The Big 3 Auto Suppliers – A Letter to the WSJ

I sent this Letter to the Editors of the Wall Street Journal on May 15, 2005, almost two years ago. It was not published. They’d rather let sleeping dogs lie… Or maybe kick the dog (Sarbanes-Oxley) instead.

The revenge of a blogger. Now I have my own publishing mechanism…

Note: If you’ll recall, the week after Mr. Stockman resigned, Collins and Aikman filed for bankruptcy. A few months before, Tower Automotive also filed. Delphi finally filed after much “suspense” and utilization of the threat to extract concessions from its unions, in October 2005. Visteon was bailed out in late 2005 by its former parent Ford Motor Company and narrowly avoided bankruptcy, but is still struggling. Dana Corp, another major automotive supplier, filed in March of 2006.

Dear Sir,

Well run companies are not complaining about the Sarbanes-Oxley law. But the WSJ is often willing to highlight the perceived negatives of the law (high costs, required activities that don’t add “value”, etc.) while not attributing the uncovering and unraveling of management failures to enforcement of the new provisions.

I was reading the WSJ yesterday, May 13th, and saw the article about David Stockman resigning from Collins and Aikman.

Collins & Aikman CEO Quits Amid Cash Crunch
(Author note: From The WSJ May 13, 2005. Requires subscription and payment for full article.)

David Stockman, the former Reagan budget director turned high-profile private-equity investor, became the latest victim (??? Blogger editorializing…)of auto-industry upheaval. Mr. Stockman, a founder of private-equity company Heartland Industrial Partners, resigned yesterday as chairman and chief executive of Collins & Aikman Corp., as the auto-parts supplier disclosed it faces “significant near-term liquidity challenges.” Standard & Poor’s warned that the Troy, Mich., company “could be forced to seek bankruptcy protection in the near term because of severe liquidity pressures.” The ratings agency cut Collins’s junk-debt rating to triple-C-minus from triple-C-plus.

The company declined to say why Mr. Stockman resigned. He couldn’t be reached. A spokesman for the company declined to say whether it intends to restructure under bankruptcy protection.”

The article also mentions the “issues” at Delphi and Visteon. The general malaise is blamed on the “auto industry upheaval” and “turmoil in the auto sector”, slumping production and pricing pressures. In each case, vague “accounting problems” are cited for delays in issuing annual reports or other problems with compliance with debt agreements that are now causing liquidity problems. If you recall, liquidity problems were straw that broke Parmalat’s back. In Enron, the “bullet to the head” in the words of Chuck Watson of Dynegy, was the fact that a loan due in two years was “suddenly” going to have to be repaid in weeks, after their credit rating was downgraded to just below junk in November of 2001. Liquidity problems are often the result of deep seated, chronic problems that “suddenly” come home to roost.

Moody’s Cuts Most Rtgs For Collins & Aikman Products By 2 Or More Notches (TO: Caa2 – SR. IMPL.; Caa2 – SR. SEC.; Ca – SR. UNSEC.; C – SR. SUB.); Confirms Sgl-4 Liquidity Rating; Outlook Negative
(Author note: From The WSJ May 2005. Requires subscription and payment for full article.)

I have attached below the recent SEC disclosures by Collins and Aikman, Delphi and Visteon. Given the myriad of problems disclosed, it is disappointing that your publication does not give credit to the law for forcing such problems to become more transparent. You never saw such frank disclosure before Sarbanes-Oxley. In this day and age, no company can expect to keep running the Ponzi schemes of borrowing more and manipulating earnings in order to hide questionable or erratic performance. These “issues” unravel at the speed of light now and it’s the weaknesses in internal controls that mitigate risk that allow them to get started in the first place. I think your reporters need to learn to read 8-Ks.

All the best,

fm

COLLINS & AIKMAN CORP —
Auto parts manufacturing.
2003 Sales: $3,983.70M
Auditor: KPMG
Ticker: CKC
November 09, 2004
Control Deficiencies Identified — During the course of our evaluation, we have identified certain control deficiencies, including reviews of non-routine journal entries, account reconciliations and supporting documentation, reviews of financial data sourced from manual spreadsheets, segregation of duties, system access and user authorization, and business process application controls. Our independent auditors, KPMG LLP, previously identified certain of these items as reportable conditions in connection with the completion of their audit of our 2003 financial information. We believe that these deficiencies are primarily attributable to reduction-in-force cost reduction initiatives and residual process harmonization and personnel integration issues from prior acquisitions.

