Market value Ahold plunged by 63% (€ 3.3 billion dollars) in a day

Ahold-Europe’s Enron

The Ahold financial scandal should shock Europe into accounting and corporate-governance reform, just as the Enron scandal did America

The Economist,  Feb 27th 2003

It may seem an exaggeration to describe the scandal overwhelming Royal Ahold as “Europe’s Enron”—but in most of the ways that matter it is true enough. Certainly, the world’s third-biggest food retailer, after Wal-Mart and Carrefour, poses none of the systemic financial risks of Enron, which was both deeply in debt and the world’s main electricity market-maker. That apart, the similarities between the former Texan powerhouse and the Dutch retailer are striking, from vain yet secretive bosses to the woeful corporate governance, aggressive earnings management and accounting “irregularities” to auditors who were, at best, asleep on the job.

Now, at least, Europeans should stop smugly believing that corporate malfeasance is an American vice that cannot occur in the old continent. Instead, they should fix their corporate-governance and accounting problems with as much vigour as their American cousins showed after the Enron wake-up call.

On February 24th, Ahold announced the resignation of its chief executive and finance director after finding that it had overstated its profits by more than $500m (euro463m) in the past two years. Its market value plunged by 63% that day, to euro3.3 billion. In late 2001, it exceeded euro30 billion. Ahold is now under investigation by various authorities, including America’s Securities and Exchange Commission (SEC).

This dwarfs previous accounting scandals in continental Europe; those at Comroad and EM.TV of Germany, and Belgium’s Lernout & Hauspie, say, were tiny and mostly involved younger firms. Ahold is 115 years old, with sales estimated (before the scandal) at euro77 billion in 2002.

Rather like Kenneth Lay at Enron, and Dennis Kozlowski at Tyco, another scandal-hit American firm, Ahold’s now-departing boss, Cees van der Hoeven, won a formidable reputation from turning a dull company into a growth machine. Investors applauded long after they should have started asking hard questions. When eventually they did ask them, he scorned them for daring to doubt him. Eric Tibi of UBS Warburg calls the defensive response of Ahold’s bosses to probing questions “incredible—an attempt to frighten us.”

Food for thought

If there is no evidence that he was paid outlandishly—still less that he “looted” the firm, as some American bosses are alleged to have done—Mr van der Hoeven certainly became addicted to his reputation as an infallible corporate titan. He has bought some 50 firms for a total of euro19 billion since 1993, and notched up 23 quarters of double-digit profit growth in a row; but when growth slowed, he seems to have been unable to admit to Ahold’s true condition. Like many American firms during the bubble years, Ahold started to bend the accounting rules, claiming profits of acquired firms as “organic growth”, booking capital gains from sale-and-leaseback deals as profit, and keeping billions in debt off its balance sheet.

These techniques, though not illegal, should have rung investors’ alarm bells, just as Enron’s use of off-balance-sheet vehicles should have done. Indeed, some observers were disturbed by them. In June 2001, the Centre for Financial Research & Analysis in Maryland published the first of six reports detailing questionable accounting at Ahold, going back to 1999. Enitan Adebonojo, an author of the reports, argues that such use of smoke and mirrors suggests that the accounting problems at Ahold are far deeper than those revealed this week. Most observers suspect that Ahold has more bad news to reveal.

Although this week’s plunging share price suggests that investors were surprised by Ahold’s accounting woes, by February 2002 many analysts were questioning the firm’s numbers. Yet Mr van der Hoeven continued to assert for much of 2002 that it was on course for double-digit profit growth—promises that may now form the basis of class-action lawsuits.

The $500m overstatement is due primarily to Ahold’s US Foodservice unit, which supplies food to schools, hospitals and restaurants—although there are also issues over its Disco subsidiary in Argentina and several other units. This has led some observers to say that this is less a European problem than yet another American accounting failure. Such an outlandish claim absolves Ahold’s bosses of responsibility for their acquisitions and ignores the persistent, firm-wide tendency to test the limits of acceptable accounting.

Most firms that buy in bulk—including such admired retailers as Wal-Mart and Tesco—get discounts from suppliers if they meet sales targets. The issue is how those rebates are accounted for. The prudent practice is to wait until the targets are met. Failing firms, such as now-bankrupt Kmart, Fleming, a food distributor, and now Ahold appear to have booked these payments before they were earned. Ahold may even have booked entire rebates as profit in the first year of multi-year agreements—or simply made them up.

The scandal should dispel claims about the supposed inherent superiority of continental Europe’s two-tier boards over Anglo-Saxon unitary boards. Ahold’s supervisory board was at least as dominated by Mr van der Hoeven as any American board was by its chief executive. And if nobody should be surprised at lax accounting oversight in the Netherlands, what of Deloitte & Touche, Ahold’s auditor? Although Deloitte uncovered the problems in the past few weeks, it should have done so much earlier, says Lynn Turner, a former chief accountant at the SEC. The truth may not be clear for some time. Nor will how much top management knew—a question that remains unanswered for many of the recent American scandals, including Enron. Asked if Ahold and its suppliers might have collaborated to conceal the truth, Deloitte says only that “we would like to know the answer to that too.”

Having wisely negotiated a new euro3.1 billion credit line with five banks over the weekend, before publicising its accounting problems, Ahold’s short-term liquidity looks assured, despite a downgrade to junk status by Standard & Poor’s. But with net debt of at least euro13 billion and a market value less than euro3 billion, it will have to renegotiate its borrowings soon. There is every chance that it will have to break itself up. One thing at least seems certain: long after the corporate vultures have finished fighting over Ahold’s bones, the reverberations of Europe’s Enron will be felt by all the old continent’s companies.