Mortgage giant Fannie Mae has taken a significant stride in its march out of an accounting scandal by completing a restatement of past earnings but still faces tough work to make its financial reporting current.
The restatement for 2001 through June 30, 2004, made public on Wednesday, wiped out $6.3 billion in profit for the government-sponsored company, which finances one of every five home loans in the United States. But it was well below Fannie Mae’s earlier estimate of $10.8 billion. Ordered by the government two years ago, the massive reworking of its accounting has cost the company some $1 billion this year to carry out.
It was the first earnings statement filed by Fannie Mae since late 2004. The scandal erupted in the fall of that year when federal regulators accused Washington-based Fannie Mae — with its long-standing prestige, vaunted political clout and reputation for financial excellence — of serious accounting problems and earnings manipulation to meet Wall Street targets.
Fannie Mae also announced Wednesday an increase in its quarterly dividend to 40 cents from 26 cents, where it had been since being slashed in half in January 2005.
The company hasn’t said when it will get caught up and report its results for 2005 and 2006; it could take a year or two.
The restatement “is a key step forward for the company and represents two years of hard work,” James B. Lockhart, director of the Office of Federal Housing Enterprise Oversight, said in a statement Wednesday. “Much remains to be done. ... Fannie Mae faces enormous challenges in fixing its operational and risk management systems, in (financial controls) compliance, and in producing audited financial statements for 2005 and 2006.”
Jim Vogel, an analyst with FTN Financial Capital Markets, said in a research note that for Wall Street, the concern is “if there’s a pattern of sustained quarterly losses that appear to reflect more difficulties in risk management than the market had thought.”
OFHEO is the federal agency that regulates Fannie Mae and Freddie Mac, its smaller sibling in the $8 trillion home-mortgage market. Last May, it issued a blistering report alleging a six-year accounting fraud at Fannie Mae, the second-largest U.S. financial institution after Citigroup Inc. Regulators said the scheme included manipulations to reach quarterly earnings targets so that company executives could pocket hundreds of millions in bonuses from 1998 to 2004.
Fannie Mae paid a record $400 million civil fine in a settlement with OFHEO and the Securities and Exchange Commission. It also agreed to limit the growth of its multibillion-dollar mortgage holdings, capping them at $727 billion, and to make top-to-bottom changes in its corporate culture, accounting procedures and ways of managing risk.
The company also disclosed Wednesday that its chief executive, Daniel Mudd, received a pay package of $13.1 million, including a $2.6 million bonus, for 2005. Mudd, who was the top operations official at the time of the accounting misdeeds, was elevated to the CEO in a management shakeup in December 2004.
In detailing its restatement, Fannie Mae cited a $7 billion net decrease from previously reported earnings for periods prior to 2002, a $705 million reduction for 2002, a $176 million increase for 2003 and a $1.2 billion increase for the first six months of 2004.
Over the last two years, Fannie Mae has disclosed a passel of new accounting problems that had been uncovered in several areas, including its core business of issuing securities backed by the billions of dollars of home mortgages annually that it buys from lenders and bundles together for resale to investors worldwide. Other problems were revealed in loans, houses acquired through foreclosures, interest on delinquent home loans and reverse mortgages.
They all were in addition to the accounting-rule violations that came to light in September 2004 involving derivatives, the financial instruments that Fannie Mae and Freddie Mac use to hedge against swings in interest rates.
Fannie Mae’s chief executive Franklin Raines, a prominent Washington figure who was White House budget director in the Clinton administration, was swept out of office in December 2004 along with then-chief financial officer Timothy Howard. A number of senior executives and board directors have left the company.
Fannie Mae escaped criminal prosecution over the accounting failure. The Justice Department had pursued a criminal investigation, but federal prosecutors said in August that they had shut down their probe without bringing any action. The SEC still could bring civil actions against individual executives, including people no longer at Fannie Mae, with the burden of proof less stringent than in criminal prosecutions. Several shareholder lawsuits have been filed against the company and current and former executives.
Fannie Mae and Freddie Mac were created by Congress to pump money into the home-mortgage market to keep interest rates low and make home ownership affordable for low- and moderate-income people.
Freddie Mac, which also is government-sponsored and has its stock publicly traded, had its own accounting scandal that came to light in June 2003. The company misstated earnings by some $5 billion — mostly underreported — for 2000-2002 to smooth out volatility in profit and uphold its image on Wall Street as a steady performer.