What's up guys and welcome back to wall street millennial on this channel, we talk about everything related to stocks and investing waste management is a stock that most people never think about. You probably associate waste management with the truck that comes by your house once a week when you see it pick up your trash for 10 seconds, and then you don't think about it again until the next time. It's not a very exciting business and it doesn't seem like the type of company whose stock you'd find in sophisticated portfolios, but the company is actually a financial giant. It's the largest waste disposal company in the world, with the market cap exceeding 60 billion dollars.

That means that's worth more than twitter: it's actually a very popular stock within institutional investors and very rich investors who are looking to preserve their wealth. That's because the business of waste management is considered so safe that investors are willing to pay extra for each dollar of earnings. Because of that, it has a very high price earnings, multiple of about 40 times, despite the fact that it's not really growing. One of the biggest single investors in waste management is bill gates who has more than two billion dollars worth of waste management stock in the portfolio of the bill and melinda gates foundation for those in upper level management at the company.

This perception of safety and stability has led to ultra save job security, high pay and, in many ways, easy work, but that did not stop them from perpetrating one of the biggest and most blatant accounting frauds in american corporate history. Waste management was founded in the early 1970s and quickly grew to become the largest waste removal business in the world. Their average growth in both revenue and net income up through the early 90s, was more than 30 percent per year. Part of this growth was facilitated by what they called quote aggressive, accounting, unquote.

Aggressive accounting is a mindset whereby, whenever there is any ambiguity as to whether an expense should be written down in the current reporting period or deferred to the future, it is always deferred to the future. Similarly, revenues would be favorably recorded earlier rather than later. In this way, positive business reporting was pulled forward and any negative business reporting was delayed as much as possible. While this technique is a gray area is quite easy to be tempted to cross the line, especially after 20 years of doing it.

In the 90s, the company started to run into some headwinds for its massive growth story. Environmental regulations were becoming more stringent when it came to landfills and how to deal with hazardous waste. But the ceo of waste management dean buntrock, wanted to continue waste, management's legacy and perception as a high-growth company the short-termism of wall street reporting pushed him and other high level executives to accounting fraud. To do this, one of the easiest ways to inflate corporate earnings is to use aggressive accounting with non-hard expenses.

That especially includes things like depreciation. Usually, if a business has certain physical assets that it needs for its operations, such as a fleet of trucks, those assets eventually wear out and have to be replaced over the course of the expected life of those assets. The company is expected to report the estimated usage of the remaining life of those assets as depreciation. Normally, companies use some time frame that the asset is expected to last and the salvage value of the asset once it is no longer operational.

They then use that to calculate how much its value degrades each year. In the case of waste management, one of their biggest assets is their fleet of garbage trucks, waste management's operating units operated under the assumption that each garbage truck had a useful life of 8 years. After which they had become worth nothing, this is the assumption that they used to calculate depreciation, expense and thus operating profit. Any slight adjustments to this number would change the company's profit, significantly.

Waste management's top level management started with increasing the estimated useful life of the garbage trucks by fifty percent and added an unexplainable salvage value of thirty thousand dollars. The scheme was not justifiable and the executives knew it so they hid it behind corporate doors and kept the practice secret within the top ranks. They used this technique to consistently hit desired earnings numbers each quarter. They also changed the amortized value of landfills by arbitrary amounts by as much as 10 percent.

Together. These tricks resulted in the elimination of hundreds of millions of dollars of expenses. Another accounting trick that they used was to overtly reverse reserves into income. These so-called sweeps went through the balance sheet of the company, looking for any reserves for losses or future expenses, for example, if they had reserves of money on the balance sheet set aside for accidents or the possibility that they might have to pay out workers compensation, they Would take those reserves off the balance sheet in the form of income by 1992 waste management's auditor arthur anderson became increasingly concerned about the company's accounting gimmicks.

