• Arthur Levitt Should Just Shut Up About AIG

    By • Mar 25th, 2009 • Category: Pure Content, Writing for Others

    This should be read alongside yesterday’s story on Lynn Turner.  If Levitt and Turner sell out the shareholder and the ideals of the accounting profession in all of the mess of the financial crisis, who’s left?

    The esteemed Arthur Levitt Jr. was the longest tenured SEC Chairman (1993-2001). He’s an adviser to the Carlyle Group, board member of Bloomberg LP, and a board member of RiskMetrics Group, a public company that serves 70 of the 100 largest investment managers, 34 of the 50 largest mutual fund companies, 41 of the 50 largest hedge funds and each of the 10 largest global investment banks.

    Bloomberg LP journalists have quoted Mr. Levitt constantly during the last six months. He’s featured on Bloomberg TV, in on line podcasts, and in print in almost every article about Madoff, the financial crisis, and mark-to-market accounting. And now he’s used as an expert on AIG and incentive compensation.

    That’s for sure.

    Arthur Levitt Calls AIG Bonus Tax `Extreme’
    March 20th Bloomberg Surveillance
    Arthur Levitt talks with Bloomberg’s Tom Keene and Ken Prewitt about the U.S. government’s proposed taxes of the bonuses American International Group Inc.

    Re: the AIG Bonus Issue March 17th, Bloomberg “If these were contracts drawn with employees, no matter how unreasonable they may seem, those contracts should be honored, in my opinion.”

    Indeed.

    However, I didn’t think Levitt came off so well when he was interviewed recently in the New York Times Magazine “Questions For…” column by Deborah Solomon.

    Money Manager Interview by Deborah Solomon January 22, 2009 Excerpt: Solomon: Frankly, I can’t understand why the S.E.C. culls its leaders from the world of high-stakes investment. What about what economists call the “capture theory,” whereby regulators become co-opted by the industries they regulate? 
 Levitt: The 4,100 people who worked for me at the S.E.C. were as patriotic as anyone I served with in the U.S. Air Force or the several government commissions I’ve served on, and I’ve worked for four presidents. Solomon: That’s just boosterism. You’re not answering the question. 
 Levitt: The European system of gray bureaucrats running government agencies forever is far less effective than the refreshing American system of re-potting private-sector talent to bring in new ideas.

    It wasn’t the image of populist, investor protection Viking he had worked so hard to cultivate over the years. It may be hard to remember that much of that reputation was well deserved. Back in June of 2002, a Frontline segment entitled “Bigger Than Enron” described the battles Levitt had with the accounting industry, and in particular Price Waterhouse (legacy firm of today’s PwC), over changes in rules about auditor independence that he supported.

    Frontline: What kind of clout does the accounting industry have on Capitol Hill? Levitt: I guess I learned over coming months that they had enormous clout; that their contributions to members of Congress who never thought about an accounting issue or an accountant and suddenly picked up the cudgels for the profession; where my own congressman was led into the belief that this was an effort that might have been worthwhile and signed on to a letter which he later retracted on the floor of the Congress; where a close friend of mine who I’d climbed eight mountains in Colorado with while he was head of the Outward Bound School signed on to another letter that he later retracted on the floor of the Congress. 
This was a broad-ranging campaign that was well-financed, well-structured, and extremely vigorously fought.Frontline: Well, speaking of letters, I have a letter that you got in April. What is this letter?
    Levitt: This is a letter from the overseers of the SEC, the congressional committee that oversees the SEC that has a choke hold on the existence of the SEC, that can block SEC funding, that can block SEC rule making, that can create a constant pressure in terms of hearings and challenges and public statements, that can absolutely make life miserable for the commission. 
And here the three leaders, Tom Bliley, the chairman, Mike Oxley, the head of the subcommittee, and Billy Tauzin, the chairman of another subcommittee, were directing me to go slow on this issue, to go through a process…

    The legislation that Levitt was pursuing to prohibit auditors from also acting as consultants for their audit clients was eventually incorporated in the Sarbanes-Oxley legislation of 2002.

    In May of 2008, Tom Nierop, chief editor of de Accountantinterviewed Levitt in New York. This Dutch publication focuses on the accounting industry and the interview was mostly about the future of the accounting firms. However, Levitt made some additional comments about the subprime crisis and AIG. His mention of AIG by name at that particular time is quite surprising, given that he had been recently under contract to AIG to help them become a better governed, more transparent company.

