Please Don’t Feed the Politicians

Employee campaign contributions; robots reading earnings releases; health-care cost increases slow; temporary accounting help; doing more with treasury; what backdating means for D&O insurance; how to fire someone; fixing immaterial errors; and more.


Next election cycle, when an employee makes a personal political contribution,
beware: it could harm a company’s ability to win government contracts.

Many municipalities and some states are passing so-called pay-to-play rules that are
designed to discourage contractors, and in some cases their executives, from contributing to
candidates who have the authority to issue or influence government contracts. The rules set
limits on contributions or exclude them outright. “For prosecutors, it’s hard to show a quid pro
quo between a contribution and a contract,” notes Wesley Bizzell, an attorney specializing in
campaign-finance law at Winston & Strawn. “Pay-to-play rules make enforcement easier and
get around the burden of proof.”

Illinois is currently considering legislation that would restrict campaign contributions by
government vendors. New Jersey’s pay-to-play law went into effect in January. And such states
as California and Ohio, as well as the cities of Houston, Los Angeles, Philadelphia, San Francisco,
and Oakland, Calif., have similar rules in place.

The restrictions could create potential
problems for companies that lack diligence in
tracking contributions from their executives and
political-action committees. Robert Kelner, a
partner at law firm Covington & Burling and
chair of the firm’s election and political law
practice group, notes that more companies are
starting to subject their political activities to
compliance programs. And some are adding
a new position — political law compliance
officer — to lead the effort. The intense scrutiny
comes on the heels of a number of scandals
involving campaign contributions and lobbying
efforts. For example, prosecutors are still investigating
allegations that Mitchell Wade, founder
and former CEO of San Diego defense contractor
MZM Inc., made illegal campaign contributions to a number
of influential lawmakers. He has pleaded guilty to making
bribes to former representative
Randy Cunningham (R-Calif.), who also pleaded guilty
and is serving a sentence of eight years and four months.

Companies are keeping a closer eye on executives’
personal political giving as well. In August, Oracle
announced that it would offer executives legal assistance
on the filing of such contributions. The move
will help the software giant avoid running afoul of
complex contribution rules. “We’ve begun to see corporations
dedicating manpower and resources to these
particular types of compliance issues and amending
corporate policies because the cost of noncompliance
is getting higher,” says Caleb Burns, an attorney at
Wiley Rein & Fielding.

Investors, too, are demanding more transparency
on political giving. Last proxy season, proposals
calling on companies to disclose campaign contributions
accounted for nearly 18 percent of all social-policy
proposals put to a shareholder vote, according
to a report by Proxy Governance Inc.

It is still unclear how strictly pay-to-play rules
will be enforced. “I suspect some large companies will
get into trouble because they will become aware of
[these laws] only when there is a big enforcement
action,” predicts Kelner. “It might take some time to see
how much teeth they have.”

Then again, given the combative political environment,
it shouldn’t take long for one side to demand
that the rules be put to the test. — Helen Shaw

States with Pay-to-Play Laws

California, Connecticut, Florida, Hawaii, Illinois,
Kentucky, Missouri,
New Jersey, Ohio,
South Carolina, Vermont,
and West Virginia

Local Jurisdictions with Pay-to-Play Laws

Los Angeles, Oakland,
San Francisco, and Culver
City, Calif.; Philadelphia;
Houston; and various
counties in New Jersey
and California

Source: Skadden, Arps, Slate,
Meagher & Flom LLP

When Robots Write the News

As if having their jobs outsourced to India weren’t bad
enough, finance journalists now face a new threat: software programs
that can write stories in less than a second.

Thomson Financial has developed a computerized system
that “reads” earnings releases and produces news articles based
on their contents. What used to be the job of a cub reporter is now
accomplished by a complex algorithm that allows a computer to
digest numbers and describe the changes in text, according to
Andrew Meagher, director of content development at Thomson.

Reuters began automating some aspects of its financial
reporting more than two years ago, but Tom Defoe, head of product
management, news production, says the company has been
cautious in its approach. So far, Reuters uses computers mostly
to scan company announcements for predefined phrases.

Elizabeth Boland, CFO of Bright Horizons Family Solutions,
an operator of child-care centers, says automated reporting
could induce companies to try to fool the reporter bots. “You
may see companies being more artful about wording their
releases or making sure they have positive news in the first paragraph,”
she says.

