Background: Introductory Information about WorldCom fraud |
Background: WorldCom currently know as MCI, is a telecommunications company which at one time was the second-largest long distance phone company in the U.S. Today, it is perhaps best known for a massive accounting scandal that led to the company filing for bankruptcy protection in 2002. WorldCom executives effectively fudged the company's accounting numbers, inflating the company's assets by around $12 billion dollars. The swift bankruptcy that followed led to massive losses for investors.
WorldCom took the telecom industry by storm when it began a frenzy of acquisitions in the 1990s. The low margins that the industry was accustomed to weren't enough for Bernie Ebbers, CEO of WorldCom. From 1995 until 2000, WorldCom purchased over sixty other telecom firms. In 1997 it bought MCI for $37 billion. WorldCom moved into Internet and data communications, handling 50 percent of all United States Internet traffic and 50 percent of all e-mails worldwide. By 2001, WorldCom owned one-third of all data cables in the United States. In addition, they were the second-largest long distance carrier in 1998 and 2002.
How the Fraud Happened: In 1999, revenue growth slowed and the stock price began falling. This was due to the expenses as a percent of revenue had increased due to slowed growth and this ment WorldCom would not meet the expectaions of Wall Street analysts. To increase revenue, WorldCom reduced its money in reserve by 2.8 billion and moved that money into its revenue line in the financial statements.
That however wasn't enough to boost the earnings that WorldCom needed to meet expectations. In 2000, WorldCom began classifying operating expenses as long-term capital investments. Hiding these expenses in this way gave them another $3.85 billion. These newly classified assets were expenses that WorldCom paid to lease phone network lines from other companies to access their networks. They also added a journal entry for $500 million in computer expenses, but supporting documents for the expenses were never found.
These changes turned WorldCom's losses into profits to the tune of $1.38 billion in 2001. It also made WorldCom's assets appear more valuable.
How it Was Discovered: The internal audit team had noticed accounting irregularities in MCI's books, the SEC requested that WorldCom provide more information. The SEC became suspicious once AT&T (another telecom giant) was losing money but WorldCom on the other hand was making so much. The internal audit turned up the billions WorldCom had announced as capital expenditures as well as the $500 million in undocumented computer expenses. There was also another $2 billion in questionable entries. WorldCom's audit committee was asked for documents supporting capital expenditures, but it could not produce them. The controller admitted to the internal auditors that they weren't following accounting standards. WorldCom then admitted to inflating its profits by $3.8 billion over the previous five quarters. A little over a month after the internal audit began, WorldCom filed for bankruptcy.