Why the fraud did not come out before

Written by: S Sivakumar
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Fraud at Satyam II

Let's now discuss on why a fraud of this magnitude did not come out, in the earlier years, till one fine morning, Mr Raju decided to be honest and spill the beans.

a. PwC, the auditors, seem to have completely goofed up, in terms of their audit procedures, vis-À-vis Satyam. While I would not ascribe any direct involvement from PwC in this fraud, at this point of time, it does look like that PwC being one of the best known and respected international audit firms, they did not follow the basic procedures in conducting the audit. It is quite possible that they might have relied on documents or information, especially as those related to the bank deposits, etc., which were forged. But, to continuously give a clean chit to a Company, which was actually facing an acute cash shortage despite getting copious inflows, is in my view, a gross dereliction of duty. PwC's Hyderabad team was also involved in the Global Trust Bank accounting scam in 2004 and following the failure of PwC to report the accounting irregularities in GTB, RBI had to ask Oriental Bank of Commerce to acquire GTB. PwC's Hyderabad Office is in the dock, once again. To continue to certify even bank deposits which never existed is surely a major blot on PwC's credibility. While the ICAI can conduct its own investigations into the Satyam fraud, it seems clear that PwC has erred in a big way. It remains to be seen whether PwC's other MNC clients would review their audit engagements with PwC, in the aftermath of this accounting fraud and PwC's failure in reporting this.
I liked this particular one which appeared in caclubindia.com. Price Water House took "Price" and "water"ed down their audit report and "house'd the crime with "cooper'ation of all in the game. That's Price Water House Coopers, honey.
Another issue which would need some attention from the investigators is the fact that, PwC , as auditors, have been paid very high fees by Satyam, as contrasted to what Satyam's peers like Infosys have been paying. Some inferences would need to be drawn from this fact.

b. What is the role of the Institute of Chartered Accountants of India or the ICAI? One hopes that the ICAI in a fast and fair manner, in the instant case. Surely, we don't want a repeat of the role played by the ICAI in the GTB scam…. The ICAI is still investigating the role played by the infamous PwC, even after five years the scam was reported. The ICAI would need to understand that the stakeholders would lose trust in the CA community, if it doesn't act fact. For ensuring fairness in its probe, it would be a good idea for the ICAI to ask CAs from PwC to resign from its Central Committee, pending the completion of the probe. This would send a strong signal to the world at large. And, for Heaven's sake… the ICAI should complete its probe within a reasonable period, of say, six months, and take a final call on the license given to PwC. Of course, the Satyam case is unprecedented and there is no comparison with the GTB fraud. Which means, the ICAI has to tell the world that it means business?
Further, the ICAI should do a complete re-think on its decision to go in for IFRS in the next two years. The IFRS, as I understand, is more about accounting standards and disclosures unlike the US GAAP, which talks about the right way of accounting transactions. There has been so much emphasis on disclosures now that, it has become extremely difficult for auditors to check the genuineness of transactions of corporates. Most of the time that auditors spend, is on ensuring compliance with the numerous accounting standards and disclosures. I must confess that the auditor has no time to check the veracity of the accounting figures given by the Managements and this is perhaps, one of the reasons leading to the Satyam disaster.
ICAI needs to realize that the 30+ accounting standards that it has imposed on corporate have still not been able to prevent an accounting fraud of this magnitude and that, a lot still needs to be done.
ICAI should also look at ways of making the peer review more effective, at least for large listed companies, apart from of course, looking seriously, at the idea of compulsory rotation of auditors every three years.

c. What is the involvement of the operating team at Satyam? It is crystal clear that a fraud of this magnitude could not have been possible without the direct involvement of the top finance and accounting guys at Satyam. Satyam's interim CEO was drawing a salary in excess of Rs 3 crores per annum, unmatched in the IT industry. The role played by him and others would also need to be investigated.

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Where does this leave Mr Srinivas, Satyam's CFO, a fellow member of the ICAI who till yesterday was the darling of the financial press? I can't guess, except to say that Mr Srinivas is in deep trouble considering the fact, he has had to independently testify the accuracy of Satyam's accounts to regulators in India and the US. Perhaps, the ICAI should also bring out some punitive measures for CAs who don't hold Certificate of Practice and are in full time employment. In my view, the finance team headed by the CFO and the Company Secretary of Satyam has not covered themselves with glory, in the entire episode.

d. Very importantly, what exactly has been the role of the so called Independent Directors at Satyam, who were supposed to protect the interests of the non-promoter shareholders? Most of us had believed, of course, naively, that the concept of Independent Directors would help promote the cause of corporate governance, as was told to us by SEBI. The Satyam case clearly proves that the independent directors have completed failed to live up to expectations. One was rather amused to find the highly respected Mr T R Prasad repeatedly justifying Mr Raju and his team and it would be interesting to know what he has to say now. While I wouldn't take a view that the concept of having independent directors has completely failed, the fact remains that we cannot assume that things would be OK if a Company has independent directors.

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Talking specifically about the role of the independent Directors, it is very important to understand how 'independent' they actually were, at Satyam. It is very concerning that, all the non-executive Directors have been significant stock options equivalent to at an unbelievable strike price of Rs 2- per share and apart from this, all the non-executive Directors have also earned handsome commissions during 2007-08, as reflected by Satyam's audited results. The following table shows the details for 2007-08.

