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360networks Subpoenaed

Light Reading
News Analysis
Light Reading
2/21/2002
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The federal investigation into alleged accounting irregularities at Global Crossing Ltd. (NYSE: GX) widened yesterday when the Securities and Exchange Commission (SEC) subpoenaed the second telecommunications company in as many weeks.

360networks Inc. (Toronto: TSX) announced yesterday that it had received a third-party subpoena from the SEC seeking documents connected to its dealings with Global Crossing (see 360networks Set to Squeal).

Last week, Telecom provider Qwest Communications International Inc. (NYSE: Q) received an SEC subpoena to hand over documents relating to Global Crossing (see Qwest Called on Global Crossing ). In a statement, Qwest asserted that it is not the subject of the inquiry and is only providing documents to aid the SEC’s inquiry into Global Crossing. It has, however, been revealed that Qwest and Global Crossing exchanged leases on each other’s networks, recording the transactions as incoming cash revenue and outgoing capex, thereby optimizing the positive impact on their balance sheets.

U.S. accounting rules do not allow companies to book capacity sales as revenue if they involve straight swaps with no clear business purpose. But such swaps may have helped Global Crossing, and perhaps others, to boost reported revenues (see Global Crossing: More Questions, Global Crossing Under Fire, and Global Crossing: Telecom's Enron?).



Indeed, the two subpoenas issued to 360networks and Qwest may be an indication of what is to come. Observers say Williams Communications Group (NYSE: WCG), FLAG Telecom (Nasdaq: FTHL; LSE: FTL), Broadwing Inc. (NYSE: BRW), and Level 3 Communications Inc. (Nasdaq: LVLT) may also get summoned.

360networks, which filed for bankruptcy protection last June, says it intends to cooperate fully with the SEC’s request for the documents.

“We have accounted for transactions with 360networks and others in accordance with GAAP [generally accepted accounting practices],” says Tisha Kresler, a spokesperson for Global Crossing, “and we've made all of the required disclosures in our press releases and with the SEC.”

Guzman & Company analyst Patrick Comack sees nothing amiss: “I don’t think there’s anything criminal here. This is not an Enron. This was very risky business from the beginning, and very transparent. Global Crossing offered GAAP income statements for the last two years.”

Companies that receive subpoenas are not being accused of participating in shady deals, says Comack. He points out that lots of SEC investigations, like the one into Tyco International Ltd. (NYSE: TYC; London: TYI) last year, end up going nowhere. “This is not an implication of guilt by any means,” he says.

A spokesperson for the SEC would not comment on the subpoenas or the investigation.

The SEC’s probe into Global Crossing started after the telecommunications company filed for Chapter 11 bankruptcy protection last month (see Global Crossing Falls Overboard), followed by claims from a former VP of finance at the company, Roy Olofson, that the company and its auditor, Arthur Andersen LLP, engaged in improper accounting.

The FBI is also investigating Global Crossing but will not comment on what the investigation entails.

“The fact is that all we can do at this point is to acknowledge that there is an investigation going on,” says Matthew McLaughlin, a spokesperson for the Los Angeles FBI office. “We can’t lead people through an investigation day by day. It’s best for all parties not to reveal anything until we know more.”

Comack doesn’t think Global Crossing should be worried about either investigation. “I think [Global Crossing] will probably get off the hook,” he says. “They might have been trying to inflate revenue, but it’s kind of ridiculous to think that you can prove that. They might have been planning to use the capacity later.”

— Eugénie Larson, Reporter, Light Reading
http://www.lightreading.com

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Milano
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Milano,
User Rank: Light Beer
12/4/2012 | 10:54:31 PM
re: 360networks Subpoenaed
If the SEC issues subpoenas for every time a telecom company has been involved in bandwidth swap, let's get our umbrellas out!

It is a debatable practice that contributed to boost short term profits at the expense of the long term, as exemplified by GC's demise. At least Morgan Stanley should be recognized for denouncing the practice in a September 2001 report on Tycom.

M.
PantomineHorse
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PantomineHorse,
User Rank: Light Beer
12/4/2012 | 10:54:14 PM
re: 360networks Subpoenaed
"...If the SEC issues subpoenas for every time a telecom company has been involved in bandwidth swap, let's get our umbrellas out!..."

These may not have been your conventional telecomm swaps and given the players & information out, I have my doubts.

