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General Economic Environment Surrounding WorldCom Demise

The general economic environment surrounding the WorldCom fall also caused a basis of the company’s growth during the Dot Com Bubble. In 2000, when the dot com bubble surfaced, WorldCom’s market share price dropped along with several telecommunication and Internet firms. In 1996, the Internet and technology sector of WorldCom, UUNet declared that Web traffic was increasing rapidly. Whereas the may have been valid during 1996-97, the time during Internet was certainly booming, the growth did not carried on in later years as declared. This claim was not merely offered by telecommunication firms to enlarge investment in their businesses, but also by researchers trying to show the demand for research in the technology. Therefore, people assumed in the emerging myth and began investing quickly into the unpredictable stock of telecommunication and Internet firms. Several of these firms were not even gaining a profit. Even though, the traffic would only be increasing when every individual would be using the web twenty four hours a day which is quite impossible during that time. Still, businesses believed in this myth in hopes to reap huge profits and better return on investment. These beliefs and actions turned into disbelief and anguish after the bubble busted and reality struck (Ashraf, 2011). Moreover, when Internet firms increasingly stepped into the market, a rise in broadband services emerged. As a result, WorldCom began leasing fiber optics to settle the demand. When the rise of the Internet stock reduced, these firms went out of sales and canceled their deals with WorldCom which incurred huge losses to the company (Ashraf, 2011).

 

The assumed unlimited boom of the telecommunication and Internet bubbles were generating a substantial capital flow to WorldCom as well as other telecommunication firms. The capital flow facilitated the share prices of the industry to augment widely. The share price of WorldCom was nearly $20 during 1995 and increased to over $90 by 1999 (Thornburgh, 2002). On the other end, after the incurrence of the new millennium, the company’s stock confronted a steady reduction until it was valueless. It was also removed from the Nasdaq market list after the misstatements made by the company got public (Thornburgh, 2002). The circumstance was reminding of other Internet and telecommunication firms who also witnessed a huge reduction in their stock shares. What distinguished WorldCom market stock was that the company was deceiving the masses through the misstatements about its financial status and repetitive ratings of stock purchases (Ashraf, 2011).

The WorldCom Demise

After the Dot Com bubble burst, WorldCom was not able to pay its debts of almost $7.7 billion and thus opted for Chapter 11 bankruptcy in 2002 (Kuhn and Sutton, 2006). In the company’s filing, it listed $107 billion as assets while $41 billion as debt. This filing permitted it to pay existing employees, sustain ownership of assets, offer services to its clients and acquire a little space to breath and reform. However, the company severely lost its integrity with the business of several huge government and corporate customers, entities that normally do not conduct business with firms in such proceedings. During 2001, WorldCom generated an individual stock tracking for its diminishing MCI customer distinct business with hopes of keeping it isolated from WorldCom’s global functions, which were apparently stronger. The company declared the deletion of the MCI stock and prevented its dividend in 2002 to save $284 million per annum. However, the real savings were merely $71 million (Cooper, 2010). WorldCom also lost S&P 500 and NASDAQ corporate stock listing during the same year (Ferrell and Ferrell, 2011). In 2002,    WorldCom declared that it had been engaged in fraudulent accounting statements of its figures by declaring a $3 billion profit to hide a loss of a billion dollar. It was followed by an investigation and it showed that almost $11 billion fraudulent statements have been recorded (Thornburgh, 2004).  It led 30,000 jobs and $180 billion investors’ loss (Accounting-Degree.org, 2018).

No one accepted the responsibility of the incident, not its analysts, auditors, board of directors or managers. Arthur Andersen, being the major external auditor, was blamed of failing to reveal the accounting doubts. Andersen defended himself that these irregularities could not be revealed since Scott Sullivan, former CFO, never acknowledged Andersen’s analysts regarding the company’s doubtful accounting activities (Cooper, 2010). However, in the company’s statements to the Security and Exchange Commission (SEC), it stated that Andersen knew about the doubtful accounting activities, had to objection with the executives. Several individuals, including CEO Sidgmore who preceded Bernard Ebbers, accused the company’s management for its despairs. A primary investigation by the independent examiner assigned by the bankruptcy court issued a cause for significant consideration related with the board of directors as well as the independent analysts of the company (Ferrell and Ferrell, 2011). The board has been blamed for lax mistake; the compensation committee of the board had been assaulted for accepting Bernard Ebber’s lavish compensation deal (Ferrell and Ferrell, 2011).

