After Enron it’s now the tech sector under check

CIOL Bureau
New Update

Daniel Sorid


NEW YORK: While the Enron debacle puts the spotlight on accounting practices

at other companies, a technology industry notorious for tweaked profit reports

still has a few tricks up its sleeve.

Pricey payments for stock options that show up nowhere on income statements.

Massive asset write-downs that help inflate future earnings. Specially designed

profit reports that mask the ugly details.

These methods and more are hallmarks of a sector facing new demands for a

return to the hefty revenue and profit gains that tech companies bragged about

before the bust.


"I don't think there is an Enron type of story, but there are certainly

a variety of very commonly used techniques in technology companies that

exaggerate a company's profits," said Howard Schilit, director of a

Maryland-based accounting watchdog, the Center for Financial Research &


In some cases, investigations have already begun.

On Friday, telecommunications company Global Crossing Ltd. found itself the

focus of two separate federal investigations after allegations of improper

accounting. The company has denied improper accounting.


Many ways to bend the numbers

Among the chief complaints are rules that allow companies to keep the cost
of stock options -- a popular compensation tool in the technology world -- off

income statements.

A study by Bear Stearns estimated that earnings per share reported by the

companies listed in the Standard & Poors 500 index would have been 6 per

cent lower in 1999 if the fair value of options were included.


When managers and executives are given loads of options, they have an

interest in maintaining stock valuation growth even at the expense of the

long-term health of the company, said David Rocker, who runs New York-based

hedge fund Rocker Partners.

"The incentives of the managers are a function of the enormous options

positions they have," Rocker said.


Legal moves, but investors jittery

Even perfectly legal accounting maneuvers by technology companies have
spooked investors, who hope to steer clear of future disasters.

Ariane Mahler, an analyst with Dresdner Kleinwort Wasserstein, said the most

recent revenue report by Cisco Systems Inc. was inflated by deferred revenue --

orders that were booked in prior quarters but not shipped.

She also said Cisco's gross profit margins were inflated because the company

had sold some of the $2.25 billion worth of inventory that it wrote off last

spring. An $858 million investment write-down the company took could boost

future results, Mahler said.


Cisco and several Wall Street analysts have dismissed the allegations, saying

the company's accounting complies with generally accepted principles. Cisco

shares have fallen sharply over two days.

Schilit, director of the accounting research group, said the use of deferred

revenue has tainted the income statements of some software companies. Sometimes

a portion of software sales, such as maintenance or upgrades, can be stored as

deferred revenue, and pulled from that pool of money to boost quarterly revenue

statements in bust times, Schilit said.

By looking out for details about deferred revenue, investors can judge the

quality of reported revenue for themselves. "People begin to understand

that the company's sales are really starting to struggle, so people will begin

to catch on that quality of earnings and the quality of revenue is

suspect," Schilit said.


Enron makes tech investors nervous

Computer security and Web address provider VeriSign Inc. has been criticized
for its affiliate relationships, which critics say amount to financing its own

customers. Shares of Verisign recovered strongly on Friday, after Bear Stearns

analyst Chris Kwak wrote in a research note that the affiliate relationships

were not a cause of concern.

A Verisign spokesman said the company has regularly discussed details of its

affiliate programs. Motorola Inc., Nokia, and other telecommunications companies

have also boosted sales by loaning money to customers in an approach called

vendor financing.

The process has not always worked out for the best. Motorola and Nokia, the

world's two largest mobile telephone makers, have filed a $3 billion lawsuit

against one such recipient, a Turkish wireless carrier, alleging fraud. The

company, Telsim, has denied the charges.

Software company Computer Associates faced strong skepticism last year for

its accounting. The company, as well as some Wall Street analysts, have stood by

the methods.

Many of the major technology companies are believed to have tweaked their

numbers in order to meet Wall Street expectations, or at least look better,

industry experts said. International Business Machines includes income from its

pension fund in its earnings reports, for instance.

And Cisco, which maintains it is conservative in its accounting, had earned a

reputation by beating Wall Street estimates by a penny per share consistently,

quarter after quarter, until last year.

But with the Enron Corp. collapse putting accounting in all sectors under the

microscope, technology companies can be sure investors will be watching them


(additional reporting by Ben Klayman in Chicago and Deepa Babington in New


(C) Reuters Limited.