Improper Capitalization of Expenditures:

Who Dropped the Ball?

Ryan Patrone
Spring 2012

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Table of Contents

Abstract ............................................................................................................................................2

Thesis ...............................................................................................................................................3

Appendix A ....................................................................................................................................18

Appendix B ....................................................................................................................................19

Works Cited ...................................................................................................................................20

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Abstract
From 2000 through 2002, WorldCom improperly capitalized fees charged by third party
telecommunication network providers for access rights to their networks. During this time
period, the company overstated earnings by more than $3.8 billion. Though it has been
proclaimed that WorldComs improper capitalization of expenditures is indicative of
fundamental issues underlying the rules-based approach of U.S. GAAP, the standards themselves
were actually inconsequential to the development of the WorldCom scandal.
WorldComs access fees were improperly accounted for relative to both GAAP and the
more principle-based IFRS. The company would have actually found it easier to support its
fraudulent activity had it been following principle-based standards. By claiming that the line
costs were a cost of obtaining customers, managers could align the improper treatment with the
objective of capitalizing expenditures: matching expenses with the revenues they helped to
generate. Rather, the scandal was a product of ineffective controls and issues with the structure
and integrity of management. As is the case with most fraudulent activity, managements lack of
integrity was at the core of WorldComs scandal. Fueled by greed, executives violated basic
ethical principles and their managerial responsibilities to shareholders in order to temporarily
inflate profits. The companys highly bureaucratic structure enabled the executives to control the
accounting methods and created barriers to detection and corrective action. These barriers,
coupled with the internal audit teams lack of competence and independence, contributed to the
ineffectiveness of the companys control mechanisms. The last line of defense against the
fraudulent activity and related financial misstatements was the external audit function, which
failed due to the absence of professional skepticism and independence.

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Thesis
WorldCom was a major global communications provider of data transmission and
telecommunication services. From 2000 through 2002, the company improperly capitalized fees
charged by third party telecommunication network providers for access rights to their networks
(line costs). During this time period, WorldCom overstated earnings by more than $3.8
billion. The collapse of the telecommunications giant resulted in the loss of more than 17,000
jobs and billions of dollars in pensions and investments (Knapp, 2010, p. 327). Though it has
been proclaimed that WorldComs improper capitalization of expenditures is indicative of
fundamental issues underlying the rules-based approach of U.S. GAAP, the accounting fraud
was actually a result of ineffective internal and external controls, the companys highly
bureaucratic structure, and a lack of integrity among the executive officers.
In a statement made by WorldCom on June 25th, 2002, the company admitted that it had
improperly capitalized over $3.8 billion of line costs. According to European Union Briefings,
the WorldCom scandal undermined investors confidence in the superiority of US GAAP and
suggested fundamental problems with rules-based standards (European Union Center of North
Carolina, 2007). Relative to rules-based accounting standards, principle-based standards
increase the application of professional judgment. This increase should promote a focus on
economic substance over form, resulting in higher quality financial information. Nonetheless,
the absence of principle-based standards was irrelevant to WorldComs fraudulent activity.
Financial Accounting Standard 13.1 defines a lease as an agreement conveying the right
to use property, plant or equipment usually for a stated period of time (Ernst & Young, 2005, p.
453). International Accounting Standard 17.4 offers a similar definition, describing a lease as
an agreement whereby the lessor conveys to the lessee in return for a payment or series of

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payments the right to use an asset for an agreed period of time (Ernst & Young, 2005, p. 452).
WorldComs line costs represented fees in exchange for rights of access to other companies
assets, and hence qualify as leases under both GAAP and IFRS.
IAS 17.4 and 17.8 indicate that a lessee should account for a lease as a finance lease
when the lease transfers substantially all the risks and rewards incidental to ownership to the
lessee, even if title is not transferred. All other leases are operating leases (Ernst & Young,
2005, p. 460). The section goes on to list several qualities that indicate, but do not necessarily
require, that a contractual arrangement should be categorized as a finance lease. These include
the transfer of ownership to the lessee by the end of the lease term, the existence of a bargain
purchase option, the lease term being for the major part of the assets economic life, the present
value of the minimum lease payments amounts to at least substantially all the fair value of the
leased asset, or the leased assets are of such a specialized nature that only the lessee can use them
without major modifications (Ernst & Young, 2005, p. 462). WorldComs contractual
arrangements with third parties did not contain any of these indicators.
Additionally, the lessors of the telecommunications lines retained the major risks and
rewards of ownership: they depreciated the assets on their books, bore the risk of obsolescence,
and were accountable for maintaining the lines. This indicates that WorldComs leasing
arrangements did not align with the conceptual foundation set forth by IAS 17 for financing
leases: that substantially all risks and rewards incidental to ownership be transferred.
Financial Accounting Standard 13 states that a lease is required to be treated as a capital
lease if any of a number of criteria is met. Otherwise, the lease should be classified as an
operating lease. The criteria set forth are the transfer of ownership to the lessee by the end of
the lease term, the existence of a bargain purchase option, the lease term being for seventy-five

