Updated from Dec. 30

A report issued late Monday contends that Tyco ( TYC) didn't engage in accounting fraud, despite more than $300 million in accounting errors last year alone.

The long-awaited forensic audit, conducted at Tyco's direction by a high-priced staff led by attorney David Boies, uncovered no evidence that Tyco committed any "systematic or significant" financial fraud that will materially affect its results going forward. Instead, the report laid the profit overstatement at the feet of what it called "aggressive accounting." Investors applauded the finding, sending the stock 10% higher in Tuesday morning trading.

Still, the outcome of the extensive internal investigation -- issued just hours before a promised deadline expired Monday -- lent some support to the loud arguments from Tyco bears who have long challenged the company's accounting and who note that Tyco is still the subject of an inquiry by the Securities and Exchange Commission.

These investors have been skeptical that the turnaround engineered by Tyco's new CEO, Ed Breen, can overcome the excesses of past management, led by ex-chief Dennis Kozlowski. Tyco stock has doubled off its summer low amid a sense in the market that the company's biggest challenges are behind it, and that punishing individuals who oversaw past episodes will enable Tyco to move on to a more fruitful future.

People Problem

The report did nothing to undermine that notion, focusing as it did on the actions of managers who left earlier in 2002 during the company's darkest moments.

"During at least the five years preceding Kozlowski's resignation, Tyco pursued a pattern of aggressive accounting that was intended, within the range of accounting permitted by GAAP generally accepted accounting principles to increase current earnings above what they would have been if a more conservative accounting approach had been followed," the report stated.

The report revealed that Tyco overstated past results by more than $382 million. Still, the overstatements were viewed as immaterial by investors who had already digested news that the company's former executives had allegedly looted much more than that sum from Tyco's accounts.

All the same, the report failed to clear Tyco entirely. Indeed, it listed troubling examples of aggressive -- and potentially abusive -- accounting tricks that could have misled investors in the past. The report specifically cited four episodes:

  • In a 1999 presentation entitled "Acquisition Balance Sheet Opportunities," a controller from Tyco's Fire & Safety division urged employees to, among other things: "be aggressive in determining exposures; determine reserves with worst-case scenario; have a strong story to tell regarding each reserve; book the reserves on the acquired company's financial system ... and keep the reserve descriptions within the accounting rules, but stretch the expenditures that go in."

  • A similar presentation about Tyco's 1998 merger with U.S. Surgical said Tyco should recognize $72 million from "financial engineering" in 1999 and $52 million in each of the following two years.

  • Another memo issued later that year outlined how U.S. Surgical could hit first-year earnings goals through, among other things, $64.6 million in financing engineering and over-accruing expenses before closing the deal.

  • A 1996 document related to an acquisition by Tyco's plastics unit spells out a similar strategy. It states: "We'll book additional 'financial engineering' reserves in July with the objective of having a break-even month. This way we won't raise any flags with the lender reporting."

Still, the report stopped well short of declaring such accounting tricks fraudulent. It instead maintained that only former Tyco executives -- already exposed in an earlier report -- are guilty of such wrongdoing.

"In none of the instances of questionable accounting examined, except for the matters discussed in the September 2002 report alleging looting by Kozlowski and others , was there credible evidence of intentional fraud," the report concluded.

Pinning the Tail

The report did, however, expand on the former abuses allegedly carried out by Kozlowski and other Tyco employees. For example, it criticizes Kozlowski for spending $110,000 for a 13-day stay in a London hotel (that comes out to $8,461 a night -- or nearly enough to buy 19 $445 pincushions, like the one revealed in the earlier Boies report). It also shows that other Tyco employees, besides top executives, abused the company's lax internal loan policies. In addition, it questions the generosity of some of Tyco's bonuses and other perks.

"There were ... undocumented bonuses totaling about $6.7 million, and one instance where a unit vice president approved a bonus for the unit's president," the report states. And "three employees who had company cars also received car allowances."

Boies' report, while extensive, does not conclude the investigation of Tyco's finances. The SEC is also probing the company. In doing so, the agency is scrutinizing -- for the first time -- some requested documents it never received during a previous examination of the company.

"A large quantity of documents collected by Tyco and its counsel in connection with the SEC's document request had not been produced to the SEC at the time the SEC closed its inquiry in July 2000," the Boies report states. "These documents were produced to the SEC staff on Dec. 20, 2002."