street firms for the best business school graduates,
and would shower them with luxuries and corporate benefits. One of Skilling's top recruits
was Andrew Fastow, who joined the company in 1990. Fastow was the CFO of Enron until
the SEC started investigating his role in the scandal. (Read more in Are Your Stocks
Doomed?)
Fraud:
What
Was
the
Scheme?
The mark-to-market practice led to schemes that were designed to hide the losses and make
the company appear to be more profitable than it really was. In order to cope with the

mounting losses, Andrew Fastow, a rising star who was promoted to CFO in 1998, came up
with a devious plan to make the company appear to be in great shape, despite the fact that
many of its subsidiaries were losing money. That scheme was achieved through the use
of special purpose entities (SPE). An SPE could be used to hide any assets that were losing
money or business ventures that had gone under; this would keep the failed assets off of the
company's books. In return, the company would issue to the investors of the SPE, shares of
Enron's common stock, to compensate them for the losses. This game couldn't go on forever,
however, and by April 2001, many analysts started to question the transparency of Enron's
earnings.
(For
more,
see The
Biggest
Stock
Scams
Of
All
Time.)
The
Shock
Felt
Around
Wall
Street
By the summer of 2001, Enron was in a free fall. CEO Ken Lay had retired in February,
turning over the position to Skilling, and that August, Jeff Skilling resigned as CEO for
"personal reasons." By Oct.16, the company reported its first quarterly loss and closed its
"Raptor" SPE, so that it would not have to distribute 58 million shares of stock, which would
further reduce earnings. This action caught the attention of the SEC. (Find out how this
regulatory body protects the rights of investors. Read Policing The Securities Market: An
Overview Of The SEC.)
A few days later, Enron changed pension plan administrators, basically forbidding employees
from selling their shares, for at least 30 days. Shortly after, the SEC announced it was
investigating Enron and the SPEs created by Fastow. Fastow was fired from the company that
day. In addition, the company restated earnings going back to 1997. Enron had losses of $591
million and had $628 million in debt, by the end of 2000. The final blow was dealt when
Dynegy (NYSE:DYN), a company that had previously announced would merge with the
Enron, backed out of its offer on Nov. 28. By Dec. 2, 2001, Enron had filed for bankruptcy.
(Learn more about finding fraud in Playing The Sleuth In A Scandal Stock.)
Lasting
Effects
Enron shows us what a company and its leadership are capable of, when they are obsessed
with making profits at any cost. One of Enron's lasting effects was the creation of
the Sarbanes-Oxley Act of 2002, which tightened disclosure and increased the penalties for
financial manipulation. Second, the Financial Accounting Standards Board (FASB)
substantially raised its levels of ethical conduct. Third, boards of directors became more
independent, monitoring the audit companies and quickly replacing bad managers. While
these effects are reactive, they are important to spot and close the loopholes that companies
have used, as a way to avoid accountability.

The
Bottom
Line
The collapse of Enron was an unfortunate incident, and it is important to know how and why
it happened, so we can understand how to avoid these situations in the future. Looking back,
the company had incurred tremendous financial losses as a result of arrogance, greed and
foolishness from the top management, all the way down. Many of the company's losses
started the collapse that could have been avoided, if someone had had the nerve and the
foresight to put a stop to it. Enron will remain in our minds for years to come, as a classic
example of greed gone wrong, and of the action that was taken to help prevent it from
happening again.

WorldCom accounting scandal

WorldCom has revealed a further $3.3bn in accounting errors, doubling the size of the
accounting scandal at America's second largest long distance phone company to more than
$7bn. Mark Tran explains
What did WorldCom say? The company said an internal audit had discovered that $3.3bn in
profits were improperly recorded on its books from 1999 to the first quarter of 2002. That is
on top of the $3.8bn in expenses the company said it had improperly reported as capital
investments. WorldCom now says it must issue revised financial statements for 2000 and
1999 as well. The revision will reduce 2000 profits by more than $3.2bn, but this may not be
the end of accounting horrors as the company warned it may find more problems.
Is there a new twist to the latest disclosures? WorldCom said most of the $3.3bn
irregularity involved the manipulation of reserves. Companies set aside reserves to cover
estimated losses such as uncollected payments from customers and judgements in lawsuits
and other expected costs.
Are reserves normal business practice? It is a perfectly legitimate practice, like setting
aside funds for a rainy day. But reserves can be abused to create the accounting equivalent of
a slush fund. If a company wanted to massage profits to meet Wall Street expectations it can
transfer the necessary sums from the reserve. The suspicion is that WorldComdeliberately
inflated its reserves to be able to dip into them to boost profits in order to meet profit
projections.
Who is to blame? WorldCom's chief executive, John Sidgmore, blamed the company's
former chief financial officer, Scott Sullivan, and the former controller, David Myers. The
two were fired for claiming $3.8bn in regular expenses as capital investment in 2001. The
pair were arrested in New York, handcuffed and paraded in front of TV cameras as part of the
Bush's administration crackdown on corporate crime. Charged with securities fraud,
conspiracy and other charges, they face 65 years in prison. WorldCom's founder and former

