Sam Wyly v. Ernst & Young

Colorful Dallas-based software entrepreneur Sam Wyly, who headed Sterling Software Inc. when it was sold to Computer Associates International Inc. in March 2000 in a $4 billion transaction, has filed an $80 million lawsuit in state district court in Dallas against Ernst & Young LLP, which had audit relationships with both companies. The lawsuit is the latest in a deluge of lawsuits that have been filed over the past year against the Big Four auditing firms, and is only the latest in a string of lawsuits that Mr. Wyly has filed over his disatisfaction with the Computer Associates management and board.
In his latest lawsuit, Mr. Wyly contends that he relied on Ernst & Young’s audit of Computer Associates’ books for fiscal 1999 in making his decision to sell his company in return for Computer Associates stock. Unfortunately, CA’s shares fell 12% in one day about a month later when the company announced that it was delaying its reporting of year-end earnings. Subsequently, the CA stock declined even further when CA failed to fulfill its earnings forecast.
Or course, CA is no stranger to accounting scandals. A $2.2 billion accounting scandal led to criminal indictment of its former chief executive, Sanjay Kumar, late last year along with the resignations and indictments of several other top officials. Although Mr. Kumar has pleaded not guilty to the charges, CA has admitted to backdating contracts and keeping its books open days after they were supposed to be closed on the last day of several quarters in order to book extra revenue.

Spitzer takes dead aim at AIG

New York AG (meaning either “attorney general” or “aspiring governor”) Eliot Spitzer and the Securities and Exchange Commission issued subpoenas yesterday to American International Group Inc. in connection with investigations into AIG’s earnings management techniques relating to certain types of insurance arrangements.
Inamuch as many non-traditional insurance products blend insurance with financing, Mr. Spitzer and other government regulators use Enron Corp.’s use of such products to hide billions in debt in off-balance sheet partnerships as justification for these investigations. Thus, regulators rationalize that such investigations are necessary to protect investors from being misled.
More specifically, the “alternative risk” transactions that regulators such as Mr. Spitzer are typically investigating these days in the insurance industry allow insurers to improve their balance sheets in the short run by shifting claims reserves, which cannot pass muster with accounting rules unless risk is also shifted. Thus, speculation is that Mr. Spitzer is investigating whether AIG entered into transactions that essentially allowed AIG to borrow another company’s reserves in order to make its reserves look more robust to investors than they really were.
Mr. Spitzer’s new probe into nontraditional insurance comes on the heels of the announcement last month of the issuance of subpoenas to Berkshire Hathaway Inc., Warren Buffett’s holding company. Those subpoenas sought documentation and information relating to loss-mitigation insurance products from Berkshire’s General Re insurance unit. Speculation is that Mr. Spitzer’s investigation into AIG may be connected to transactions it had with General Re.

Wiess Law gift to the Houston MFA grows

This earlier post noted the late Caroline Wiess Law’s bequest last year of almost 60 artworks valued at between $60-85 million to the Houston Museum of Fine Arts.
In a remarkable development, this Chronicle article reports that the value of Ms. Wiess Law’s overall bequest to the MFA may end up generating more than $450 million, which would make the bequest one of the largest in the history of American philanthropy.
Mrs. Wiess Law, who died in 2003 at the age of 85, was one of Houston’s most generous donors to the arts and sciences. She was a longtime supporter of the MFA, the Houston Ballet, Houston Grand Opera, and the Houston Symphony, and also bequeathed $25 million to Baylor College of Medicine and the University of Texas M.D. Anderson Cancer Center.
Mrs. Wiess Law was one of the three daughters of the marriage of Olga Keith and Harry C. Wiess, who was one of the founders of Humble Oil Co., the predecessor to Exxon Mobil. Mr. and Mrs. Wiess were founding members of the MFA, which has grown into the centerpiece of Houston’s Museum District just north of the Texas Medical Center.

Is Randall Onstead ready to resurrect Randall’s?

This Chronicle article reports that former Randall’s owner Randall Onstead is preparing an offer to purchase the Randall’s supermarket chain from Safeway.
Mr. Onstead and his late father sold 117 Randall’s supermarkets to Safeway in 1999 for $1.5 billion. Since that time, Safeway has mismanaged the Randall’s stores to the point where the chain — which was once the cream of the crop of Houston supermarkets — is now an afterthought to Kroger, H.E.B. and even WalMart in the Houston market for supermarkets. Having the Onstead Family reacquire the Randall’s chain would be a welcome relief to Safeway’s mismanagement of the stores.

McCombs prepared to sell the Vikings

San Antonio businessman Red McCombs is reportedly ready to consummate a deal to sell the Minnesota Vikings Football Club of the National Football League.
McCombs is selling the Vikes for $625 million. He bought the club for about $245 million in 1998.
Phil Miller over at the Sports Economist has been following the negotiations over the sale of the Vikings and has some interesting observations.

