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Verizon Communications Inc. Vodafones partner in USA. Could they pay VOD 20 billion for 45% share in company

New York, Dec. 30 (Bloomberg) -- According to its annual report released in March 2002, Verizon Communications Inc., the largest U.S. local phone company, had a strong year in 2001. In the opening pages of the report, the company announced an annual profit of $389 million.

Only those investors who dug into the small print at the back of the document learned that Verizon's reported earnings included $2.7 billion in gains from its pension fund investments -- profit that didn't really exist. The company pension fund actually lost $3.1 billion in 2001, a footnote on page 58 of the 68-page report revealed.

In reporting gains it hadn't made, Verizon didn't violate any rules. Like other U.S. companies, Verizon was following accounting practices as written in 1985 by the Financial Accounting Standards Board, which sets U.S. accounting standards.

The FASB rules say that in preparing income statements, companies should include estimated gains -- not actual gains or losses -- from pension fund investments.

Legal or not, the practice has incensed some investors. ``There's a serious illness pervading a portion of the financial market,'' says Kathleen Connell, California controller and a board member of the state's two largest pension funds: the California State Teachers' Retirement System and the California Public Employees' Retirement System.

She says accounting rules are allowing companies to artificially increase stock prices. ``Phantom pension earnings are portrayed as income,'' she says. ``It's a ticking time bomb.''

As the stock market plunged during the past three years, the pension funds of companies in the Standard & Poor's 500 Index lost more than $200 billion in value, according to studies by actuaries and several investment banks, including Credit Suisse First Boston and UBS Warburg LLC.

Losses Weren't Reported

Because of FASB accounting rules, many of those losses weren't reported on balance sheets.

If pension liabilities had been counted in financial statements, aggregate earnings for the S&P 500 would have been 69 percent lower than the companies reported for 2001, or $68.7 billion rather than $219 billion, the CSFB study found.

``We're starting to see billions of dollars of shareholder equity vaporized because of pension underfunding,'' says Marc Siegel, a senior analyst at the Center for Financial Research & Analysis, an accounting research firm in Rockville, Maryland. ``It's much more pervasive than anything Enron was doing.''

Over the past three years, most companies have allowed their pension fund losses to grow -- out of the sight of balance sheets and investors -- without addressing the problem, says David Bianco, who headed research into the issue for UBS Warburg.

Too Big to Ignore

Now, the liabilities have become too big to ignore. Many of the largest companies will be spending hundreds of millions -- and in some cases, billions -- of dollars to replenish pension funds in 2003 and beyond, according to CSFB and UBS Warburg.

Ford Motor Co., the world's second-largest automaker, said in November it would put $500 million into its pension fund in both 2003 and 2004.

SBC Communications Inc., the second-largest U.S. local phone company, said in November it would pay $1 billion to $2 billion into its pension and postretirement health benefit funds in 2003, thereby reducing earnings by 20 cents to 40 cents a share.

On Dec. 5, Verizon said its earnings per share in 2003 would decline by between 27 cents and 33 cents because of lower pension income.

Many companies' reported profit will be reduced, say CSFB and UBS Warburg.

Other companies could face the same dilemma as Georgia- Pacific Corp., the world's second-largest paper and building- products manufacturer, which said in November that pension fund losses would require a charge to shareholder equity as high as $600 million in the fourth quarter of 2002.

Violation of Agreement

The charge would have placed the company in violation of a $2.4 billion loan agreement until a group of lenders, including Bank of America Corp., agreed to a waiver. Georgia-Pacific was required to pay the lenders an undisclosed fee to receive the waiver.

In October, Standard & Poor's lowered the long-term debt rating of both General Motors Corp. and Ford to BBB, two levels above junk, from BBB+, citing pension fund liabilities.

Another complication: As companies spend more to replenish pension funds in the next two years, that money will not be available for spending on such improvements as new buildings and manufacturing equipment. A study by Goldman Sachs Group Inc. estimates companies will need to channel an extra $80 billion a year to adequately fund pension accounts