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percent or more of the leased assets estimated economic life, or the present value of the
minimum lease payments being greater than or equal to ninety percent of the fair value of the
asset to the lessor at the inception of the lease less any investment tax credit retained by the
lessor (Ernst & Young, 2005, p. 463).
Consequently, under both International Financial Reporting Standards and Generally
Accepted Accounting Principles, WorldComs line costs should have been recorded in
compliance with the methods set forth for operating leases. Such methods prescribe that the
expenses be reported as line items on the income statement for the appropriate periods, not
capitalized as was the case with WorldCom. Furthermore, consistent with IAS 17 and FAS 13,
under a finance or capital lease the lessee must recognize an asset and a liability on its balance
sheet at the inception of the lease (Ernst & Young, 2005, p. 462). Even if WorldComs
contracts had qualified as capital leases, the company failed to record any assets on its balance
sheet at the onsets of the agreements (refer to Appendix A). WorldCom instead used adjusting
journal entries to capitalize its line costs, further violating the provisions set forth by IAS 17 and
FAS 13 (refer to Appendix B).
In order for GAAPs rules-based nature to be the primary cause of the misclassification,
WorldCom would have had to mislead investors while complying with the rules of GAAP.
However, since the companys line costs were accounted for improperly relative to both IFRS
and GAAP, the sustainment of WorldComs accounting fraud must be a product of other factors.
The European Union Briefings cited the WorldCom case as an illustration of a major criticism
with GAAP: companies can strictly adhere to the rules-based standards while not respecting their
conceptual foundations. Accepting this criticism as true and ignoring the fact that WorldCom
was not in compliance with the rules of GAAP, it must be noted that the deliberate

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misrepresentation of financial substance typically requires some degree of unprofessionalism or

deceitful intent.
Contrarily, the Briefings state that the imprecise nature of principle-based standards
makes it more difficult for accountants to exploit loopholes in the wording of the standards
(European Union Center of North Carolina, 2007). With principle-based standards, the absence
of precise guidelines increases the scale and frequency of professional judgment. As previously
mentioned, the augmented application of professional judgment should theoretically result in
higher quality financial information. However, given the existence of the deceitful intent
necessary for financial misrepresentation under rules-based standards, this increase in
professional judgment enables accounting fraud. As a result of inherent flexibility of principlebased standards, accounting records can be distorted through innovative interpretations of
economic substance. Accordingly, in the presence of unprofessionalism, disregard for
conceptual foundations can result in slanted financial information under both rules-based and
principles-based standards.
Moreover, in the case of WorldCom, the company likely would have found it easier to
rationalize its fraudulent activity had it been acting in accordance with principle-based standards.
According to the July 4th New York Times, a June 24th memo prepared by Sullivan attempted to
justify the capitalization by arguing that WorldCom was paying for excess capacity that it would
need in the future (Lyke & Jickling, 202). By claiming that the fees were a cost of obtaining
customers, Sullivan aligns the improper accounting treatment with the objective of capitalizing
expenditures: matching expenses with the revenues they helped to generate. Since the line costs
were necessary for growth and would help to obtain customers, they would provide benefit
during future periods and their capitalization could be supported under principle-based standards.

