Accounting Fraud Of Satyam,Indian Enron

January 16th, 2009 Comments off
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The below article is about the recent Accounting Fraud at Satyam, one of the fourth largest software services exporter in India.

 

This article is an interesting piece of story for all accounting or non accounting college or university students to read and ponder about.

 

After reading the article, we should ponder about the various areas:

 

  • Professional ethnics of Chief financial officer and CEO
  • Good Corporate Governance and Transparency
  • The Importance of Having Proper Government Regulations
  • Auditor’s responsibility and fees from big clients which might cloud their minds when auditing
  • Accounting gimmicks that can cause disasters to the company’s investors who might have lost all their hard earn monies by investing in this company

  

Read on…………………………………….………..

 

Recently, the accounting fraud of Satyam rocked the world. Some even named it as Indian Enron. The fraud is India’s biggest corporate scandal since the early 1990s and its first high-profile casualty since the start of the global financial crisis.   

 

Actually before this accounting fraud is revealed, Satyam in recent months has been under close scrutiny, after an October report that the company has been banned from World Bank contracts for installing spy software on some World Bank computers. Saytam denied it but World Bank confirmed it without elaboration on the cause that Satyam had been banned. Also in December 2008, Satyam’s investors revolted after the company proposed buying two firms with ties to the chairman and CEO’s son. By late December, it seems that he had little support from the board or investors and four of the company’s directorsr resigned in recent weeks.

 

 

About Satyam to India and the World:

 

1.0   It was the first Indian company to list on three international stock exchanges – Mumbai, New York and Amsterdam. Since this massive accounting fraud, its share price has tumbled 80 % of its present level.( this fraud case sent Indian equity market into a tailspin with Bombay’s main benchmark index tumbling 7.3 percent and the Indian rupees fell. Satyam’s share value slumped to about $550 million from around $7 billion. This company was listed in 1991.)

 

2.0   It is India’s fourth largest software services exporter. The company expanded from a family-owned concern with a handful of employee into a back-office giant with a work-force of more than 53,000 and operations in 66 countries.

 

3.0   This New York-listed Satyam specializes in business software and back office services for hundreds of Fortune 500 companies across the world like  Unilever and Nestlé to Cisco, GE, Sony,the World Bank, General Electric, General Motors, United States government, Cisco Systems Inc. and others outsource their  most critical data and computer systems to this Indian outsourcing company. In some cases, Satyam is even responsible for clients’ finances and accounting.

4.0   Its accounts have been for many years being audited by one of big accounting four which is PriceWaterCooper(PwC) and yet the fraud went unnoticed for years.

5.0   This accounting fraud seemingly looks very basic when  the chairman and founder,Mr Raju admitted the following about the latest Balance Sheet at 30th Sept 2008:-

(a)     94% (Rs5,040 crore) of the Cash at bank in the balance sheet at Sept’08) Rs53.61bn ($1.2bn) was inflated(ficititious) largely due to inflating profits and ficitious assets;

(b)     An accrued interest of Rs. 376 crore which is non-existent

(c)     An understated liability of Rs. 1,230 crore on account of funds arranged by himself

(d)     An over stated debtors position of Rs. 490 crore (as against Rs. 2651 reflected in the books)

[ CLICK HERE TO LEARN ABOUT THE TYPES OF FRAUD, HOW IT OCCURS]

6.0 This accounting scandal will also raise questions over how outsourcing companies or other Indians companies have been and are regulated and audited The Satyam accounting fraud has, for the first time, comprehensively exposed the failure of the regulatory oversight mechanism in India. The first level of corporate governance is the company’s board itself comprising illustrious professionals from Vinod Dham of Intel fame to HarvardBusinessSchool professor Krishna Palepu and former Cabinet Secretary TR Prasad. The entire board failed to detect the fraud going on, as admitted by Raju himself, for the last several years.

 

7.0  Next, it seems strange that the extraordinarily large ficititious cash pile of bank deposits was not even been properly verified of its existence that raised doubts about the internationally acclaimed Auditors and their role, corporate Governance in the company and the role of Board of Directors. It might lead to some start up of some more regulated local Indian Act which might be similar to  the U.S. Sarbanes-Oxley Act of 2002 (also known as the Public Company Accounting Reform and Investor Protection Act of 2002) to take care of avoiding such scandals in future taking place. A thorough overhaul of auditing practices might be also required.