    Nierop: This influence [they were speaking of the influence of activist investor coalitions] is already visible in the discussion on compensation and bonuses for top management. Levitt: “The only way I can think of to address those issues is public embarrassment. The media is quite important there. And the strengthening of independent boards, compensation committees, and organizations like ISS, of which I am a director. [ISS was acquired by RiskMetrics where Levitt is a board member.] And there are other organizations that will have an affirmative impact. It is not something you simply can address by a rule.” Nierop: Why is an extra financial incentive, next to regular compensation, necessary at this level of management?
    Levitt: “Because a board is fraternal board rather than a skeptical board. Compensation committees lack the backbone to do something about it. But the boards are becoming more skeptical because they don’t want to see their names in the papers.

    Nierop: Can we really avoid a next financial crisis without fundamentally assuring some sort of ‘ownership at the top’ for the proper systemic functioning of the markets?
    Levitt: “The lines of responsibility should be more clearly defined. I don’t believe in principles based regulation, I believe in enforcement based regulation. Except as to when it deals with systemic risk. Systemic risk is so evasive that I think you need the flexibility of some sort of prudential oversight. But certainly not with respect to certain kinds of market structures.

    And what role a central banker should play in this, remains to be seen. Their failure has been profound. Every step of the way. Yet if they are providing the money to bail out investment banks, they clearly have to have had some responsibility in overseeing them.”

    Nierop: As to the effects of the present credit crisis: have we had the worst?
    Levitt: “No, I think it will continue for a while. Real estate values will continue to decline. I think we will see some bank problems, clearly more corporate problems similar to AIG.”

    Why did Levitt go to work for AIG again in 2007 after his stint there in 2005? Why did he help paper over their decision at the end of 2007 to re-appoint PricewaterhouseCoopers as their auditor, even after all of the messes PwC has presided overbeen sued over and settled overlooked the other way on, and acted on only when forced by threat of more litigation?

    Arthur Levitt and his AIG auditor selection committee didn’t fire incorrigible but complicit PwC at the end of 2007. They reappointed them so PwC could stay close and no other firm get closer once the investigations for 2007 activities started. It wasn’t long before the Department of Justice asked the SEC to turn over evidence as part of a criminal investigation of whether the material weaknesses in internal control cited by PwC in February 2008 were part of a fraud, one that their auditors didn’t “detect” until the subprime crisis heat was on.

    PricewaterhouseCoopers earned over $120 million dollars as AIG’s auditor and tax advisor in 2007. Why is there no outrage by Mr. Levitt and the press over that outrageous waste of shareholders money? How could Matt Taibbi write an eight page article in Rolling Stone magazine this past week detailing the history of AIG’s issues and never once mention their external auditor, PricewaterhouseCoopers, by name?
    Is it because PwC is impotent and potentially complicit in this situation, neither identifying the problems at AIG and warning shareholders and investors of them strongly enough, nor acting to mitigate them soon enough? At least the shareholders are trying to sue them. But why doesn’t the AIG Board of Directors support the shareholders?

    The Chairman of the Audit Committee of AIG’s Board of Directors, the committee that manages the company’s relationship with the external auditors, and their designated “financial expert,” is one of Mr. Levitt’s protégés during his years at the SEC, Michael Sutton. Sutton is a former Deloitte senior partner prior to his time as Chief Accountant at the SEC under Levitt. Even though he’s not a PwC alumni, we all know how those Big 4 guys stick together. What is it about PwC that has seduced Levitt and Sutton and the rest? Is it that it’s better to keep those who know where the bodies are buried on the inside, with as much to lose by having the worst of it come out as anyone else?

    Well, we know why PwC stays in this abusive relationship.
    There are more than $120 million reasons.

    But why is Mr. Levitt is still defending AIG and, therefore, PwC? Remember, Mr. Levitt is the guy who said, “the only way I can think of to address those issues [i.e. executive compensation excesses] is public embarrassment.” Why isn’t Mr. Levitt embarrassed that he was paid by AIG to improve their corporate governance and transparency to regulators and one of the worst corporate governance failures imaginable is the result?

