For his fumbling of Webster’s appointment, Pitt earns a clear F. And that’s only the most recent proof of how hard achieving real reform in the world of accounting is going to be. After all, Webster appeared on this stage only after the accounting industry successfully lobbied against the more reform-minded John Biggs, then head of the TIAA-CREF pension fund, who had first been approached for the job.
At first glance, this latest episode offers more proof to the skeptics that, after a year of corporate scandals, broad reform is unlikely. Doubters say that if stocks go up, all past lapses will be forgiven–the accounting scams, phony stock analysis and useless rubber-stamp corporate boards. But be patient. The simmering outrage, from investors and regulators, has grown so great that business is slowly going to make its own repairs–out of self-interest, the reason it knows best. We’re looking at an interim report card. Let’s hope grades will rise.
Reform will come from business people who make a string of specific, principled decisions, rather than living by all the little shades-of-gray judgments that landed so many companies on the scandal sheet this year. It was just that kind of shaded decision-making that landed Pitt in trouble. White House officials were noticeably cool last week about his prospects for survival; some Washington insiders were referring to Pitt as “dead man walking.''
The details of Webster’s past, first reported in The New York Times, suggest that blame for last week’s problem lies with Pitt more than with Webster and his actions. Webster had served as chief of the audit committee for a tiny public company (now insolvent) called U.S. Technologies. UST, which had been engaged in bringing paid work into prisons, decided to morph into a dot-com stock. Subsequently the company’s auditors, BDO Seidman, questioned its internal financial controls. BDO Seidman was dismissed. Investors have sued UST and its CEO, Gregory Earls, for fraud. Earls’s lawyer didn’t respond to questions.
Was Webster a lax director? That’s not clear. BDO Seidman’s only recommendation was to replace UST’s chief financial officer, and that was done, Webster told me. Both the old and new accountants signed off on the company’s financials. “I believe I served honorably and took my responsibilities seriously,” Webster said.
Pitt knew about Webster’s history at UST–Webster says he told him. But he kept all these facts to himself when Webster came before the full commission for a vote. In an angry and partisan face-off, the SEC confirmed Webster by just 3-2, with the minority still for Biggs. The storm hit when the commissioners learned that Pitt hadn’t shared what he knew. Last week the SEC launched an internal investigation into the nomination. Sen. Paul Sarbanes, whose original bill created the oversight board, instigated an inquiry by the General Accounting Office. The Senate will hold hearings, too. Webster says he’s sure he can serve effectively, but knows the risk. “I’m anxious to see the board succeed,” Webster says. “If anything involving me stands in the way, I’ll take appropriate action, but right now I don’t believe a case has been made.”
If nothing else, Webster’s tale underscores how hard it is to find someone with a true outsider’s perspective to oversee business. He joined UST, he says, because of his interest in helping prisoners learn a trade. In early February 2000, its stock was selling for just 15 cents a share. Then, lo and behold, it darted up. Webster and several other new directors agreed to join the board on Feb. 21, receiving options for 250,000 shares at 90 cents. The very next day, UST announced the acquisition of E2Enet, an “incubator” that planned to invest in new Internet companies. Instantly, the stock leaped to $1.70 a share and then to $5.75. Nice timing, apparently. E2Enet “had more sex appeal than prison industries,” Webster says. In April, he put about $160,000 cash in the common stock.
But UST couldn’t have “dot-commed” itself at a more inauspicious time. The bubble burst in March and the stock declined. UST’s directors were granted more options, to no avail. The stock flat-lined at zero.
Webster says he didn’t make any money on UST from stock or fees. “But that wasn’t for lack of trying,” says hardhearted executive-pay expert Graef Crystal. “You can see the board scrambling to give out options at lower prices,” Crystal says, which would have paid off handsomely if bubble stocks had had another run. Webster says he attached no particular significance to the stock and was “lucky it had a lift” at all. He left the board this year.
For corporate reformers, the big question is, what’s going to happen to oversight now? Will Pitt decide that he needs to spend more time with his family? Will Webster stay or go? The politics are so rough that accountants, bankers, lawyers and their corporate masters can’t be too worried that any public board can drive them toward changes they don’t want to make. As the comic Lily Tomlin says, no matter how cynical you become, it’s hard to keep up.
But companies are kidding themselves if they think they can control reform, says Paul Miller, accounting professor at the University of Colorado and coauthor of an important book called “Quality Financial Reporting.” The market itself is going to force changes to corporate reports by rewarding the companies that improve and punishing those that keep thinking investors can be fooled. Just watch the stocks. In the “old” world, anything that 100 executives decided to do was legal. No more.
After Enron, WorldCom, Tyco and all the other scandals this year, endless promises were made to fix Corporate America’s systemic flaws and restore confidence in the stock market. We’ve seen some progress and innovative thinking. But change–in such areas as excessive CEO pay and giving the SEC the money it needs to do its job–is coming slowly, if at all.
Analyst Honesty: B
Not that analysts have suddenly started taking truth pills. This high mark is entirely due to the startling effort to restructure stock research, led by New York Attorney General Eliot Spitzer and the SEC’s director of enforcement, Stephen Cutler. They’ve proposed an independent body, funded by the big brokerage firms, to issue stock reports for individuals. It’s the future of Wall Street. Stay tuned.
Executive Pay: D
The top dogs are still raking it in. When their stock options land in the Dumpster they typically get make-up options, so the total value of their compensation stays the same. As alternatives, they’re getting big raises, more direct stock grants, better pensions and fat guaranteed returns on deferred pay. Treating stock options as a company expense (not done now) would slow this gravy train. Might happen.
SEC Funding: C-
When the cameras were rolling, Bush signed a bill giving the underfunded Securities and Exchange Commission $776 million (a 77 percent increase) for checking on public companies and pursuing crooks. Oops, must have been a typo. When his real budget came down, Bush showed just $568 million for the securities cops. More has now been promised. A big need: better technology. The SEC recently had to compile a list of the largest companies by hand.
Fixing Boards: B-
There’s hardly a corporate board that hasn’t gotten the message: “Shape up, or my lawyers will call.” The Conference Board is preparing a list of best practices, the stock exchanges will require more board independence (especially on audit and compensation committees) and shareholder activism stands at a record high. Investors will punish companies that appear on “worst board” lists, no excuses, no kidding.
Auditing Oversight: F
Who can believe the new public-oversight board will ever grow any teeth? For 75 years the accountants have failed miserably at self-regulation. They even threatened to defund their own oversight board (now defunct) to derail a threatened conflict-of-interest investigation. Its current standard-setting board lets interested parties veto changes their clients wouldn’t like. Call 911. The accountants are still getting away with murder.