 

 Who is Who Being Implicated In This Accounting fraud:

 

(a)  The founder, chairman and CEO Mr. B. Ramalinga Raju (54 years old) who  resigned on Wednesday, 7 th January 2009 after admission of the accounting fraud. According to Mr Raju, the board of directors are not aware of this fraud at all. ( Mr Raju started Satyam as a family business with his brother and brother-in-law more than two decades ago)

(b)  Satyam’s long time auditor which is PwC, one of the big accounting four. Accordingly, PwC is still examining Mr Raju’s statement but could not comment further due to confidentiality issues.

©    Satyam’s long time Principal banker adviser, U.S.Merrill Lynch.The US bank has advised Satyam for close to a decade, during which time it has assisted with the company’s US listing, follow-on share sales, rights issues and recently helping the company to explore strategic opportunities. Merrill is now trying to disassociate itself from Satyam as fast as it can.However, rival bankers believe it is possible that Merrill will be named among the many defendants in any US class action lawsuits against Satyam.

 Reason(s) for the Accounting Fraud in Satyam:

According to Mr Rajau, he explained in his letter to the Board about the the cover-up, which he said started as an attempt to disguise a poor quarterly performance by artificially inflating the group’s profit, got out of hand over time. “It was like riding a tiger, not knowing when to get off without being eaten,” He claimed that he and his family had never benefited from the fraud and his fellow board members were unaware of it.

[Starting in 2006, Mr Raju raised money by pledging his family stake in the company of over 8 per cent to lenders as collateral for loans. He then injected the loans into the group to help cover up the income shortfall.But when the global financial crisis struck India’s stock markets, Satyam’s shares fell and lenders began selling off Mr Raju’s pledged shares.In a final attempt to make ends meet and keep the fraud under wraps, he launched an aborted attempt last month to buy two companies controlled by his family for $1.6bn.This would have absorbed the fictitious cashpile and added some real assets to Satyam’s books but the deal was staunchly opposed by institutional investors.]

 Others Salient notes on Satyam’s case:

  • The  Chairman of India’s stock market regulator, the Securities and Exchange Board of India, CB Bhave announced it was launching an investigation into the fraud.
  • US audit regulators raised concerns with Price Waterhouse, an affiliate of PwC, about its audit of Satyam after their visit to the firm last spring.[The visit was one of a series conducted by officials from the Public Company Accounting Oversight Board to Indian auditors with clients registered in the US, including Satyam.The PCAOB reviews deal with issues related to the conduct of the audit.]
  • Satyam said in a letter to employees that Mr.Raju had named Ram Mynampati as interim CEO, and named a “SWAT team” of senior managers to help him run the company.

APPEND BELOW IS SATYAM’S FOUNDER, CHAIRMAN AND CEO, MR RAJU  LETTER TO HIS BOARD OF DIRECTOR:

 Let’s look at Raju’s letter (emphasis mine):

To the Board of Directors
Satyam Computer Services Ltd.

From B. Ramalinga Raju
Chairman, Satyam Computer Services Ltd.
January 7, 2009

Dear Board Members,

It is with deep regret, and tremendous burden that I am carrying on my conscience, that I would like to bring the following facts to your notice:

1. The Balance Sheet carries as of September 30, 2008

a. Inflated (non-existent) cash and bank balances of Rs.5,040 crore (as against Rs. 5361 crore reflected in the books)

b. An accrued interest of Rs. 376 crore which is non-existent

c. An understated liability of Rs. 1,230 crore on account of funds arranged by me

d. An over stated debtors position of Rs. 490 crore (as against Rs. 2651 reflected in the books)

2. For the September quarter (Q2) we reported a revenue of Rs.2,700 crore and an operating margin of Rs. 649 crore (24% 0f revenues) as against the actual revenues of Rs. 2,112 crore and an actual operating margin of Rs. 61 Crore ( 3% of revenues). This has resulted in artificial cash and bank balances going up by Rs. 588 crore in Q2 alone.