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Thus, the rules-based nature of the accounting standards is not to blame for the WorldCom
scandal.
Since the standards were not properly applied and the resulting misstatement was highly
material, it follows that the ineffectiveness of WorldComs internal and external controls was a
critical factor in the accounting scandal.
According to The Institute of Internal Auditors, internal auditing is intended to be an
independent, objective assurance and consulting activity designed to add value and improve an
organization's operations. It helps an organization accomplish its objectives by bringing a
systematic, disciplined approach to evaluate and improve the effectiveness of risk management,
control, and governance processes (Institute of Internal Auditors, 2001).
Bernard Ebbers, Chief Executive Officer, told his directors almost nothing and
prevented them from having meaningful contact with other than a few carefully selected and
complicit corporate officers. He carefully scripted and dominated all board meetings. Up until
the time they fired him in April 2002, the board had never met without Ebbers present (Hindery,
2005, p. 89). Due to the efforts of Ebbers, the internal audit committee was unsuccessful in
maintaining an objective mindset, and the internal audit function was ineffective in providing
independent, objective assurance.
The Institute of Internal Auditors also prescribes competency in its rules of conduct as a
required attribute, stating that internal auditors shall engage only in those services for which
they have the necessary knowledge, skills, and experience (Institute of Internal Auditors, 2001).
However, of the four members of WorldComs internal audit committee, none had any
significant financial expertise (Hindery, 2005, p. 90). Moreover, the committee only met
between three and five times a year, and tended to confer for only about an hour when they did

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get together (Hindery, 2005, p. 90). The irregularity of its meetings and incompetence of its
members contributed to the internal audit committees failure. It took the internal auditors over
two years to detect the three and a half billion dollars of improperly capitalized expenditures.
Subsequent to the exposure of WorldComs accounting scandal, Steven Brabbs, Director
of International Finance and Control, submitted a memorandum to aid the internal auditors in
their investigation. In the memo, Brabbs indicates that following the close of the first quarter of
2000, financial information for the international division was relayed to senior finance managers
in the United States. An additional journal entry was then added to modify the treatment of line
costs. The adjustment resulted in a nearly $34 million reduction in the line costs for the division.
When the international department inquired as to the basis for the adjustment, the entries were
reported to be under the instruction of Scott Sullivan. Even after several requests by the
international division, no support or explanation for the entry was given by Sullivan
(Eichenwald, 2002). The fact that an inappropriate 34 million dollar adjusting entry was
essentially disregarded speaks volumes to the inadequacy of internal controls for WorldComs
information systems. Not only does Brabbs memo illustrate WorldComs insufficient checks
and balances, but also reveals procedural concerns in that the internal auditors were not informed
of an alleged departure from GAAP.
WorldComs internal controls were ineffective in exposing the financial misstatements
largely because of the companys organizational structure. As was the case with the majority of
large corporations at the time, WorldComs management was designed as a vertical hierarchy.
This highly bureaucratic structure results in a predominantly downward flow of communication.
Inherent in such systems of management is a strong concept of subordination, with centralized
management staff holding the position of power (McCubbrey, 2010). The minimal upward

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communication and emphasis on subordination that is typical of such a tall structure generates an
environment that is not conducive to confrontation of executives. This situation was exacerbated
by the inadequate protection afforded to whistleblowers in public companies prior to Section 806
of the Sarbanes Oxley Act.
David Myers, former Controller for WorldCom, met in Sullivans office in January of
2001 with Sullivan and Buford Yates, an accountant. According to testimony given by Myers,
the three agreed to reclassify some of the WorldComs biggest expenses, knowing the company
would not meet analyst expectations for the coming quarter (Knapp, 2010, p. 328). Myers
stated that he didnt think it was the right thing to do, but he had been asked by Sullivan to do it
and was asking Yates to do it (Knapp, 2010, p. 328). Myers situation suggests that the
fraudulent activity at WorldCom was aggravated by the emphasis on chain of command
encouraged by the companys vertical organizational structure. The clear lines of authority
and resulting downward flow of communication encouraged Myers to follow instructions and
made it more difficult for him to confront the Chief Financial Officer to whom he directly reports
(McCubbrey, 2010). Conversely, a flatter organizational hierarchy would have promoted
greater task interdependence with less attention to formal procedures (McCubbrey, 2010). In
such a system Myers would have been less restricted in his regulation of the companys
accounting policies. Additionally, the flatter structure would have deemphasized the chain of
command, creating an environment more conducive to confrontation of Sullivan.
The issues with WorldComs vertical hierarchy are confirmed by correspondence
between Myers and Brabbs. According to Brabbs memo, he was contacted by Myers after
issuing a report to Arthur Andersen notifying the accounting firm of his concerns. Myers,
already immersed in the fraudulent activity, was angry with him for disclosing the issue to the

