Hot Air in American Corporate Balance Sheets

[Steve Diamond <sdiamond@xxxxxxx>]

THE RISE AND FALL OF ENRON

 Former SEC Official Tells Senators
Corporate Accounting Needs Review

Associated Press

QUESTIONING THE BOOKS

WASHINGTON -- Companies' balance sheets are bloated because of faulty
accounting practices that include fake assets and must be changed to prevent
future Enrons, a former Securities and Exchange Commission accountant
testified Tuesday.

Corporations are able to report as assets things that have no market value,
such as goodwill, deferred income taxes and costs of raising debt capital,
Walter Schuetze, SEC chief accountant from 1992 to 1995, told the Senate
Banking Committee. The same practice goes for liabilities.

"This is the kind of stuff that allows stock prices to soar when in fact the
corporate balance sheet is bloated with hot air," Mr. Schuetze said.

Following Enron's collapse, Congress is grappling with whether to change the
private board system that has oversight for the accounting industry and sets
the rules. Some members support keeping the system intact with minor changes
and others want a major overhaul with help from the government.

Schuetze urged Congress to step in and require the reporting of a company's
true financial condition based on today's market value of all assets and
liabilities, called "mark to market" accounting.

For example, faulty accounting rules were partially responsible for the
savings and loan crisis of the 1980s, he said. When short-term interest
rates were raised dramatically, causing long-term rates to spike, the market
value of previously acquired mortgage loans and government bonds held by
savings and loan associations dropped significantly.

But accounting rules allowed the mortgage loans and bonds to be reported at
their historical cost. That made savings and loan associations appear
solvent when they were not, he said.

"The federal government paid for the losses that were hidden in the balance
sheet under the historical cost label," Mr. Schuetze said.

His far-reaching plan would dissolve the private-sector accounting oversight
board, the Financial Accounting Standards Board, and would require Congress
to set the basic accounting rules.

"I am intrigued, but I am not yet convinced," said Sen. Zell Miller (D.,
Ga.).

Other accountants testifying had problems with the idea. For one, "there are
different notions of what assets and liabilities are," said Michael Sutton,
an SEC chief accountant from 1995 to 1998.

Some senators questioned whether Congress should get involved in
establishing accounting rules for the industry.

"I still support an independent body setting accounting standards," said
Sen. Phil Gramm (R., Texas). "It scares me to death to think of government
or politicians setting accounting standards."

Separately, Congress also is examining whether the nation's pension laws
should be changed. Sen. Chuck Grassley of Iowa, senior Republican on the
Senate Finance Committee, said he will introduce legislation to tighten
protections for participants.

Enron "could happen to a lot of other companies if we don't do something
about it," he said.

Mr. Grassley's legislation includes several principles outlined by President
Bush, such as allowing a participant to sell matching company stock after
three years. Current law requires workers to be age 55 with 10 years of
service to a company.

His plan would require 30 days notice to temporarily suspend access to a
401(k) account, and ban company executives from selling stock during such a
blackout period.

Copyright © 2002 Associated Press


Stephen F. Diamond
School of Law
Santa Clara University
sdiamond@xxxxxxx