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. Last Updated: 07/27/2016

The Year of Corporate Skullduggery

NEW YORK -- Executives were led away in handcuffs and millions of shareholders saw their holdings swallowed up by accounting frauds -- images of a tumultuous year in which the fabric of corporate America was tearing apart.

Bosses using corporate jets for personal business and a shower curtain costing $6,000, charged to company expenses, perhaps best illustrate the extent of the skullduggery that came to light.

In time, though, these images might better serve as reminders of weaknesses and the need to patch them, lest the whole thing come unraveled again.

"Hopefully, what will come out of all this will be some wariness, skepticism and vigilance," said Nancy Koehn, a financial historian at Harvard Business School.

As details emerged about Enron, WorldCom and executives who got rich at the expense of employees and shareholders, investors on Wall Street and Main Street were devastated.

Whatever satisfaction the public felt as executives were indicted was certainly tempered by the economic damage wrought by accounting shenanigans. Stocks plunged, jobs were lost and retirement savings were wiped out.

While the financial pain lingers, the more enduring legacy of this scandalous era could be beneficial to the system.

Executives, auditors and corporate boards are likely to face greater scrutiny as a result of new laws and industry standards. Equally important, experts said, is that individual investors are paying greater attention to the conflicts of interest and the culture of self-interest that dominate corporate America.

But this renewed attentiveness should not be taken for granted, said James Schrager, a professor of strategic management at the University of Chicago's Graduate School of Business.

"It will only last until the next giant, silly expansion based on air," Schrager said. "There will be other great frauds."

They are likely, though, to be measured against the corporate excess and duplicity exposed in 2002:

• Enron's former chairman and chief executive, Kenneth Lay, received $152.7 million in payments and stock in the year leading up to the company's collapse amid revelations that it hid debt and inflated profit for years. Lay's take in 2001 was more than 11,000 times the maximum amount of severance paid to laid-off workers.

• Former WorldCom CEO Bernard Ebbers borrowed $408 million from the telecommunications company that had improperly accounted for $9 billion and was forced into bankruptcy. Ebbers had pledged company shares as collateral, but with those shares, once valued at $286 million, worthless, he was said to be considering forgoing his $1.5 million annual pension to help settle the debt.

• Adelphia Communications' founder and former CEO, John Rigas, allegedly conspired with four other executives to loot the company, leading prosecutors to seek the forfeiture of more than $2.5 billion.

• Of the 15 people indicted in the scandals at Enron, WorldCom and Adelphia, six have pleaded guilty to securities fraud and other crimes. Only one CEO from these companies, John Rigas, has been indicted. None has been convicted.

In addition, a dozen insiders from Arthur Andersen, Enron, ImClone Systems, Merrill Lynch and WorldCom exercised their constitutional right against self-incrimination during congressional hearings.

Massive earnings restatements at Adelphia, Enron and WorldCom drew attention, but a government report found it was just part of a growing trend among public companies.

The General Accounting Office, Congress' investigative arm, reported that earnings restatements due to accounting irregularities rose 145 percent between 1997 and June 2002. By the end of 2002, the GAO predicted 3 percent of all companies would have restated earnings, compared with less than 0.9 percent in 1997.

The public glare went beyond the executive suite. Former Tyco International CEO Dennis Kozlowski was said to spend millions of dollars of company money on art and furniture -- even a $6,000 shower curtain, by one report -- and Adelphia executives allegedly used corporate jets for personal business.

Among Kozlowski's alleged excesses: using company money and resources to help pay for half of a $2.1 million birthday for his wife, Karen, on the Italian island of Sardinia, according to Securities and Exchange Commission documents.

Lawrence White, a former economist at the Justice Department who is now a professor at New York University's Stern School of Business, said the type of behavior exposed in 2002 only happens when there is "a breakdown of institutions."

"Despite the lip service, executives weren't really managing their companies in the interest of the shareholders," White said. "That was combined with accountants not doing their job, shareholders being lulled by those back-to-back years of double-digit gains, figuring they didn't have to pay attention, and the analysts essentially getting co-opted by the companies they're supposed to cover."

The underlying problem of the era, said Barry Barbash, a former lawyer for the Securities and Exchange Commission who now works at Shearman & Sterling, was "superficiality."

The clearest example of this, Barbash said, was the obsession on Wall Street with short-term earnings targets, which gave executives incentive to say and do whatever was necessary to meet the quarterly expectations of analysts.

The problem was exacerbated by the proliferation of stock options in executives' pay packages, Barbash said, because even a temporary surge in a company's stock price could result in a financial windfall for senior managers.

"Corporate managers were not looking beneath the surface at how they were running their businesses," Barbash said. "Financial gymnastics outweighed solid financial practices."

If Enron and WorldCom were two of the more nimble financial gymnasts, then Arthur Andersen no doubt will go down in history as their infamous coach.

At the very least, experts said, Arthur Andersen should have spotted the bookkeeping stunts. The firm said clients like Enron and WorldCom withheld vital information, but in June it was convicted of obstruction of justice for shredding Enron documents.

Andersen was reduced to a shell of its former self, and its foibles hinted at much larger problems, especially potential conflicts of interests when an auditor was also a consultant. Andersen, for example, received about $27 million per year in consulting fees from Enron on top of a similar amount in auditing fees.

Fears that auditors might go easy on bookkeeping gimmicks devised by their colleagues in the accounting division, coupled with the high-profile earnings restatements at Enron and WorldCom, shattered investors' confidence in the integrity of financial statements.

The dismal year for the world's largest economy has -- and will continue to be -- felt around the globe.

Some economic predictions for 2003: the United States will not see a full-blown recovery before summer; Asian economies are expected to accelerate later in the year; the euro zone will pick up only slightly. In Latin America, economic turbulence will continue.

"Weak financial markets and tepid consumer demand should weigh on the global economy well into 2003," the Organization for Economic Cooperation and Development said in a November report.

In its latest review, the Paris-based OECD said the world's 30 largest economies should grow by 2.2 percent in 2003, compared with 1.5 percent in 2002. The new figures are a downward revision from its June report, which had projected 1.8 percent GDP growth in 2002 and 3.0 percent growth in 2003.

The International Monetary Fund also trimmed its expectations for global growth in its latest World Economic Outlook because of increased risks since last spring. "There is a significant risk of a more subdued recovery, especially if the impact of ... equity market declines in the United States and Europe proves greater than presently expected," the IMF said.

The IMF had forecast the global economy would grow by 2.8 percent in 2002, up only slightly from 2.2 percent growth the year before, which had been the worst performance in a decade. In 2003, the world economy is projected to rise 3.7 percent.