The Most Famous Fraud Cases: Tyco Inc

In 1960, with a science Ph.D. from Harvard, Arthur J. Rosenburg opened a research laboratory in Waltham, Massachusetts, and did experimental work for the government. Two years later Rosenburg incorporated Tyco, Inc. and branched into the commercial sector. He assembled a team of top researchers and Tyco developed high-tech products for the marketplace.[1]

The most important growth of this company started in 1980’s. The following important acquisitions have happened during this time frame:[2]

·         Mueller Company

·         Wormald

·         Hindle valves

·         Earth Technology Corporation

·         Thorn Security

·         ADT

·         Electrostar

·         Wells Fargo alarms

·         AMP (1999)

·         Siemens Electrochemical Components

After all of these acquisitions the size of the company has increased very much and it became one of the most important companies in the world. After 1980’s more than 1,000 acquisitions have been made including the following transactions:[3]

·         ADT Security

·         Raytheon

·         AT&T

Tyco moved its incorporation to Bermuda in 1997. While publicity part of the merger, this move was controversial as it was seen as a use of a tax haven. This tax advantage was promoted in literature to shareholders and investors. In 1999, just prior to a stock split, rumors of accounting irregularities appeared. The rumors were strongly denied by Tyco's leadership, who accused the sources of selling Tyco shares short for personal gain. Partly in response to this, shareholders fought a proxy battle to reincorporate in Delaware, but this effort was responded by the board of directors.[4]

As seen from the above statements the company has grown unexpectedly by using an acquiring strategy. As they have reached the late 1990’s the rumors have increased and this has affected the investors and shareholders. These rumors have based on tangible concerns that will be explained in the following section.

As stated above, Tyco International is a conglomerate incorporated in Bermuda, with United States operational headquarters in New Jersey. Major business areas of Tyco include electronic components, health care, fire safety, security, and fluid control.[5]

It has become a very important and big company after making many acquisitions. However, the flow turned reverse after the company has lived the following events:[6]

·        1998: Kozlowski borrowed USD 9 million to buy property in Boca Raton, Fla. as well as USD 7 million to buy a Park Avenue apartment in Manhattan for his wife as part of a divorce settlement, according to the indictment. Additionally, Kozlowski is charged with giving himself a USD 56 million bonus and Mark Swartz a USD 28 million bonus, neither of which was disclosed to the board of directors.[7]

·        March 13, 2001: Tyco announced USD 9.2 billion cash and stock deal to purchase CIT Group which is a commercial finance company. Tyco director Frank Walsh has arranged the deal.

·        January 22, 2002: Kozlowski announced plans to split Tyco into four independent, publicly traded companies. The announcement started a slide in the price of Tyco shares.

·        January 29, 2002: Tyco shares dropped sharply, one day after the company filed a proxy report with Securities and Exchange Commission disclosing that Walsh got a USD 10 million fee on the CIT Group deal, and that another USD 10 million went to a charity where he was a director.

·        January 30, 2002: The New York Times reported that Kozlowski and Tyco CFO Mark Swartz sold more than USD 100 million of their Tyco stock the previous fiscal year despite public statements that they rarely sold their stock. Kozlowski and Swartz say they will buy 1 million shares with their own money.

·       June 3, 2002: Kozlowski resigned unexpectedly as The New York Times reported he was the subject of a sales tax evasion investigation by Manhattan District Attorney Robert Morgenthau’s office.

·        June 4, 2002: Morgenthau announced a criminal indictment accusing Kozlowski of conspiring to evade more than USD 1 million in state and city sales tax on fine art purchases.

·        September 12, 2002: Morgenthau announced a criminal indictment accusing Kozlowski and Swartz of enterprise corruption for allegedly stealing more than USD 170 million from Tyco and obtaining USD 430 million by fraud in the sale of company shares. Former Tyco corporate counsel Mark Belnick was charged separately with falsifying records to conceal more than USD 14 million in company loans.

