Top Fannie Mae executives forced to resign

WASHINGTON -- The chief executive and top financial officer at mortgage giant Fannie Mae were forced out of the company Tuesday as the nation's second-largest financial institution struggled to deal with serious financial reporting problems.

Chief executive Franklin Raines said in a statement issued late Tuesday that he had decided to resign because of his pledge to hold himself accountable if regulators determined the existence of accounting errors.

Recent revelations from government investigators could result in Fannie Mae being forced to restate $9 billion or more in earnings over the past four years.

Industry and congressional sources said Fannie Mae's board had been pressured to ask for the resignations of both Raines and chief financial officer Timothy Howard by the company's chief regulator, the Office of Federal Housing Enterprise Oversight. These sources, who spoke on condition of anonymity, said Howard had also resigned.

The enterprise-oversight agency's director, Armando Falcon Jr., said in a statement that his agency had determined that Fannie Mae, the biggest player in the nation's $8 trillion mortgage market, was "significantly undercapitalized." He said the Fannie Mae board was to be commended for the steps it had taken to address its accounting problems.

"We are encouraged that the board's announcement signals a new culture and a new direction for Fannie Mae," Falcon said.

A review by the Securities and Exchange Commission determined last week that Fannie Mae must restate earnings back to 2001 because it violated accounting rules for derivatives -- financial instruments used to hedge against interest-rate swings -- and for some prepaid loans.

Fannie Mae had previously said a $9 billion restatement was likely if the SEC found its accounting was flawed. That would wipe out about one-third of the company's reported profits since 2001. Fannie Mae, long a Wall Street darling, is the biggest buyer and guarantor of home mortgage loans in the United States and is the country's second largest financial institution behind Citigroup Inc.

Raines, a former head of the Office of Management and Budget in the Clinton administration, earned total compensation in salary and bonuses of $20 million last year, while Howard earned $7.7 million.

The sources said Raines' job as chairman and chief executive officer would be split, with Fannie Mae director Stephen Ashley serving as acting chairman and chief operating officer Daniel Mudd serving as interim chief executive officer while the board looks for permanent replacements.

Howard will be replaced on an interim basis as chief financial officer by Fannie Mae executive vice president Robert Levin, the sources said. These sources said KPMG was also being replaced as Fannie Mae's auditor.

Raines' abrupt departure represented a sharp reversal of fortune for one of the most influential and politically savvy figures in Washington, known for adroitly applying charm, persuasion and -- occasionally -- gentle arm-twisting behind the scenes on behalf of Fannie Mae, one of the most politically connected institutions in Washington.

When he was selected to head Fannie Mae in 1999, Raines became the first African-American CEO of a major U.S. corporation. As chairman and CEO, Raines, 55, burnished Fannie Mae's reputation as a fast-growing yet prudent financial innovator.

He had been successful in fending off efforts by competitors and congressional critics to strip away some of the privileges the company enjoyed as a government-sponsored enterprise, which allowed Fannie Mae to borrow money at below-market rates because investors believed if the company ever got into financial trouble, the federal government would step in and bail it out.

However, a blistering report by OFHEO, which was made public in September, cast doubt on Fannie Mae's past earnings reports and even its financial soundness. OFHEO raised the possibility that the company had employed deliberate accounting maneuvers designed to meet earnings targets and thereby bring bigger bonuses to top executives.

Raines and Howard defended the company's accounting in sworn testimony at a congressional hearing in October. Raines said then that if the SEC also found accounting violations, he would be held accountable by the company's board and shareholders.

In a statement, Rep. Richard Baker, R-La., the chairman of a House Financial Services subcommittee that oversees Fannie Mae, said: "Given the unbelievable statements Fannie executives made at our last hearing, this action was entirely necessary. I commend OFHEO for insisting on these first steps toward rebuilding trust in the company and I thank Fannie's board for recognizing their necessity."

Rep. Barney Frank, the top Democrat on the Financial Services Committee, said the panel's job in the new Congress "will be to improve the regulatory system in a way that will further preserve safety and soundness."

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