First it was Global Crossing, and now investor and
media scrutiny of accounting practices seems to be contagious in the telecommunications industry.
Case-in-point, a Wall Street Journal article Wednesday questioning four deals between Qwest Communications and KMC Telecom
Holdings which may have served to enhance Qwest’s revenues. According to the report, over the course of two years, Qwest sold $450
million worth of equipment to KMC, and then turned around and paid KMC millions of dollars for Internet services using that same
equipment. Qwest then, legally, recorded the equipment sale as revenue. Qwest even recorded some profits from the deal because it
bought the gear at discount from Cisco Systems Inc. and Nortel Networks Inc. and then resold it to KMC at a higher price.
Such questioning has prompted telecoms — who have a reputation of having among the murkiest of murky accounting practices — to put
their spin control machines into overdrive in order to avoid the perception that they are the next Enron-in-waiting.
Qwest responded Wednesday, “Qwest entered into its relationship with KMC to accelerate Qwest’s entry in the fast-growing dial-up
Internet market. The relationship enabled Qwest to rapidly deploy an Internet platform to support major contracts with leading
access and content providers such as AOL Time Warner and Microsoft’s MSN unit. The company has previously disclosed its relationship
with KMC to investors and has accounted for the transactions using standard accounting practices.”
Qwest added that it accounted for the transactions as routine operating leases — “conventional take-or-pay commitments widely used
in the telecommunications industry” — in accordance with generally accepted accounting principles (GAAP).
Qwest is not the only one. Level 3 Communications Inc. has also been questioned about its accounting practices. Those questions,
much like the ones asked about Global Crossing, have centered on the company’s accounting practices for IRUs. An IRU, or
indefeasible right of use, is a way of purchasing long-term rights to use a fixed amount of communications capacity or a
communications facility, often for periods of 20 to 25 years. By selling each other IRUs for substantially the same capacity at
about the same time, telecoms can artificially inflate revenues while reporting the purchase as a legitimate capital expense.
Trying to head off criticism of Level 3, James Q. Crowe, the company’s chief executive officer, acted proactively Wednesday, saying,
“During our last fiscal year, there were seven transactions in which we sold IRUs or other capacity or services to a company from
which we purchased similar kinds of items at approximately the same time. We have recently completed a review of each of these
transactions and have reconfirmed that, in each case, the transaction had a valid business purpose and that the accounting treatment
was proper. In any event, the total amount of revenue Level 3 recorded in connection with these transactions was immaterial,
representing only 2 percent of our GAAP revenue for 2001.”
He added, “During 2000, we had no transactions in which we sold IRUs or other communications capacity or services to a company from
which we simultaneously purchased similar items.”
The Securities and Exchange Commission’s probing of Global Crossing, sparked by the revelation of shady accounting practices that
hid Enron’s troubles until it imploded, spread from
Global Crossing to Qwest Communications when the commission subpoenaed documents from Qwest that it believed connected to Global
Crossing.