The gap in the Balance Sheet has arisen purely on account of inflated profits over a period of last several years (limited only to Satyam standalone, books of subsidiaries reflecting true performance). What started as a marginal gap between actual operating profit and the one reflected in the books of accounts continued to grow over the years. It has attained unmanageable proportions as the size of company operations grew significantly (annualized revenue run rate of Rs. 11,276 crore in the September quarter, 2008 and official reserves of Rs. 8,392 crore). The differential in the real profits and the one reflected in the books was further accentuated by the fact that the company had to carry additional resources and assets to justify higher level of operations —thereby significantly increasing the costs.

Every attempt made to eliminate the gap failed. As the promoters held a small percentage of equity, the concern was that poor performance would result in a take-over, thereby exposing the gap. It was like riding a tiger, not knowing how to get off without being eaten.

The aborted Maytas acquisition deal was the last attempt to fill the fictitious assets with real ones. Maytas’ investors were convinced that this is a good divestment opportunity and a strategic fit. Once Satyam’s problem was solved, it was hoped that Maytas’ payments can be delayed. But that was not to be. What followed in the last several days is common knowledge.
I would like the Board to know:

1. That neither myself, nor the Managing Director (including our spouses) sold any shares in the last eight years — excepting for a small proportion declared and sold for philanthropic purposes.

2. That in the last two years a net amount of Rs. 1,230 crore was arranged to Satyam (not reflected in the books of Satyam) to keep the operations going by resorting to pledging all the promoter shares and raising funds from known sources by giving all kinds of assurances (Statement enclosed, only to the members of the board). Significant dividend payments, acquisitions, capital expenditure to provide for growth did not help matters. Every attempt was made to keep the wheel moving and to ensure prompt payment of salaries to the associates. The last straw was the selling of most of the pledged share by the lenders on account of margin triggers.

3. That neither me, nor the Managing Director took even one rupee/dollar from the company and have not benefitted in financial terms on account of the inflated results.

4. None of the board members, past or present, had any knowledge of the situation in which the company is placed. Even business leaders and senior executives in the company, such as, Ram Mynampati, Subu D, T.R. Anand, Keshab Panda, Virender Agarwal, A.S. Murthy, Hari T, SV Krishnan, Vijay Prasad, Manish Mehta, Murali V, Sriram Papani, Kiran Kavale, Joe Lagioia, Ravindra Penumetsa, Jayaraman and Prabhakar Gupta are unaware of the real situation as against the books of accounts. None of my or Managing Director’s immediate or extended family members has any idea about these issues.
Having put these facts before you, I leave it to the wisdom of the board to take the matters forward.
However, I am also taking the liberty to recommend the following steps:

1. A Task Force has been formed in the last few days to address the situation arising out of the failed Maytas acquisition attempt. This consists of some of the most accomplished leaders of Satyam: Subu D, T.R. Anand,

Keshab Panda and Virender Agarwal , representing business functions, and A.S. Murthy, Hari T and Murali V representing support functions. I suggest that Ram Mynampati be made the Chairman of this Task Force to immediately address some of the operational matters on hand. Ram can also act as an interim CEO reporting to the board.

2. Merrill Lynch can be entrusted with the task of quickly exploring some Merger opportunities.

3. You may have a ‘restatement of accounts’ prepared by the auditors in light of the facts that I have placed before you. I have promoted and have been associated with Satyam for well over twenty years now. I have seen it grow from few people to 53,000 people, with 185 Fortune 500 companies as customers and operations in 66 countries. Satyam has established an excellent leadership and competency base at all levels. I sincerely apologize to all Satyamites and stakeholders, who have made Satyam a special organization, for the current situation. I am confident they will stand by the company in this hour of crisis. In light of the above, I fervently appeal to the board to hold together to take some important steps. Mr. T.R. Prasad is well placed to mobilize support from the government at this crucial time. With the hope that members of the Task Force and the financial advisor, Merrill Lynch (now Bank of America) will stand by the company at this crucial hour, I am marking copies of this statement to them as well.

Under the circumstances, I am tendering my resignation as the chairman of Satyam and shall continue in this position only till such time the current board is expanded. My continuance is just to ensure enhancement of the board over the next several days or as early as possible.

I am now prepared to subject myself to the laws of the land and face consequences thereof.
(B. Ramalinga Raju)

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Financial Accounting

 
 

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