Fannie Mae Plays Catchup With SEC and Sues Its Former Auditor

December is starting off with a bang for Fannie Mae.

On December 6 the mortgage giant announced that it had (finally) finished a restatement of its earnings dating from 2004 back to 2001 and had filed the required Form 10Ks with the Securities and Exchange Commission (SEC). And then on December 12 it filed a lawsuit against its former auditing company, KPMG, largely blaming the firm for all of the financial and regulatory problems Fannie Mae has encountered since massive accounting irregularities were discovered in 2004.

The 10K filing provides consolidated financial statements for 2004 and restatements of previously filed reports for 2002, 2003, and the first two quarters of 2004. Restatements related to ever earlier quarters are handled as adjustments to retained earnings as of December 31, 2001.

The cumulative impact of the restatement was a total reduction in retained earnings of $6.3 billion through June 30, 2003 due to the accumulated impact of the various accounting errors unearthed during the restatement process. These adjustments included:

• A net decrease of $7.0 billion in earnings for periods prior to January 1, 2002;
• A net decrease in earnings for the year ended December 31, 202 of $705 million;
• A net increase in earnings of $176 million for fiscal 2003 and $1.2 billion for the first six months of 2004.

The damage to Fannie Mae, of course, goes far beyond the negative impact on its bottom line. After the accounting irregularities were discovered some two years ago, the corporation was forced to demand the resignation/retirement of two of its top executives (while paying them some truly staggering separation benefits), faced possible criminal indictments which did not materialize, paid a $400 million civil penalty to the SEC and the Office of Federal Housing Enterprise Oversight, and continues to face pressure from Congress for increased government regulation of its operations. The publicly held company also came close to losing its listing on the New York Stock Exchange due to its delinquent filing status.

Fannie must still file past due reports to the SEC for all quarters from the beginning of 2005 to the present.

A second part of the announcement was good news for the corporation's shareholders. In the midst of the accounting scandal and faced with regulator's demands that it increase its capital reserves, Fannie slashed its quarterly common stock dividend in half to $0.26 per share. Fannie Mae will now partially restore this dividend to $0.40 per share

The lawsuit filed by Fannie Mae against its former outside auditor on Tuesday alleges that the professional negligence of KPMG LLP forced Fannie Mae to "undertake one of the largest accounting restatements in history." The corporation states that at least thirty accounting policies and practices approved by KPMG were not consistent with generally accepted accounting principles and that Fannie Mae consequently has suffered more than $2 billion in damages including over $1 billion in costs to amend the historical financial statements that "KPMG negligently approved."

The suit which was filed the Superior Court of the District of Columbia, asks that the suit be heard before a jury and that the Corporation be awarded not less than $2 billion in compensatory damages with pre-judgment and post-judgment interest, an award of costs and expenses incurred in this action, and "any further relief that the court may deem just and proper in light of the circumstances of the case."