Tag Archive | "accounting"

Bankrupt Property Management Company Ran An Accounting Scheme

No other County epitomizes the epicenter of the subprime and real estate crisis as well as Orange County. The third most populated County in California itself filed for Chapter 9 in 1994 making headlines as the largest municipal bankruptcy in U.S. history. Orange County’s economy heavily relied on real estate as many companies were headquartered there or did a substantial amount of business in this area of the Nation where excessive consumer spending and home equity dependence became a lifestyle.

The OC Register reported that Pacific Property Assets ran an accounting scheme that lead to its ultimate bankruptcy.  Investors are suing co-founders Michael Stewart and John Packard for misleading them regarding the financial state and health of their company. The failed Apartment Investment Firm was running a deficit since 2005 but used creative accounting gimmicks to reflect positive cash flow.  In court the two co-founders testified that they mislead investors by reporting investment funds received as revenue on their income statements, allowing them to appear profitable.

While this is no doubt a financial tragedy for the nearly 700 investors that were misled by the company through accounting irregularities, WTF Finance points out that this is in no way any different than the financial reporting of prominent companies on Wall Street. The significant difference is that publically traded companies such as Bank of America have the connections to dump their toxic assets onto the Federal Reserve in order to appear profitable. In addition, those big firms have a direct connection to their in house investment firms allowing them to sell shares in great amounts to their clients in order to keep their Ponzi scheme from falling apart.

The editors of WTF Finance took a closer look at the mortgage market share reports of the past and Bank of America wrote a significant amount of jumbo mortgages, especially in Orange County.  It’s no surprise to us that Bank of America escaped insolvency due to the changes in accounting regulations, away from mark-to-market. Had such a change in accounting regulations been implemented sooner, Washington Mutual and Pacific Property Assets could have also faked their way out of insolvency and reported record profits in their subsequent quarterly statements. Irregular accounting also helped Bank of America escape its collapse.  MarketWatch reported on July 10, 2010:

“Bank of America Corp. has told federal regulators that it made six trades from 2007 to early 2009 that led to it hiding billions of dollars of debt, according to a media report Saturday.

Bank of America (BAC) made the admission in an April letter to the Securities and Exchange Commission, The Wall Street Journal reported in its online edition.

The bank had acknowledged in its last quarterly report that its accounting for the deals, at quarter-ends from 2007 to 2009, was incorrect, added the Journal. The letter has been posted as a regulatory filing.”

WTF Finance has little doubt that the accounting irregularities at Bank of America were deliberately miscategorized as one of the biggest banks in the world it had much to benefit from overstating its assets. Doing so allowed Bank of America to raise billions of dollars through share dilution as the overly positive earnings created increased demand for newly created shares.  On May 19, 2009, CNN Money reported that Bank of America raised $13.5 Billion by issuing more shares.

“Bank of America Corp raised $13.47 billion through a share sale, marking a major step toward meeting the U.S. government’s requirements for capital-raising following the recent “stress testing” of the bank.”

Later that year, in December 2009 Bank of America made the news again as they raised an additional $19 Billion from the sale of newly created shares, MarketWatch reported:

“Bank of America Corp. said late Thursday that it raised more than $19 billion selling new securities to help the giant lender wean itself from government support.”

Bank of America would never have been able to raise that extra capital through share dilution without erroneous accounting which they later admitted to. The only difference between Pacific Property Assets and many established publically traded companies is the ability to fool more people more often in order to keep the accounting scam going.

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Inside The Bubble Economy

When Federal Reserve and Government officials reasoned that lessons were learned from the credit bubble the editors of WTF Finance laughed in disbelief. Home prices might have dropped in many areas of the Nation but Government and Fed interference halted the decline in an attempt to re-inflate the bubble. The result is a continuation of irresponsible behavior that is being encouraged and subsidized by the various policies and economic markets that do not reflect reality.

While many politicians argued that lending standards improved and now reflect the risk variable, it was obvious then as it is now that credit didn’t significantly tighten. Irresponsible lending habits still continue as the Federal Reserve and US Government guarantee non-sense loans at below true market rates. The one crucial element that brought us the recent market rally since Spring 2009 was the changes in accounting regulation that eliminated mark-to-market accounting standards. Mark-to-market accounting ensures that assets and liabilities are accounted for according to their current market value.

Artificial low interest rates by the Federal Reserve and home loan guarantees by the Government through FHA, VA, and USDA allowed for the credit and housing bubble to reach the height that it did. Throughout the housing bubble the Government continuously increased the conventional loan limits that it would guarantee, allowing individuals to increase the debt burden they could take upon themselves. This of course was done under the pretense of making homes more affordable when nothing but the opposite is true. Artificial low rates that did not reflect a balance between supply and demand but instead are just an arbitrary number set by the Federal Reserve, amplified the ability to qualify for even greater debt. The resulting increases in home prices were not based on fundamentals but anti-free market policies that brought us a real estate bubble with values beyond affordability.

With the stock market dropping in value various lawmakers argued that mark-to-market regulations were to blame as companies had to write down their losses to the current value of those assets and liabilities at that time. With mark-to-market regulation in place, financial institutions such as JP Morgan, Bank of America, Citi Financial, Goldman Sachs, Wells Fargo, etc. had to realize their losses on their balance sheets making them in essence insolvent. Not as a result of mark-to-market regulation but as a real reflection of their financially irresponsible business decisions.

With the passage of the various bailout bills, supported and voted for by both political parties, mark-to-market accounting regulation became a norm of the past. Financial Institutions quickly adapted and posted record profits as they took the previously marked down losses and restated them as gains, allowing for business to continue as usual.

The Federal Housing Administration continues to guarantee loans at questionable terms with only 3.5% down payment, VA continues to guarantee loans of up to 102%, and the USDA made a serious effort in 2009 to increase home ownership in rural areas with a population of less than 25,000. The New York Times reports in its article “Auditors See Rising Defaults In Rural Loans”

“The response from lenders was immediate. The value of federally backed rural home loans soared to $16.2 billion in fiscal 2009, up from just $3.7 billion two years earlier. Last year, the guarantees reached nearly $16.8 billion.”

Auditors now come to the realization that a significant amount of those loans that were guaranteed in 2009 present the next wave of defaults. Tammye H. Treviño, administrator of the Rural Housing Service, acknowledges the lending program’s problems yet states

“At a time when new-home construction and home sales in rural America were struggling, we continued to make loans.”

This quote highlights exactly what WTF Finance has been stating. Government and Federal Reserve Policy are not solving the problem but merely delaying the inevitable consequences that are growing bigger in size. The current policies are solely attempting to cover the symptoms of the root problems that their anti-free market policies created.

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