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Satyam's largesse to its Non-Executive Directors

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&13; &13; &13; &13; &13; &13; &13; &13; &13; &13; &13; &13; &13; &13; &13; &13; &13; &13; &13; &13; &13; &13; &13; &13; &13; &13; &13; &13; &13; &13; &13; &13; &13; &13; &13; &13; &13; &13; &13; &13; &13; &13; &13;
 No. of options Commission (Rs)
 V P Rama Rao 10000 100000
 T R Prasad 10000 1133333
 Mangalam Srinivasan 10000 1200000
 Vinod Dham 10000 1200000
 M Ram Mohan Rao 10000 1200000
 V S Raju 10000 1133333
 Krishna Palepu 10000 1200000

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The fundamental question that arises is… how can Directors who have options given at an un-believable strike price of Rs 2- per share (remember… Satyam's price zoomed to s 500- per share in 2007-08) and who receipts high commissioners be expected to be 'independent'. The scheme of giving stock options to the independent Directors, was perhaps, an intelligent strategy by Mr Raju to successfully implement commit his heinous crime at Satyam, with little resistance from the independent Directors, to whom, he was supposed to report to. It is amusing to hear some of the independent Directors say now that they were not in the know of things at Satyam. I am personally disturbed that highly respected people like Mr T R Prasad and Dr Ram Mohan Rao received stock options and the commission amounts from Satyam. My only hope is that there has been no direct involvement from any of the non-executive Directors of Satyam, in the fraud.

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e. There are several fundamental issues which have arisen, post the Satyam revelations. For sure, there is a lot of issues which would need to be addressed vis-À-vis the Indian GAAP and especially, the accounting standards. It seems to me that, after having been a CA for more than 20 years, the emphasis of the accounting standards is only on 'disclosure' and not on what should be the right way of accounting. We must bear in mind that the Indian GAAP and the GAAP of most European countries are more about disclosures and the IFRS is no exception. On the other hand, the US GAAP is all about the right way of accounting. Most auditors including the Big 4 firms seem to be more focused on disclosures, to the detriment of the actual facts behind financial transactions. A paradigm shift is required from the ICAI and one really hopes that the apex body of CAs lives up to the expectations, post the Satyam scandal, failing which, the stakeholders will simply refuse to believe the audited accounts of any company.
For sure, the Schedule VI which deals with the information to be disclosed in corporate balance sheets, would need to be expanded. It is amazing that there is no need for a break up to be given in the Balance Sheet for bank deposits and had this been there, the Satyam fraud would just not have happened. It is amazing that there is no need under the Indian Companies Act for any details to be provided for a line item of about Rs 3,300 crores of bank deposits.
One fundamental issue that crops us is…….will a compulsory rotation of the statutory auditors every three years help? Post the Satyam fiasco, I strongly believe, it would. It would also be a good idea for the compulsory publication of the internal audit reports which could throw up frauds of this kind.

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f. We need to take a complete re-look at our systemic failures. It does us no good to compare with the US. We need to understand that in the US, there is a very clear demarcation between Management and Shareholders. Most of what happened in Enron and World Com was due to the wrongdoings of the Management Team to the detriment of the shareholders who are mostly drawn from the mutual funds, pension funds, etc. The case in India is very different. There is not much of a differentiation between shareholders and Management, as is the case with Satyam. Mr Raju was not only the head of the Management team but was also wearing the hat of the chief promoter of the Company. Unless we are able to break this link whereby, shareholders with as little a shareholding as 5% could still run the management of a large listed Company, we are going nowhere. Satyam is not an exception. Most of our large listed Companies are run or managed by people who have very little equity ownerships in the companies they run and surely, many of these people pursue interests purely from their personal point of view.

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g. What is the role of the regulators? I would personally feel that, somebody like SEBI or perhaps the Department of Company Affairs cannot be blamed much, in the instant case. Of course, this is an eye opener and one would need to see how SEBI goes about, in its unfinished agenda of improving corporate governance in listed companies. SEBI should definitely re-look at its guidelines which allow listed companies to issue stock options and commission to its non-executive Directors including independent Directors. SEBI also needs to further tighten up its norms on Audit Committees, etc. It is distressing that, during 2007-08, there was a full fledged Audit Committee at Satyam comprising of four independent Directors. There was also a well staffed internal audit team and there were seven meetings during 07-08, in which the statutory auditors participated, in addition to the independent Directors and the Company's CFO, to discuss audit related issues.

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h. Is the Satyam issue, then, just a tip of the ice berg? I would seriously say, Yes. If a listed Company with a promoter having 5% of the equity capital could do this, what about scores of other companies and especially, the unlisted/closely held companies? Surely, the Satyam issue would reinforce the need for better disclosures from the unlisted companies. Considering the fact that tens of thousands of crores of bank funds are used by these unlisted companies, there is a great need for more regulation in respect of published accounting data of these companies. For sure, there could a lot more of skeletons in the cup boards of many of these companies.

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i. Will the Satyam issue raise questions on the credibility of published information by other listed Companies and especially, the IT Companies? It is clear that most other listed IT Companies would need to walk the extra mile, as Mr Narayanamurthy has very right put it, to re-establish credibility about financial information, post the Satyam fiasco.

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                                                                       Part III - Regulators should do a professional job

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