The WorldCom Scandal

The WorldCom scandal was one of the most shocking frauds to

rock Wall Street in the years when it took place. WorldCom was once
one of the world's largest telecommunications companies and a
core dividend-paying stock that many retirees held in their portfolios.

In 2001, it attempted to fake an increase in earnings on its profit-and-

loss statement by nearly $4 billion. It did so by manipulating its
financial data, which affected its income statement, balance
sheet, form 10-K filing, and annual report.

When a business incurs an expense, certain accounting rules state that

the cost of that expense should be spread over the entire time that it will
benefit the company. This attempt to match revenues with the cost it
took to create them is known as the "accrual method”.

How WorldCom Shuffled Its Books

Sullivan, WorldCom's CFO, took billions of dollars in operating expenses and
spread them out across so-called property accounts. These are a type of capital
expense account. This action let WorldCom show the expenses in smaller
amounts, over a span of years, instead of reporting them right away.

As a result, in 2001, the firm inflated revenue by roughly $3 billion and stated a
$1.4 billion profit instead of a loss. Had the operating costs been reported the
right way, the books would have shown that WorldCom lost money for the 2001
fiscal year and first quarter of 2002.

1
The Outcome
In June 2002, WorldCom admitted to nearly $4 billion in accounting fraud, and
on July 22, 2002, the company filed for bankruptcy. That bankruptcy was one of
the biggest in American history. The filing led to an increase of scrutiny for the
firm's leaders and prompted legal investigations into WorldCom's CEO Bernard
Ebbers and CFO Scott Sullivan.

New Legislation
After massive scandals by companies such as WorldCom and Enron, Congress
enacted the Sarbanes-Oxley Act (SOX). This law was designed to increase
confidence in stock markets and public companies so people would feel
confident enough to invest. To do this, the new law made some big changes.
Some of things it required included:10

• More audit committees.

• Internal controls for public companies.
• No more than two board members can be certified public accountants.
• Bigger criminal penalties for securities fraud.
• Companies must change audit partners every five years.

Before the act, there were many loopholes that firms could take advantage of to
mislead and defraud investors. SOX was a way to try to close these loopholes