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accounting firm without consulting him. The following quarter, a suggestion was made to
Brabbs that he make the expense transfers at his level, rather than at the high corporate level.
When he refused, he was ordered to do so, and was told this was at Mr. Sullivan's direction. He
continued raising concerns about the matter. But senior finance managers were reluctant to
discuss it, and simply continued to refer back to the fact that the entry had been made at Scott
Sullivan's direct instruction (Eichenwald, 2002). In this circumstance, Brabbs actually
confronted executives in an effort to comply with appropriate accounting standards and mitigate
erroneous procedures. However, WorldComs vertical hierarchy and clearly defined chain of
command trumped virtue and the accurate portrayal of financial data.
As evidenced by Brabbs memo and Myers testimony, WorldComs bureaucratic
structure contributed to employees reluctance and sometimes inability to expose executive
fraud. Moreover, when employees were actually able to challenge lines of authority and
confront executive officers, they were disempowered by the vertical hierarchy. The fraudulent
activity persisted and remained unexposed to stakeholders. Consequently, in order for the
company to avoid fraud and financial misrepresentation, WorldCom relied upon its officers to
act with the utmost integrity.
The responsibilities and role of management in the modern business world is outlined by
two prevailing theories: the stakeholder theory and the stockholder theory. Traditionally,
management has been viewed as an agent for the stockholders (Bowie & Werhane, 2005, p.
21). The manager works for the stockholders and should act in accordance with their objectives.
Since stockholders primary objective is profits, the purpose of management is to increase the
companys stock price. This view is captured by Milton Friedmans stockholder theory, which
states that there is one and only one social responsibility of business- to use its resources and

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engage in activities designed to increase its profits as long as it stays within the rules of the
game, which is to say, engages in free and open competition without deception or fraud (Bowie
& Werhane, 2005, p. 21). R. Edward Freemans stakeholder theory defines the duties of
management in a broader context and is gaining acceptance in the modern business world. It
states that management bears a fiduciary relationship to all stakeholders and that the task of the
manager is to balance the competing claims of the various stakeholders (Bowie & Werhane,
2005, p. 25).
Obviously WorldComs executive management was in violation of Friedmans
stockholder theory in that they did not act within the rules of the game (Bowie & Werhane,
2005, p. 21). However, even when disregarding this aspect of stockholder theory, it is clear that
the actions of WorldComs management were in violation of both theories. Although Freeman
defines managements accountability in a broader context, both the stockholder theory and
stakeholder theory indicate that executives have at least some obligation to manage a company in
an effort to earn a return for shareholders. The deceitful accounting methods utilized by
WorldComs executives were an effort to fabricate short-term profits, but in no way were
intended to generate a legitimate return. Furthermore, by committing fraud the executives
exposed WorldCom to potential litigation from creditors and the resulting contingent obligations.
This threatened the companys ability to continue as a going concern and jeopardized the capital
invested by stockholders.
By 2002, eight of the fifteen directors each owned more than a million shares in the
company (Hindery, 2005, p. 89). As a result, much of their wealth was tied up in WorldCom
stock, which would have been steadily declining had it not been for the recurrence of illicit
accounting maneuvers. Fueled by greed, WorldCom executives disregarded the interests of all

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of the companys stakeholders in order to mitigate personal losses. In that they violated the
stockholder and stakeholder theories, the actions of WorldCom executives were clearly
unethical. By acting without integrity, these executives exploited the ineffective internal controls
and engaged in fraudulent accounting practices for over two years. However, the ineffective
internal controls and lack of integrity among management are not the only factors contributing to
the financial misrepresentation. The external audit function was also ineffective in detecting and
exposing the improper classifications, making it another causal factor in the sustainment of
WorldComs accounting scandal.
Prior to the establishment of the Public Company Accounting Oversight Board, the
AICPA governed the audits of public accountants. As of June 1, 2000, the third general standard
of the AICPAs Generally Accepted Auditing Standards was that due professional care be
exercised in the planning and performance of the audit and the preparation of the report
(American Institute of Certified Public Accountants, 2000). A significant factor in exercising
due professional care is the application of professional skepticism (American Institute of
Certified Public Accountants, 2000). According to the AICPA, the auditor should neither
assume that management is dishonest nor assume unquestioned honesty. In exercising
professional skepticism, the auditor should not be satisfied with less than persuasive evidence
because of a belief that management is honest (American Institute of Certified Public
Accountants, 2000). Arthur Andersen violated this standard in June of 2001. The firm held an
internal brainstorming session to run scenarios as to how WorldCom might deceive the
investment community should it ever choose to do so. One of the scenarios they ran involved the
inappropriate capitalization of costs. But Andersen, deciding that it wasnt likely, simply
discarded the scenario (Hindery, 2005, p. 91).

