WorldCom/MCI — Massive Accounting Fraud
Shortly after WorldCom purchased MCI, their consumer business eroded as price-conscious customers shifted to other companies or used wireless phones for long-distance calls and the company's wholesale revenues fell by 16%. Even in the data sector, the company faced stiff competition that kept prices low, and their attempt to buy Sprint was blocked by the DoJ.
The company was floundering financially, and top management directed accounting to cook the books - to move some operating expenses into the company's capital accounts as "prepaid capacity costs" so that profit would seem high, even while the company was taking on an increasing amount of debt. By 2001, the company had buried nearly $4 billion in expenses in this manner.
This activity was eventually uncovered by the SEC, which filed criminal charges (for faud) against the company and several of its executives. An additional $3 billion in fraudulent expenses were uncovered in the investigation, bringing the company's debt to be understated by $7.2 billion.
The company went bankrupt, and most shareholders, including many employees who held company stock in their pension plans, found their investment to be wiped out.
Lessons Learned
Fear and intimidation are both causes and symptoms of corporate wrongdoing. MCI management were fearful of being caught in what they knew was wrong, and they used threat to get their employees and vendors to keep mum when evidence of the aberrations became clear internally. It was eventually found that dozens of people knew about the fraud were aware of the problem, but had been threatened into keeping silent.
Aggressive investment decisions can be disastrous. The main cause of MCI's financial woes was an aggressive infrastructure expansion with the anticipation of future business that did not materialize.
Adequate oversight requires checks and balances. Because all those responsible for auditing and monitoring the finances of the company were beholden to those who perpetrated the fraud, they were not in a position to act as watchdogs for the board.
Deception will eventually be uncovered. Those who defrauded the shareholders of MCI were able to sweep quite a lot of money under the rug y doing it in small increments - but eventually, the sum total of their fraud became a figure that was too large to be overlooked.
Be wary of mimicking competitors' actions. The accounting fraud at one firm (MCI) enabled it to undercut competition, and competitors cut prices to remain competitive with them, which harmed profits across the industry.