Auditing Issues in WorldCom

Unfortunately, WorldCom utilized objectionable accounting actions and wrongfully cited $3.8 billion in its capital expense that ignited cash flows and revenue throughout 2001 till early 2002 (Kuhn and Sutton, 2006). The misstatements covered the company’s actual total losses and it also expanded expenses through decreasing the book worth of assets and simultaneously raising the goodwill value. WorldCom also overlooked or underestimated accounts receivable payable to the acquired firms. Such accounting activities made it apparent as if the company’s financial condition was enhancing every quarter (Ferrell and Ferrell, 2011). As long as the company continued acquisitions of new firms, accountants aligned the expenses and worth of assets. Internal audits unleashed doubtful accounting activities from 1999. While the investors, unacknowledged of the apparent fraud, remain dealing with the WorldCom’s stock that pushed the price to $64/share. However, even prior the inappropriate accounting activities were revealed, the company was already facing financial distress. Reducing revenues and rates and a progressive acquisition splurge had caused WorldCom to go further into the debt (Hancock, 2002).  

WorldCom also utilized the increasing worth of its stock to buy other firms. Nevertheless, the acquisitions of these firms, particularly MCI Communications, enabled WorldCom to be in high demand for investors. Moreover, the company’s CEO Bernard Ebbers got a scandalous $408 million load amount from WorldCom’s board of directors. The boards approved this loan to Ebbers at a lower rate as compared to the national average and even lower their rate of return (Ulick, 2002). In 2001, the company signed a credit accord with several banks to lend over $2.65 billion to return the loan in a year’s time. As per the bank statements, the company tapped the whole money six weeks prior the accounting frauds were revealed (Ulick, 2002).  The company’s audit committee along with Arthur Anderson (external auditor), organized a meeting in 2002 to explain the audit for the year 2001. Andersen had evaluated the company’s accounting activities to define whether there were sufficient regulations to protect material mishaps in the financial declarations. Andersen approved that the company’s procedures for asset capitalization in equipment and property and line cost accruals were operational. In reaction to particular queries by the committee, he had also showed that its analysts had no disapprovals with the company’s management and was comfortable with the positions taken by WorldCom. The company accepted to breaching Generally Accepted Accounting Principles (GAAP) while aligning their revenues by $11 billion for the time period between the years 1999-2002. Investigators declared a $79.5 billion accounting fraud made by the company (Ferrell and Ferrell, 2011). 

Ramifications

The biggest short-term impact on the external context was on the company’s investors. The pension fund incurred a loss of more than $300 million against its investments in the company. The registered investment consultant, HGK Asset Management, also bought nearly $130 billion debt securities presented by WorldCom and lost the whole amount. Therefore, even the biggest bankruptcy was not able to jolter their investment. With regard to banks, accountants and brokers that aware or unaware kept supporting the growth of the breach, they were penalized by various means: from the incurrence of losses because of debts extended to WorldCom, by the fiscal charges and settlements they needed to agree, by the law, and by losing value in the market of their own share stock as a consequence of being in link with the WorldCom (Colvin, 2005). Wall Street agreements with the SEC also took place and Eliot Spitzer accounted $1.5billion, entailing yearly compliance expense of nearly $1 billion (5 years). Because of these agreements, budget for research decreased by 40 percent leading several firms to loose Wall Street’s report which was important to reinforce investment by organizational investors and stockholders (Smith and Walter, 2006). Whereas, it might seem like that the WorldCom’s rivals benefited from the demise, the impact of the fraud was actually the contrary. Since the company’s rivals like Sprint and AT&T, similar to several other firms, assumed that the financial declarations were actual, the firms had to reform their businesses substantially to compete against WorldCom’s status. Former CEO of AT&T, Mike Armstrong expressed that his company poor investment decisions like firing over 20,000 workers and using other cost reduction activities to compete WorldCom’s figures (Colvin, 2005).

The WorldCom demise changed the whole telecommunication industry. WorldCom’s overestimating strategy, the company also overvalued the ratio of increment in the Internet utilization, and this overvaluation became the root cause of several verdicts the industry had to take for longer period of time (Knowledge@Wharton, 2002). The WorldCom scandal also caused an irreparable loss of trust among investors and job insecurities as more than 300,000 employers working in the telecommunication industry had to forgo their jobs and faced devastating impacts on their career (Knowledge@Wharton, 2002).

Another impact of the fall is that the government had to revive the economy since it was a republican authority that was tightening the regulations over corporate governance, accounting, disclosure and clarity. Whereas this was likely to decrease prospects of corporate frauds, it also added layers of litigations on businesses (MacDonald, 2002).

Lessons Learned

The fall of WorldCom shows the significance of efficient and strong guards – including auditors, analysis, securities and board of directors – in securing company’s integrity and investors (Monks and Minow, 2008). Few important lessons have been learned in corporate governance. Corporate governance engages the prevention of shareholders and investors by board of directors (Monks and Minow, 2008). The acceptance of the personal loans for Ebber was not in the interest of the investors. Although, there cannot be any absolute way of acquiring effective governance, however, a board is essential that have people who should have corporate insight as well as sensitivity towards morality and ethical conduct. Only if such kind of board is present, the focus of the company would be generating value rather than merely preventing unethical conducts to build a reputation in the market.