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The firm had a responsibility to act with professional skepticism and diligently perform
the gathering and objective evaluation of evidence (American Institute of Certified Public
Accountants, 2000). Instead, accountants at Andersen disregarded the scenario based on a blind
assessment of its likelihood. The objective of public auditors is to obtain reasonable assurance
that financial statements are free of material misstatements. Auditors design and execute the
audit plan and related substantive procedures with this objective in mind. Obviously accounting
firms must consider economic factors when conducting an audit. Regardless, obtaining
verification that expenses were not being improperly capitalized is relatively inexpensive,
especially through analytical procedures.
This was not the first time Arthur Andersen missed signs of fraudulent activity. When
Brabbs noticed the unsupported adjustment to his divisions line costs, he sent a report to
WorldComs external auditor, Arthur Andersen, providing relevant information and expressing
concern. This report effectively notified Andersen of the accounting issue nearly two years prior
to formal investigations and the restatement of earnings. Nevertheless, in February of 2002
Andersen told WorldComs audit committee that it had reviewed the processes management
was using to account for line costs and found those processes to be effective, and had no
disagreements with them (Partnoy, 2003, p. 370). Yet when the scandal was exposed and
representatives from Arthur Andersen were contacted by WorldCom managers, the firm said
that Sullivans reasoning was contrary to GAAP (Partnoy, 2003, p. 372). So how was it that
Andersen overlooked the inappropriate shift of line costs and the nearly four billion dollar
inflation of income that resulted? One possibility is that the huge fees Andersen was collecting
compromised its independence. The firms aggregate fee from performance of tax, audit, and

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consulting services for WorldCom between 1999 and 2001 was over $64 million, which may
have caused some of Andersens accountants to ignore obvious indicators.
Andersen dropped the ball again the following year, failing to expose the accounting
scandal during a due-diligence examination. In May 2001 WorldCom completed an $11.9
billion debt deal, the largest in U.S. history (Partnoy, 2003, p. 369). J.P Morgan and Salomon,
the firms arranging the deal, executed a supposedly extensive due-diligence, as did Arthur
Andersen. Nonetheless, the $771 million of line costs that had been improperly shifted were
either overlooked or disregarded. Failure to detect such a pervasively material financial
misstatement during the due-diligence process for the largest debt deal in U.S. history testifies to
the ineffectiveness of the financial markets control mechanisms and raises questions as to the
intentions of the participating companies.
In comparison with Enron and several other scandals of the time, WorldComs
accounting maneuver was extremely rudimentary. Enron utilized offshore entities and debt
mark-to-market to hide losses, inflating its profits and thereby its stock price. WorldComs
accounting scandal, however, relied directly upon accruals. The company utilized very basic
journal entries to shift expenditures from a period account on the income statement to an asset
account on the balance sheet. So how could financial specialists from the top banks and
accounting firms in the world fail to detect such a simple accounting scheme? It is certainly
possible that corruption existed among WorldCom and the other firms. Several of WorldComs
banks- including J.P. Morgan Chase and Citigroup, Salomons parent- loaned billions of dollars
to WorldCom (Partnoy, 2003, p. 370). The fees associated with the billions in loans would be a
big hit to the banks if WorldCom were to go belly up. This relationship caused the banks to have
a vested interest in WorldComs success. Such an interest decreases the independence of

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underwriters and undermines incentive to expose financial misstatements, leading to a highly

ineffective due-diligence process.
In the case of WorldCom, it is clear that the rules-based nature of GAAP is not to blame
for the scandal; the access fees were improperly accounted for relative to both GAAP and the
more principle-based IFRS. Furthermore, the company would have found it easier to support its
fraudulent activity had it been following principle-based standards. By claiming that the line
costs were a cost of obtaining customers, managers could align the improper treatment with the
objective of capitalizing expenditures: matching expenses with the revenues they helped to
generate. In actuality, the scandal was a product of ineffective controls and issues with the
structure and integrity of management. As is the case with most fraudulent activity,
managements lack of integrity was at the core of WorldComs scandal. Fueled by greed,
executives violated basic ethical principles and their managerial responsibilities to shareholders
in order to temporarily inflate profits. The companys highly bureaucratic structure enabled the
executives to control the accounting methods and created barriers to detection and corrective
action. These barriers, coupled with the internal audit teams lack of competence and
independence, contributed to the ineffectiveness of the companys control mechanisms. The last
line of defense against the fraudulent activity and related financial misstatements was the
external audit function, which failed due to the absence of professional skepticism and
independence.
As was mentioned, the ineffectiveness of the internal and external audit functions was
partially due to a lack of independence. It has been argued that independence is the only
justification for the existence of accounting firms that provide outside audits (Moore, Tetlock,