One concern is that the computerized process could
increase volatility, as traders react to the automated reports
ahead of the broader release of earnings news. Since companies
are required to report GAAP earnings first and then back out
extraordinary items, in many cases earnings releases require
close analysis to find the meaningful news.

Meagher says the automated system has a human control.
“If a company is reporting an abnormal item, we hold off on producing
the story until we’ve talked to an analyst,” he says.

Automated financial reporters probably won’t render
their human counterparts obsolete just yet. “The computer only
tells you what’s happening,” admits Meagher. “It doesn’t tell
you why.” — Kate O’Sullivan

In Stable Condition?

First, the good news: In 2007, employers
could enjoy the smallest health-care cost increase since
2000. Now the bad news: that increase is still likely to be much higher than the rate of inflation.

Health-care premiums rose just 7.7 percent in 2006, compared to 9.2 percent in 2005 and
13.9 percent in 2003, according to the Kaiser Family Foundation. A number of experts expect the slowdown
in cost growth to continue into next year.

“There’s no doubt the trend is toward smaller increases,” says Paul Fronstin, a director at the
Employee Benefit Research Institute. He says the slowdown is partly due to companies
shifting more of the health-care burden to employees. “Costs are also moderating
because we haven’t seen a lot of new technologies hit the market recently,” he adds.

A decline in the cost of prescription drugs has also contributed to smaller price
spikes. According to a recent survey from The Segal Co., a benefits consultancy, pharmaceutical
costs have declined about 40 percent since 2003.

Given Imaging in Atlanta has enjoyed a slowdown in health-care cost increases
over the past five years. Vice president of finance Ed Cordell says Given’s costs
rose just 5 percent in 2005. But the medical-devices company is still working to contain
costs; it offers rewards for nonsmokers and recently adopted a wellness program. “We are trying to help our employees live healthier lifestyles, which could
increase savings on our health plan,” says Cordell.

But don’t pop the cork on the soy milk just yet. Cordell predicts that prices will
start to creep up again over the next few years as providers launch new high-tech products.
Tom Billet, a consultant at Watson Wyatt Worldwide, says baby boomers could
also push health-care costs back into double-digit growth. “We have yet to feel the full
effects of the aging population,” he warns. — Laura DeMars

Accountants: Going Once, Going Twice

What if companies could bid for temporary accounting help on the Web as
easily as Bruce Springsteen fans chase concert tickets on eBay? Now they can.

Slated to launch this month, provides an auction service for
companies looking for temporary finance and IT help. “Usually, companies call
up a staffing firm, take whomever they can get, and pay fees to both the person
and the agency,” says Robert Stewart, a former auditor and founder of “Now they can pick the person they want and save money.”

The site lets companies view profiles of finance professionals, including the
prospect’s job history, certifications, and education. Companies can also solicit bids
for specific projects, such as Sarbanes-Oxley compliance work or a financial-software
installation. As on eBay, both parties can provide feedback on the transaction,
so workers and companies can build a reputation for reliability. While companies
can search free of charge, finance professionals looking for jobs pay a monthly membership fee of $20 to $40 to search and bid for positions.

Last year the demand for temporary accounting and finance staff jumped 23
percent, according to Staffing Industry Analysts, a research firm that follows the temporary-staffing industry. Barry Asin, executive vice president of SIA, estimates that
companies will spend about $9.1 billion on temporary finance staff this year.

Nonetheless, job auctions will be a tough sell. “It’s a chicken-and-egg problem,” claims Asin. “Site membership needs
to hit critical mass before many staff seekers will use it.” And, he explains, many companies do not have time to sift through
profiles to find the right person for the job. “That’s why they hire staffing agencies.” — L.D.

Backdating Fallout: D&O Coverage

The wave of scandals involving stock-option backdating threatens to push directors’
and officers’ insurance premiums higher in anticipation of a surge in class-action suits.

So far, restatements related to backdating have led to 19 shareholder suits, with many more
expected over the next year. (At recent count, the Securities and Exchange Commission was
investigating more than 100 companies for backdating.) Class actions are extremely expensive to
defend, notes John Rafferty, manager of the D&O liability practice at The Hartford
Financial Services Group.

The scandals could reverse a
trend toward fewer class-action securities
lawsuits. Just 61 cases were filed in the first half of
2006, the lowest number for a six month
period since 1996,
according to data
from Stanford
Law School. It’s
too soon to tell,
though, if the
expected uptick
in lawsuits will
increase D&O premiums across the
board. Currently, insurers say they are
taking a case-by-case approach, so D&O
rates are likely to remain in check for
companies with no backdating exposure.

