Worldcom

March 2nd, 2003

WorldCom

Introduction

Based out of Mississippi, WorldCom was put together by Founder Bernard Ebbers. Growing rapidly through mergers and acquisitions Mr. Ebbers pulled off what was considered quite a coup when his smaller WorldCom group took over MCI. A powerhouse in long distance and controlling over 70% of the internet traffic through its UUNET division WorldCom was a very widely held public company. Leading up to the telecom bubble WorldCom was a big spender, paying a fortune to control the internet backbone that thought would be so profitable. Doing so required issuing a lot of debt, which eventually cause a lot of problems later on. Despite this debt while other telecoms (especially long-distance carriers) were reporting losses WorldCom kept posting billion dollar profits earning them strong buy ratings by analysts and a "top 50" ranking by Goldman Sachs (Goldman Sachs 2001) As three WorldCom employees eventually proved the profits were fictitious and being widely held only meant that more shareholders would lose their money.

Fraud is first uncovered

Starting back in March 2002 "John Stupka, the head of WorldCom's wireless business paid a visit Cynthia Cooper. He was angry because he was about to have $400 million dollars that was set aside to cover losses taken away to boost WorldCom's profits" (WorldCom Sleuth 2) This upset Mr. Stupka because this would then make his division post a large loss in the next quarter. Ms. Cooper was head of the internal audit department of WorldCom. Unlike external auditors, internal auditors are actual employees of the company they audit for. In addition while external auditors are concerned only with the financial statements it is the job of internal auditors to serve management and in doing so they are concerned with all types of "financial and other data generated for both internal and external users" (auditing) Therefore it was a concern to Ms. Cooper when Mr. Stupka brought up his problem. If a company has a "liability that is reasonably possible and estimatable it must record that liability" (Mr. Felber's class) otherwise it makes the company's business look more valuable than it really is. In this case, not recording the $400 million bad debts expense would significantly increase WorldCom's profits for the quarter. Ms. Cooper then took the issue to Arthur Andersen, WorldCom's external auditors where she was told that the $400 million reserve was not necessary. Ms. Cooper then took the issue to the audit committee themselves where, after presenting her case Mr. Sullivan back down. However, as Ms. Cooper would find out that was just the tip of the iceberg of all the accounting fraud that was going on inside her company.

Following a tip, Glyn Smith, a senior manager under Ms. Cooper brought to her attention that WorldCom was cooking the books. WorldCom was booking operating expenses as capital expenditures. Capital expenditures, things such as equipment can be depreciated and expenses over a period of years, thereby not causing a big hit at one time but rather spreading it out. Operating expenses such as salaries must be immediately expensed to the quarter they occur and are a direct hit to the bottom line. Mr. Smith and Ms. Cooper found an "inexplicable $2 billion that the company had said in public disclosures had been spent on capital expenditures during the first three quarters of 2001. But they found that the money had never been authorized for capital spending" (WorldCom Sleuth 3) In addition Mr. Gene Morse the technology specialist of the three sleuths found an additional $500 million that was booked as computer expenses and no invoices to back up the purchases. As it turned out Morse, Smith, and Cooper had stumbled onto a secret plan to keep WorldCom in the black.

WorldCom is cooking the books

With business and data no experiencing the growth that had been anticipated, coupled with deteriorating margins in the long distance business WorldCom had to find other ways to appear profitable. In 2000