Please answer only questions below on here after reading The CASE
Read Case - Quest Communications International: Accounting Fraud and overstated revenues.
Explain why the analyst earlier report was not followed by an SEC investigation. Do you think that Nacchio's compensation scheme played any role in the fraud?
Explain how compensation could inspire individuals to distort a companies revenues.
CASE - WEST COMMUNICATIONS INTERNATIONAL: ACCOUNTING FRAUD AND OVERSTATED REVENUES
Qwest was one of many telecommunications companies in the late 1990s that appeared to experienced phenomenal growth in revenues and profits. From 1999 to 2001, the company overstated revenues and profits. Qwest posted revenue from the one-time sale of capacity of its fiber-optic network as recurring revenue.
Qwest changed auditors from Arthur Andersen to KPMG in the wake of the Enron scandal. KPMG completed an audit that Arthur Andersen was unable to finish because Andersen was caught up in the Enron scandal. The audit revealed accounting irregularities.
In the summer of 2001, a Morgan Stanley telecom analyst, Simon Flannery, pointed out that certain swap transactions among fiber-optic network operators or "rights of use" distorted revenues. He estimated that Qwest's revenues would have grown by only 7.5 percent instead of the 12.2 percent rate if these one-time revenues were excluded. Further, Flannery pointed out that there was a physical limit to capacity that could be sold. Thus revenue growth from these swap agreements was not likely to be sustainable.
Joseph P. Nacchio, Qwest's CEO, earned $101.9 million in pay in 2001, which included a long-term incentive plan payment of $24.4 million based on an increase in the value of Qwest.
In June 2002, Nacchio was forced to resign as the SEC investigated the firm for accounting irregularities that would soon lead to a charge of financial fraud. The company later restated revenue $2.49 billion lower for 2000 and 2001, resulting in losses for those years. Nacchio was also charged with insider trading on his sales of Qwest stock.
DISCUSSION QUESTIONS
1. What role do you think Qwest's type of business played in its managers' ability to perpetuate the accounting fraud?
2. Why do you think the earlier report from the Morgan Stanley analyst did not immediately trigger an investigation from the SEC?
3. What role do you think the auditors played in perpetuating the fraud?
4. What role do you think Nacchio's compensation played in the fraud? Did the board have any culpability?