Ethical Obligations and Decision Making in Accounting, 4/e 1
Major Case 5 Vivendi Universal
“Some of my management decisions turned wrong, but fraud? Never, never, never.” This
statement was made by the former CEO of Vivendi Universal, Jean-Marie Messier, as he took
the stand in November 20, 2009, for a civil class action lawsuit brought against him, Vivendi
Universal, and the former CFO, Guillaume Hannezo. The class action suit accused the company
of hiding Vivendi’s true financial condition before a $46 billion three-way merger with Seagram
Company and Canal Plus. The case was brought against Vivendi, Messier, and Hannezo after it
was discovered that the firm was in a liquidity crisis and would have problems repaying its
Background
Vivendi is a French international media giant, rivaling Time Warner Inc., that spent $77 billion
on acquisitions, including the world’s largest music company, Universal Music Group (UMG).
Messier took the firm to new heights through mergers and acquisitions that came with a large
amount of debt.
In December 2000, Vivendi acquired Canal Plus and Seagram, which included Universal Studios
and its related companies, and became known as Vivendi Universal. At the time, it was one of
Europe’s largest companies in terms of assets and revenues, with holdings in the United States
that included Universal Studios Group, UMG, and USA Networks Inc. These acquisitions cost
Earnings Releases/EBITDA
On March 5, 2002, Vivendi issued earnings releases for 2001, which were approved by Messier,
Hannezo, and other senior executives, that their Media & Communications business had
produced €5.03 billion ($7.25 billion) in EBITDA and just over €2 billion ($2.88 billion) in
operating free cash flow. These earnings were materially misleading and falsely represented
Vivendi’s financial situation because, due to legal restrictions, Vivendi was unable unilaterally to
access the earnings and cash flow of two of its most profitable subsidiaries, Cegetel and Maroc
In December 2000, Vivendi and Messier predicted a 35 percent EBITDA growth for 2001 and
2002, and, in order to reach that target, Vivendi used earnings management and aggressive
accounting practices to overstate its EBITDA. In June 2001, Vivendi made improper adjustments
to increase EBITDA by almost €59 million ($85 million), or 5 percent of the total EBITDA of
€1.12 billion ($1.61 billion) that Vivendi reported. Senior executives did this mainly by
Financial Commitments
Vivendi failed to disclose in its financial statements commitments regarding Cegetel and Maroc
Telecom that would have shown Vivendi’s potential inability to meet its cash needs and
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that Vivendi would have trouble repaying its obligations.
Regarding Maroc Telecom, in December 2000, Vivendi purchased 35 percent of the Moroccan
government–owned telecommunications operator of fixed line and mobile telephone and Internet
services for €2.35 billion ($3.39 billion). In February 2001, Vivendi and the Moroccan
Stakeholder Interests
The major stakeholders in the Vivendi case include (1) the investors, creditors, and shareholders
of the company and its subsidiaries—by not providing reliable financial information, Vivendi
misled these groups into lending credit and cash, and investing in a company that was not as
strong as it seemed; (2) the subsidiaries of Vivendi and their customers—by struggling with debt
and liquidity, Vivendi borrowed cash from the numerous subsidiaries all over the globe,
jeopardizing their operations; (3) the governments of these countries—because some of
Vivendi’s companies were government owned (such as the Moroccan company Maroc Telecom),
and these governments have to regulate the fraud and crimes that Vivendi committed; and (4)
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Questions
1. Analyze the actions taken by Messier in the case from the perspective of the
discussion of ethical leadership in Chapter 8.
The ethical leader understands that positive relationships built on respect, openness, and trust
are critical to creating an ethical organization environment. The underlying principles of
ethical leadership are: integrity, honesty, fairness, justice, responsibility, accountability, and
empathy. Ethical leaders strive to honor and respect others in the organization and seek to
empower others to achieve success by focusing on right action. An ethical organization is a
John Maxwell, the internationally recognized leadership expert, said, “A leader is one who
knows the way, goes the way, and shows the way.” Leaders lead by example. They set an
ethical tone at the top. They lead with an attitude of “Do what I say as well as what I do.”
Ciulla argues that what is distinctive of leadership is the concept of vision: “Visions are not
simple goals, but rather ways of seeing the future that implicitly or explicitly entail some
notion of the good.”
