The Rise and Fall of Worldcom

Shaghayegh Davari * Wan-Ting Shao * Ananya Chandra * Niteesh Chinta * Shraddha Rane * Swathi Punreddy The Rise and fall of WorldCom This case study WorldCom is a telecommunications company which was led by CEO, Bernard Ebbers, and CFO, Scott Sullivan. In 1999, WorldCom was not meeting Wall Street’s revenue and earnings expectations, and it appeared that the coming year would produce more bad news. The CFO argued for setting realistic targets. However, the CEO insisted that the company needed double digit growth, and pushed for aggressive targets.

A great deal of focus was not putting on “team work” and being a strong “team player”, which is said to have been a strategy to reduce dissenting opinions, eventually leading the organization not to follow a “groupthink” attitude. There is limited evidence to suggest appropriate review financial reporting controls were being reviewed independently and there was a lack of stringent monitoring of the internal control system and therefore the quality of the controls around the posting of journal entries to the general ledger was identified as a weak control.

The Bernie Ebbers and Scott Sullivan where the leader of the company and influence of their leaderships over their followers which were the subordinates refer to their power and is relied on three bases, coercing power, legitimate power, and information power. Leadership powers can be used by themselves or combined so that the leader has maximum influence. The leader will therefore need to think carefully about which power to use which in this case was not used in a way that at last resulted in decrease which was company’s bankruptcy.

Firstly, the main relevant theory in use by these managers for leading company was coercive power, they showed their ability to apply punishment to subordinates and it is originating from the manager’s position and controlling co-worker‘s behavior by forcing them to do whatever is not coming right to their believe. However, good leaders use coercive power only when in the last sort since coercive power can performance in the short term. Coercive power relies on threaten and will backfire badly if used as the only base for using influence.

In this case, the employees were publicly berated and intimidated for questioning managers’ decisions and further information. Secondly, the legitimate power by the leaders is used to some extent in this case. It was written in co-worker’s minds that the leaders have right to instruct them and that they have an obligations to follow whatever instructions the leader are providing them and there is no need for whatever is not being provided to them.

Legitimate power comes from the authority of the company’s position which can request certain behaviors of others. Ebbers indicated as personal charisma power which could be named as ”divine power” and made the board of directors think that he knows the way and the answers and could nurture or guide them; therefore, by producing passive board, rubber-stamped most of his recommendations. Finally, the managers in this case also relies on the information power.

Information Management is an emerging field that is concerned with information; the infrastructure used to collect, store and deliver it; and the organizational and social contexts in which it exists. But these two managers did not deploy the information power as a competitive tool because there was no efficient and effective deployment of the resources of the company. However, while you can’t control anyone (except perhaps yourself), you can influence nearly everyone. This is the essence of true leadership.

By this definition, Ebbers and Sullivan were great leaders in. One of the tactics influenced in this case involves actively applying legitimate and coercive power by even managers or subordinates usually form a group and tried to influence others by using threats of sanctions to force compliance, threaten, and apply punishment if the subordinates does not comply with the requests. Information control is simultaneously an influence for this case which is linked intimately with influence and power.

The managers in this case hold lots of information without telling any of their employees and limited subordinates to have access to valuable information and make them stay in dark about work issue. Assertive might be called “vocal authority” which was another influence. Using the managers’ positions of power and so as to despise and control the employees will cause a lot of problem and damage of respect over the long term.

However, the employees from the WorldCom quoted events that they were denounced for asking about any decisions or asking for information. In this case the managers did not use organizational politics in terms of behavior of interest groups to use power to influence decision making. They both focused on the self-serving and organizationally non sanctioned nature of individual behavior in organization. The most important tactic was developing strong allies and forming power coalitions, and associating with these two managers in their business.

They consider threat available in organization settings, it seems quite reasonable to expect that people will find it advantageous to manage the impressions that others form of them, even in situation which subordinates feel that the outcome is failing. In this case almost all the executives and staff identified information as a political tool which is depending on the managers and it comes that the purpose of this tactic may be to burry or obscure an important details the political actors of the company which were these two managers believe that could harm them, when the risk of withholding information is too great.

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Worldcom Scandal

WorldCom Scandal Formerly known as WorldCom, now known as MCI, this U. S. -based telecommunications company was at one time 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. In 1998, the telecommunications industry began to slow down and WorldCom’s stock was declining.

