Cleaning up Boomtown

Editorial from The Wall Street Journal

Walking through the New Orleans French Quarter the morning after Mardi Gras is never pretty: Men sleeping off the night before, lots of bottles and discarded masks, and here and there the police investigating a fresh felony. This is the equivalent of what we're watching now as the U.S. economy and culture recover from the late 1990s boom.

Everyone -- CEOs, corporate boards, investors, politicians -- celebrated the good times. But now that the party's over, we're discovering that standards slipped amid the revels. More than a few pickpockets and con artists were also at work, some of them dressed in three-piece suits. The job now is to put those folks in jail and get back to work ourselves, without shutting down our fragile economic recovery.

The latest morning-after headache is word that WorldCom improperly booked $3.8 billion in expenses. The once high-flying telecom company's audit committee says regular expenses were accounted for as capital expenditures, boosting cash flow and income in 2001 and this year's first quarter. If true, this sounds like an obvious case of accounting fraud and those responsible should be prosecuted to the hilt.

The alleged WorldCom fraud, moreover, contains several notable 1990s boomtown traits. One is the young chief financial officer closely tied to the superstar CEO. The CFO is supposed to be a corporate truth-teller, not a yes man. Yet WorldCom's CFO, 40-year-old Scott Sullivan, rose in the company as chairman Bernard Ebbers's right-hand man. One question is whether personal loyalty trumped fiduciary duty to shareholders. WorldCom fired Mr. Sullivan this week.

The WorldCom board also seemed mesmerized by Mr. Ebbers, when it should have been providing adult supervision. So much so that it acquiesced in giving him a $412 million, low-interest loan to pay for WorldCom stock. WorldCom now says the first hint of irregularity appeared this April, only after Mr. Ebbers had been ousted by the board.

Like other recent busts, WorldCom had a vast, overblown stock price created by investor expectations. Analysts like Salomon Smith Barney's Jack Grubman played a role here, but so did investors who hoped the boom would last forever. Mr. Ebbers built his empire on debt and acquisitions, a time-honored strategy, and he made many people rich along the way.

But he was under pressure to maintain this miracle even after it ran into a recession and regulatory bottlenecks. The accounting fraud seems to have begun only in the last two years, when company officers were trying to protect their stock price and reputation in a tough economy. This is no excuse, but it does show how the boom created an atmosphere where fraud became a greater-than-usual temptation.

As for the politicians, it pays to be skeptical of their recent outrage and pet solutions. The Washington Post yesterday carried the headline, "In House Bid, Democrats Target Corporate Abuse," which explains their motives. These same politicians reveled in the boom, taking credit for the policies that caused it, spending its record tax revenues and in some cases getting rich themselves. New York Attorney General Eliot Spitzer, for one, cashed in on a hedge fund before he became the scourge of Wall Street. And where were Bill Clinton's cops on the securities beat while he was trying to keep the boom going past the last Election Day?

The best way to clean up boomtown is to find those guilty of actual crimes and prosecute them. Our objection to the Arthur Andersen prosecution wasn't that it went too far but that Andersen might serve as too convenient a scapegoat. But we'll admit the Justice Department's decision to give Andersen the death penalty looks better after WorldCom's announcement. An Andersen spokesman said Tuesday that it had no knowledge of the WorldCom shenanigans, despite being its longtime auditor.

If the Enrons and WorldComs were cases of accounting or securities fraud, the Bush Administration can best restore trust in capitalism by punishing them as well. President Bush hit this note yesterday, saying that "We've had too many cases of people abusing their responsibilities, and people just need to know that the SEC is on it, our government is on it, and Arthur Andersen has been prosecuted. We will pursue, within our laws, those who are irresponsible."

This is welcome, though we wish he had said it six months ago when the boomtown hangover first became obvious. It also wouldn't hurt if he had a chief securities cop with political credibility, perhaps even a Democrat who could head off the bad ideas now emerging from Congress. Above all, Mr. Bush could help now by explaining to the public the nature of the economic boom we all lived through, the excesses it fostered and his intention to police them without sending us back into recession.