But they’ll have to prove it. “Insurers
are going to drill down on companies’
practices and could look as far back as 10
years,” says Steve Shappell, of Aon’s financial
services group. “If you can’t show
documentation or explain your practices
in detail, you’re going to get hit.”

The backdating scandal is expected
to widen in the coming months. Sen.
Charles Grassley (R-Iowa), chairman of
the Senate Banking Committee, has
vowed to pursue advisers, including
lawyers, accountants, and consultants,
who promoted backdating as a strategy.

Should the number of backdating
cases continue to grow, pressure to raise
D&O premiums for all executives will
increase. “I think carriers may be downplaying
the significance of these investigations,
and it could prove more costly
than they expected,” says Shappell. — L.D.

Beyond Cash Management

Companies are calling on treasury departments to do more than
analyze cash and manage risk. In a survey conducted by the Association
for Financial Professionals, 91 percent of respondents said the role of the
treasury department is expanding. Some of the tasks treasury is assuming
include assisting in mergers and acquisitions, SEC compliance, business continuity
planning, and management
of employee benefits
other than pension plans. More
than a third (37 percent) of the
companies surveyed say they
have expanded treasury staffing
to take on the additional workload,
and another 27 percent
have increased the use of
outsourcing. The expansion has
changed the view of treasury as a
cost center at some organizations:
45 percent of the finance
executives polled say the treasury
department is expected to earn
revenues for the company.


“We are at a crossroads
where malfeasance
in Corporate America
has reached an all-time high.
This type of conduct
simply cannot be tolerated
in our society.”

— U.S. District Judge Sam Cummings, upon sentencing Jonathan Nelson,
former CFO of Patterson-UTI Energy Inc., to 25 years in prison for embezzlement

You’re Fired! But Why?

Donald Trump may be
good at firing his apprentices,
but most companies
do a poor job of terminating employees.

A recent survey by The Five O’clock Club,
a New York–based job-outplacement firm,
found that in many cases, employees don’t
understand why they are being let go. While 94
percent of human-resource managers say they
gave reasons for dismissals, only 74 percent of
employees say they received an explanation.

Richard Bayer, COO of The Five O’clock
Club, says that often employees are so shocked
to hear the bad news that they don’t listen to the
rest of the conversation. He advises HR managers
to call employees the next day to explain
the situation and outline their benefits in detail. And, he says, words of encouragement — that
their hard work was appreciated, for example —
can go a long way toward discouraging a lawsuit. Managers are often afraid to say anything
positive, explains Bayer, fearing a wrongful termination
suit. “The opposite is true,” he says. “Failure to say a kind word is more likely to create
a disgruntled former employee.”

HR managers agree that they don’t do a
good job on terminations; 63 percent say they
could handle them better. — Gareth Goh

So You Say
HR managers and former employees disagree about dismissal practices.
Was the employee informed of reasons for dismissal?
HR managers who said yes 94%
Employees who said yes 74%
Could the dismissal have been handled better?
HR managers who said yes 63%
Employees who said yes 74%
Would the employee recommend the organization in the future?
HR managers who said yes 50%
Employees who said yes 31%
Source: The Five O’clock Club

Material Whirl

The Securities and Exchange Commission has issued
guidance on how to correct errors that have built up on the books over
time. In the past, companies dealt with such errors — ones that are too
small to fix in any given time period but cumulatively can have a material
effect on the balance sheet — in a number of ways. Now, Staff Accounting
Bulletin No. 108 explains how to determine if the cumulative errors are
material and how to fix them.

Issued in September, SAB 108 could make for larger restatements
when a reporting mistake is considered material. That’s because companies
must now take into account both the cumulative impact of the error
on the balance sheet and its effect on the income statement in a given
year. In the past, they have
generally adjusted the
errors on one statement
or the other.

Here’s an example
that the SEC provided with
the ruling: a company discovers
an improper warranty
expense accrual that overstates
a warranty liability by
$100, accumulated over five
years at $20 a year. In each of
those previous years, the
company considered the
misstatement immaterial. In
the fifth year, it is quantified
as a $20 overstatement of
expenses. Typically, a company
handles the misstatement
in one of two ways. Under the “rollover”
approach, the error of $20 would be corrected. Under the “iron curtain”
view, it is considered a $100 misstatement based on the balance sheet at the
end of the fifth year, and the correction would be to reduce the liability by
$100 and to decrease the current year’s warranty expense by $100.