Updating the Yukos case — Yukos files $20 billion lawsuit

Russian oil company and American debtor-in-possession OAO Yukos filed a lawsuit seeking damages of $20 billion late Friday in Houston against Russian natural gas giant OAO Gazprom, its unit Gazpromneft, Baikal Finance and OAO Rosneft for playing a role in the Russian government’s auction of Yukos’ valuable Yugansk unit. Here are the prior posts on the Yukos saga.
In addition to the lawsuit, Yukos filed an outline of its chapter 11 plan of reorganization just days before U.S. Bankruptcy Judge Letitia Clark will conduct a hearing on Gazprom’s motion to dismiss Yukos’ chapter 11 case for lack of jurisdiction.
Yukos filed its chapter 11 case in Houston in an effort to block the Russian government from auctioning off its main asset — the valuable Siberian oil production unit Yugansk — to collect on $28 billion in alleged unpaid taxes. Despite the automatic stay under the Bankruptcy Code and a temporary restraining order that Judge Clark issued before the auction, the Russian government proceeded to auction the Yugansk unit, with an unknown Russian company, Baikal Finance Group, being the winning bidder. Baikal was subsquently acquired by Russian state oil company OAO Rosneft, which effectively effectively nationalized the valuable Yugansk unit.
In the meantime, Yukos’s main shareholder, Group Menatep Ltd., has commenced similar litigation last week seeking $28.3 billion against the Russian government under the international arbitration provisions of the the European Energy Charter Treaty, which protects investors from unfair treatment.