Another lesson is that cash flows should never be overlooked. There has always been a discussion among stockholders and investors regarding whether to emphasize majorly on cash flow or earnings. Whereas each aspect has practical debate, this is a fake contrast. It is essential to evaluate both the aspects. The negligence of the audit committee shows another loophole in WorldCom’s regulation for its internal operations. Thus, it is highly significant to have people in the committee that conduct their responsibilities by checking the company’s internal framework as well as ensuring that the organization complies with standards, regulation and laws.

The Andersen’s inefficiency to identify the fraudulent activities was because of negligence and inadequate internal regulation of the top management. A loophole in Andersen’s conduct was that it restricted its evaluation of financial statements, depending on the company’s assumed internal regulation context. However, WorldCom’s internal management regulation was ineffective in several manners, and thus facilitated Andersen to ignore severe inadequacies that were present in the company’s environment.

Whereas the growth of an organization is essential for its sustenance, it is also critical for the organization to emphasize on the strategic rather than short-term reporting. By focusing on long-term reporting, WorldCom would have ensured that it generate value for the Wall Street and for its customers as well. In a firm, when pursuing an aim, it should plan, format, execute, and assess. Lastly, business fraud is an outcome of how a business is led and how its employees are motivated to perform their duties rightfully. Compliance programs and ethical trainings are not effective in an organizational culture which is highly materialistic and devalues the work ethics and integrity.

References

Accounting-Degree.org. (2018). The 10 Worst Accounting Scandals of All Time. [online] Available at: http://www.accounting-degree.org/scandals/ [Accessed 5 Jun. 2018].

Ashraf, J. (2011). The accounting fraud at WorldCom the causes, the characteristics, the consequences, and the lessons learned. Bachelors. University of Central Florida.

Colvin, G. (2005). The other victims of Bernie Ebbers’s fraud – August 8, 2005. [online] Archive.fortune.com. Available at: http://archive.fortune.com/magazines/fortune/fortune_archive/2005/08/08/8267650/index.htm [Accessed 5 Jun. 2018].

Cooper, C. (2010). Extraordinary Circumstances: The Journey of a Corporate Whistleblower. John Wiley & Sons.

Ferrell, O. and Ferrell, L. (2011). WorldCom’s Bankruptcy Crisis. [ebook] New Mexico. Available at: https://danielsethics.mgt.unm.edu/pdf/WorldCom%20Case.pdf [Accessed 4 Jun. 2018].

Hancock, D. (2002). World-Class Scandal At WorldCom. [online] Cbsnews.com. Available at: https://www.cbsnews.com/news/world-class-scandal-at-worldcom/ [Accessed 5 Jun. 2018].

Knowledge@Wharton. (2002). What Went Wrong at WorldCom? – Knowledge@Wharton. [online] Available at: http://knowledge.wharton.upenn.edu/article/what-went-wrong-at-worldcom/ [Accessed 5 Jun. 2018].

Kuhn, J. and Sutton, S. (2006). Learning from WorldCom: Implications for Fraud Detection through Continuous Assurance. JOURNAL OF EMERGING TECHNOLOGIES IN ACCOUNTING, 3, pp.61-80.

MacDonald, S. (2002). Life Among the Ruins – Worldcom. [online] Kwrintl.com. Available at: http://kwrintl.com/library/2002/worldcom.html [Accessed 5 Jun. 2018].

Monks, R. and Minow, N. (2008). Corporate Governance. John Wiley, p.580.

Romar, E. and Calkins, M. (2006). WorldCom Case Study Update. [online] Scu.edu. Available at: https://www.scu.edu/ethics/focus-areas/business-ethics/resources/worldcom-case-study-update/ [Accessed 4 Jun. 2018].

Smith, R. and Walter, I. (2006). Governing the Modern Corporation: Capital Markets, Corporate Control, and Economic Performance. Oxford Scholarship Online.

Thornburgh, D. (2002). FIRST INTERIM REPORT OF DICK THORNBURGH, BANKRUPTCY COURT EXAMINER. In re: WORLDCOM, INC., et al. Debtors. UNITED STATES BANKRUPTCY COURT SOUTHERN DISTRICT OF NEW YORK, pp.1-33.

Thornburgh, D. (2004). “A Crisis in Corporate Governance? The WorldCom Experience”. [online] California, pp.1-18. Available at: http://www.klgates.com/files/Publication/5ca1eda3-acd7-47e1-9431-6f0511d1e7e4/Presentation/PublicationAttachment/ee2da30a-9843-4264-b182-f06d9d381051/Corp_Gov.pdf [Accessed 5 Jun. 2018].

Ulick, J. (2002). SEC hits WorldCom with charges – Jun. 25, 2002. [online] Money.cnn.com. Available at: http://money.cnn.com/2002/06/25/news/worldcom/index.htm [Accessed 5 Jun. 2018].