·        June 17, 2005: A Manhattan jury found Kozlowski and Swartz guilty of stealing more than USD 150 million from Tyco

While the above happenings took place there were several fraudulent transaction like shown in the following:[8]

·        March 19, 2002: WSJ reported that Tyco asked Raychem Corp. to pre-pay its bills to make Tyco look better post-acquisition.

·        September 30, 2002: Tyco secret payment to U.S. Surgical in 1998, USD 40 million to settle accounting improprieties.

We understood that the company, Tyco quickly became a powerhouse with many investors giving it a “blue chip” status throughout 1990’s. Tyco’s CEO, CFO, and CLO received USD 170 million in loans without informing the shareholders. These loans were not approved by Tyco’s compensation committee and were written off as benefits. However, Tyco has never gone under because unlike Enron, it was never in a cash crisis. After several fraudulent transactions the company has lost unbelievable funds.

Furthermore, Wall Street Journal has claimed that more than 135 million USD money of Tyco has gone to Kozlowski under unpaid debt, charity expense and company expenditure for real estate.[9]

What should have previously done?

Tyco case is somehow different than Enron case. Since Tyco has never gone under cash crisis so the audit and inspection were not done carefully. When we investigate the stock exchange fluctuations of Tyco International Stock, we have seen that the price of the share decreased from USD 50 to USD 10 in only 6 months.[10] During that period the rumors increased and the investors have started to sell the shares.

For 2001 fiscal year, Tyco International paid PricewaterhouseCoopers USD 51.1 million for its services. Only USD 13.2 million went for required audits. The rest went for tax consulting, merger due diligence, benefit plan audits and other services, apparently everything except dusting for fingerprints. Investigators have looked into how PWC could have missed the hundreds of millions of dollars in unreported, misappropriated and misrepresented compensation shared among Tyco high level of management during the tenor of L. Dennis Kozlowski.[11]

PricewaterhouseCoopers and PwC Securities, the company's broker dealer, paid the SEC USD 5 million to settle alleged violations of auditor independence from 1996 to 2001, the largest fine ever for such violations. The SEC concluded that PwC's actions caused 16 companies to file improper financial statements.[12] This fine has been the largest penalty charged by the SEC in an auditor independence case.[13]

In this case PWC has acted a key role in the developments of fraudulent transactions. They could have reported many inconsistent and suspicious transactions but they haven’t done this since Tyco was a very important customer of them. Then we conclude with a very different result that if the audit system which has been used in Italy had been used in United States, this accounting scandal would have never been arisen. As we will see in Parmalat case, the auditor must be changed with a new one regulary in a certain predefined period of time. The former auditor must be very careful and must pay attention to the international standards and fraudulent transactions since the new auditor may find their mistakes and their reputation will decrease accordingly.

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[1] Reference for Business, “History of Tyco ınternational Ltd.”, http://www.referenceforbusiness.com/history2/97/Tyco-International-Ltd.html

[2] Wikipedia, “Tyco International”, http://en.wikipedia.org/wiki/Tyco_International

[3] Manuel Ramirez, “Tyco Scandal”, http://bear.cba.ufl.edu/demiroglu/fin4504spring2007/Tyco2113.ppt

[4] Wikipedia, Ibid.

[5] Wikipedia, Ibid.

[6] Ramirez, Ibid.

[7] East California University

[8] Ramirez, Ibid.

[9] Haber Vitrini, “ABD'deki Şirket Skandallarının Simgesi Zor Durumda”, http://www.habervitrini.com/haber.asp?id=41465

[10] Wall Street Journal, “The Fall of Tyco”, http://www.happinessonline.org/images/info-tyco_down.gif

[11] Ari Weinberg, “What did Tyco’s Auditor Know”, http://www.forbesimg.com/2002/09/30/0930pwc.html

[12] Weinberg, Ibid.

[13] Michelle Perry, “SEC hands down $5m fine to PwC”, http://www.accountancyage.com/accountancyage/news/2030419/sec-hands-fine-pwc