March 17, 2005
Material Weaknesses Identified — The Company is working towards completion of its assessment of internal controls over financial reporting required under Section 404 of the Sarbanes-Oxley Act and has concluded that certain material weaknesses, in addition to the matters leading to the restatement described above, existed at December 31, 2004, but its assessment of the effectiveness of the Company’s control over financial reporting is ongoing and the extent of those material weaknesses remains under review … Other material weaknesses may be identified as a result of further investigation of the circumstances surrounding the expected restatement arising from vendor rebates. Our review and the audit is ongoing.

VISTEON CORP —
Auto parts manufacturing.
2003 Sales: $17,660.00M
Auditor: PricewaterhouseCoopers
Ticker: VC
November 04, 2004
Deficiencies Identified — We are currently undergoing a comprehensive effort in preparation for compliance with Section 404 of the Sarbanes-Oxley Act of 2002. In the course of its evaluation, management has identified certain deficiencies in internal controls over financial reporting which the company is addressing with remediation actions. Specifically, we are improving the controls and procedures related to the company’s new business processes and systems utilized to record revenue and manage the related accounts receivable associated with sales to Ford…

Delphi 8-K
March 1, 2005
On March 3, 2005, the chairman of the Audit Committee discussed the status of the Committee’s review and his impression of the meetings held on March 1, 2005 with Delphi’s lead independent director. In addition, the chairman reviewed with the lead independent director the findings to date of the Committee’s ongoing investigation, namely reaffirming the preliminary conclusions it had reached with respect to certain Rebate Transactions that were previously reported in the Company’s Report on Form 8-K filed December 8, 2004 (the “Prior 8-K”), and discussing its findings of improper accounting for certain additional Rebate Transactions that were under review, of amounts paid for certain information technology services in 2002 and 2003, and for certain transactions involving the disposition in 1999, 2000 and 2001 and subsequent purchase in later periods of indirect materials and inventory. A

At the conclusion of the discussion, the lead independent director and the chairman of the Audit Committee, taking into account the views expressed earlier by the other independent directors, agreed on certain additional steps the Company needs to take to finish its review and to determine what changes, if any, are required to strengthen the Company’s internal controls over financial reporting and disclosure controls and procedures. These steps include meeting with management and the Company’s independent auditors to consider the extent to which the Company’s historical financial statements need to be restated, the personnel actions described above, and the conduct of additional interviews.

The Audit Committee has reached the following conclusions as a result of its review. The internal investigation is not complete and the findings have not been the subject of a review or audit by Deloitte & Touche LLP.
Delphi improperly deferred recognition of expense for payments made for system implementation services in 2002 and 2003. The total amount of payments made, not including payments related to the $20 million pre-tax Rebate Transaction discussed in the Prior 8-K, which has already been included in preceding table, was approximately $40.5 million. Approximately $17.4 million of these payments were correctly capitalized as internally developed software. The remaining approximately $23 million should have been recorded as expense when services were rendered, rather than deferred and then expensed in later periods. At September 30, 2004 all previously deferred amounts had been expensed or capitalized…The Company did not file its Form 10-Q for the period ended September 30, 2004 and has not yet issued audited financial statements for the year-ended December 31, 2004. The Audit Committee is working diligently to complete its investigation and reach final conclusions on the related accounting. Completion of the investigation should enable the Company to understand the final results of the investigation, to restate prior historical financial statements to reflect any material adjustments warranted by the results of the investigation, and to issue audited financial statements for the year ended 2004. Although the Company is not able to predict with certainty when its investigation will be complete, it expects that it will be able to issue any necessary restatement of prior historical financial statements on or before June 30, 2005 and become fully current in its filings of periodic reports with the SEC.

The Company continues to cooperate fully with the investigation by the staff of the SEC.