Fannie Mae’s penance begins
While Congress debates who best should regulate the GSEs, Fannie Mae’s penance begins,
“How do you say, “$9 billion earnings writedown’ in Latin?”
as the incumbent (OFHEO) regulator is pressing hard to have the ‘interim’ label removed from its status: two days ago, Fannie Mae and OFHEO signed a supplementary agreement that, according to Fannie Mae’s press release:
represents the next step in Fannie Mae’s cooperative effort to address issues raised by OFHEO in its ongoing review of the company and strengthen the company’s corporate governance.
OFHEO arrives at an audit conference.
- Review all “procedures for preparing, revising, validating, authorizing and recording of journal entries,” and “develop and implement written policies and procedures for journal entries.
- “Develop and implement a plan that addresses deficiencies in the current portfolio accounting system, including, but not limited to, ensuring the ability to … automate marking the mortgage-backed securities [MBS] portfolio to market, to the degree practicable ….”
“I want you to address your accounting deficiencies.”
- Separate “the functions of CEO and Chairman of the Board and shall report to OFHEO on the segregation of duties between these two positions within forty-five days. The Board shall provide OFHEO within ten business days its written requirements for a new CEO and CFO ….”
- Review “Fannie Mae’s legal and regulatory compliance structures … and consult with OFEHO on changes Fannie Mae proposes to undertake.”
- Create a program for “no less than annual briefings for the Board and senior management on the legal and regulatory requirements applicable to Fannie Mae as well as reviewing policies or practices that may inhibit effective compliance with such legal and regulatory requirements.”
- Create a new Office of Compliance and Ethics that reports to the CEO and independently to the Board’s Audit Committee.
- Assure that in any future engagement of an external auditor … (a) upon OFHEO’s request, the external auditor will provide OFEHO with access to senior audit partners, (b) OFHEO has access to the auditor’s working papers, and (c) OFHEO has such access to the external auditor without Fannie Mae personnel in attendance.
“Those are my work papers!”
And there’s more tough stuff as well. Read the whole thing.
What does it mean, aside from a heavy dose of penance? Probably that:
- It will be much harder to recruit Fannie Mae directors than heretofore, given the extensive new briefing and time requirements.
- Ditto for accountants: in a post-Sarbanes-Oxley environment, this job is increasingly high stakes.
“Hey, I’m just a tax collector, what do you want me for?”
- Since 5 of the 18 directors are Presidentially appointed (those seats are currently vacant), Board scrutiny of management will be heightened for a very long time.
- Within a few years, Fannie Mae’s debt portfolio will be routinely marked to market. This is a classic cost-lowering/ slippery-slope situation in practice: once you have the ability to mark-to-market securities, it will be used, or at least, reported in parallel. (Remember the expensing of stock options?)
- Fannie Mae’s earnings will become much more volatile, as the normal tools for earning-smoothing will be eliminated, restricted, or scrutinized into passivity.
- With more volatile earnings, Fannie Mae’s equilibrium P/E multiplier will be lower than heretofore. So will its stock price.
- Lots of ‘caretakers’ go on to be incumbents, especially if they do well in the interim. Through its actions, OFHEO is campaigning hard.
Meanwhile, the dominoes are likely to keep falling:
“Do you want to be CEO, Superman?”
An indexed list of my previous posts on Fannie Mae may be found here.
