The Hindu Business Line : We have too many people watching the pot!

TO WAKE a wolf is as bad as to smell a fox, says Falstaff to Lord Chief-Justice, in King Henry IV, part II. And Hamlet may philosophise, "There is nothing either good or bad, but thinking makes it so." But what happened in Refco's case is as bad as bad can be, like having wolf, fox and almost every other wild animal inside, all because of bad debts.

Naturally, therefore, you have headlines screaming: `Refco's filing is fourth-largest US bankruptcy': Boston Globe; `Wall Street braces for Refco fallout': Globe and Mail, Canada; `Refco buyers hope to save it': DetNews.com; `Refco's Demise Stirs Memories of Previous Wall Street Meltdowns': Bloomberg; `Refco prompts review of rules', `Austrian bank left exposed by fallout from Refco collapse': Guardian Unlimited; `Refco sins jump to front page': Northwest Herald; `More scrutiny likely for finance firms after Refco': Reuters; `The Refco - 9/11 Connection': Conspiracy Planet; `If Refco Isn't Scary, What Is?': The New York Times; `Refco was a train wreck just waiting to happen': Times Online, UK; `A Fast Fall: Refco was flying high; now investors have flown': Winston-Salem Journal; `Refco scandal exposes fragility of stock markets': Sunday Herald; and hundreds of related ones.

But what is Refco? It is "a diversified financial services organisation with operations in 14 countries, 2,400 employees, and more than 200,000 customer accounts in an extensive global client base," informs www.refco.com. "Our mission is to empower investors with integrated global trading solutions and cutting-edge analysis that facilitates informed decision-making," it adds. "One of the largest clearing firms for derivatives," W.D. Crotty says on www.fool.com, and adds that it has turned into "a falling house of cards".

How, why? There is answer in a `Refco News' story dated October 10, on the company's site. It informs that the company discovered "through an internal review a receivable owed to the company by an entity controlled by Phillip R. Bennett, Chief Executive Officer and Chairman of the Board of Directors, in the amount of approximately $430 million". Bennett repaid the receivable in cash, including all accrued interest, that day.

"Based on the results of the review to date, the company believes that the receivable was the result of the assumption by an entity controlled by Mr Bennett of certain historical obligations owed by unrelated third parties to the company, which may have been uncollectible," says the site, about the suppressed bad debts that suddenly surfaced.

"The company believes that all customer funds on deposit are unaffected by these activities. Independent counsel and forensic auditors have been retained to assist the Audit Committee in an investigation of these matters," added that communiqué, only 10 days ago.

But things happened too fast in the days that followed: Bennett was arrested on charges of securities fraud; Refco cautioned against relying on its financial statements from 2002 onwards; the company conceded that liquidity in its Capital Markets unit wasn't enough to run the operations; and Refco filed for bankruptcy, all in about a week.

Just the thing we read as children, in the Solomon Grundy rhyme: "Born on a Monday, Christened on Tuesday, Married on Wednesday, Took ill on Thursday, Worse on Friday, Died on Saturday, Buried on Sunday. That was the end of Solomon Grundy."

It wasn't a rogue trader or a misplaced market bet that did in the company but rather allegedly criminal behaviour by the company's CEO, observes http://quote.bloomberg.com. "Refco's disclosure of his debt set off a confidence crisis among clients and investors that couldn't be stemmed." To Oscar Wilde, though, this may seem to be an over-reaction; for, he believes, "It is absurd to divide people into good and bad. People are either charming or tedious."

In its bankruptcy filing, Refco listed assets of $48.8 billion and liabilities of $48.6 billion, informs Michael J. Martinez's Associated Press report on http://timesunion.com. "Just two months ago, Refco had listed assets of $74.4 billion, according to the prospectus filed with the Securities and Exchange Commission for the company's initial stock offering," adds Martinez.

Catch up with Kevin Drawbaugh's insightful piece `Refco catches regulators off guard' on www.theroyalgazette.com. It cites regulation experts and market academics to reason how the debacle was `simultaneously one of too much oversight and not enough'.

For instance, a quote cited in the article rues, "While we might have a lot of regulation, we don't have necessarily appropriate regulation that has real power to change."

Refco was subject to regulation from a dozen separate US exchanges, the NASD and the NYSE's regulatory unit, as well as the Commodity Futures Trading Commission and the SEC, writes Drawbaugh.

"Yet, none of these regulators detected or was in a position to prevent the sudden downfall of New York-based Refco, a company whose business interests sprawl across so many markets that no single overseer had a good handle on them."

Another interesting quote is of an academic — that we have too many people watching the pot! "The Securities Industry Association, which represents brokerages, is expected within weeks to release a major survey critical of overlapping market oversight," alerts the write-up.

What can be disturbing for the profession are reports about `Lawsuit threat for Grant Thornton as Refco is sold off', as Accountancy Age notes. "Refco is the latest corporate scandal to engulf Grant Thornton. The Chicago-based firm was also the auditor of Parmalat, which collapsed after an accounting fraud," one learns from http://news.independent.co.uk. Grant Thornton had taken over as Refco's auditor from the defunct accounting giant Arthur Andersen.

To be fair, however, one has to remember that the audit firm had mentioned two `significant deficiencies' in internal controls, many months ago, in Refco's prospectus filed with the SEC for the IPO.

A `significant deficiency' is defined as one `that results in more than a remote likelihood that a mis-statement of the financial statements that is more than inconsequential will not be prevented or detected' according to the prospectus, one learns from Nicholas Neveling's report on www.accountancyage.com.

Grant Thornton had warned that Refco's finance function was not large enough to meet the demands of reporting to the SEC and that formal procedures for closing the books were lacking, Neveling writes.

On the firm's site www.grantthornton.com, don't expect to read its CEO Ed Nusbaum's defence. The latest posting is dated October 13; and it reads, `CEO confidence drops to lowest level in three years'. It seems the Grant Thornton Business Optimism Index, "a semi-annual confidence measure among US business leaders", is down to "its lowest level since November 2002". Hope, you'd agree with that.

To wrap, here's an apt quote of Henry David Thoreau: "There is no odour so bad as that which arises from goodness tainted."

AccountSpeak@TheHindu.co.in

D. Murali

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