    Can Levitt still believe, as he told the International Herald Tribune barely a year ago, “They took just about every recommendation I made,” says Arthur Levitt Jr., a former Securities and Exchange Commission chairman who began advising AIG’s board after it ousted Greenberg. “In terms of process and governance, now it is about as good as a board can get.”

    Maybe it’s time to put a sock in it, Mr. Levitt.

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    17 Responses »

    1. PwC identified and reported a series of material weaknesses at AIG , something you’ve been scream at the top of your lungs for months that no other audit firm was doing, and you’re calling them “complicit” for it? I think you should expand on this accusation further.

      Also, citing Rolling Stone for your financial information? Really?? I subscribe to Rolling Stone, and still I say… REALLY???

    2. @ClownCollege

      I say “complicit” because of the length of time PwC has been auditing AIG and the number of times AIG has been in trouble, sued, and had investigations, fines and sanctions. PwC has even been sued and settled for their lapses with regard to AIG. They may have reported material weaknesses recently, but it was too little too late, as I discussed in my article. http://retheauditors.com/2008/02/pwc-tough-on-aig-too-little-too-late/

      As far as citing the Rolling Stone article, I was being somewhat critical, in case you didn’t get it. And the article was very widely read and cited by many financial analysts and bloggers because it was exhaustive and had some new tidbits of information that had not been printed elsewhere. Good investigative journalists are writing for publications besides the WSJ. In fact, most of them do. The story in Rolling Stone was a good read and a good functional summary of all that’s happened, except for the fact that it left out a major player. Although, in reality PwC is a minor player, to the detriment of shareholders.

    3. AIG is a very complicated story that I know a bit about. Many of their businesses are sound and will be sold off to repay the taxpayers. AIG destroyed their business on the back of “risk free” credit default swaps and other derivatives. Maybe PwC should have seen the crisis coming, but if they had, they would have been the only ones. It is also worth noting that the SEC has not suggested that any AIG audited financial statements need to be restated. Blaming the auditors is an easy out – the real problem has nothing to do with audits. It is all about the basic flaws in our financial regulatory system. Lets hope the President can fix it.

    4. I agree with #3…auditors had very little to do with this crisis….we are not in 2002 anymore. I like your writing FM but the complete lack of anyone else accusing the auditors makes me think you might be wrong on this one. Why not write about PWC in India more. There is a story. I think you are looking for culpability where it doesn’t exist.

    5. Francine:
      Suppose PWC got fired? What then? Do you want KPMG which audits Citigroup in there? Or would you prefer Ernst, or Deloitte? It doesn’t matter. Each Big 87654 firm has skeletons in its closet amongst bailout beneficiaries. Ernst is working for the Treasury right now. Would Ernst report any improprieties at AIG if Treasury was involved? The Big 87654 cover up for each other and the powers that be. That’s the bottom line. I trust no Big 87654 firm’s aduit of a financial institution.

    6. Terry Fox:
      You and I live in different worlds. That the SEC has or hasn’t done anything, means nothing to me. I saw the CDS crisis coming years ago. Really. Would the SEC say AIG should restate, if that would implicate Treasury and Goldman Sachs in effecting a bankruptcy fraud, 18 USC 152? Are you serious? Did you follow the Madoff fiasco? Markopolos gave the SEC a road map, which it couldn’t follow. Doing SEC work and having weekly contact with it, I conclude the SEC is staffed with “box ticking” economic ignoramuses. The then Big Eight firms didn’t see the 1979-86 S&L crisis. I did. Why? Mismatched maturities. Did the OTS warn the S&Ls about what they were doing? The flaw in our regulatory system is: moral hazard. I have a reading suggestion for you, “The Politics of Industry”, by C. Walton Hamilton, 1957. You might learn how the system works. The SEC let the investment banks lever up from 12 to 1 to 35 to 1. You want the SEC to have seen AIG coming? Get real. Goldman and the other players gamed the system, knowing they could pass losses off to the taxpayer, “laundering” them through AIG. That’s the bottom line.