They sent a letter to senior executives saying that the top-level accounting adjustments were obscuring the true performance of the company's operating units. They told waste management to make all corporate adjustments of earnings numbers in the hands of the respective operating divisions, but management at the company refused. Instead, they accelerated their top-level accounting adjustments through 1996 until these adjustments account for nearly a quarter of total income in 1994, upper-level executives ordered the preparation of the company internal memorandum to support their biggest accounting fraud, the service life and salvage value of their garbage trucks. They ordered a company purchasing agent to make the memorandum justify the 12 year life of the trucks, as well as a 30 000 salvage value of the trucks the memorandum was made, although the claims were not backed by any real research or data the next year.

A separate part of the company undertook a study to formally determine the true numbers. They found that the salvage value and useful life of the garbage trucks was significantly lower than the assumptions that the company's management was using in the accounting gimmicks. When management heard the results of the study, they ordered all traces of the study to be destroyed, all computer files relating it to be deleted and the study to be permanently ended. The results of the study were never released to the rest of the company waste management.

Also used fraudulent accounting tricks to make certain business expenses appear less bad than they were. One of the company's major expenses was acquiring permits for new landfills. Sometimes the process of gaining approval failed and the cost of pursuing the permitting should have been marked as expenses, but in order to hide the fact that these failures were happening, management would bundle those costs into other landfill projects as expenses for those projects instead other times They would amortize the costs over a 20-year period and still other times they just never reported the expenses at all. In these cases, they just left the expenses on the balance sheet, without ever realizing them as losses on the income statement.

This gave the false impression to investors that these failed projects didn't even exist. Finally, waste management use environmental liability reserves to pay operating expenses rather than record losses, because the company perpetually faced the threat of liabilities related to environmental issues. They had substantial reserves for these potential expenses. This was in line with generally accepted accounting principles, however, management and the company used these reserves to pay unrelated operating expenses.

In this way, they effectively avoided having to allocate money to these environmental liabilities, even though it legally wasn't permitted, but these accounting gimmicks did nothing to solve the underlying problem at the company of languishing business profitability. Finally, in the late 90s shareholder pressure forced out the old management and ushered in a new set of executives, the new management quickly realized that the fraud was going on. The new ceo announced publicly that it was launching a review of the company's prior accounting practices on that news. Waste management stock plunged 10 in a single day later that same month, the new ceo resigned saying that the company's accounting was quote spooky unquote on the news of his departure.

The stock fell another 20, when the review of the company's financials was completed in february of 1998. The restatement of financials was enormous at the time it was the largest restatement of earnings in corporate american history. In total, 1.87 billion dollars worth of net income was restated. The largest single item was vehicle and equipment depreciation.

The restatement was a shock to shareholders, who saw nearly 6 billion of value wiped off the stock. In total, due to the scandal, while shareholders in the company were being pummeled, the executives responsible for the scandal were being handsomely compensated for the company's performance bonuses paid to senior management reached into the millions of dollars per year. The ceo alone made three and a half million dollars in bonuses. In addition, in the years and months leading up to the revelations of the scandal, the executives dumped large amounts of stock into the market.

The ceo, for example, sold four and a half million dollars of stock in august of 1997 right before the company's restatements were announced in total, his personal stock sales resulted in him avoiding losses of 4.3 million dollars based on the stock price tanking after the scandal was Unveiled the other executives involved with the scandal also similarly avoided losses by selling stock before being exposed. In march of 2002, the sec formally charged the top executives involved in the fraud. Three years later, the executives settled with the sec for more than 30 million dollars. However, the majority of that sum was paid by waste management itself and the ceo at the time ended up only paying 2.3 million dollars, but because of the uninteresting nature of the business, the general public seemed uninterested in the settlement.

Since the scandal, waste management stock has rebounded strongly. It is now trading at about 10 times the price of the lowest point after the scandal was uncovered. Investors seem to have completely forgotten that the largest accounting fraud in corporate history at the time ever even happened. Alright guys that wraps it up for this video, if you enjoyed the content, make sure to smash the like button and subscribe.

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