Ethical leadership entails building an environment where those in the organization feel
comfortable in talking to others to share perspectives of the importance of finding an ethical
solution to problems.
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and failed corporate governance. What follows is an analysis of the points he makes in
dissecting the fraud.
1
The analysis pointed to the following failures of ethical leadership.
• Use of company funds for personal benefit, including to enhance lifestyle choices.
• Failure to conceptualize core values and ethical standards in the company.
• Lack of internal control mechanisms to prevent and detect fraud.
• Ineffective control environment to prevent and detect fraud.
• Excessive risk taking.
• Opportunistic behavior.
2. Explain how internal controls can facilitate ethical behavior and help prevent
financial impropriety. What was the role of internal controls in the Vivendi fraud?
The internal controls that are established by management should help prevent and detect
fraud, including materially false and misleading financial reports, asset misappropriations,
and inadequate disclosures in the financial statements. These controls are designed to ensure
that management policies are followed, laws are strictly adhered to, and ethical systems are
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The system of internal controls and whether it operates as intended enables the auditor to
either gain confidence about the internal processing of transactions or create doubt for the
auditor that should be pursued. Internal Control—Integrated Framework, published by the
Committee of Sponsoring Organizations (COSO) of the Treadway Commission in 1992,
The COSO report states that management should enact five components related to these
objectives as part of the framework: (1) the control environment; (2) risk assessment; (3)
control activities; (4) monitoring; and (5) information and communication.
1. The control environment sets the tone of an organization, influencing the control
consciousness of its people. It is the foundation for all aspects of internal control,
providing discipline and structure.
3. Control activities are the strategic actions established by management to ensure that its
directives are carried out.
5. Information and communication systems provide the information in a form and at a time
that enables people to carry out their responsibilities.
The COSO framework emphasizes the roles and responsibilities of management, the board of
directors, internal auditors, and other personnel in creating an environment that supports the
objectives of internal control. One important contribution of COSO is in the area of corporate
• Issuing false press releases stating that the liquidity of the company was “strong” and
“excellent” after the release of the 2001 financial statements to the public.
• Using aggressive accounting principles and adjustments to increase EBITDA and meet
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According to the SEC litigation complaint in the Vivendi case, the company violated the
internal control requirements in the securities acts including:
2
• Section 13(b)(5) of the Exchange Act [15 U.S.C. § 78m(b)(5)] that prohibits any person
from, among other things, circumventing a system of internal accounting controls or
failing to implement a system of internal accounting controls.
• Rule 13b2-1 [17 C.F.R. 240.13b2-1] under the Exchange Act prohibits any person from,
3. Why do financial analysts look at measures such as EBITDA and operating free
cash flow to evaluate financial results? How do these measures differ from accrual
earnings? Do you believe auditors should be held responsible for auditing such
information?
At the end of the day, cash is still king. If the accrual numbers on the financial statements do
not convert into cash, the company will be out of business. Financial analysts look at
measures as EBITDA and operating free cash flow to indicate the cash position of the
company. Then this cash position is used to test the ability of the company to meet its
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Advantages
• The construct is well defined inasmuch as the number equals operating income plus
interest expense, depreciation, depletion, and amortization charges.
• Its components are GAAP-based, and thus are audited numbers.
Disadvantages
• Nobody knows what EBITDA is really measuring. EBITDA clearly is not earnings, as it
pretends that some very real costs are fictional.
The authors conclude that EBITDA is neither earnings nor cash flow. “Indeed, we have no
idea what it really is measuring.”
Free cash flow is measure of financial performance calculated as operating cash flow minus
capital expenditures. Free cash flow (FCF) represents the cash that a company is able to
EBIT(1-Tax Rate) + Depreciation & Amortization – Change in Net Working Capital – Capital
Expenditure
It can also be calculated by taking operating cash flow and subtracting capital expenditures.
Currently, calculations such as EBITDA and operating cash flow are numbers used to report
to investors how the company is doing but they are not GAAP-recognized amounts.
Adjustments made to reported EBITDA from the financial statements can have a dramatic
effect, significantly increasing or decreasing the ultimate EBITDA figure. The following are
a three examples of these adjustments:
• One-time expenses for professional fees, severance expenses, inventory write-downs,