What Happened To WorldCom? What is The WorldCom Fraud Scandal?
WorldCom was a massive telecommunications company created by Bernard Ebbers (Bernie Ebbers) in 1983. WorldCom was one of the most popular, rapidly growing growth stocks prior to the dotcom bubble. And of course, one of the greatest stock market drops once the market began to crash.
WorldCom is now infamous for being the biggest accounting scandal in American history. With that, WorldCom is one of the biggest bankruptcies in American History too. Often overshadowed by the Enron story, Worldcom was also one of the most drastic stories in the world of American Business. The crime-filled tale is intense, so come along and learn about what specifically led to the chaos that eventually destroyed WorldCom.
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WorldCom: The Biggest Accounting Scandal Ever
The range of intense criminal fraudster cases amidst the financial markets is vast.. Some of it more advanced and layered than you could possibly imagine. And some.. Well, some is just some baseline, run-of-the-mill “fool’s fraud” as I like to call it.
And every now and then, fool’s fraud just so happens to be conducted at the second largest long distance telecommunications company in the nation resulting in the Biggest Accounting Scandal in US history. This.. is.. The WorldCom story!
What Was WorldCom?
Back in its heyday, WorldCom grew to become the second largest long distance telephone company in the United States, holding steady right behind AT&T. I bet you’ve heard of those guys.
WorldCom was a massive, long-distance discount telecommunications company that specialized in providing their services to resident and businesses. This big ol’ fraud-to-be was incorporated in the year 1983, initially called “Long Distance Discount Services Ltd.” Can you believe they changed it from such a catchy name. Let’s take a real quick side-dive to understand the massive growth explosion of WorldCom.
The WorldCom Fraud Scandal – In Video Form
The Massive Growth Explosion of WorldCom: Thanks To Bernie Ebbers
The man with the plan was Mr. Bernard Ebbers. He is in fact, one of our lead characters in this tale.
LDDS Ltd. was birthed in a Mississippi coffee shop, in the year 1983. Ebbers got the big, sexy title of CEO in 1985 and proceeded to blow this thang up. In a.. In a good way.
Ebbers guided Long Distance Discount Services Ltd fiercely, incurring rapid growth, further extenuated by the internet boom of the 90s.
This led to an eventual merger in the year 1989 with Advantage Companies Inc. – Resulting in 2 big things:
1. A new name: Long Distance Discount Services Ltd. is no more. Please welcome, LDDS WordCom!
2. They went public, baby: The merger shoved them into the public markets, and they were off to the races.
Across this rapid growth span, Bernie Ebbers led WorldCom to become an acquisition-hungry beast. They acquired over 60 telecommunications companies between 1985 and 1995.
In 1992, they were getting into the big leagues. They outbid massive competitors, AT&T and Sprint Corporation in acquiring Advanced Telecommunications Corporation for 720 million dollars.
NOTE: Don’t get them confused with Advantage Companies Incorporated. Those are different companies, clearly…
As you can see, the telecommunications sector was one of the most creative brand-naming industries in the world.
1997: WorldCom In The Dotcom Bubble
Let’s immerse ourselves here…
We’re in the early days of Dotcom bubble, folks. Money is oozing into the stock market. Capital is easy-peasy to come by, we know this.
So on November 4th, 1997, WorldCom announced a MASSIVE merger with MCI Communications! This was for a small close of $37 billion dollars.
Fun Fact: At the time, this was the LARGEST corporate merger in US History.
And this also resulted in YET ANOTHER name change for WorldCom.
Now introducing: MCI WorldCom
These guys were an unstoppable beast…
Except, they weren’t unstoppable. Not really.
WorldCom Was Crushing Earnings
On paper at this point, WorldCom was murdering. Numbers. Like, numbers murdering. They weren’t actually taking any lives.. That we know of..
We’re talking year-after-year-after-year, nonstop, incredible growth. This was an incredibly profitable, money-printing giant. So much so, that mass amounts of pension funds and retiree accounts were loaded up on shares of this company.
I mean come on, it was a no brainer at this time.
Except.. It was, in fact, a brainer.
Let’s take a second to introduce the rest of our characters in this story!
