Raines Falls at Fannie Mae

At the time of the SEC ruling, speculation regarding the fate of Raines and Howard resumed swirling furiously on Wall Street. Both executives had defended the company's accounting before a growing chorus of congressional critics.

SEC Chief Accountant Donald Nicolaisen, in a statement released Dec. 15, said the government-sponsored company's accounting for 2001 through mid-2004 "did not comply in material respects" with accounting rules for derivatives, financial instruments used to hedge against interest rate swings, and for some transactions related to loans.

Fannie said this fall that a restatement could force it to report after-tax losses on its derivatives transactions of as much as $9 billion. The losses could cause the company to become severely undercapitalized, an event that potentially could force it to sell stock or assets to raise money.

The SEC findings came on top of a scathing report filed this fall by OFHEO. The office contended Fannie Mae deliberately violated accounting rules in an effort to smooth out quarterly earnings, meet financial projections and boost bonuses for its top executives.

OFHEO moved to tighten its control of Fannie's accounting after a similar accounting scandal at government-sponsored peer Freddie Mac resulted in a management shake-up and wide-ranging earnings restatement.

In September, after OFHEO issued its scathing report on Fannie's accounting missteps, the company reached an agreement with the regulator to boost the amount of capital it holds to protect it against losses and market swings.

On Tuesday, OFHEO indicated that last week's restatement bombshell would leave the company below key capitalization levels.

"The disallowed hedging treatments (SFAS 133) result in an estimated $9 billion cumulative reduction in core capital as of September 30, 2004 as disclosed by Fannie Mae," the regulator said. "This capital level places Fannie Mae below its minimum capital requirement and results in a classification of significantly undercapitalized. Fannie Mae's critical capital level remains above the required threshold and Fannie Mae continues to meet its risk-based capital requirement."

Fannie also pleged to undertake an investigation of the regulator's claims that the company's internal controls and management oversight weren't up to snuff.