Sunday, June 15, 2008

Ratings agencies' greatest misses (Financial Post)


For a time, Toronto-based Olympia & York, the world's largest private real estate developer, was the darling of the investment community, even though it refused to disclose financial information. This may explain partly why the rating agencies were caught off guard by the extent of its troubles when the real estate market crumbled in the early 1990s, and why DBRS had an AA rating on an Olympia & York unit a month before the parent company declared bankruptcy in 1992.


In the late 1990s and early years of this decade, Worldcom was a fast -rising telecommunications giant with a huge investor following and extensive coverage by debt raters. Its fall from grace was a black eye on the sector because none of the agencies saw it coming. Neither Moody's Investor Service, Standard & Poors nor Fitch questioned Worldcom's profitability until the U. S. Securities and Exchange Commission announced it suspected accounting irregularities shortly before the company, the second-largest long-distance provider in the United States, filed for bankruptcy protection in July, 2002.

Bernie Ebbers, the Edmonton-born CEO, is today serving a 25-year sentence for his role in what is now regarded as one of the biggest corporate frauds in U. S. history.


Another telecom shooting star from the tech boom, Global Crossing dreamed of becoming an industry giant. It fell back to Earth around the same time as Worldcom, eventually coming to a settlement with the SEC over allegations it violated accounting rules. In February, 2002, Global Crossing was given an investment-grade rating by the major debt raters. Seven months later, it went into default.


In its heyday, U. S. energy trader Enron Corp. enjoyed an unparalleled reputation as an innovator and leader, which helped power a meteoric rise in its shares. But by 2001, the bloom was starting to come off amid revelations of what became one of the most spectacular corporate scandals in U. S. history, no thanks to the rating agencies. Indeed, it wasn't until the end of November, 2001, five days before it filed for bankruptcy, that the three biggest rating agencies downgraded

Enron to junk status. Did they act too late? Critics say the episode is a prime example of everything that is wrong with ratings agencies. They argue that if not for the cozy relationship that exists between the raters and the companies being rated, investors might have had the benefit of an earlier warning.


One of Canada's leading insurance companies before it foundered in 1994, Confederation Life made the fatal error of betting too heavily on the real estate market in the 1980s, a strategy that helped fuel growth in the short term but left it vulnerable when the downturn finally hit early in the following decade. But credit quality had already significantly deteriorated by the time the rating agencies re-evaluated their scores, sparking angry words from investors.

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