Report Names Practices that Lead to Environmental Accounting Fraud

Report Names Practices that Lead to Environmental Accounting Fraud

A new report, "Fooling Investors and Fooling Themselves" identifies aggressive accounting and asset management tactics that can lead to environmental accounting fraud.

"Fooling Investors" shows how companies keep information about expensive environmental liabilities like toxic pollution, product health hazards, worker exposure, and global warming away from shareholder scrutiny. Attorney and co-author Sanford Lewis said, "Some of these tactics that keep shareholders in the dark about financially material environmental liabilities have the earmarks of securities fraud."

The new report was hailed by major institutional investors. "This report is fresh evidence that regulators and investors need to implement the kind of environmental disclosure reforms we have called for in Green Wave," said California Treasurer Phil Angelides. "Investors need accurate, detailed environmental liability information about their portfolio companies."

Lee Wasserman, director of the Rockefeller Family Fund said, "By hiding expensive environmental liabilities, a company may make it's short-term balance sheet look attractive, but investors need to evaluate a company's long term outlook. Detailed information about environmental liabilities is crucial to proper portfolio analysis and investment decisions. This report shows that, right now, a lot of companies are not providing the public with that kind of information,"

"This report 'names names'," said co-author and Rose Foundation Executive Director Tim Little, "We show how companies have withheld material environmental liability information from shareholders." Among the specific companies and examples identified are:
  • Halliburton, Dow and Kaiser Aluminum, for failing to estimate or disclose billions of dollars of asbestos liabilities and related worker health claims.

  • Honeywell, which declined to estimate the potential costs of dredging extensive mercury contamination from a lake in New York despite serving as a steering committee member of an industry group that had developed cost analysis at 22 other dredging sites that could have been used to develop an estimate.

  • Monsanto, which scrubbed PCB and asbestos liabilities from its balance sheet when it spun off a subsidiary which then went bankrupt.

  • Tosco, which used a "no look" agreement to prevent investigation of contamination at an oil refinery for 10 years after the date of sale. This questionable agreement is now the subject of a lawsuit by the ultimate buyer, Tesoro.

  • BP, ConocoPhillips, Chevron USA, Oxy USA, and Atlantic Richfield, which cleared their balance sheets of millions of dollars in shutdown and cleanup liabilities related to aging oil wells by selling them to an undercapitalized company that then went bankrupt.
As Lewis explains, "some of the tactics that we have observed are fully permissible under existing accounting rules, some result from aggressively interpreting ambiguities in the law, and still others appear unlawful under any reasonable interpretation of existing laws and rules." The report explains five overarching strategies companies use to hide environmental bad news, collectively reflecting a "don't ask / don¹t tell" approach to environmental liabilities, including:
  • Delay the quantification of liabilities for years or decades.

  • Avoid meaningful qualitative disclosure when liabilities cannot be quantified.

  • Hide the big issues in footnotes to send investors on a treasure hunt for the truth.

  • Piecemeal the liability analysis to sweep liabilities under the rug one by one.

  • Employ artificial time horizons to prevent disclosure of known future liabilities.
"Fooling Investors" shows how these strategies are implemented through specific accounting and asset management tactics. The report recognizes that company management may often be motivated to try to preserve shareholder value by reassuring investors of future profitability and avoiding disclosures that could trigger potentially expensive compliance costs or litigation. It also recognizes that some of the aggressive tactics appear to be permitted under current rule interpretations. However, regardless of management¹s motivation, the effect is to avoid financially material disclosures by:
  • Idling/Mothballing contaminated facilities to avoid environmental assessments.

  • "No Look" agreements to keep suspected contamination from being discovered.

  • Blaming non-disclosure on government regulators who are reviewing clean up plans.

  • Hiding disclosures made to insurance companies from investors.

  • Passing the buck by selling-off an end of life asset (along with its liabilities).

  • Avoiding disclosure of worker health claims from past exposures.

  • Denial of emerging hazards like global warming.
"It¹s clear that the SEC needs to be more aggressive in policing corporate environmental disclosures," said Little. "Fooling Investors" ends with a set of recommendations for action by the SEC, the Financial Standards Accounting Board (FASB) and the Public Company Accounting Oversight Board (PCAOB). Recommendations include:
  • SEC adoption of the Rose Foundation's petition to strengthen environmental disclosure rules, endorsed by pension funds, state treasurers, and foundations collectively representing over $1 trillion (SEC # 4-463).

  • SEC creation of a Blue Ribbon Panel to review broad questions related to social and environmental disclosure.

  • FASB analysis of inconsistencies and shortcomings in current accounting guidance.

  • PCAOB guidance holding audit committees and auditors responsible for ensuring adequate environmental disclosure.