Thursday, January 08, 2009

Satyam fraud: how do we overhaul governance?

In my ET column, I list some governance reforms that we could think of in the wake of the Satyam fraud.

This is not a collapse triggered by the sub-prime crisis but the disclosure of the fraud may not be entirely unnconnected with the crisis. There is pressure on volume growth and margins in the current environment. That would have caused Ramalinga Raju to give up hopes of closing the gap of Rs 7000 crore on the balance sheet.

But this is very different from the collapses of financial firms that we have seen. In those cases, you could argue that they were all highly leveraged institutions intrinsically prone to failure, that they dealt with complex products that neither management nor the board could fully comprehend. This is a collapse that has occurrred in the IT sector and entirely on account of internal fraud.

One of the regulatory lessons being drawn from the financial sector crisis is that large institutions need to be regulated, whether they are banks or non-banks. I think the basic principle may have to be applied to all large firms, irrespective of the whether they are in the financial sector or not.

If you are large, you are systemically important. Not that we have will have the entire panoply of regulations that we have in the financial sector. But a second layer of audit that I propose in my column is essential. For banks, there is regulatory audit in addition to statutory audit.

One fall-out of the Satyam affair, as indeed of the ongoing financial crisis, is that we are beginning to see the virtues of public sector companies. You can be more sure of accounts in a PSU than in a private firm- there are fairly elaborate checks and balances on fudging of accounts. Being an independent director on a PSU is less tension-ridden than being one on a private company- and you can also be more independent because independent directors are appointed by the ministry, not PSU management.

Above all, in a PSU, you have the one thing that Indians still prize above everything else at the workplace- job security. Think of the 50,000 employees of Satyam and the worthless stocks and stock options many must be holding. Do not be surprised if, on a long view, there is a re-rating among investors and employees alike of the relative merits of the private sector and PSUs.

3 comments:

Krishnan said...

The simple truth is that there are thieves - small and big. There is no system that can catch all of the thieves, fraud will happen. The best we can hope for is that the public has the opportunity to punish such companies/thieves by how they value them in the market.

Perhaps there is no "fraud" in public sector companies or "Governments" in the way we understand "fraud" (a la Enron, Satyam) - but there is fraud, nevertheless.

Madoff ran a Ponzi scheme? It is nothing when one examines the Ponzi scheme that the US Government has a monopoly on - it's called "Social Security". It is the biggest fraud perpetrated on US tax payers and there is no end in sight, I cannot sue the Feds on the issue of my social security and the monies I have paid into that system. involuntarily I will add.

I am hoping the Press in India will dig into the Satyam mess and reveal the extent of the fraud on the public at large. The Enron management went to jail, justice may be flawed in the US, but it works, sometimes. The rogues of Satyam can remain confident that the legal system in India will never catch upto them, certainly for a few decades.

Anonymous said...

I have been reading up on this issue. Looks to me like there is a lot of "Caveat Emptor" involved here.
Customers must do due diligence while picking vendors. Don't always pick the cheapest vendor.
Employees must keep an ear to the ground and study internal business processes. do not work for a company that bribes and greases hands.
Investors must stay away from family run enterprises that "diversify" into unrelated activities.
The above could apply to Enron or Satyam. Or both.
I stumbled upon these videos and was quite amazed that such a soft spoken man could spearhead such a big fraud.
http://www.istream.in/playlist/4/an-interview-with-ramalinga-raju-sathyam-ex-chairman-and-ceo.html

Deepee said...

As you would know, Caveat-Emptor is not practiced these days. Its not only the buyer who needs to be aware, the corporate also has a responsibility to its stakeholders and towards society at large. That precisely the reason why we have the consumer courts.
Anyway, coming back to Satyam, there is no way the clients could have possibly known about the 'creative accounting' being practiced; in the case of Enron though it was different, investors should have been sceptical of the 'mark to market' accounting practiced.
And as far as not trusting family businesses goes, i disagree totally. If you take the family owned businesses out, then you are actually left with almost nothing...for eg take tata, birla and reliance out(they have such a diversified business portfolio), then where would you invest? Infact in the case of Enron, the company had all the makings of a great global enterprise, but it so happened that the management failed to look into the future and most of their growth plans were short term rather being a proper mix of short and long term objectives.