The problem? The rollover approach leaves the balance sheet misstated,
while the iron-curtain approach misstates the current-year
expense. “Neither approach is necessarily going to provide a result that’s
more satisfyingly right than the other in all circumstances,” notes
accounting expert Jack T. Ciesielski. “Worse, in practice, firms may use
one approach or the other,” or at least they could do so in the past.

Starting with fiscal years ending after November 15, 2006, SAB 108
says companies must use both approaches to fix misstatements. In the
example, if the $100 error is considered material to the financial statements,
adjustment would be required. But if the $100 correction would materially
misstate the current year warranty expense, the firm would have to consider
restating the prior financial statements for the $80 error. — Ronald Fink

Back Office for Sale

Companies that have opted to build wholly
owned shared-service centers instead of outsourcing
back-office functions may be sitting on gold mines.

Eager to gain scale in a
consolidating industry, service
providers are searching for
sellers. In September, Capgemini bought 51 percent of Unilever’s Indian
captive. Earlier this year, the Worldwide Securities Services division
of JPMorgan Chase snapped up the back-office operations of the U.S.
hedge fund Paloma Partners Management Co. in order to build its
own hedge fund services business. Sensing an opportunity for profit,
private-equity firms and hedge funds are also on the prowl.

Many companies have a strong incentive to sell, says Chaz
Foster of outsourcing advisory firm TPI. As service providers in China,
India, and Indonesia expand, workers are increasingly less interested in
sticking with the smaller captives. “Experienced employees want to go
somewhere bigger because there’s more opportunity,” he explains.

Companies typically retain a stake in the operation after selling,
which could mean extra profit if the commercial venture makes
money. For example, GE still owns 40 percent of the successful
shared-services operation (Genpact) that it sold for $500 million to
two private-equity firms. Sellers typically hire the new owners to
continue to provide services to them, often at a reduced cost.

Clearly, a sale isn’t always appropriate, particularly if there are
security worries or if the work involved differentiates a company in the
market. (For these reasons, many financial-services firms are establishing
more, not fewer, captives.) But John Halvey, a partner with Milbank
Tweed, foresees many more such deals in the coming years. “There are 400 captive entities in India — at least 100 will get spun out,”
he predicts. “There’s economic value in these operations, and at the
end of the day, someone will want to unlock it.” — Don Durfee

Rule Britannia

Sarbanes-Oxley is one American creation the
British are taking pains not to import. UK Economic
Secretary to the Treasury Ed Balls made that
point clear when he recently proposed granting
new powers to Britain’s financial regulator, the
Financial Services Authority. In an effort to preserve
Britain’s regulatory authority, the new legislation
would enable the regulator to veto any
major rule changes proposed by stock exchanges.

Given the New York Stock Exchange’s
pending $10 billion merger with European
exchange operator
Euronext and Nasdaq’s
purchase of a 25.3
percent stake in the
London Stock
Exchange, many in
London’s financial
markets are concerned that Sarbanes-Oxley
could make its way across the Atlantic.

“The government’s interest in this area is
specific and clear: to safeguard the light touch
and proportionate regulatory regime that has
made London a magnet for international business,”
Balls said in a September speech at the
Hong Kong General Chamber of Commerce. He
has, however, rejected the idea of an outright ban
on foreign ownership of the LSE.

Officials at the NYSE and Nasdaq have
met with British authorities to confirm that they
have no plans to bring Sarbox to England. But the
exchanges are not the target of British regulators’
concerns. “The question is whether [U.S.] legislation,
current or future, will mandate that companies
on any American-owned exchange must follow
Sarbanes-Oxley,” says Julian Franks, professor
of finance at London Business School.

Parliament has put the proposal on the fast
track by attaching it to an existing bill. The change
could become law within a year. For U.S. companies
listing overseas to avoid Sarbox, the added
protection can’t come soon enough. — K.O’S.

Work/Life: Please Don’t Thank Me

A recent survey found that 81% of executives
say they are connected to work through mobile
devices (cell phone, PDA, laptop, or pager) all of
the time. The survey, conducted by Korn/Ferry
International, also found that 38% of executives
say they spend too much time connected
to communication devices. One way to cut down
on a small portion of E-mails:
encourage co-workers
not to send messages
that just say “Thanks.”

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