And now this - the most actively traded stock on the US markets is cut by two-thirds as its shareholders drive home from work Tuesday night - the result of a $3.8 billion lie.

Add the WorldCom to the growing list of the US accounting scandals. Shareholders lost $2 billion in a matter of minutes, after the news leaked out that the debt-laden WorldCom treated billions of dollars in what lawfully should have been the expenses as a corporate asset. And if the WorldCom ultimately enters the bankruptcy category, it could win the gold medal there as well. It was a misuse of basic bread-and-butter accounting that should have been spotted by the auditors both inside and outside the firm. It shows a severe lack of oversight. From Arthur Andersen (WorldCom’s long time auditor) to the top management, and the audit committee - all these guys have to be held responsible.

The WorldCom is one of the biggest stock market stars of the past decade and one of the world’s largest telecom companies, with 20 million consumer customers, thousands of corporate clients and 80,000 employees. It is the No 2 US long-distance telephone and data services firm and provides a large part of the Internet’s backbone. It has valuable physical assets and, for a time, was immensely profitable. President Bush, who rarely comments on the state of the financial markets, called the accounting irregularities “outrageous” and said “we will fully investigate and hold the people accountable.”

Some days back, one of the WorldCom’s internal auditors discovered that starting in early 2001, huge amounts of expenses related to building out their telecom system weren’t being treated as a regular cost but as a capital expense. That resulted in a significant boosting of the company’s earnings before interest, taxes, depreciation and amortization, otherwise known as the EBITDA, which the WorldCom used as a critical gauge of its growth.

While it’s not clear exactly what costs the WorldCom capitalized, the process helped boost cash flow because it treated the costs as an asset that can be written down over the time, not immediately. The accounting treatment means the expenditure doesn’t affect the all-important operating cash-flow figure - though money actually may be going out the door.

In a detailed report, the telecommunication giant confessed that its audit committee has uncovered $3.8 billion in expenses that had been improperly booked as capital expenditures; a gimmick that boosted the cash flow and the profit over the past five quarters and that could be one of the largest accounting frauds in history. The Mississippi-based telecom giant reported that, had it followed generally accepted accounting principles, it would have reported a net loss for 2001 and the first quarter of 2002, instead of profits of $1.4 billion and $130 million, respectively. The amount of the mis-labelled costs was $3.055 billion for 2001 and $797 million for the first quarter of 2002 and the company’s reported EBITDA would be reduced to $6.339 billion for 2001 and $1.368 billion for first quarter 2002. Result - the WorldCom fired its long time chief financial officer, Scott Sullivan, and accepted the resignation of David Myers, its senior vice president and controller.

Unlike the bewildering array of complex accounting tricks that led to the downfall of the Enron, the WorldCom’s fraud was deceptively simple. The company took cash outflows that should have been treated as expenses during the quarter they were made, and instead treated them as capitalized costs so that they could be spread out over a longer period of time. This had the effect of making the WorldCom’s earnings before interest, taxes, depreciation and amortization - a measure of cash flow - and its profits look much better than they actually were.

If anything good can come out of the WorldCom accounting fraud, it’s that investors may stop relying solely on financial metrics like the EBITDA to measure a company’s performance. Like other recent accounting blowups, this latest scandal has prompted serious questions about the way analysts and investors value stocks.

Although the term EBITDA is often used interchangeably with cash flow, the two aren’t the same thing. To begin with, EBITDA doesn’t recognize capital expenditures, which show up in the statement of cash flows. The EBITDA also excludes interest and taxes even though these things can and do cost companies cash. In addition, the EBITDA doesn’t recognize changes to working capital, or current assets minus current liabilities, and their impact on cash flow. This makes it far easier to manipulate the EBITDA with aggressive accounting than to manipulate true cash flow, which measures the money a company has earned from the operations when all costs have been subtracted. Improperly capitalizing expenses is “fairly common” because it can have such a dramatic impact on the bottom line and at the same time, it can be a grey area of accounting. When companies record network maintenance costs, for example, they could simultaneously record that as an asset arguing that it is creating a future economic benefit.

Investors are now wondering, what exactly was the WorldCom’s board of directors doing for the last five quarters as the books were being cooked?

