Satyam: Once and For All, Beware the Signs

The Barometer is exhausted.  How many times must we live through these financial frauds before we refocus?  The announcement that Satyam, an Indian company that provided services for many of the Fortune 500, had a fictitious cash balance of $1 billion has us reeling.  Why?  In this post-SOX era with audit reforms, we have all the problems solved.  But, within a matter of weeks, we have had Madoff, Drier, and now Satyam.  All of these cases shocked us, and all of them left us wondering, how could it have happened?  The time has come to regroup and focus on qualitative factors that are a dashboard for trouble ahead.  For example, Madoff surrounded himself with direct reports who were a full generation younger and who happened to be his sons.  Think Charles Keating and Lincoln Savings and Loan. Think the Rigas family and Adelphia.  Think Downey Savings. Think of AIG and the Greenberg sons who ran affiliates who all faced some sort of regulatory review and reform prior to the AIG crisis. Take an iconic CEO and surround him or her with sycophants and you have the equivalent of a hot house for orchids.  They will grow in such an environment.   

And then there are the philanthropic tendencies, recognitions, and awards.  Enron, WorldCom, HealthSouth, Tyco, Adelphia, Charles Keating.  The companies and their leaders were all known for being good corporate citizens, generous with their funds and always in the headlines for their involvement in causes, everything from the arts to colleges and universities.  So was Madoff — just talk with the folks at Yeshiva University.  The Barometer could not find the space to list the beneficiaries of Madoff’s noblesse oblige. Ramalinga Raju, the former chairman of Satyam and one of its co-founders, has perplexed his friends with his conduct because he was so dedicated to helping rural India emerge from its poverty.   Further, in 2008, Satyam had received the Golden Peacock Award for Corporate Governance from the World Council for Corporate Governance.  From the Barometer’s experience, when you see extensive generosity and awards for governance and social responsibility, run away.  These folks know how to work the system, and the system falls for the generous, brilliant benefactor model who professes dedication to the planet. 

If you have the question, “How do they do it?” ask it.  Lavish expenditures, continuing expansion via acquisition, inexplicable growth, and double-digit returns are antithetical to long-term business success.  Again, Enron, Tyco, Adelphia, HealthSouth, Madoff, Satyam, and so many others all had one or more of these characteristics.  Satyam was trying feverishly to make acquisitions as late as December 16, 2008.  Sweet growth, we say.  Beloved expansion is afoot, we note. So, we fall for them, hook, line, and sinker. Yet we all know the basic model for business success:  Keep your costs low, maintain a quality product with good customer service, and watch your debt levels.  Much as we want to believe it, there are no magic beans beyond that formula.  When someone professes to have magic beans, run away.

Where there are rumblings, there might be an earthquake ahead.  Interestingly, there is always a precursor to a company’s problems, a precursor that is dismissed as much ado about nothing and about which the company may actually have a regulator’s imprimatur of, “They’re fine.”  But, there is a tap of the foot before the shoe drops.  Tyco was cleared by the SEC of questions about its accounting several years prior to the Kozlowski issues. 

A suit by HealthSouth employees was dismissed several years prior to the discovery of the accounting fraud there.  And you always find employee terminations when things begin to unravel.  Find out who’s missing from the company roster.  Often you see the 54-year-old executive drop out “to spend more time with family.”  Be afraid. 

In October 2008, Fox News raised questions about Satyam’s business practices that the World Bank had been looking at since 2006. The Bank announced in December had resulted in sanctions against the company. Satyam, like other companies and individuals that subsequently implode, pooh-poohed Fox at the time. When they pooh-pooh, dig deeper.  The regulatory or legal dismissal of allegations does not mean there are not issues there.  You can only conclude that the legal case is not yet ripe — all the elements are not there.  And if you don’t get answers for the missing pieces of the legal or regulatory cases, run away.

What should be clear is that we cannot rely on traditional audit tools.  They have failed us mightily.  The Barometer has no interest in exploring who did what in which audit and which audit firm to determine “if only” or “coulda, shoulda, woulda.”  The traditional audit no longer works.  The audit function must shift to more qualitative analyses.  Some of those qualitative factors are listed here.  All that remains is their use and application.  They “coulda” proven very effective in identifying the recent round of frauds.  These are the signs when “Run away” applies.