Fannie Mae: Warnings, what warnings?
In shareholder lawsuits (such as those filed some time back against Fannie Mae), executive motivation often plays a role: were these honest mistakes, malfeasance of rogue underlings, or rot at the top? Messrs. Frank Raines (former CEO) and Timothy Howard (former CFO) have stoutly maintained that, although they were of course driven professionals, everything done on their watch was merely what was appropriately aggressive, not negligent, far less deceptive.
None of that here.
Although the recent Rudman Report disclaimed any established connection:
As for Raines, “we did not find that he knew” that the company’s accounting departed from the rules “in significant ways,” the report said.
Absence of proof (’we did not find that he knew’) is not proof of absence (’we found that he did not know’).
Nothing to worry about.
To the contrary, as the Washington Post reports, Fannie Mae had Means and
A recently released investigative report attributed Fannie Mae’s accounting problems in large part to two executives, but documents within the study indicate that the board and former chief executive were informed about some of the policies and practices that got the company into trouble.
In a November 2003 meeting of the board’s audit committee, attended by chief executive Franklin D. Raines and his successor, Daniel H. Mudd, the company’s controller spelled out a policy related to interest income that regulators have since declared invalid.
Nothing questionable here.
Then there’s Motive:
In May 2003, a presentation for the company’s Office of the Chair, an executive group that included Raines and Mudd, said one of Fannie Mae’s goal in implementing a new accounting rule was to “Minimize earnings volatility.”
We have previously seen that not only was Fannie Mae able to minimize volatility, the volatility so minimized was handily just above a key bonus-triggering benchmark:
We’ve cleared our earnings hurdle, sir.
The bar was cleared using techniques seen questionable even then:
In July 2003, an internal audit report, which included Raines and Mudd on its distribution list, cited problems with Fannie Mae’s accounting controls that may have affected its books by as much as $155 million.
Looks fine from this perspective.
To the best of my limited knowledge, this is the first time that Mr. Mudd, heretofore seen only in light of the ‘reformed’ Fannie Mae, has been associated with dubious past practices. This is not the only such briefing:
In the November 2003 audit committee meeting, [former company controller Leanne G.] Spencer briefed directors on what she identified as a “critical accounting policy” involving how the company adjusted for changes in estimated interest income.
Regulators have since asserted that, under the policy, Fannie Mae improperly gave itself a sort of margin of error for key accounting adjustments. Though Fannie Mae considered the margin to be “the functional equivalent of zero,” it sometimes exceeded $100 million and provided a way to make earnings appear less volatile, regulators said.
Gimme the functional equivalent of zero dollars, and make it snappy!
Beyond Mr. Mudd, the issues reach not just to the departed executives, but also to the board:
Minutes of Fannie Mae’s November 2003 audit committee meeting list Raines and Mudd as attending with directors such as committee Chairman Thomas P. Gerrity, a professor of management and former dean of the Wharton School; Frederic V. Malek, chairman of Thayer Capital Partners; and Anne M. Mulcahy, chairman and chief executive of Xerox Corp. They or their representatives either declined to comment or did not respond to requests for comment for this report.
Signs, what signs?
That is bringing into question the rigor of the board’s oversight:
The board “perhaps did not discharge their duties sufficiently well to protect the corporation’s or the shareholders’ interests,” said Rep. Richard H. Baker (R-LA), chairman of the subcommittee that oversees Fannie Mae and a longtime critic of the company. “I am at a loss as to how the report didn’t conclude that Mr. Raines was more directly involved.”
Rep. Richard H. Baker (R-La.) is critical of how the Rudman report dealt with Franklin D. Raines.
The question of whether internal governance suffices is likewise critical to Fannie Mae’s future, with Congress weighing whether and how to strengthen its regulation:
Spencer’s presentation “should have at least raised red flags,” said Armando Falcon Jr., former director of the Office of Federal Housing Enterprise Oversight, which regulates Fannie Mae. “An attentive audit committee should have said, ‘Well, wait a minute, what does this functional equivalent of zero really mean?’ “
0 = $100,000,000!
So we are to believe that, up to $20 million in annual compensation on the line, and earnings that are hitting bonus targets with impressive precision, Messrs. Raines and Howard were not curious?
Doesn’t mean anything to me.
Fannie Mae remains under investigation by the SEC, the Justice Department and OFHEO, and it is defending itself in shareholder litigation.
Whipping up a twister of writs.