chief executive, Bernie Ebbers, says he was unaware of the accounting problems, and has not
been charged.
What is wrong with filing expenses as investment? Operating expenses must be subtracted
from revenue immediately, while the cost of capital expenses can be spread over time.
Improperly spreading operating costs inflated WorldCom's profits.
Why did WorldCom's accountants not spot the problem? WorldCom's accountants at the
time were Arthur Andersen, the same people that looked after Enron's books as well as other
companies hit by accounting issues - Tyco, Global Crossing and Adelphia. Andersen accused
Mr Sullivan of withholding information from them. The deputy US attorney general, Larry
Thompson, said: "We have to ask where the professionals were, the accountants and the
lawyers."
What is being done to get a proper accounting? WorldCom has new accountants, KPMG,
who have been asked to scour the books back to 1999. It will be virtually impossible to get an
accurate picture until a comprehensive audit for the past several years is done, a process
expected to last months. The company is also under investigation by the department of justice
and the securities and exchange commission, the US financial regulator.WorldCom, which
has been charged with fraud for allegedly hiding $1.2bn in losses, is now under bankruptcy
protection.
Any other bad news? WorldCom said it may have to write off $50bn when it restates ifs
finances. One of the largest write-offs in corporate history, that would amount to the 2001
gross domestic products of Hungary and the Czech Republic. Only Time Warner's $54bn
write-off was bigger.

Tyco Fraud InfoCenter

Tyco International, Ltd., a corporation that makes a diversity of products, from healthcare
supplies to alarm systems, has recently accused three former high-level executives of fraud.
The three accused managers, former CEO L. Dennis Kozlowski, former Chief Financial
Officer Mark Schwartz, and former general counsel Mark Belnick, have been indicted for
fraud and theft by the Securities and Exchange Commission (SEC) as well as their former
employer.
They have all pleaded innocent.

When was the alleged fraud discovered? Tycos financial accounting first came under
review in January 2002 after a tip suggested that a less-than-legal transaction might be taking
place. In June of the same year, Kozlowski resigned just before he was accused of tax evasion
on some expensive art purchases, allegedly made with company funds. On September 12,
2002, the SEC formally charged Kozlowski, Schwartz, and Belnick of civil fraud.
What types of fraud are the men accused of committing? The SEC and Tyco International
have indicted the former executives on charges of civil fraud and theft. They are accused of
giving themselves interest-free or low interest loans for personal purchases of property,
jewelry, and other frivolities. According to the SEC, these loans were never approved or
repaid.
Kozlowski and Schwartz are also accused of issuing bonuses to themselves and other
employees without approval of Tycos board of directors. It is alleged that these bonuses
acted as de facto loan forgiveness for employees who had borrowed company money or were
used to buy the silence of those who suspected the former CEO and CFO of fraud. According
to Tyco, the individuals who received loan forgiveness were not aware that they were
participating in anything illegal; they were told the program had the boards approval.
Tyco and the SEC say it did not. Kozlowski, Schwartz, and Belnick are also being indicted on
charges of selling their company stock without telling investors, despite their obligation to do
so under SEC rules. In sum, the three are accused of stealing $600 million dollars from Tyco
International.
What is the current status of the case?
Kozlowski, Schwartz, and Belnick have been indicted, and all three have pleaded innocent.
All three former Tyco executives have been released on bail bonds for the time being.
Although a judge froze the assets of Kozlowski and Schwartz in September, Kozlowski has
since been given a monthly living expense of over $14,000. He was also allowed to pay over
3 million dollars in state taxes. The trial for the three is tentatively set for June 1, 2003.
As for Tyco, an internal investigation has concluded that, although accounting errors have
occurred, there is no systemic fraud problem. As a show of good faith and in effort to restore
confidence in the company, Tyco has spent the past several months replacing its top board
members.