The WorldCom’s four-person audit committee met five times in 2001 as per the records of the Securities and Exchange Commission. It’s at these meetings, presumably, that the committee reviewed and approved the company’s financial statements for the past five quarters. The audit committee’s oversight does not provide an independent basis to determine that management has maintained appropriate accounting and financial reporting principles or appropriate internal controls and procedures designed to assure compliance with the accounting standards and the applicable laws and regulations.

Later the WorldCom said the first evidence of the fraud was detected soon after the ouster of the long-time chief executive Ebbers in April. It then turned the matter over to its audit committee and the newly hired auditors, the KPMG, who deemed the issue serious enough to alert the SEC. The KPMG replaced the Arthur Andersen as the WorldCom’s outside auditing firm in May.

It would be interesting to find out what directors knew. When they knew it, were there red flags that they missed? The capitalizing expenses is certainly one of the oldest accounting tricks in the book, and it’s something that the auditors look for. As a practical matter one would be hard-pressed to find any director at a board meeting get up and ask whether a company is taking the operating expenses and treating them as capital expenditures.

This isn’t likely to sit well with the investors, who are, once again, being offered another reason to distrust corporate directors who are supposed to look out for their best interests.

By improperly recording expenses as capital investments, the WorldCom was basically calling what was an orange an apple. And no one appears to have taken a bite of the apple to make sure that’s what it was.

That’s despite the fact that capital investment was, by far, among the biggest costs at the WorldCom, which should have made it an obvious target of scrutiny on the part of internal and external auditors. This is a lousy piece of auditing. One would hope the auditors at the Andersen didn’t have a situation where they cowed to the wishes of the company.

The Andersen, already reeling from its botched audits of the Enron, said its work for the WorldCom complied with professional accounting standards. In a statement, the embattled accounting concern shifted blame to the WorldCom’s chief financial officer. The Andersen said the CFO didn’t tell the Andersen important information about the line-cost transfers which falsely inflated the WorldCom’s earnings, nor did he consult with the Andersen about the accounting treatment. Experts insist that the WorldCom scandal is such a gross overstatement that it should never have slipped by its auditors.

It’s mind-boggling. If we were talking about a $100 million or $200 million overstatement on the base of $10 billion in capital expenditures, you possibly could say it was a legitimate classification error. But not these numbers. That’s flat-out unconscionable and inexcusable. If the Andersen looked, they should have found it. Either they didn’t look or they looked and raised questions and let it go through anyway. If the Andersen let it slip through it deserves to get convicted again.

Many investors are breathing a sigh of relief that the WorldCom’s auditor was the Andersen, rather than one of the remaining Big Four accounting firms. If one of those firms had signed off on the WorldCom’s books, it would have signalled a more systemic breakdown in the auditing industry. If it were another accounting firm it would make the scandal twice as bad.

The Andersen billed the WorldCom $4.4 million in auditing fees and $12.4 million in all other fees for 2001. The WorldCom last month dropped the Andersen, which has been struggling to survive since its criminal indictment related to the Enron. The WorldCom appointed the KPMG LLP as its independent new auditor. The KPMG hired some Andersen partners and employees who were slated to continue working on the WorldCom account.

One of the most alarming factors about the WorldCom scandal is that, unlike the Enron, the company wasn’t known for its aggressive accounting. The WorldCom’s accounting trick is not sophisticated. It’s hard to believe they attempted to do this. At least the Enron had the virtue of being sophisticated.

Industry experts said they were hopeful that the WorldCom’s accounting fraud was an isolated incident, but couldn’t rule out another blow-up, particularly with the record number of companies hiring new auditors this year. As auditors pore over the books of their new clients, more accounting irregularities may be discovered.

If you’re an investor in the US markets, is there anyone left to believe?

Also hidden in the Anderson’s statement is a misconception: Because the WorldCom executives didn’t explain each line item in the company’s reports, why is it that the Andersen employees aren’t compelled to ask about them?

Another important lesson is that you can’t trust analysts. How many of the Wall Street’s brightest told the investors to sell the WorldCom before February, when the stock started its drop?