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Steven Pearlstein

Baseball, AOL, Fannie: Raines Strikes Out

By Steven Pearlstein
Friday, December 17, 2004; Page E01

It's been something of a bad week for Frank Raines.

First, the D.C. Council managed to unravel a carefully negotiated deal to bring Major League Baseball back to Washington, which Raines, as a leading member of the would-be local ownership group, has been working on for years.

_____In Today's Post_____
Futures of Fannie's CEO, CFO Unclear As Directors Meet (The Washington Post, Dec 17, 2004)
Banks Scrutinize Their Accounting (The Washington Post, Dec 17, 2004)
_____Past Columns_____
Telecom Merger Might Be What Consumers Need (The Washington Post, Dec 15, 2004)
Let Economics, Not Politics, Steer Skyland Project (The Washington Post, Dec 10, 2004)
. . . And Another Thing (The Washington Post, Dec 8, 2004)
Column Archive

Then Time Warner and America Online agreed to pay more than half a billion dollars to settle civil and criminal charges stemming from allegedly fraudulent accounting practices dating to when AOL was a separate company and Director Raines was a member of its audit committee. Raines was also a member of the Time Warner audit committee when those practices were vigorously defended after being exposed by my intrepid colleague, Alec Klein, in The Post.

Finally, the Securities and Exchange Commission concluded that Fannie Mae, where Raines is chairman and chief executive, had engaged in questionable accounting practices over the past four years -- practices that Raines stubbornly defended even after serious questions had been raised.

My guess is that there will be plenty of quiet whispering around the punch bowl at the annual Raines Christmas party tonight.

In the baseball matter, of course, Raines is as much a victim of the District's political bumbling as the rest of us. But what's baffling about the two accounting imbroglios is how Raines and so many other smart executives and professionals could have been so stupid.

Let's give the directors at Time Warner and AOL the benefit of the doubt and assume that they knew nothing about the true nature of the transactions with PurchasePro when a reporter from The Washington Post showed up with documents suggesting they were a sham. What was a director to do?

Considering that all this was happening in the wake of the unfolding Enron scandal, the answer was pretty clear. You ask your auditor, H. Stephen Hurst of Ernst & Young, to review the transactions again. And after Hurst reaffirms that they are kosher, you hire Thomas Yannucci of Kirkland & Ellis, a lawyer who specializes in defending companies against unfavorable press stories, to relay these assurances to The Post and argue against publishing Klein's story.

Now, two years and many subpoenas later, it turns out that Klein was right and Time Warner shareholders are out $500 million. So can someone please explain to me why Ernst & Young is still Time Warner's auditor and why Hurst is still licensed to certify accounts of public companies? Or why Stephen Bollenbach, the Hilton hotels chief, and Fay Vincent, the former baseball commissioner, are still on the Time Warner audit committee? Or why any editor would believe Tom Yannucci when he shows up to declare a company's virtue and demand that a story not be published?

At Fannie Mae, Raines seemed to understand the stakes back in October when he told a House committee he had checked and rechecked his firm's accounting and would take personal responsibility for it. So many questions had been raised about these issues over the past two years that there are really only two possibilities: Raines either knew that Fannie's accounting was questionable, which I doubt, or he should have known, in which case he failed in his duty of care. In either case, with $9 billion in reported profit in jeopardy, he is now duty-bound to resign and take Chief Financial Officer Timothy Howard with him.

Moreover, as Fannie directors resume their urgent discussions this weekend, they need to move quickly to replace KPMG as the company's auditor for having provided them with bad advice. And the members of the audit committee -- Tom Gerrity, the former dean of the Wharton School of Management; mortgage banker Joe Pickett; and real estate developer Stephen B. Ashley -- should seriously consider tendering their resignations as well. Like Raines and the auditors, they are selected and paid handsomely for their integrity and their good judgment. With the mishandling of these accounting issues, one of those qualities has been seriously called into question.

Steven Pearlstein can be reached at pearlsteins@washpost.com.

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