Skip to comments.Is The SEC's Ponzi Crusade Enabling Companies To Cook The Books, Enron-Style?
Posted on 11/15/2012 5:52:37 PM PST by Lorianne
Enron. Qwest. Adelphia.
Sunbeam. WorldCom. HealthSouth. A decade ago investors knew what those companies had in common: top executives who cooked the books. After their phony accounting was exposed, most went to jailand hundreds of billions of dollars of shareholder wealth evaporated.
The Securities & Exchange Commission remains quite busy. In fiscal 2011 the agency brought a record 735 enforcement actions. But those looking to see the next Jeff Skilling or Richard Scrushy frog-marched in front of television cameras will be sorely disappointed. Only 89 of those actions targeted fraudulent or misleading accounting and disclosures by public companies, the fewest, by far, in a decade.
So what happened? Call it the Bernie Madoff effect. Embarrassed that it missed the Ponzi Kings $65 billion scheme, the SEC reorganized its enforcement division, eliminating an accounting-fraud task force and adding new units to pursue crooked investment advisors and asset managers, market manipulations and violations of the Foreign Corrupt Practices Act. Since then Pfizer, Oracle, Aon, Johnson & Johnson and Tyson Foods have all paid fines to settle foreign-payoff charges.
Thats all fine and good. But remember this: Foreign-payola charges (absent alleged accounting abuses) have minimal effect on a companys stock. Accounting fraud risks massive market disruption. Groupon, Zynga and Green Mountain Coffee Roasters are all down at least 75% in the past year, amid doubts about their accounting and prospects. And those examples dont even carry allegations of illegality.
(Excerpt) Read more at forbes.com ...
There is a much bigger picture if one takes a giant step back.
One of those too big, or too fundamental pictures to even be realized by most people.
The very concept of “publicly-held” companies.
If a large privately-held company, say $10 billion in annual sales, is owned by say, only 4 investors, as in a family-owned business, the entire balance sheet:
Assets - Liabilities = Equity
belongs to those owners.
Plants, property, equipment. The ongoing business belongs to just those 4 people.
The general population of America will not want to see those 4 extremely wealthy people “bailed out”. They are “on their own”.
Such firms rarely lose money. When they do, no one cares but the sour pusses who lost their own business. Both authority and accountability rest ultimately and quite clearly with the 4 owners.
Now let’s look at publicly-held companies, where their stock is traded on a stock exchange. Let’s say we have a hypothetical public company of the same size. It has millions of shares owned mostly by a) institutional investors who are typicaly well-diversified and professionally managed and b) John Q. Public rubes who each own a few hundred or a few thousand shares. The institutional investors typically are investing on behalf of some pension fund or other fund that may have a lot of investors themselves in much the same profile as the company.
Authority in the business is in a small board of directors who delegate the day-to-day operation of the business to highly paid employees of the firm. If the board messes up, there can be a class action lawsuit against the firm. If the top management employees mess up, they can be fired, but they for the most part will still be richly compensated. Only occasionly are their salaries “clawed back”. Therefore accountability in this scenario amounts to a whole lot of employees and a few board members milking a gigantic corporate teat for all it’s worth.
The rube shareholders, on the other hand, have their only earnings from owning stock in the teat corporation subject to a) the vagueries of the stock market and b) their own person buy and sell timing.
Information about what’s actually going on is strictly limited by law and regulation, so the rubes only know a miniscule fraction of what is actually happening inside the business.
Return on equity for rubes, if they are diligent and lucky, runs around 5% to 10%, but often the rubes gains on sales of stock turn to losses, since they do not have enough cash to bolster positions in market stock price downturns sufficient to weather them profitably. Of course, public companies may be in terrible business and the rubes typically find this out long after the stock price is plummeting on the bad news.
This entire world of investing in public companies is, when you think about it, very scammy for the “retail investor”, or rube. So his “friend”, the SEC (government), and all the “brains” of the investing “industry” have Mr. Rube investing in funds that are “professionally managed”, and they either invest in other funds or directly in stocks, bonds and other investments. This keeps the rube from losing money - unless the market is moving down. And, if the market is going up - it limits his upside potential, since the funds are well diversified and not all their portfolio will be going up - and also Mr. Fund collects a percentage of rube’s invested assets whether rube has a gain or loss for the year.
Back to the moral of the story, the SEC enabling companies to “cook the books”, it always has done that to various degrees.
The reason why is simple, primary motivations. The SEC’s primary motivation is to look good. But like the police, they can’t stop a crime before it happens unless they stumble upon it as it starts. The investment manager industry loves the SEC because it presents barriers to entry to the investment banking industry. The investment banker cares that they profit, not the rube. The companies being publicly traded - they only care about the rube investor inasmuch as they “get in trouble” careerwise. As long as they change jobs and go to a new company before their own SHTF, their career and earnings are fine. Often, if they do fall short in their job, it means getting a few million wacked off their compensation. But they still made millions. And SEC regulations prevent all the details behind financial statements from being reported to shareholders. So in the long run the bad news is made public, but no one is accountable in the long run. Ergo, our present public capital markets inherently promote bad business practices since only in the very worst cases are those with authority held accountable in a meaningful way, and at that the penalties are a day late and a dollar short, with the retail investor assuming most of the risk associated with inept or malfeasant management.
Being a radical free enterprise person, IMHO, while it makes great sense to trade commodities, being fungible, on exchanges, for equities, privately held business is the way to go. But if one does desire markets for equities, IMHO, completely free markets would be subject to basic traditional laws and no more. The fast and open flow of information would be far preferable to the limited flow allowed by the SEC, and the investing public would naturally become even more adept and astute, especially without the false implication of safety which accompanies the SEC. The exchanges could establish whatever policies worked for them and new exchanges with new models would pop up and provide healthy competition and new ideas.
But, instead, we’re stuck in the stock market model OF THE 1930’S DEPRESSION.
So the watchers are blowing it again. Is it just natural government incompetence or politics. Our donors can’t fundraise from prison.