Corporate Fraud Punished by the Markets

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STEVE INSKEEP, host:

Now the idea of improving health care to children may be getting a boost. Many of the Democrats who won control of Congress this month say they favor some way to extend health insurance to kids. And now the insurance industry is jumping in with its own proposal. It comes from America's Health Insurance Plans, which is an industrylobbying group.

Its plan would expand Medicaid, the health insurance program for the poor. That and tax breaks would guarantee health coverage for all children within the next three years, and all adults within a decade. It is not clear, though, how all this would be paid for.

Companies complaining about health insurance and other costs might also watch out for the cost of corruption. The University of Washington examined the cost to companies to get falsifying financial records.

NPR's Wendy Kaufman reports on the downside of dubious accounting.

WENDY KAUFMAN: The new study suggests that a company's reputation gets fried when the company cooks its books and gets caught. Researchers looked at disciplinary actions and the subsequent financial performance of hundreds of firms spanning 25 years. They found that companies disciplined by federal regulators saw their market value fall an average of 41 percent after the news became public.

Lead author Jonathan Karpoff of the University of Washington says, here's why.

Professor JONATHAN KARPOFF (Finance, University of Washington): Lenders, for example, will no longer lend to you at favorable terms. Investors will no longer invest in your stock at favorable terms. Trade creditors will no longer look at trade credit favorably. These are the real impacts of cheating.

KAUFMAN: Enron may be an extreme example, but Karpoff says the energy firm's rapid collapse demonstrates the power of reputation. Enron, he continues, wasn't entirely a house of cards. It had real assets. But no one wanted to do business with it after it was revealed that the company had lied. Karpoff says too many managers just don't appreciate the value of reputation.

Prof. KARPOFF: It seems to me that everyone gives lip service to a good reputation without really understanding the full consequences of damaging a firm's reputation.

KAUFMAN: He adds that companies that lie and cheat shoot themselves in the foot. Wendy Kaufman, NPR News.

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