Shares Fall 22% for Mall REIT Upon News of Probe's Findings

By Ryan Chittum
From

An internal investigation into accounting problems atMills Corp. found "possible misconduct" among a litany of errors that will force the company to write off about $350 million in shareholder equity.

The long-awaited report, by the audit committee and outside advisers Gibson, Dunn & Crutcher LLP, paints a picture of a company poorly controlled, with a pattern of accounting errors caused by rapid growth, a "lack of competence," an overaggressive culture and decisions that were "not reasonable and reached in good faith." In most cases, the errors made the company's books look better than they really were.

Mills shares tumbled $4.12, or 22%, to $14.82 in 4 p.m. New York Stock Exchange composite trading after the Chevy Chase, Md., shopping-mall real-estate investment trust disclosed the investigation's findings and details of its pending earnings restatement in a filing with the Securities and Exchange Commission yesterday morning.

"It paints a composite portrait that's generally uglier than people thought," said Mike Kirby, a principal with Green Street Advisors Inc., a Newport Beach, Calif., real-estate research firm.

Mills also said it has enough cash to last at least through the end of March -- the deadline on its $1.06 billion senior-term loan with Goldman Sachs. The loan terms, recently extended, require Mills to pay off the loan by selling assets or recapitalizing itself, which would entail an infusion of new equity and would dilute existing shares. Mills says if it is unable to, it could be forced into bankruptcy, something it has warned in past statements.

A bankruptcy has been viewed on Wall Street as unlikely. "There is equity value in Mills here," Mr. Kirby said. "The question is how much will end up with Goldman and the shareholder-lawsuit guys."

Mills is facing shareholder lawsuits seeking repayment of money lost because of what plaintiffs say were misleading statements by the company. "These are damning words" in the investigation, Mr. Kirby said. "I think the trial lawyers are probably salivating right now." Attorneys leading the suits couldn't be reached for comment yesterday.

Mills shareholders have lost more than $2.5 billion in equity over the past 15 months as the problems started coming to light.

Mills Chief Executive Officer Mark S. Ordan said in an interview that the market overreacted to the mention of potential bankruptcy in the filing. "We wouldn't have gotten an extension on our loan if we didn't have sufficient cash flow," he said. He also noted that Mills could get the loan extended through the end of June if it meets the loan's requirements.

The accounting problems took place under former Chief Executive Larry Siegel, who stepped down as CEO in October and as chairman in November. Mr. Siegel didn't return requests for comment. Nearly all of the executives leading Mills now, including Mr. Ordan, weren't at the company when the issues occurred. The new team has taken steps to clean up and reposition the company in order to sell it.

"I am upbeat," Mr. Ordan said. "I think we've made very good progress on a number of fronts as we have announced. I'm very confident we will have a successful conclusion."

The conclusion of the internal investigation has been considered one step that must be completed before Mills, which owns 38 malls in the U.S., can be properly valued by bidders. Another is the release of financial statements -- something Mills hasn't reported since the third quarter of 2005 and which are required by the end of this month by Goldman Sachs.

The 10-month investigation found numerous errors grouped into three categories based on their severity, according to the SEC filing. One group included four errors the committee said weren't "reasonable and reached in good faith" and showed "possible misconduct." Those included backdating the closing of a sale of assets by a subsidiary called Mills Enterprises Inc., and failing to record an impairment on notes due the subsidiary, even though they were "clearly impaired at or shortly after the time they were executed," the report said. The latter will result in a charge of $14.6 million.

The committee found another group of errors that occurred in part because the company's "overall culture and 'tone at the top' were heavily focused on meeting external and internal financial expectations." Included in this group were the problems that caused the biggest impact, including capitalizing costs rather than expensing them -- which had the effect of making Mills earnings look better than they were.

The third group of errors was caused by the rapid growth of the company, the complexity of its financial structure and a lack of internal controls on its accounting processes, the report said. The audit committee concluded the errors in this group weren't intentional but were caused by lack of expertise and communication.

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