Abstract
The 2008 financial crisis provides several examples that can now be cited to illustrate the entire financial system’s vulnerabilities and ample room for improvement. This paper uses the Satyam fraud case to illustrate the ruses and machinations utilized both internally and externally by those publically entrusted to easily perpetrate fraud on a grand scale. The paper cites the methods used to carry out the fraud and the major events leading to the fraud being revealed followed by the monetary, commercial, and public damage the scandal caused. The paper will show how top management with both internal and external auditors coordinated their scheming methods and briefly relate their fates as well as the company’s fate.
The Satyam Company Fraud Scandal
Founded in 1987 with his brother Srini Raju and comprised of twenty charter employees, Ramalinga Raju swiftly and cagily crafted the Satyam Computer Services Company to become India’s premier outsourcing model by the turn of the century. The company’s presence was felt in a variety of industries including banking, manufacturing, health care, and media supporting their manifold functions from computer networks to human resourcing solutions. Prior to the fraud disclosure and admission Satyam boasted a near 53,000 employee work force operating in sixty-six countries serving 600 companies including an envious Fortune 500 clientele such as John Deere, IBM, GM, and Nestle.
Belying Satyam’s ostensibly pristine and meteoric rise existed a competitive and perhaps stressed pysche that drove Mr. Raju to transcend legal business boundaries into the corporate demimonde of fraud. The January 7, 2009 admission of falsifying accounting records and other corporate malfeasance proved true the warning signs that something was possibly very wrong.
How the Fraud was Perpetrated
Ambitious to please analysts, creditors, current and prospective investors Satyam deviated from the legal path requiring a strenuous and sedulous corporate work ethic and at some point decided to supplement what may very well could have evolved into an honestly and highly successful enterprise and to cheat, to ‘cook the books’. Opting not for an elaborate, convolutedly complex, labyrinthine fraudulent course the company settled upon the elementary tactics residing in the land of make believe and simply began padding not only existing but also imaginary customers’ sales thus enabling extremely healthy margins. The simple method of creating fake sales invoices was done approximately 7,500 times between the years 2003-2008. Considering the fact that an imaginary customer most likely will not pay an imaginary invoice the influx of this enormous amount of fake revenue, as any nascent accountant knows, must be equally offset with expenses, receivables, debt, etc., to effectively conceal the fraudulent data. This feat of accounting derring-do was accomplished via balance sheet manipulations and supported with Satyam generating forged bank statements attesting to its validity.
The dishonest deed’s results were most sparkling. The fake 2008-2009 sales glistened being 28% higher than actual, operating profits 24% higher than actual, both contributing to false profits concealing the true losses.
Attempting to successfully manage large scale fraud requires the presence of many a blind corporate eye and venal external auditors reporting the books as being valid and reliable without qualification. The one internal auditor claiming to have noticed discrepancies was placated with reassuring statements that accounts would in time be ‘reconciled’. Expectedly, the top brass when confronted by various authoritative prying questions was simply awash with other urgent corporate matters to tend to. Legitimizing the fraudulent data to gain the public’s trust was PricewaterhouseCoopers India affiliate PW India, after certifying bogus material and accepting very exorbitant fees, foisted the scam upon the public.
The resulting fictitious income statements and strong balance sheets proved especially prosperous to the Rajus as roughly $350 million was procured as loans from duped finance houses. The skyrocketing business undoubtedly required the hiring of hundreds, perhaps thousands of new employees, with competitive pay of course, and this pay to the 10,000 imaginary employees as alleged by Indian prosecutors found its home in the personal Raju bank accounts. Augmenting this spurious remuneration was the spectacular 300% Satyam stock increase from 2003 to 2009, 19% of the stock being held by the Raju families upon the company’s 1992 public offering. Effectively and efficiently utilizing this unsupported bonanza were the investment firms created for real estate, agricultural and other financial vehicles.
Fraud Discovery and Admission
World Bank Relationship
Two events were especially precipitous to the Satyam fraud disclosure. The first involved Satyam’s World Bank relationship, that of which Satyam being responsible for sensitive Information Technology projects outsourced by the bank. Late 2005 saw the abrupt retirement of Mohamed Muhsin, at the time Chief Information Officer at the World Bank. The Department of Institutional Integrity (INT), the Bank’s anti-corruption unit, had been investigating Mr. Muhsin and the alleged bribes he accepted from Satyam. Further concerns swirling about possible undocumented Satyam invoices accepted by the bank and the reporting by Fox News concerning several World Bank information system security breaches led to Satyam’s February, 2008 suspension from further contract considerations and its November, 2008 eight year debarment. The irreversibly tarnished prestige afforded by the World Bank was perhaps sealed when the bank announced that the company Megasoft was also barred from further work. This was announced January 11, 2009, four days after Mr. Raju issued the confession of corporate fraud and confirmed the Fox News 2003 report that present day Megasoft was the brainchild of Mr. Raju’s brother, and Satyam cofounder Srini, and created when he merged one of his companies into Megasoft and began to successfully bid World Bank contracts.
Takeover Rumors
The second major event precipitating Satyam’s fall was the rumors of imminent takeover of the company by interested suitors. These rumors were evident for a long period but when the fraudulently produced massive heap of cash as shown on Satyam’s balance sheet caught IBM’s attention the rumors had to be taken seriously, and the December 2008 Satyam announcement of the company acquiring two Raju family owned, but unrelated businesswise, companies had the unintended effect of seeing Satyam’s stock value plummet. The purpose to acquire these companies was to diversify into unrelated businesses making the resulting conglomerate much less attractive to IBM and all potential suitors, for any acquiring company will in time undoubtedly discover the massive fraud. The botched acquisitions and downward spiraling stock that was unable to be buoyed by Mr. Raju’s futile stock buyback mission promptly led to key board members retiring and Mr. Raju’s realization that the jig was up and on January 7, 2009 came clean and admitted to the huge corporate fraud that had ensued the past several years.