Important WorldCom Characters
First up, meet Scott Sullivan.
Mr. Scott Sullivan was WorldCom’s Chief Financial Officer, Secretary, board member and treasurer. With that, Scott Sullivan was something of a business celebrity in the accounting world. This dude was a socially-sexy accountant, if ever there were one. His home was also noteworthy at the time, fun fact! Check out this compound below.
Next up, meet Cynthia Cooper.
Ms. Cynthia Cooper was WorldCom’s internal auditor in the early 2000’s. With that, Cynthia Cooper is, as of 2021, often titled “The WorldCom Whistle-Blower”
The Enron Effect and Dotcom Bubble Popping
Let’s immerse ourselves again.
The year is 2002. George W. Bush is the president. In the stock market, we’re dealing with the repercussions of, well, many things, but most notably: The popping of the dotcom bubble.
With that, the, anger, confusion and general distrust of another little company from a few months prior is just now starting to subside.. You may have heard of them, this is Enron.
The Enron Scandal storm was still fresh in the air. But Congress is telling us that legislation is coming, so the pain is starting to ease.
But don’t get too comfortable, fool! Let’s jump over to Cynthia’s story.
The WorldCom Whistle-Blower
It’s early 2002. At the request of a colleague, our hero, Cynthia Cooper is beginning a little investigation. Nothing crazy. She just wants to look into some unusual accounting entries over in WordCom’s wireless division.
So with this newfound discovery, she preaches a partner at WorldCom’s auditing film. This is Arthur Andersen. The renowned accounting company known for auditing WorldCom AND Enron.
Of course, the representative from Arthur Anderson keeps it cool, calm and collected. He assures Cynthia that any of these so-called “aggressive accounting entries” are all balanced out on a corporation-wide basis.
Well, all is good then.. Problem solved.. Right? WRONG!
Smash cut to the next day. Cynthia heads out early for a hair appointment.. A much-needed break from the madness for once. But upon her visit, while she sits, she gets an unexpected phone-call.
The call states that none-other than the famous Scott Sullivan, wants to chat with her pronto!
Hm? Sullivan himself?
Well of course, Cynthia calls him up. At this point, Scott let’s loose on her for snooping around the wireless accounting treatments. He says she’s “no longer to discuss this matter with Anderson auditors.”
“Stay away from them, Cynthia.” Scotty tells her to channel all queries through his own deputy, from here on out.
In Cynthia Cooper’s own words: “No one wants to believe their boss is perpetrating a fraud. You want to believe there is a valid explanation.”
Well folks, Cynthia couldn’t just stop. She knew in the ol’ heart of hearts that something was off in all this. Only.. she didn’t know the scale of it.
What Exactly Was WorldCom Doing?
To understand exactly what went down in the WorldCom Bomb, we’re gonna go over a quick and slick: EXAMPLE WITH CHRIS.
This whole ordeal comes down to how the great Mr. Scott Sullivan treated capital expenditures and expenses… With that, ya gotta understand the: Accrual Accounting Method.
This states that the cost of that expense should be allocated over the entire period it will benefit the company. This attempt is done in order to properly match revenues with cost.
EXAMPLE TIME:
Let’s assume Chris’s Body Butter LLC earns a total of $10,000 profit in a calendar year, and this sexy business purchases a $7,500 oil-concentration machine in order to create the product at scale. This machine is expected to last for five years and allow my body butter employee army to make twice as body butter per hour. If an investor examined our financial statements, they would likely be underlined when they see that my thriving business only made $2,500 in profit for the year. That wouldn’t appear to be thriving at all!
So since the body butter concentration machine is expected to last five years, we can take its cost and divide it by five, resulting in $1,500 per year. Instead of realizing that ugly, large expense in one year, Chris’s Body Butter LLC can expense $1,500 each year for the next five years, reporting annual earnings of $8,500 for this given year instead.. This allows the investing folk to get a more accurate picture of our economic reality!
