Andersen: Now You See It...

As bankruptcy looms, there's a mad rush to divvy up assets

With its legal woes growing, its international network fracturing, and a U.S. reorganization effort stymied, Arthur Andersen LLP is bracing for what increasingly looks like a frenzied rush for the exits by many of its partners and staffers. Such Big Five accounting rivals as Deloitte Touche Tohmatsu International Group Ltd. and KPMG International, along with smaller regional firms, are angling for major pieces of the firm's remaining business.

BusinessWeek has learned that partners in Andersen's offices in Boston, Cleveland, and San Francisco are trying to cut deals that would let some or all of them move to competitors or even set up their own regional practices. It's not clear who would depart or under what terms: Andersen declined to comment. But if the breakaway trend spreads and too many audit partners flee, that could end plans for a largely audit-oriented firm as sketched out by Andersen's independent overseer, Paul A. Volcker, the former Federal Reserve chief.

As it stands, Volcker's plan appears to be all but dead. Little progress is being made. Andersen continues to haggle with Enron Corp. claimants and regulators. Andersen lawyers are preparing for a May 6 trial on obstruction of justice charges even as Volcker presses for a deal. And Andersen's creditors and insiders appear to be preparing for a far more likely outcome: the firm's dissolution and bankruptcy.

An Andersen spokesman denies that bankruptcy is on the horizon, but there are more and more signs of a final meltdown. Creditors are trying to establish their place amid a long line of potential claims on Andersen's assets. The firm is looking to sell off assets. Some ex-Andersen officials believe that Andersen's decision to back out of its promise to pay $217 million to victims of an alleged scam at one former audit client, the Baptist Foundation of Arizona, is a sign that it is hoarding cash for bankruptcy. Moreover, some bank lenders have recently begun selling Andersen's debt for as little as 60 cents on the dollar.

Certainly, few rivals are waiting for Andersen to sort out its options. It now looks like Deloitte Touche Tohmatsu is close to buying up Andersen's tax practice, taking up to 500 of the firm's 1,750 U.S. partners with it. Such a deal would closely follow DTT's move on Apr. 2 to pick up a key Andersen Worldwide partnership in Spain. DTT did not respond to requests for comment.

For now, it's unclear whether the efforts by the U.S. offices to split off will succeed. The firm's managers back the sale of the tax practice, and even those who think Volcker still has a shot at establishing a smaller firm believe some partners have to leave. "You want some people to go," says one person involved. The only certainty is that a full-scale scramble for assets will prove chaotic.

The biggest obstacle to the would-be departures is how large the firm's financial liability will be--and where the money will come from. Andersen stunned officials in Arizona by reneging on its promise to compensate victims of the Baptist Foundation of Arizona scheme. "They acted in bad faith," says Arizona Attorney General Janet Napolitano. And now, she says, the state and a bankruptcy trustee for the foundation intend to force Andersen, by court order, to pay up.

The firm said that its insurer, a Bermuda outfit owned mostly by Andersen Worldwide partners outside the U.S., couldn't pay the bill. But sources close to the matter say Andersen withheld a $100 million premium payment because it may need the money to cut a deal with other claimants, including Enron litigants and the Securities & Exchange Commission. What's more, if it files for bankruptcy, it will need all its cash.

Just how much money will be available to pay the various Andersen claimants is also unclear. The firm has over $2 billion in resources on hand, but its potential legal claims could be billions of dollars more. More than $500 million of the firm's assets, moreover, are owed to Andersen's retired partners. While they are fighting to retain their claim on that cash, it is far from certain that they would have higher priority than Andersen's creditors or claimants. And the firm has drawn down over half of a $700 million secured credit line. Fearing that Andersen won't have much to pony up, plaintiff attorneys in a Houston class action against Enron and Andersen are planning to add more deep-pocketed defendants, including law firms and investment bankers that advised Enron, and Accenture Ltd., the consulting firm that split from Andersen in Aug., 2000. The latter says it had nothing to do with Enron audits.

Because of Andersen's partnership structure, liability doesn't look like an issue for the offshore partners as they jump ship. But it's another story for U.S. partners. Under the firm's limited liability partnership, if the domestic firm goes bankrupt, its partners must pay for any claims lodged against the firm. Each partner is liable at least up to the limit of the capital he has invested. But under the law in Illinois, where Andersen is chartered, the partners may have to pay even more--putting their homes and other assets at risk--if the total assets of the firm fall short of commercial claims, such as real estate leases. Since that issue has yet to be tested in court, "we're in the great unknown," says Denver tax law expert Robert Keating.

That's just one unresolved issue facing rival firms that might want to absorb Andersen partners. For deals to happen, Andersen would have to release those partners from noncompete agreements, and the acquiring firms would have to be sure that they didn't end up responsible for Andersen's liabilities. After rival firms picked up partners of Laventhol & Horwath, an accounting firm that went bust in 1990, the rivals had to cover their liabilities.

Nevertheless, competitors see much to like at Andersen. High-tech companies in Northern California who use Andersen still value its services. That's why negotiations are under way for auditors in the firm's San Francisco and San Jose offices to join, en masse, the local KMPG offices. One person familiar with the talks, who sits on the board of a tech company audited by Andersen, says it would prefer to keep those auditors regardless of their new home. In Chicago, accounting rival BDO Seidman LLP is pursuing Andersen partners for similar reasons.

Still, under their partnership agreement, departing partners or, usually, their new employers are supposed to pay 1.5 times the fees generated by the clients partners take with them. If Andersen could collect such payments for even a modest share of its $4 billion in U.S. revenues, that would go a long way toward fattening up the piggy bank. But few of the rivals circling around its partners appear willing to shell out anywhere near that much cash. Just one more tough issue for Andersen's embattled management to resolve.

By Joseph Weber in Chicago and Mike McNamee in Washington, with Linda Himelstein in San Mateo, Calif., and Geoffrey Smith in Boston

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