Damages
Monetary
Though small compared to the Enron scandal the Satyam scandal remains one of India’s largest cases of corporate fraud. Mr. Raju January 7, 2009 confessions states that the September 30, 2008 balance sheet overstated assets $1.47 billion including $1.04 billion of nonexistent cash; liabilities being underreported to the tune of $550 million. To meet analysts’ expectations both revenues and profits were overstated year after year as much as 75% and 97%, respectively. The greatest monetary damage befell the investors as the stock plummeted to $1.80/share on March, 2009 from $226.55/share in December, 2008 translating into a $2.82 billion investor loss.
Commercial
Public Confidence
Any aspect of corporate fraud serves to erode public confidence but the Satyam scandal presents highly egregious examples demonstrating that when the fraud is committed by those at the top its ramifications insidiously permeates and eventually tears asunder the entire company leaving the public aghast, cheated, and trust the public once held shattered. The ideals comprising corporate governance were mocked by those ultimately responsible to set the tone at the top, to establish the core company values of integrity and ethical behavior exemplified by their own worthy actions. Creating fictitious customers and employees replete with the fake accounting data to substantiate their existence and create the illusion of a very profitable business, forging bank statements supported with certified bank deposit slips, paying a corrupt external accounting firm increasingly exorbitant fees to certify the scam, siphoning the company’s dirty money for personal aggrandizement, and allowing the honest employees to think the company’s strategies are legit, by those who founded the company recklessly belies the corporate governance’s goals of commitment to competence and the reporting of reliable accounting information. The 2008 and 2009 awarded and highly esteemed Golden Peacock Award for Corporate Governance under Risk Management and Compliance Issues were both rightfully taken away in the scandal’s wake. These actions by the company founders created for them a haunting opprobrium that may prove to be insurmountable.
Scandal Aftermath
India’s largest accounting scandal ushered to jail eight corporate officers and two external public accountants all accused of several offenses including cheating, falsifying records, forgery, and breach of trust by prosecutors responsible to administer the evidence gathered by India’s Central Bureau of Investigation. The fate of the accused, all of whom are currently free on bail, will be delivered December 23, 2014 as the specially appointed judge will announce the much anticipated rulings.
The United States Securities and Exchange Commission and the Public Company Accounting Oversight fined the India PwC affiliate $7.5 million emphasizing the fact that by not routinely testing the validity of bank deposits as dictated by sound and basic auditing methods the public accountants let flourish the corporate misbehavior for years and undermined the public’s trust, confidence, and faith in the system.
The good news that emerged was Satyam being viewed as salvageable by some IT companies just months after the scandal erupted. The Indian government wisely appointed a quasi-new board charged with rejuvenating company confidence and, with the assistance of Goldman Sachs, to sell the company within 100 days. To instill further public confidence the Securities and Exchange Board of India appointed a retired Supreme Court judge to monitor the process as the winning bid went to Tech Mahindra on April 13, 2009 at a deep discount of one third the pre-fraud per share market price. Absorbing all the scandal’s consequences Tech Mahindra by the end of 2009 was able to assiduously stabilize a dwindling corporate market value and to realize a profitable transaction as Mahindra Satyam has become a lucrative division of the Mahindra Conglomerate.
Conclusion
When the public accounting firm certifies that the issued financial statements are reliable it is done so with the explicit qualification that they are certified with reasonable assurance that they are free of misstatements and not omitting relevant information and to be interpreted knowing all fraud cannot be detected. The Satyam fraud case clearly highlights that not only all fraud is incapable of being detected but that the public accountants may very well assist in perpetrating the fraud. The scandal’s myriad internal and external causes also illustrate the pervasiveness fraudulent activity is quickly capable of morphing into. Using the case as a clarion India instigated and strengthened existing regulations relevant to corporate governance, financial reporting requirements of public companies, the stock exchanges and to adopt international accounting standards, but unfortunately even all this will never eradicate all fraud.
References
Krishnan, A. (2014, July 18). The Hindu Business Line/Finally, the truth about Satyam. Retrieved from http://www.thehindubusinessline.com/opinion/columns/aarati-krishnan/finally-the-truth-about-satyam/article6225718
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Timmons, H. and Wassener, B. (2009, January 7). The New York Times/ Satyam chief admits huge fraud. Retrieved from http://www.nytimes.com/2009/01/08/business/worldbusiness/08satyam.html
Raju warned of 'takeover by IBM' to push for Maytas deal/Outlook India (2009, January 17). Retrieved from
http://www.outlookindia.com/news/article/Raju-Warned-of-Takeover-by-IBM-to-Push-for-Maytas-Deal/651954
Norris, F. (2011, April 5). The New York Times/ Indian accounting firm is fined $7.5 million over fraud at Satyam. Retrieved from http://www.nytimes.com/2011/04/06/business/global/06audit.html?_r=0
Tech Mahindra (2014). Retrieved from http://www.techmahindra.com/investors/financials.aspx
Satyam case verdict likely on December 23 (2014, October 30). Retrieved from http://profit.ndtv.com/news/corporates/article-satyam-case-verdict-likely-on-december-23-686558
