The Satyam Scandal

Satyam Systems, a global IT company based in India, has just been added to a notorious list of companies involved in fraudulent financial activities, one that includes such names as Enron, WorldCom, Societe General, Parmalat, Ahold, Allied Irish, Bearings and Kidder Peabody. Satyam’s CEO, Ramalingam Raju, took responsibility for broad accounting improprieties that overstated the company’s revenues and profits and reported a cash holding of approximately $1.04 billion that simply did not exist.

This leads one to ask a simple question: How does this keep happening?

It starts small. Typically, executives do not wake up one morning and say, “I feel like adding 5 billion rupees to our revenue today.” They usually start by fudging the number a little–and then it grows.

It is usually a response to competitive pressures. Companies have targets that they need to reach every month, quarter and year. These targets can come from their internal budgets or from the expectations of their shareholders and stock market analysts.

The fiddle is easy to rationalize at first. Managers typically have confidence in their skills and believe that their company is fundamentally sound. Given that, it’s easy to rationalize that while we’re just a little short on the numbers now, we will make it up in the future, and nobody will know.

It gets out of control. When the company is unable to make up the gap, a larger distortion is needed to cover it up. This in turn creates pressure to deliver even better results–which leads to bigger cover-ups, and so on.

In his letter to his board, Satyam’s Raju shows the markers of this pathology. He states that, “What started as a marginal gap between actual operating profits and ones reflected in the books of accounts continued to grow over the years. It has attained unmanageable proportions………………………………… ” Later, he describes the process as “like riding a tiger, not knowing how to get off

without being eaten.” Can anything be done?

Unfortunately, it appears that several of the mechanisms we rely upon today have not gone far enough. When management has the wrong incentives, we need other mechanisms to hold those incentives in check.

Typically, we rely on corporate governance, audit and legal consequences.

Historically, several characteristics have been considered important ingredients of excellent corporate governance. These include outsider representation on the board, boards that aren’t too large, boards that meet often, etc. Unfortunately, these characteristics don’t seem sufficient. Satyam, for example, had a reputation of excellent corporate governance. In fact, the World Council for Corporate Governance awarded Satyam its Golden Peacock Award for Corporate Governance in 2008. This suggests that we need to fundamentally rethink the criteria that we require in order for boards to provide effective governance.

When an accounting fraud involves reporting cash that is not there, it is typically the result of adding fraudulent transactions, such as cash sales, to customers that never happened. These types of transactions should have been audited to assure their legitimacy. In the case of Satyam, the auditors signed off on the financial reports, raising concerns that even the increased auditing standards imposed by Sarbanes-Oxley may not be sufficient.

Finally, we also need stiffer penalties. Simply put, “white collar” crime cannot be viewed as less of an evil than any other form of crime.

The fact that white collar crime continues to occur, and seemingly at an increasing rate, suggests that the expected costs do not outweigh the expected benefits from cheating. Stronger penalties are needed.

Despite my calls for improvements in governance, audit and legal penalties, I’m left with the nagging concern that whatever we do may be insufficient. At the end of the day, the actions at Satyam were perpetrated by one or two individuals who simply may not have realized that the small distortions they created in the past would lead to massive problems today.

Hopefully, creating an awareness of the large consequences of small lies may help some to avoid this trap.

Actions such as those of Satyam are being observed all over the world, and their effects are not simply localized to their executives, employees or even their countries. Whether it is accounting fraud, excessive trading risks, a Ponzi scheme or making loans to those who can’t pay, many are hurt by corporate improprieties. These types of actions affect the global economy. In other words, they affect us all. If there isn’t sufficient belief in the notion that business will act in good faith, then the capitalist system is itself at risk.

Source: Sudhakar, V. (2009) The Satyam Scandal [online]. Available from: https://www.theguardian.com/business/2022/jan/19/kpmg-fined-43m-for-serious-failings-in-conviviality-audit [Accessed  on: 30 September 2022]

QUESTION 1 (20 Marks)

The case study indicates that the revenue of the organisation was inflated to make up the gap over time. What cycle and the associated basic functions would you investigate to uncover this type of fraud? (8
marks)

Discuss the assertions relevant for any sales entry for Satyam. (12 marks)

QUESTION 2 (20 Marks)

Discuss at least ten (10) documents that an Auditor will look for when auditing Satyam for inflating Sales.

SECTION B [60 MARKS]
Answer ANY THREE (3) questions in this section.

QUESTION 3 (20 Marks)
A small coal supplying & delivery company is considering expanding their business to supply Eskom due to the worsening situation of load shedding in South Africa. They currently take orders telephonically by the salesperson and record them in a book with the person’s name, telephone number, delivery address & amount payable.
The order is then placed in a delivery list by the salesperson according to the vehicle availability and area of the customers. The order together with a handwritten invoice issued by the salesperson is issued to the driver to deliver the coal and to collect the cash from the customer before the load is offloaded. The driver then brings the cash back with a delivery note which is processed by the salesperson. Majority of sales is cash based and is deposited weekly by the salesperson.

The owner asks you for assistance buy auditing the current business model to identify the weaknesses and propose an appropriate action to be taken. Identify at least five (5) weaknesses in the current receipt and revenue cycle and propose the corrective action for each weakness. Your response should be tabulated.

QUESTION 4 (20 Marks)

As the world adopts digitisation, so must the various essential corporate governance processes. The Auditing process which is a key governance step also need to change to keep up with he ever increasing complexities of the world. Therefore, the Auditing process has four main options. Discuss the different options available in relation to the retail industry.

QUESTION 5 (20 Marks)

Discuss at least five (5) applicable documents required during the Human Resource Cycle for a manufacturing company and expected challenges.

QUESTION 6 (20 Marks)

A local entrepreneur in the KZN area has been working in the beer industry for the last 15 years and he decided to launch his own beer brewing facility. He compiled a business plan which he presented to the financial institution for funding. After listening careful at the meeting, the investing partner was curious about how the entrepreneur will manage his labour and requested a document explaining his human resource cycle.

He approaches you as the Auditing expert to assist him in compiling the document. Propose what the key functional aspects his document should include and propose a solution for the entrepreneur and for each of them.

Answers to Above Questions

Answer 1: An analysis of the given case study of Satyam indicates that the revenue of the organisation has been inflated in the books of account in order to show up favorable performance, with the objective of making up the gap over time. In order to uncover this type of fraud, the cycle and the associated basic functions that I would investigate includes cash collection cycle which will indicate the actual cash collected from the customers. I will also investigate the inventory function managed by the organisation because sales would result into the reduction in the inventory level, and it can possibly be detected if no sale is made and it has been shown in the books of account as sales made.

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