Scott Sullivan Was “Cooking The Books” at WorldCom
Well, now for the crux of the tale. Cynthia Cooper kept finding more. Over those next few weeks, Cooper, along with fellow auditors soon-after, came to find out that WorldCom’s wunderkind Scott Sullivan had been manipulating the financials consistently. The cash flow statements, expenses, profits, oh my. Scott was mislabeling portions of operating cash as investing and vice versa. And of course, Scott was taking advantage of the ol’ accrual accounting method, false-labelling line-costs and huge fees associated with its third party network services and facilities, jotting them down as capital expenditures when they were not.
In short, the book of accounts showed the public markets that WorldCom was continuing rapid growth right through 2001, quarter by quarter. That it was a thriver swimming in profits up the wazooo.
But the only thing WorldCom was swimming in up the wazoo… Was lies…
WorldCom’s Announcement
On June 25th, 2002, the WorldCom team announced that they had to officially revise their financial statement, after a bit of funny business had been found. How much of a revision you say?
$3.85 billion dollars. Their statements suggested they had a profit of $3.85 billion when, in fact, that actual amount was a LOSS of $500 million dollars. Imagine that?
But wait, there’s more!
In due time, as the massive, trust-shattering truth spread across the investment world, the investigation revealed that WorldCom had actually fabricated $11 billion dollars in profits.
The operating margin of WorldCom as a company indicated that profits had been dropping steady since the year 1998. And that then was the start of the need for accounting manipulations. Just enough to improve the ol’ margins on paper, which would impress the markets, showcasing their stable, appealing company that only goes up. But folks, fraud is a slippery slope.
Well, WorldCom kept slipping. And eventually, they needed more than subtle changes, which of course, is what set forth Scott’s underreported expenses. He figured in 2002, underreporting those pesky line costs would show fat profits and pump up that stock price, which would give them the capital to get back on track, take some restructuring expense hits and win in the long run.
Well, WorldCom did not win in the long run.
The WorldCom Aftermath
WorldCom declared insolvency under chapter 11 of bankruptcy protection on July 21, 2002. Almost immediately, they had to fire over 17,000 employees to sustain the industry.
WorldCom’s stock price rocketed up to $64 dollars a share before the truth crashed upon the market. Which of course, when it did, plummeted that share price down to a close of $0.10 cents a share on July 2nd, 2002.
The great corporate whistleblower, our hero this week; Cynthia Cooper went off to gain some love in publications after the waves crashed down on WorldCom.
But, the world ain’t so black and white, ya know? Even after Time Magazine covered Cooper’s tale fondly, she said she never felt like a hero. The opposite in fact.
After the disclosure of everything, with the investigators, press and lawyers following her every move, Cooper became, and remained, seized with depression and anxiety. She came to understand that her life would never be the same after all this.
The accounting wonder boy, former CFO, the infamous Scott Sullivan was arrested and sentenced to five years in prison, after pleading guilty to securities fraud. BUT, 5 years you say? Not to minimize it, but ain’t it usually a bit more? Well, Mr. Scott Sullivan teamed up with the government and testified against former WorldCom CEO, Bernard Ebbers.
Mr. Bernie Ebbers. The former, larger-than-life, cowboy-boot-wearing CEO was found guilty of nine counts of securities fraud and sentenced to 25 years in prison, in 2005.
In December of 2019, he was granted early release for health reasons, then in February of 2020, Ebbers died at his home in Mississippi.
The Sarbanes-Oxley Act
This scandal eventually led to big-time legislation. This was one of the biggest American business scandals of all time at this point: Up there with family favorite: Enron. As a response, the government enacted the Sarbanes-Oxley Act (SOX) – to increase investor confidence in the financial markets.
Before this, there were a whole lot of loopholes public companies could take to mislead and defraud investors. But NO MORE… in theory…
Here are some of the broad changes that came with the SOX, if you’re interested:
Verizon’s Purchase of MCI WorldCom
WorldCom, in 2006, was officially purchased and acquired by Verizon Communications. That’s where the assets of the former telecommunications giant sit to this day.
TLDR: The WorldCom Fraud Story
When intense company growth turns towards the down, fudgin’ numbers to please investors will end in heartbreak.
And that right there, is my take on the WorldCom Story.
A story of lies, money, fraud, and downfall.. WorldCom was, at this point in time, the biggest accounting scandal in American history.
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