If I were on the investigating team, I'd be concentrating on:

(1) Whether GX was in fact a hedge fund, disguised as a telecomm much the same way as Enron was a hedge fund, disguised as an "energy trader". It may be yet unclear whether the GX swaps fall into the broader category of [financial derivative] swaps (ie. not limited to bandwidth swap).

Let's say they were b/w swaps, next to be looked at...

(2) To degree to which "advanced" network design concepts were utilized to engage in revenue inflation. To all you network designers out there, step back for a few moments and think of all the marvelous games you could play, trading topologies amongst a slew of other carriers who (in some cases) have the same need to bolster revenue.

(3) Finally, were these swaps "virtual" (ie. paper only, non-executable or deliverable transactions) or did they involve (commitments to) real physical facilities? Curiousity question: All the counter-parties involved, did they in fact share common meet-me points?

Schemes concocted could be quite elaborate and if I can think of the perfect scam, what prevents experienced pros & big money players (accountants, bankers) from doing the same?
Milano
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Milano,
User Rank: Light Beer
12/4/2012 | 10:54:08 PM
re: 360networks Subpoenaed
While you raise some pretty interesting points, mine was more basic: the widespread practice of inflating the value of the swap transaction, which is recorded as revenue and outgoing capex, therefore boosting profit margins.

It was indeed public enough for good research firms to pin down the exact issue, but it was certainly misleading for the average investor. Furthermore, it created an opportunity for big profits for the insiders than understood what was going on.

We moved to an era of people buying their shares on internet. The reporting standards need to go up. When companies post synthetic profits, it's the SEC's job to intervene.

M.
PantomineHorse
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PantomineHorse,
User Rank: Light Beer
12/4/2012 | 10:53:34 PM
re: 360networks Subpoenaed
"Insurers Fault Enron Deals at Morgan"

http://www.nytimes.com/2002/02...

<(1) Whether GX was in fact a hedge fund, disguised as a telecomm much the same way as Enron was a hedge fund, disguised as an "energy trader". It may be yet unclear whether the GX swaps fall into the broader category of [financial derivative] swaps (ie. not limited to bandwidth swap).>

(3) Finally, were these swaps "virtual" (ie. paper only, non-executable or deliverable transactions) or did they involve (commitments to) real physical facilities?>

From NY Times article...

"...In the Sumitomo case, Mr. Levine wrote that Chase disguised its loans as "copper swaps," or agreements involving the actual purchase of the commodity and exposure to its fluctuating price. "In reality, these `copper swaps' were completely unrelated to copper," Mr. Levine argued. "They were neither physical copper transactions, nor financial transactions whose value was dependent on copper prices. They were loans, pure and simple."

In the Enron case, Mr. Levine again argues that the transactions were unrelated to the transfer of commodities G in this case, oil and gas.

"The parties appear to have arranged a series of paper transfers of gas and oil from Enron to Mahonia, from Mahonia to Chase, and from Chase or a Chase affiliate back to Enron," he said..."

< Schemes concocted could be quite elaborate and if I can think of the perfect scam, what prevents experienced pros & big money players (accountants, bankers) from doing the same?>
PantomineHorse
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PantomineHorse,
User Rank: Light Beer
12/4/2012 | 10:52:58 PM
re: 360networks Subpoenaed
http://www.nypost.com/business...

"February 26, 2002 -- Another bankruptcy, another hit to J.P. Morgan Chase & Co.'s balance sheet. The bank, which has already taken huge write-offs because of its exposure to bankrupt companies like Enron and Global Crossing, is one of the three biggest lenders to Williams Communications Group Inc., which said yesterday it may seek bankruptcy protection.

Wall Street analysts said Lehman, J.P. Morgan Chase & Co., Merrill Lynch, Bank of America and Citigroup are among the biggest lenders to Williams, which faces an estimated $500 million in interest payments this year. Under bankruptcy, banks would not likely get loans paid back in full, not to mention loss of interest payments.

The news is particularly bad for J.P. Morgan, since it has already been forced to write off $2.6 billion from the collapse of Enron and $400 million for exposure to Argentina. The bank is also said to have $94 million in exposure to now-bankrupt Global Crossing and $1 billion in exposure to Tyco, which has not filed for bankruptcy but is facing financial difficulties..."
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