WorldCom was ordered to pay $750 million by a federal judge to settle a lawsuit by the Securities and Exchange Commission (SEC). This was just a drop in the bucket which held the giant WorldCom scandal.

CEO Bernard Ebbers and CFO Scott Sullivan, among others, decided to record regular operating expenses as investments between 1999-2002. The difference between the two accounting categories is the year in which they are registered as an expense. (Where there is money, there are swindlers. Protect yourself by learning how investors have been betrayed in the past in The Biggest Stock Scams Of All Time.)

Investment: Recorded as expense (capitalized) over a number of years.
Operating Expense: Recorded as an expense in the year they were incurred.

So WorldCom decided to take $3.8 billion expense and spread it over several years by calling it a capital expense. At the time it reported profits of $1.3 billion, so if the expenses were not spread out, the company would actually be reporting a loss. Not very favorable to shareholders or management. It was later found that the company actually had additional improperly stated funds, bringing the total accounting fraud to $11 billion (2003 SEC News Release).

Spiraling out of Control
So lets say, as a manager, you find out that your company has lost $1 billion this year but you need to show profit to get your bonus, or not lose your job. You decide to cook the books a little, to eek out a profit of $100 million. You get your bonus and think you will never do it again. Now the company will need to have a legitimate profit of $1.1 billion just to break even. (To spot the signs of earnings manipulation, you need to know the different ways companies can inflate their figures, see Cooking The Books 101.)

On July 21, 2002 WorldCom filed for Chapter 11 bankruptcy, and re-emerged in 2004 as the MCI company. In 2005, Ebbers was sentenced to 25 years in prison and Sullivan was sentenced to five years for his role.

Related Articles
  1. Investing News

    Today's Sell-off: Are We in a Margin Liquidation?

    If we're in market liquidation, is it good news or bad news? That party depends on your timeframe.
  2. Economics

    The History of Stock Exchanges

    Stock exchanges began with countries who sailed east in the 1600s, braving pirates and bad weather to find goods they could trade back home.
  3. Economics

    How Warren Buffett Made Berkshire A Winner

    Berkshire Fine Spinning Associated and Hathaway Manufacturing Company merged in 1955 to form Berkshire Hathaway.
  4. Mutual Funds & ETFs

    The 3 Best Downside Protection Equity Mutual Funds

    Learn how it is possible to profit in a bear market by owning the correct selection of mutual funds that provide downside protection and opportunity.
  5. Economics

    The 2007-08 Financial Crisis In Review

    Subprime lenders began filing for bankruptcy in 2007 -- more than 25 during February and March, alone.
  6. Economics

    Understanding Cost-Volume Profit Analysis

    Business managers use cost-volume profit analysis to gauge the profitability of their company’s products or services.
  7. Fundamental Analysis

    5 Must-Have Metrics For Value Investors

    Focusing on certain fundamental metrics is the best way for value investors to cash in gains. Here are the most important metrics to know.
  8. Investing Basics

    How to Analyze a Company's Inventory

    Discover how to analyze a company's inventory by understanding different types of inventory and doing a quantitative and qualitative assessment of inventory.
  9. Investing News

    With Short Interest Surging, Is it Time to Buy?

    What do you think the smart money is doing when the market moves higher? Apparently, they're building short positions.
  10. Professionals

    A Day In The Life Of A Public Accountant

    Here's an inside look at the workdays of two experienced CPAs, to give you an idea of what it might be like to pursue a career as a public accountant.
RELATED FAQS
  1. What is a derivative?

    A derivative is a contract between two or more parties whose value is based on an agreed-upon underlying financial asset, ... Read Full Answer >>
  2. Can working capital be depreciated?

    Working capital as current assets cannot be depreciated the way long-term, fixed assets are. In accounting, depreciation ... Read Full Answer >>
  3. Do working capital funds expire?

    While working capital funds do not expire, the working capital figure does change over time. This is because it is calculated ... Read Full Answer >>
  4. How much working capital does a small business need?

    The amount of working capital a small business needs to run smoothly depends largely on the type of business, its operating ... Read Full Answer >>
  5. What does high working capital say about a company's financial prospects?

    If a company has high working capital, it has more than enough liquid funds to meet its short-term obligations. Working capital, ... Read Full Answer >>
  6. How can working capital affect a company's finances?

    Working capital, or total current assets minus total current liabilities, can affect a company's longer-term investment effectiveness ... Read Full Answer >>
Hot Definitions
  1. Liquidation Margin

    Liquidation margin refers to the value of all of the equity positions in a margin account. If an investor or trader holds ...
  2. Black Swan

    An event or occurrence that deviates beyond what is normally expected of a situation and that would be extremely difficult ...
  3. Inverted Yield Curve

    An interest rate environment in which long-term debt instruments have a lower yield than short-term debt instruments of the ...
  4. Socially Responsible Investment - SRI

    An investment that is considered socially responsible because of the nature of the business the company conducts. Common ...
  5. Presidential Election Cycle (Theory)

    A theory developed by Yale Hirsch that states that U.S. stock markets are weakest in the year following the election of a ...
Trading Center