4.

Problem areas in case of Brown-Torrington

Brown-Torrington Pharmaceuticals was a very well-known company in the pharmaceutical industry.

They were one of the leading companies in their respective industry and were also considered to be
one of the fastest growing companies in the world. This was mainly due to the superb financial
results that were posted because of the growth rate the company had shown until major accounting
malpractices lead to the downfall of the company which in turn lead to Brown-Torrington going
completely bankrupt.

One of the major reasons for the downfall of this Fortune-500 company was poor management, and
the fact that the Special Purpose Enterprises (SPEs) were not accounted for on the balance sheet.
The high-level of debt these SPEs carried was not fully transparent to the shareholders. Brown-
Torrington had also created other SPEs for other companies’ blockbuster drugs with the assumption
that they would be in a position to produce and sell generic drugs once the competitors’ patents
expired. Brown-Torrington had created approximately 20 SPEs and had been moving the R&D
expenses from the parent company to these SPEs as assets. These SPEs had become a major liability
because the development was being financed through private debt instruments. The company was
also highly speculative about the generic drugs and booked the profits from future cash flows even
though they were not certain which drugs would become blockbusters. Brown-Torrington had
booked an estimated $3 billion dollars in speculative revenues over a duration of three years.

A Brown-Torrington executive had submitted three separate letters from the same offshore bank
with a statement of the SPEs to an EOP member who had requested for a bank document. It was
later found that the executive had asked his teenage daughter to make changes to one of the letters
with Photoshop, and had altered the amount as well as the name of the SPE. After an EOP finance
manager further investigated it was revealed that the assets did not exist. Out of the estimated $1.2
billion in assets, there was under $25 million in actual cash holdings. When it came to liabilities, all of
the SPEs had major debt loads that exceeded $1.1 billion and were payments due.

After a series of top-level management had abruptly left the company, it had created a lot of
suspicion about whether everything was right at Brown-Torrington. The sudden departure of the
CFO had left the finance department completely frozen. Brown-Torrington had missed all of its sales
targets and was at a risk of delivering the new blockbuster drug. There was a substantial decrease in
the company’s stock prices. During this time the company’s CEO also resigned with no apparent
reason. Managers at the company realized that repaying the debts was impossible, they made the
decision of transferring all the debt to the parent company and reversed the profits the company
had posted in three years. Brown-Torrington was left insolvent and had to file for bankruptcy. Credit
agencies downgraded the company from triple A to C.

The company completely collapsed, leaving a number of employees, pensioners and investors with
nothing. Competitors bought the patents and other products but the proceeds did not cover even a
percent of the secured debt.