Article S6.12 Corporate Accounting Scams: Some Lessons From the Satyam Debacle Panel Discussion: D. V. Ramana, Amar K. J. R. Nayak, Shridhar Kumar Dash Faculty Members, XIMB, India and Amar Patnaik, Doctoral Scholar, XIMB, India India has recently witnessed one of its biggest corporate frauds. The Satyam scandal has come as a jolt to the country’s financial audit profession and the regulatory authorities. The investors have suffered in a big way and Indian business, especially the software services sector has lost some of its sheen. On this backdrop, a panel discussion was held to understand the underlying issues and regulatory implications of the Satyam debacle. The panellists were drawn from the XIMB academic community. The summary of the panel discussion is presented in this report. The Satyam debacle, now considered as one of the worst accounting scams, has once again exposed the weaknesses in accounting practice. The accounting discipline, although known for its procedural rigor, is yet to be completely foolproof against camouflaging of information. Accounting statements prepared following all the stringent rules and regulations may still not represent the truth. In the case of Satyam, the accounting figures per se have not revealed anything wrong with Satyam. As a matter of fact, there is hardly any difference in the balance sheets of the big four software services companies in India, namely Infosys, TCS, Wipro, and Satyam. But, now we are well aware that all these balance sheet figures of Satyam are misleading and there is a fraud to the tune of Rs 7,000 crores (USD 1.4 billion). The management of Satyam has taken utmost care to attract investors through their fabricated Annual Reports. A careful look at Satyam’s recent Annual Report suggests that it has all the necessary attributes of an ideal firm--high operational efficiency, sound financial health, high expected growth, and, on top of it, a highly responsible and considerate management. In many instances, the management has gone overboard to include additional information--over and above what is mandated by the Generally Accepted Accounting Principles (GAAP)-- to create a favorable image in the minds of investors. It has been generally observed that in an emerging economy like India, companies are able to raise their resources from public by appealing to their imagination rather than rationale and that is what Satyam was doing for the last few years. The Satyam debacle can also be attributed to faulty incentive design. In Satyam, the promoters have a share of meager 8.5 per cent, which must have potentially acted as an incentive for the promoters to commit fraud. The incentive design was not appropriate and whatever happened was inevitable. If seen from an economic viewpoint, the ex-CEO Mr Raju has rather acted in a rational way and did his best to accumulate his personal wealth albeit in an unfair way. One of the key questions raised by the Satyam debacle is this: What should be the shareholding of the promoters to appropriately balance the interest of the ordinary shareholders and the promoters? The Satyam debacle has once again brought to the fore the significance of corporate governance and the deep-rooted agency problem in the standard corporate structure. In the case of Satyam, although the promoters were holding only 8.5 per cent of the shares, they were able to take all the decisions and prevail over the affairs of the company. The Board of Directors was not very effective in restraining the management as they were themselves nominated by the management. Although the Satyam Board had a fair representation of Independent Directors, all highly qualified professionals, none of them was able to detect the financial mismanagement by the management. That again raises the question: How independent and effective are these Independent Directors? It seems that the public-sector companies are in a better position with respect to corporate governance. The Board of Directors including the Independent Directors are nominated and remunerated by the government. These Directors, not being fearful of losing their positions, are better situated to question management decisions. In this arrangement, the Independent Directors can keep a distance from the management and act independently in a true sense. Perhaps, after the Satyam debacle, a cue or two might be taken from the Board composition of public-sector companies. The discussion also dwelt on the role of internal auditors vis-à-vis external auditors. Usually the external auditors carry out more of a compliance testing rather than a direct substantive testing. It is in fact not economical for the external auditors to carry out the detailed auditing; therefore, the external auditors rely heavily on the information and reports submitted by the internal auditors. The external auditors work with the premise that it is the management's responsibility to bring transparency and accountability into the system. The failure of PricewaterhouseCoppers, the statutory auditors of Satyam, in detecting the easily detectable cash anomalies is a case in point. The internal auditors were also unable to detect any fraud. Besides, given that the promoters were much more powerful than the Board of Directors, the internal auditors could not have reported it. Moreover Mr Raju--the main accuse in this case--was holding the posts of both Chairman and Managing Director of the company. The discussion also raised questions relating to the rights and duties of shareholders. While shareholders benefit from the profit distributing capability of a company, they do not seem to be engaged suffuciently in improving the management of the company. It is often said that shareholders are "rationally apathetic." The very structure of the company form of organisation gives shareholders the right to exit the company. It is possible that when shareholders see something going wrong, they would exit the company, rather than taking interest in setting it right. Such shareholders may be labelled “opportunists.” There seems to be a need to examine the role of shareholders in such cases of corporate scandal. Another issue that dominated the discussion was relating to auditors. Can the shareholders sue the auditors? Auditors are appointed by the shareholders as per the law, but the shareholders have no right to sue them. Moreover, auditors are also aware of ground realities wherein it is the management who actually appoints the auditors. It is the management which fixes the auditors’ remuneration. So the auditors generally keep the managers happy rather than fulfilling their duties towards the shareholders. Under such situations, the shareholders, individually and severally, should have the right to sue the auditors. It was also felt that efforts should be made to delink the auditors from the management. Auditors' fee may be circulated through some intermediary agency like SEBI or any other regulator. Such actions may go a long way in diluting the unholy relationship between the management and auditors. Moreover, it was suggested that the there can be multiple auditors for a company. It was also argued that employees should have more rights against management and auditors. As of now, the employees generally ignore the financial reporting of the company with an assumption that the financial statements are meant for the investors in general and the shareholders in particular. The panellists suggested that employees should be empowered with more rights. One such right would be the right to oversee the work of auditors. The Satyam debacle has exposed weakness on several fronts: accounting procedures, composition of Boards, agency problem, function of auditors, function of regulatory bodies, engagement of shareholders, role of employees, and so forth. However, the case has also given us an opportunity to review and strengthen the systems so that similar incidents may be avoided. Several remedial measures were discussed such as strengthening of internal auditing system, fair selection of Independent Directors, delinking auditing from management, remuneration of auditors from an independent body, multiple auditors, enhanced role of employees and shareholders, punitive measures, and so forth. Finally, it was also argued that regulatory and systemic changes may not suffice. There is a need for managers, directors, auditors, and other corporate professionals to develop a more ethical and responsible attitude towards their work, were such frauds to be averted in future. Reported by Jogendra Behera, C. D. Kuruvilla, D. V. Ramana, and D. P. Dash. [Feb 8, 2009] Copyleft Xavier Institute of Management, Xavier Square, Bhubaneswar 751013, India Research World (ISSN 0974-2379) http://www1.ximb.ac.in/RW.nsf/pages/Home |