Thoughts on the regulation of minor league football and basketball

Several developments over the past month or so have prompted me to think about the National Collegiate Athletic Association‘s regulation of minor league football and basketball. Although it is an unincorporated association that includes many of the best universities in America, the NCAA has developed into a hulking and bloated bureaucracy that is the poster child for ineffective and misguided regulation.
One of the developments that triggered my thinking was the disclosure this past week that one of the best players on each of the University of Texas’ basketball, football and baseball teams had been declared academically ineligible for the spring semester. That’s not much of a return on the astounding $1.6 million a year that UT is currently spending on academic assistance for its athletes.
This UT academic problems come on the heels of the announcement last month that the NCAA — whose rules and regulations manual already resembles the Internal Revenue Code in terms of size and complexity — approved the first phase of a “landmark” academic reform package under which about 30 percent of Division I football teams (including UT’s) would lose scholarships if the reforms were to be implemented immediately. The demand for professors with expertise in developing basket-weaving curricula is going to increase at more than a few NCAA member institutions in response to this latest NCAA initiative.
Meanwhile, partly as a result of the NCAA’s strict regulation of compensation that can be paid to athletes in intercollegiate football and basketball (i.e., essentially scholarships), salaries for college coaches skyrocket at the same time as a black market for compensating college football and basketball players continues to run rampant, despite the NCAA and now the government‘s efforts to curtail it.
Finally, a college baseball game in Houston over the weekend between Rice and Texas A&M during the Minute Maid Classic Baseball Classic drew almost 20,000 fans. That’s right — a college baseball game, in February, drew almost 20,000 fans.
What are we to make of all of this?
Well, a bit of historical perspective helps. For all of its faults, Major League Baseball is the only one of the three major professional sports (football, basketball and baseball) that has capitalized and subsidized a thorough minor league development system. Oh, the NBA has its development league and the NFL has NFL Europe, but both of these ventures pale in comparison to the depth and success of baseball’s minor league system. As a result, it’s relatively rare for a baseball player to play in the Major Leagues without spending at least some time playing minor league baseball. In comparison, relatively few of the players in the NFL or the NBA ever play in NFL-Europe or the NBADL.
The reason for this is not that professional football and basketball players do not need to develop their skills in a minor league. Rather, the reason is that professional football and basketball simply rely on a ready-made minor league systems to develop most of their players — that is, intercollegiate football and basketball.
This odd arrangement arose partly as a result of how professional sports developed in America over the past century. On one hand, professional baseball was already well-established in the late 19th century when intercollegiate football and basketball started taking root. Thus, MLB developed its minor league system as a necessary means to develop its players decades before intercollegiate baseball became popular on college campuses. Intercollegiate baseball has only become a source of player development for professional baseball over the past couple of decades or so, and it is still rare for a college baseball player to go straight from playing college baseball to playing in the Major Leagues.
On the other hand, despite the popularity of the NFL and the NBA today, the success of of those professional sports is still relatively recent in comparison with MLB’s business success over the past century. Until the 1960’s in regard to football, and the 1980’s in regard to basketball, neither professional sport was particularly vibrant financially or as popular with the public as their intercollegiate counterparts. Thus, until relatively recently, neither the NFL nor the NBA has been in a financial position to capitalize a minor league system of player development similar to MLB’s minor league system.
However, now that the NFL and the NBA owners have the financial wherewithal to subsidize viable minor league systems, they have little economic incentive to do so. Inasmuch as the NCAA and its member institutions have transformed intercollegiate football and basketball into a free minor league system for the NFL and the NBA, the owners of professional football and basketball teams have gladly accepted the NCAA member institutions’ generosity.
The arrangement has been extraordinary successful for professional football and basketball owners, who have seen the value of their clubs skyrocket over the past two decades. A substantial part of that increase in value is attributable to avoiding the cost of developing a minor league system, as well as taking advantage of liberal public financing arrangements for the construction of new stadiums and areanas. That latter point is a subject for another day.
In comparison, the NCAA member institutions’ acceptance of minor league professional status has not been nearly as successful. Yes, the top tier of intercollegiate football and basketball programs have had been successful financially, but the athletic programs of most NCAA member institutions struggle financially.
Moreover, almost every NCAA member institution compromises academic integrity at least to some extent in order to attract the best players possible to play on the institution’s football and basketball teams. As a result, respected academics such as UT Chancellor Mark Yudof regularly have to endure troubling scandals (in Yudof’s case, as president of the University of Minnesota) that underscore the tension between the business of minor league professional sports and the academic integrity of NCAA member institutions. The NCAA member institutions’ reaction to these conflicts has generally been to increase regulation with usually unsatisfactory results.
So, what is the solution to this mess? Well, it’s doubtful that more regulation of college football and basketball is the answer. Rather, my sense is that the model for reform is right in the front of the noses of the NCAA member institutions — i.e., college baseball.
Due to MLB’s well-structured minor league system of player development, a baseball player emerging from high school has a choice: Do I accept a moderate compensation level to play professional ball in the minor leagues in the hope of developing to the point of being a highly-paid MLB player? Or do I hedge the risk of not developing sufficiently to play at the MLB level by accepting a subsidized college education while developing my skills playing intercollegiate baseball?
This simple choice is the key difference between intercollegiate football and basketball, on one hand, and intercollegiate baseball on the other. Except for the relatively few high school basketball players who are sufficiently developed to be able to play professional basketball in the NBA or Europe immediately after high school, high school football and basketball players’ only realistic choice for developing the skills to play at the highest professional level is college football or basketball.
Consequently, each year, the NCAA member institutions fall over themselves trying to accomodate a large pool of talented football and basketball players who have little or no interest in collegiate academics. Rather than placing the cost and risk of these players’ development on the professional football and basketball clubs, the NCAA member institutions continue to incur the huge cost of subsidizing development of these players while engaging in the charade that these professional players are really “student-athletes.”
In comparison, most top college baseball teams are generally comprised of two types of players — a few professional-caliber players combined with a greater number of well-motivated student-athletes. That is an attractive blend of players, and the tremendous increase in popularity of college baseball over the past decade reflects the entertaining competition that results from such a player mix. Heck, the college baseball system is structured so well that even a small academic institution can win the National Championship in college baseball.
Nevertheless, transforming the current minor league system in college football and basketball into the college baseball model is going to take fundamental reforms within the NCAA. Primarily, it’s going to require the courage and resilience of the presidents of the NCAA member institutions, who need to stand up and quit being played as patsies by the NFL and NBA owners who prefer to foist the risk of funding and administering minor league systems on to the NCAA member institutions.
Moreover, such a transformation of college football and basketball from entrenched minor league systems will be risky. The quality of play in college football and basketball will suffer a bit, even though the competition likely would not. In time, such a transformation would force both the NFL and the NBA to expand their minor league systems to develop the skills of the pool of physically-gifted athletes who prefer to develop their skills as minor league professionals rather than as college students. Competition from such true minor league football and basketball teams might result in a decrease in popularity of college football and basketball.
However, such a transformation would remove most of the galling incentives to compromise academic integrity and to engage in the black market for compensating players that are rife under the current system. Likewise, once viable professional minor leagues in football and basketball exist, football and basketball players will have the same choice coming out of high school that has generated the well-motivated mix of players that has made college baseball such an entertaining intercollegiate sport over the past decade.
Now that type of choice — rather than the choice of which basket-weaving course to take in order to remain eligible — is the kind of choice that NCAA member institutions should be encouraging.

KPMG’s tax shelter woes mount

A 144-page Senate Permanent Subcommittee on Investigations report issued this past Thursday provided more embarrassing public disclosures of how the Big Four accounting firm KPMG mass-marketed dubious tax shelters from the late 1990’s through late 2003. Here are previous posts over the past year on KPMG’s tax shelter problems. Here is the Senate subcommittee’s report.
The report is the second on questionable tax shelters that the Senate subcommittee has released that concludes that KPMG has been deeply involved in designing and selling abusive tax shelters since the mid-1990’s. Although the new report focuses to KPMG, it also deals with the the tax shelter activities of Ernst & Young and PricewaterhouseCoopers, several banks, including Deutsche Bank, and the law firm of Sidley Austin Brown & Wood.

A new lawyer joke

Q: What’s the only thing worse than being pursued by a greedy plaintiff’s law firm?
A: Two plaintiff’s firms pursuing each other.

What to do with Big Oil’s profits?

You’ve to to hand it to the New York Times. Not many publications have the imagination (or is it bias?) to portray Big Oil’s current passing along of profits to its investors as a problem for the industry.