CFOs and Institutional Investors: Disconnect

So, is there a problem with corporate bookkeeping or not? Also: Options as expenses, and more marquee defections from Andersen.


CFOs may not like it, but institutional investors favor passage of new—and stricter—accounting regulations by the government.

According to a recent survey of big investors conducted by UBS Warburg and the Gallup Organization, the vast majority of the respondents (89 percent) believe the accounting practices issue is a serious problem for U.S. businesses. Overall, 81 percent said the issue of questionable accounting practices is negatively impacting the markets.

Those numbers contrast sharply with the most recent results of a quarterly poll of CFOs conducted by Financial Executives International and Duke University. In that study, barely half of the finance chiefs surveyed said current disclosure rules do not adequately serve investors. And 84 percent of CFOs in the FEI-Duke survey believe purposely misleading financial reporting by publicly held companies is rare.

The UBS-Gallop poll, however, shows real investor concern about corporate bookkeeping. When asked about proposed measures to address questionable business accounting practices, 87 percent of the institutional investors polled said they favor requiring companies to produce consolidated balance sheets. The use of off-balance-sheet vehicles has become a hot topic ever since Enron’s third-party activities brought that company down.

The UBS-Gallop survey also revealed that 63 percent of institutional investors support prohibiting an accounting firm from acting as both a consultant and the auditor for the same corporation. In the FEI-Duke survey of CFOs, around half of the respondents said they believe such a prohibition should be put in place. In’s own poll on the subject, 59 percent of readers said companies should not be allowed to purchase consulting services from their auditors.

As reported last week, in a recent poll of asset managers conducted by Citigate Dewe Rogerson, nearly half of the respondents said they believed investors would apply a discount to the share prices of corporations that buy consulting services from their auditors. While CFOs may be right in asserting that there’s nothing wrong with purchasing nonaudit services from auditors, investors will likely punish the stubborn.

As for other accounting topics broached by UBS-Gallop, institutional investors were divided over proposals to replace the Financial Accounting Standards Board with a new oversight board controlled by the government.

Thirty-six percent of those surveyed say they favor reforming FASB. Nearly 30 percent opposed such a move.

Investors were also split on limiting the amount of stock that employees can purchase from their own companies for their 401(k) retirement accounts. About 42 percent of the respondents support the move, half oppose it.

Interestingly, only 38 percent of those surveyed expressed support for prohibiting Wall Street firms from providing both research coverage and investment-banking services to the same company. Around 30 percent oppose this proposal and 33 percent say they have no opinion.

The results are part of a monthly survey to calculate the Index of Investor Optimism, a joint effort of UBS and the Gallup Organization. The sampling included 1,004 institutional investors randomly selected from across the United States.

And in a related story: The Council of Institutional Investors reversed course on Monday, saying companies should treat options as an expense and report them on income statements. According to a policy statement approved by the council at its annual meeting, corporations “should include these costs as an expense on their reported income statements with appropriate valuation assumptions disclosed.” The council noted that the new policy “is based on the principle that options should be expensed on income statements because they are a form of compensation and they have value, sometimes significant value.”

Abyssinia, Andersen

To date, more than 60 major companies have dumped Andersen as their auditor in the wake of the firm’s legal troubles stemming from its role in the Enron Corp. bankruptcy. And, unless former Fed chairman Paul Volcker can convince the Justice Department to drop its indictment against the Big Five accounting firm—and go along with a restructuring of the company—the depletion of Andersen’s client list will only intensify.

On Monday, it was business as usual at Andersen—which means the firm lost more audit clients. The most recent defectors include Calpine Corp., Centex, Pennzoil-Quaker State, and Cadence Design Systems Inc.

Interestingly, each of the four companies that on Monday said they dropped Andersen as their auditor chose a different Big Five auditor as a replacement.

Calpine, the energy-trading specialist, named Deloitte and Touche as its auditor—ending a decade-long relationship with Andersen. Calpine management said in a statement that the decision to change “is not the result of any disagreement between the company and Andersen on any matter of accounting principles or practices, financial statement disclosure, or auditing scope or procedure.” Interestingly, that’s what a number of firms said when they dropped Andersen. Apparently, there’s a template for dumping your auditor.

Centex selected Ernst & Young as its outside auditor for fiscal year 2002, which ends on March 31. Centex management said the appointment was part of its audit committee’s formal review of external auditing services. They probably read the paper, too.

Management at Pennzoil-Quaker State selected PricewaterhouseCoopers as its new accounting firm on the same day it agreed to sell the company to Shell Oil for $1.8 billion. “The decision to change auditor [was connected] with the situation that was happening with Andersen,” acknowledged Pennzoil-Quaker State spokesman Ray Scippa.

And finally, Cadence, a supplier of electronic design products and services, appointed KPMG as its independent auditor for 2002. “Arthur Andersen has done excellent, professional work for Cadence since 1988 and we have the utmost respect for the people with whom we have worked,” said Ray Bingham, president and CEO of Cadence, in a statement.

Meanwhile, management at KPMG said it ended merger talks with Andersen Australia due to conflicts of interest arising from the two firms’ roles with failed insurer HIH Insurance Ltd.

HIH, an Andersen audit client, was the country’s second-largest general insurer until it collapsed early last year. KPMG is HIH’s liquidator and is helping with a government-sanctioned inquiry into the insurer’s failure.

“We recognize that in some countries, regulations may impact on the ability of our respective member firms to pursue local transactions with KPMG,” said Andersen in a statement. “We are aware of the reasons for today’s announcement by our Australian member firms, based on the need to respect professional obligations regarding the conflicts inherent in the HIH Insurance litigation matter, but nonetheless, we remain disappointed by the conclusions they have felt forced to reach.”

Short Take

And finally: add Verizon Communications to the list of companies issuing bonds before the Federal Reserve Board has a chance to raise interest rates. Verizon management says it plans to issue $1.5 billion in debt. As noted yesterday, several high-profile companies have come out with large fundings during the past few weeks. That list includes GE Capital’s huge $11 billion global notes offering, the $1.8 billion borrowing from Constellation Energy, and CRH America’s $1 billion issue of medium-term notes. Ford Motor Credit also added $2 billion to its existing global notes facility.

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