    7. @ Independent Accountant: Dude, considering you saw both the S&L crisis and the current credit crisis coming, you must be loaded. If you were smart enough to forsee two major debacles that noone else in the financial community saw coming, I’m guessing you must have been smart enough to short all the financials or at least buy some puts on the financials. If so I tip my hat to you, you an a very small group of hedge funds have made a killing…

      That is unless your full of it, and by “I saw the CDS crisis coming years ago” you mean you thought maybe prices were getting inflated and now in hindsight you see there were signs of the crisis building.

    8. Anonymous:
      I am not full of it at all. I didn’t short the financials. I NEVER OWNED ANY. Never. I have learned manias, like we saw in the financials, or tech stocks in 2000, can go on for YEARS longer than you think. I saw the S&L crisis coming in 1973-74. It was a VERY easy call. Why? Do you know what mismatched maturities are? I read a treatise on banking from Amsterdam which warned bankers against this. Publication date: 1587, 422 years ago! Are you a “bookkeeper” masquerading as a CPA? By the way, lots of people at Chicago saw the S&L crisis as inevitable by 1973-74. Inevitable!!!! On a “fair value” basis, the S&L industry was underwater by about $70-$80 billion by 1973-74. You seem to be an economic ignoramus. What do yo do for a living? The CDS crisis arose from insurers selling credit default swaps. This is and was an uninsurable risk. Why? Unlike life insurance, there is no actuarial information you can use to price the risk. Further, CDS show high “correlation”, they are not “independent” in default statistics. I think you are confusing CDSs with CDOs, collateralized debt obligations. By the way, I sold my condo in Los Angeles in December 2006, near the peak of the market. Really. I can show you the closing statement. With Los Angeles residential real estate at 210 months rent, that was an easy call too. Do you know what a capitalization rate is? I saw commercial real estate in LA with 3.5% cap rates in 2005. Really. In April 2005, Donald Trump appeared at a real estate convention in LA that attracted 40,000. 40,000! Seeing this, I knew the end was coming soon. You can read about Trump in “Fortune” magazine.
      Do I blow some? Yes. No one calls ‘em all. I did not predict oil would fall from $147 to $35. But it did. So? And I took a beating on oil field service stocks. I ask again, what do you do for a living? Are you a $700,000 a year clerk Big 87654 partner who purports to audit banks? Do you even trade stocks?
      I have a suggestion for you. Start reading the Unqualified Reservations blog by Mencius Moldbug (MM). MM is a fine analyst, even if frequently prolix. If you read MM for a few years, you might begin to realize how little you seem to know. Another suggestion, Steve Waldman’s (SW) Interfluidity. SW is another fine thinker.

    9. Independent Accountant – you are the smartest guy in town, if you do say so yourself. LOL

    10. One big fat question for everybody..when has it become the auditors responsibility (fiduciary or otherwise) to tell an audit client which products to build, which products to invest in, how to build their products, and/or which customers/consumers to do business with? The question then becomes, did the auditor perform their function “…to provide reasonable (NOT absolute) assurance that the FS were prepared in accordance with GAAP?” And, isn’t the stock market just rich persons gambling anyway?

    11. The SEC happens to be dysfunctional. And Independent is right that anything from the big 4 is not trustworthy.

      The question is, who do you trust in this world?

    12. […] work with Enron. Some of the strongest “critics” of the accounting profession, such as Arthur Levitt, have been vocal about conflicts of interest and the need to strengthen both actual and perceived […]

    13. […] may be that PwC has learned to play both clients like a fiddle from professional dancing bears like Arthur Levitt. As we discussed earlier, Levitt played a significant role in getting AIG past most of the New York […]

    14. […] may be that PwC has learned to play both clients like a fiddle from professional dancing bears like Arthur Levitt. As we discussed earlier, Levitt played a significant role in getting AIG past most of the New York […]

    15. […] may be that PwC has learned to play both clients like a fiddle from professional dancing bears like Arthur Levitt. As we discussed earlier, Levitt played a significant role in getting AIG past most of the New York […]

    16. […] repeatedly during their decades of service to AIG.  They are part of the problem not the solution. PwC has been a defendant in multiple AIG  lawsuits and continues to be named along side executives accused of fraud in new […]

    17. […] On the other hand, in spite of the alleged audit failure that obscured the impending failure of Lehman Brothers, EY will pick up more than $60 million dollars helping the New York Fed make something of the mess PwC presided over at AIG. […]

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