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Wednesday, 26 June, 2002, 09:58 GMT 10:58 UK
WorldCom: Why it matters
US telecoms giant WorldCom shocked the business world when it admitted that it had massively overstated its profits for the 15 months from the beginning of 2001.

BBC News Online looks at what exactly the company has done, and why it matters.

Another day, another scandal. All this feels a bit like deja vu, doesn't it?

There are certainly echoes of other recent events. WorldCom's overstatement of profits is eerily reminiscent of Enron's collapse last year. And the two used the same auditor, Andersen.

They've also lost their chief executives - and it is the chief financial officer in each case who stands accused of being responsible for cooking the books.

But the scale of the overstatement is of a different magnitude. Enron overstated its profits by $600m. WorldCom's fiddled figures are six times as big.

But what did they actually do? And how can anyone get away with pretending they've earned billions more than they actually have?

WorldCom's dodge was relatively simple. In 2001 and 2002 the company pretended that $3.8bn (2.5bn) in normal operating expenses - in fact, routine maintenance - qualified as investment.

That allowed the company to spread the cost over a number of years, instead of having to account for it all at once.

Unsurprisingly, that made its profits look much, much better than they were.

It also artificially inflated the company's value.

It is as if a company pretended its outlay on paperclips and stationery - necessary, certainly, but by no means adding value - was in fact used to buy new equipment or build a new factory.

So instead of making a $1.3bn profit in 2001, WorldCom was deeply in the red.

Disgraceful. Who's responsible?

WorldCom is blaming its chief financial officer, Scott Sullivan.

Its founder, former chief executive Bernie Ebbers, has already left, but since he and Mr Sullivan were a well-known corporate double act, it would be surprising if some of the blame doesn't land on him too.

But the rest of WorldCom's senior executives are unlikely to get away untouched. They, after all, bear responsibility for the figures and the company's strategy as well.

And then there are the auditors. Andersen is in enough trouble already, given that its US arm is now officially guilty of obstructing justice in the Enron affair.

It claims Mr Sullivan hid the figures. But $3.8bn is a lot to slip under the radar, and few believe Andersen is going to escape damage from this one.

Who is going to end up paying for all this?

In the first instance, it's the employees. In the same statement that revealed the fiddle, 17,000 WorldCom workers discovered they were getting the push, starting as soon as Friday.

Investors are obviously next in line. Anyone who bought WorldCom shares at the top of the market in 1999, when they were worth more than $60, must be seething. Now they're worth no more than about 20 cents.

Not just WorldCom shareholders, though. The fraud blasts a huge hole through confidence in the rest of the telecoms and technology sector, and is hitting share prices in all major markets.

So anyone with a pension is likely to end up paying the price as well.

What effect is that going to have in practice? And could there be other WorldCom's out there?

Putting aside the snap reaction on stock markets around the world, the developing view is that this scandal puts the final nail in the coffin of the 1990s equity boom.

In other words, as Nomura economist Anais Faraj puts it, the scandal comes as a timely reminder that "Enronitis" was a systemic problem - not a case of a one-off "rotten apple".

It's impossible to say for certain whether any other WorldCom-style frauds are lurking in the corporate undergrowth but tumbling stock markets show investors have no confidence that there are not.

For WorldCom, the ongoing talks to secure another $5bn in loans to help it through the tough times are looking increasingly fragile.

Unlike Enron, it has a huge real-world business with thousands of customers being supplied with genuine services. But the weight of its huge debts, run up as it bought up rivals right, left and centre, are just as real.

And according to US investment bank Robertson Stephens - which advised clients to sell on Wednesday in a note entitled "Our estimates did not assume massive fraud" - WorldCom's bankruptcy is now highly likely within the year.

For everyone else, it is time to start battening down the hatches. Most observers seem to agree that, with confidence at rock-bottom, any real recovery is going to be a long time coming.

 WATCH/LISTEN
 ON THIS STORY
Ron Monk, CMG Information technology consultancy
"The reasons for the collapse of Enron and WorldCom are very different"
Richard Elliott, chairman of Band-X
"Were WorldCom to go away... the performance of the internet will be effected"
WorldCom

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15 Jun 02 | Business
24 Jun 02 | Business
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