CEO Bernard Ebbers came under increasing pressure from banks to cover margin calls on his WorldCom stock that was used to finance his other businesses endeavors. The company’s profitability took another hit when it was forced to abandon its proposed merger with Sprint in late 2000. During 2001, Ebbers persuaded WorldCom’s board of directors to provide him corporate loans and guarantees totaling more than $400 million. Ebbers wanted to cover the margin calls, but this strategy ultimately failed and Ebbers was ousted as CEO in April 2002.

Beginning in 1999 and continuing through May 2002, WorldCom, under the direction of Scott Sullivan (Chief Financial Officer), David Myers (Senior Vice President and Controller) and Buford Yates (Director of General Accounting), used shady accounting methods to mask its declining financial condition by falsely professing financial growth and profitability to increase the price of WorldCom’s stock. The fraud was done in two main ways.

First, WorldCom’s accounting department underreported “line costs”, which are interconnection expenses with other telecommunication companies, by capitalizing these costs on the balance sheet rather than properly expensing them. Second, the company inflated revenues with bogus accounting entries from “corporate unallocated revenue accounts”. The first discovery of possible illegal activity was by WorldCom’s own internal audit department who uncovered approximately $3. 8 billion of the fraud in June 2002. WorldCom said it will restate its financial results for all of 2001 and the first quarter of 2002 to take almost $3. billion in cash flow off its books, wiping out all profit during those times. The company’s shares, among the most heavily traded on Wall Street, fell as much as 76 percent in after-hours action following the announcement and at one point were trading at 20 cents each. These transfers were apparently discovered by Cynthia Cooper, WorldCom’s vice president – internal audit. When informed about what happened, both the company’s current auditor, KPMG, and its former auditor, Andersen, agreed that these transfers were not in accordance with generally accepted accounting principles (GAAP).

Following a review by the company’s audit committee, WorldCom’s board terminated Sullivan and accepted the resignation of David F. Myers, senior vice president and controller. The SEC suit came a day later. On July 21, 2002, WorldCom filed for Chapter 11 bankruptcy protection, the largest such filing in United States history. The company emerged from Chapter 11 bankruptcy in 2004 with about $5. 7 billion in debt. At last count, WorldCom has yet to pay its creditors On March 15, 2005 Bernard Ebbers was found guilty of all charges and convicted on fraud, conspiracy and filing false documents with regulators.

He was sentenced to 25 years in prison. Other former WorldCom officials charged with criminal penalties in relation to the company’s financial misstatements. Sources: (2007, January 31). MCI Inc. Retrieved February 17, 2007 from Wikimedia Foundation, Inc. Web site: http://en. wikipedia. org/wiki/Worldcom (2005, July 13). WorldCom’s ex-boss gets 25 years. Retrieved February 17, 2007 from British Broadcasting Corporation Web site: http://news. bbc. co. uk/1/hi/business/4680221. stm http://www. cbsnews. com/2100-201_162-513473. html

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WorldCom Accounting Failure

This research paper will seeks to discuss accounting failure at WorldCom by trying to understand the nature of fraud committed, the perpetrators who caused the failure, the lacking controls that may have caused all these problems and the intentions of the perpetrators as would be revealed by the extent and frequency of manipulation done in […]

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Case 1.11worldcom

Question 1: The definition of assets is in FASB Concept Statement 6, paragraph 25: Assets are probable future economic benefits obtained or controlled by a particular entity as a result of past transactions or events.

Paragraph 26 then describes the trio of characteristics that qualify an item as an asset: an asset has three essential characteristics: (a) it embodies a probable future benefit that involves a capacity, singly or in combination with other assets, to contribute directly or indirectly to future net cash inflows, (b) a particular entity can obtain the benefit and control others’ access to it, and (c) the transaction or other event giving rise to the entity’s right to or control of the benefit has already occurred.

Question 2: The capitalized line costs were operating expenses and should not have been treated like a capital asset. On the one hand, one of WorldCom’s major operating expenses was its so-called “line costs. ” These were fees paid to third party telecommunications network providers for the right to access the third parties’ networks. Under GAAP (Generally Accepted Accounting Principles), these fees cannot be capitalized.

They must be taken as immediate expenses and subtracted from income. On the other hand, the increased line cost lies in the long-term, fixed-rate leases for network capacity WorldCom initiated in order to meet the anticipated increase in customer demand. And as later the demand was not as expected, the Company has to pay for the leases that were substantially underutilized to avoid punitive termination provisions.

