Making CEOs Responsible for Company Financials Didn’t Stop Lehman From Cooking the Books

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Friday, March 12, 2010 at 2:51 pm

One of the major components of the post-Enron accounting reforms, and laughable so, was a provision requiring that all CEOs sign off on their company’s financial statements. It was supposed to prevent CEOs from willfully looking the other way while subordinates cooked the company books (i.e., deny them plausible deniability) and inculcate in American corporate culture a sense of responsibility. It was laughable then, and, as yesterday’s report on the book-cooking that went on at Lehman Brothers proves, it’s laughable today.

The provision was based on the assumption that when CEOs admitted they didn’t know about accounting “errors” that caused collapses and massive disruptions, that they were telling the truth and that, if they had to be personally responsible, they might look into accounting irregularities and stop mischievous underlings from ruining companies. It’s surprising now to think that Congress was that gullible, or thought the American people were.

In the case of Lehman CEO Richard Fuld, he’s been found “grossly negligent” for certifying accounting statements he made no effort to look into, just as you might think. According to Michael de la Merced and Andrew Sorkin, Lehman shifted $50 billion off its books with fraudulent accounting tricks in the months before its collapse. They’d been engaging in the transaction since 2001, and there wasn’t a thing that the post-Enron regulations did to stop it.

Richard S. Fuld Jr., Lehman’s former chief executive, certified the misleading accounts, the report said.

“Unbeknownst to the investing public, rating agencies, government regulators, and Lehman’s board of directors, Lehman reverse engineered the firm’s net leverage ratio for public consumption,” Mr. Valukas wrote.

Mr. Fuld was “at least grossly negligent,” the report states, adding that Henry M. Paulson Jr., who was then the Treasury secretary, warned Mr. Fuld that Lehman might fail unless it stabilized its finances or found a buyer.

But there’s more: Mike Spector, Susanne Craig and Peter Lattman at The Wall Street Journal report that a senior executive flagged the transactions for management and the auditors as fraudulent — but was, of course, ignored.

In one instance from May 2008, a Lehman senior vice president alerted management to potential accounting irregularities, a warning the report says was ignored by Lehman auditors Ernst & Young and never raised with the firm’s board.

Of course, Fuld swore in 2009 that he knew nothing about it, but his employees say otherwise.

Lehman’s own global financial controller, Martin Kelly, told the examiner that “the only purpose or motive for the transactions was reduction in balance sheet” and “there was no substance to the transactions.” Mr. Kelly said he warned former Lehman finance chiefs Erin Callan and Ian Lowitt about the maneuver, saying the transactions posed “reputational risk” to Lehman if their use became publicly known.

In an interview with the examiner, senior Lehman Chief Operating Officer Bart McDade said he had detailed discussions with Mr. Fuld about the transactions and that Mr. Fuld knew about the accounting treatment.

Nonetheless, Fuld is hiding behind plausible deniability, like his predecessors did before and just as the new rules were supposed to stop.

In a statement, Mr. Fuld’s lawyer, Patricia Hynes, said, “Mr. Fuld did not know what those transactions were—he didn’t structure or negotiate them, nor was he aware of their accounting treatment.”

You can order a CEO to be more responsible for his company, but you’ll never get his lawyer to admit that he was when called for comment after he sends it into bankruptcy by countenancing accounting gimmicks to maintain the value of his stock options.

Follow Megan Carpentier on Twitter


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