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Tanlue, & Bazerman, 2006). In actuality, pure independence in appearance and fact is neither
necessary nor sufficient for an effective audit.
The effectiveness of an audit is a function of two major components: detecting material
misstatements and then actually reporting them. Even if auditors are independent, they may lack
the competence necessary to detect material misstatements. Once a material misstatement has
been detected, however, the likelihood of its exposure and correction is positively correlated with
the auditors independence in fact. However, an auditor need not be emotionally and mentally
detached from a company to act independently. The key attribute of independence is that
auditors not bias their opinion in favor of their client (Nelson, 2006). The assumption of legal
and financial responsibility over damages resulting from the opinion expressed can persuade
auditors to give unbiased opinions, thereby acting as though they are independent. This
accountability is produced by legislation, such as Sarbanes Oxley.
Given the components of an effective audit, it is evident the auditing standards
themselves were not to blame for the WorldCom accounting scandal. The standards for both the
IIA and the AICPA required that auditors be competent, act with due professional care, and
maintain independence. These are the elements that are essential to an effective audit. The issue
with WorldCom was there were no external factors motivating compliance with these standards.
The internal and external auditors failed to maintain independence in fact, and sparse litigation
existed at the time of the scandal to encourage the auditors to act as though they were
independent.
As the accounting profession works toward the convergence of GAAP and IFRS, there is
a preconception that the adoption of new standards will preclude the recurrence of a scandal as
large as WorldComs. However, WorldComs improper capitalization of expenditures did not

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point toward problems with the rules-based approach of U.S. GAAP. Rather, the companys
scandal was a result of ineffective control mechanisms and issues with the structure and integrity
of management. While the provisions of the Sarbanes-Oxley Act and the creation of the Public
Company Accounting Oversight Board do address many of these concerns, they are by no means
justification for the discount of professional skepticism in future engagements.

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Appendix A

GAAP Journal Entries for Capital Lease:

At inception of lease:
Telecommunication Lines (asset account)
XX
Lease Payable
XX
To recognize an asset and related liability on the Balance Sheet
Adjusting entry at end of each period:
Interest Expense
XX
Lease Payable
XX
Cash
XX
To amortize the portion of the lease being paid and record incurred interest
Adjusting entry at end of each period:
Depreciation Expense
XX
Accumulated Depreciation
XX
To depreciate the asset for the period

WorldComs Journal Entries*:

At beginning of fiscal year:
Prepaid Line Expenses
XX
Cash
XX
To record the prepayment of fees for leasing telecommunications lines
Adjusting entry at the end of each quarter:
Telecommunications Lines (asset account)
XX
Prepaid Line Expenses
XX
To improperly capitalize the expenses for telecommunications line as an asset
Adjusting entry at the end of each each quarter:
Depreciation Expense
XX
Accumulated Depreciation
XX
To depreciate the fabricated asset

*Note: due to privacy issues related to accounting records, WorldComs account titles and journal entries are projected

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Appendix B

GAAP Journal Entries for Operating Lease:

At beginning of fiscal year:
Prepaid Line Expenses
XX
Cash
XX
To record the prepayment of fees for leasing telecommunications lines
Adjusting entry at the end of each quarter:
Line Expenses
XX
Prepaid Line Expenses
XX
To record the incurrment of telecommunications line expenses

WorldComs Journal Entries*:

At beginning of fiscal year:
Prepaid Line Expenses
XX
Cash
XX
To record the prepayment of fees for leasing telecommunications lines
Adjusting entry at the end of each quarter:
Telecommunications Lines (asset account)
XX
Prepaid Line Expenses
XX
To improperly capitalize the expenses for telecommunications line as an asset
Adjusting entry at the end of each each quarter:
Depreciation Expense
XX
Accumulated Depreciation
XX
To depreciate the fabricated asset

*Note: due to privacy issues related to accounting records, WorldComs account titles and journal entries are projected

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