These are the $68 million questions: How did improper accounting occur at McCann-Erickson, and why did it take so many years for Interpublic to notice?
Interpublic Group of Cos. last week restated earnings for the past five years to reflect $68.5 million in improperly expensed charges at McCann-Erickson Europe. The restatement—coming as Interpublic revealed poor second-quarter results and a downbeat forecast—reduced earnings per share for each year from 1997-01 by one to two cents a share. Traders, buying Interpublic's argument that the problem's been dealt with, bid up the stock last week almost to where it stood before the stock cratered early this month on worries of an accounting problem. (The stock is still off 38% from Jan. 1, making it the worst performer among the top four agency companies.)
How did it happen? An example: Company A is a multinational client of McCann in London, which asks, say, McCann Germany to do some work. McCann Germany puts the job on its books as an accounts receivable. McCann U.K. is supposed to record the expense and an accounts payable—except it doesn't. McCann's internal books don't reconcile, yet somehow that gets overlooked.
Interpublic officials said such small accounting discrepancies occurred for years. Interpublic and auditor PricewaterhouseCoopers failed to catch it. "This is a multitude of very small transactions," said Susan Watson, senior VP-investor relations. It added up: As of March 31, Interpublic's balance sheet showed accounts receivable of $4.58 billion-a figure overstated by $68.5 million in receivables that would have been cancelled out if the expenses had been properly recorded.
Interpublic now has restated the balance sheet and five years of earnings to correct the problem. How did Interpublic finally catch it? Early last year, Interpublic began implementing new financial controls, starting with Lowe and Foote, Cone & Belding Worldwide and then moving to McCann. Last quarter, Interpublic reviewed internal cost-allocation processes worldwide and found the problem at McCann Europe. "It's basically human error; we presume that," Ms. Watson said.
Interpublic said the accounting restatement is completed but that it continues to review personnel and procedures. Company insiders said McCann Europe's problems were concentrated within England and France. One knowledgeable individual said several McCann Europe financial executives left recently.
The company said it has had new management in place in McCann Europe since January. Last September, McCann promoted Ben Langdon, regional director of Universal McCann Europe and chairman of McCann U.K. & Ireland Group, to regional director of McCann Europe, Middle East and Africa. McCann officials said McCann Europe named a new finance chief, Stefan Himpe, around January.
The accounting episode is another bump on the rocky road of Interpublic Chairman-CEO John J. Dooner Jr., who took over in December 2000 just as the ad market turned south. Mr. Dooner tightened financial controls and found the problem—but he earlier ran McCann-Erickson WorldGroup and McCann-Erickson Worldwide when some of the faulty accounting occurred.
The stock has fallen 56% since he became CEO. For the second quarter, Interpublic reported net income of $117 million or 31 cents a share, compared to a loss of $113.1 million in 2001. That was in spite of an 8.4% decrease in revenue to $1.6 billion, or a drop of 9.5% after factoring out currency effects and acquisitions. Earnings were below analyst expectations of 39 cents a share.
Interpublic estimated that over time it will pay $392.6 million in earn-outs on past acquisitions; it also could be required to pay up to $208.4 million in additional investments in companies in which it has an ownership stake. Separately, it said the Internal Revenue Service is auditing its returns for 1994-96 and said it could be forced to pay additional taxes.
Interpublic forecast full-year revenue will be down 6% to 7% due to continued weakness in the ad market.
contributing: bill britt, mercedes m. cardona, alice z. cuneo, lisa sanders, rich thomaselli, laurel wentz