The line costs that WorldCom capitalized were ongoing, operating expenses that accounting rules required WorldCom to recognize immediately. Instead of expense the cost currently, WorldCom capitalized it to exaggerate its pre-tax income. Future economic benefit is the essence of an asset. WorldCom capitalized excess capacity costs that were not generating revenue, which violates GAAP. Expense or a loss would be recognized upon evidence that previously recognized asset benefits would not be realized.

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WorldCom Case

WorldCom is one of the major players in telecomuniocation industry in the U.S. It has also gained popularity by undergoing a number of mergers and acquisitions, and the bypassing of accounting regulations which resulted in their bankruptcy as a lawsuit was filed against them. The company’s growth under WorldCom was fueled primarily through acquisitions during the 1990s and reached its apex with the acquisition of MCI in 1998.

WorldCom underwent a lot of mergers and acquisitions (CompuServe,  H&R Block, Digex ) during a relatively short period of time. WorldCom were the main architect behind AOL’s network, which added to their reputation, as they developed into a strong contender in the telecommunication sector.

THE CORPORATE FRAUD

In 2002 a lawsuit was filed against WorldCom for violation of accounting regulations, which included revenue recognition and capitalizing of the expenses. Subsequently, in July 2002 WorldCom filed for bankruptcy protection. WorlCom was found guilty of commiting a fraud which involved debate over the approaches of US GAAP, which works on the basis of  “rules based” accounting, conflicting with International Accounting Standards (IAS) and UK  GAAP, which takes a “principles-based” approach. The infringement is on accounting reforms which lies somewhere between rules-based and principles-based approach.

It is a known fact that operating expenses must be subtracted from revenue , while the cost of capital expenses can be spread over time. Improperly distributing and strewing operating costs inflated WorldCom’s profits beyond truth. The problem arose when $3.3 billion imroperly recorded in 2002. Moreover, expenses were recorded $3.8 billion and improperly reported as capital investments.After the audit, revised financial statements reported reduction in 2000 profits by more than $3.2bn.

IMPROPER ACCOUNTING PRACTICES

Problems of WorldCom started mounting when they tried to conceal their bad debts, understating costs, and backdating contracts. Before the scandal developed the stock price was on a peak at $64.50 in the year June 1999 but after the corporate fraud was disclosed in the year 2002 their stock price was reported to be $0.83 and a drastic decline of 98.7% in their stock prices was observed. Subsequently WorlCom came under severe pressure from banks to cover margin calls on their WorldCom stock that was used to finance its other businesses.

The fraud was accomplished primarily in two ways:

  1. Underrating costs by capitalizing these costs on the balance sheet rather than properly expensing them (bit by bit). These sort of problems often occur with Financial Institutions when they capitalize costs under the accounting head of “Non Performing Loans” in the Balance Sheet, however, if it is reported in the balance sheet without proper disclosure, this may create a whimsical in the mind of investor.
  2. Inflating revenues with bogus accounting entries from ‘corporate unallocated revenue accounts’ and this problem is in relation with improper revenue recognition technique.

LOOKING AHEAD IN RESPECT OF ACCOUNTING PRACTICES

In order to bring some uniformity to its net income, companies like WorldCom may use big bath accounting.This technique misleads information transfers to the stock holders as well as the goodwill of the firm. Organizations should always look closely on the following accounting issues, as these are on most occasions the reason why a company may find itself in troule.

  • Proper Revenue Recognition technique (Percentage Completion method,Complete contract method,Installment method etc)
  • Financial Statements always stands firmly means the earning quality reflects the true picture.
  • Adequate Disclosures
  • Make reversals in a right way.
  • Not frequently changes the inventory valuation techniques (LIFO,FIFO,etc)
  • Earnings either capitalizing oe expensing both in a proper manner that this issue make effect on earning quality.

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Case 1.11worldcom

Question 1: The definition of assets is in FASB Concept Statement 6, paragraph 25: Assets are probable future economic benefits obtained or controlled by a particular entity as a result of past transactions or events. Paragraph 26 then describes the trio of characteristics that qualify an item as an asset: an asset has three essential […]

Read more

WorldCom Case

WorldCom is one of the major players in telecomuniocation industry in the U.S. It has also gained popularity by undergoing a number of mergers and acquisitions, and the bypassing of accounting regulations which resulted in their bankruptcy as a lawsuit was filed against them. The company’s growth under WorldCom was fueled primarily through acquisitions during […]

Read more
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