How did corporate ownership almost lead to the ruin of Adelphia in 2002?

By Andrew Beattie AAA
A:

John Rigas incorporated the cable company he'd grown from a $300 investment into Adelphia Communications. "Adelphia" is a Greek word meaning "brotherhood", an apt name for a company where almost all top positions were held by members of John Rigas's family. In addition to a majority of board seats, John was CEO, while his sons Timothy, Michael and James served as CFO, VP of Operations and VP of Strategic Planning, respectively.

Under the family's guidance, Adelphia grew to be the nation's sixth largest cable provider through aggressive acquisitions made entirely through debt financing. The family-managed parent company then shifted the debt back onto the books of its subsidiaries, while maintaining majority control. As a result, Adelphia's books looked better than they really were, which made it easier for the company to obtain more loans for more acquisitions. Even the company's stock structure was built to keep control in the family's hands, with the family-owned Class B shares carrying ten votes to the single votes of the Class A shares traded on the Nasdaq.

As Baron Acton put it, "Power tends to corrupt and absolute power corrupts absolutely." The situation was no different for the Rigas family. An ominous footnote in Adelphia's financials revealed that the company was on the hook for various debts racked up by the Rigas family that were not listed in the financials. In the post-Enron environment, off-balance-sheet liabilities received more scrutiny from investors and analysts. Bullied into clarifying, Adelphia reported that the family had taken out $2.3 billion in off-sheet loans - a staggering figure for a company already heavily indebted.

Upon further scrutiny, the company's financials fell apart. In addition to the loans, many of the company's purchases - from office furniture to car leases - were made from businesses owned by Riga's family members. Many of these purchases struck shareholders as overpriced, meaning the Rigas family had been milking wealth out of its own company for personal gain. This self-dealing was compacted by the fact that the company inflated the number of cable subscribers, essentially making the modest operating income a lie. Earnings had to be restated three years back and the controversy forced John Rigas to step down as CEO. The Nasdaq delisted Adelphia and the firm ran out of cash trying to meet its debt obligations, while still covering operating expenses.

Adelphia was allowed to refinance under a Chapter 11 arrangement called debtor in possession (DIP), but the SEC filed formal charges against John Rigas and the other family members involved in the scandal. A high percentage of corporate ownership usually is a good thing because it means the executives also have their skins in the game. In Adelphia, however, we have an example of corporate ownership almost ruining the company. In the eyes of the shareholders, Adelphia's brotherhood turned out to be one of thieves, rather than a founding family with their business's best interests at heart.

(For more on this topic, read An Overview of Corporate Bankruptcy and Pages from the Bad CEO Playbook.)

This question was answered by Andrew Beattie.

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