Highlights of Ernst & Young India Fraud Survey 2012

Ernst & Young, a fortnight back released an India based fraud survey report titled “Fraud and corporate governance: Changing paradigm in India”.  The survey had 114 online completed forms with respondents categorized in three groups – 45% foreign MNCs, 32% Indian MNCs and 23% Indian companies with domestic operations. Though the survey information is worth reading, the results are not truly representative of the Indian corporate world. In India, around just 10% of the companies are listed, 90% of the companies are private or unlisted public companies, and less that 5% are foreign companies. Hence, the results shows a tilt towards MNCs understanding of fraud risks.

1. Main Fraud Risks

  As per the survey the following are the top five risks of fraud :  

a. Data and information theft and IP infringement   
b. Bribery and corruption
c. Fraud by senior management and conflict of interest.      
d. Vendor fraud or kickbacks.
e. Regulatory non-compliance.

Further on, the profile of the fraudster is a male middle management level employee in his 30s working in procurement or sales department. This maybe true for the smaller amount of frauds, as the survey doesn’t discuss accounting manipulations, though does state that senior management involvement is there in high value frauds. The high level window dressing and accounting manipulations of financial statements at the behest of CEO, CFO and Board is an unmentioned aspect in India due to the power equations. The survey gives a contrary viewpoint than that mentioned in the Fraud Symptom series. In this aspect, the survey shows that Indian fraud scene is better than the US fraud scene, and that is quite hard to believe.

2. Fraud Reporting

In India, most frauds go unreported, specially senior managers. The survey makes this candid observation, that I am in complete agreement with – “Companies are reluctant to take legal recourse against employees responsible for committing fraud. Only 35% of the respondents said that their company takes any disciplinary action against unscrupulous employees. ” Although fraud incidence has increased, the organizations do not report due to the time taken in judicial resolution, to escape regulatory repercussions and avoid huge reputation damage. Moreover, the practice is to ask police to help recover the defrauded money, and after that let the law takes its own course. Since, the plaintiff (in this case the company) is provided a public prosecutor, the company stops pursuing the case after some time. Hence, usually the fraudsters go unpunished.

Due to this approach, fraud in private sector is mainly unreported. The government sector auditors (CAG) are doing a far better job in highlighting fraud cases. In comparison to government reporting on fraud and bribes, private sector is not even showing one-tenth of the cases. The situation is absolutely unlikely and has to be viewed skeptically. When the demand side (government) bribe cases are high, the supply side (private sector) has to be equivalent. The private sector is in no position to hold the holier than though attitude.

3. Fraud Detection

The survey mentions the paradox – “fraudsters are using advanced tools and technology to perpetrate frauds” and organizations are using excel based worksheets to detect frauds. It states – “Less than 50% of the respondents are aware of  fraud-prevention and detection tools. Moreover, in spite of the current popularity of social media, only one-fourth of the respondents are aware of IT based        tools that can be employed to identify unethical behavior, based on a social network analysis”. In India, fraud detection and investigation skills are in short supply. Since organizations aren’t focused on risk management, the fraud risks remain unaddressed.

Another challenge, brought out very well in the survey is absence of whistle blowing systems in Indian organizations and high level of retaliation due to lack of whistle-blower protection laws. The survey mentions –  “Less than half of the respondents reported that their companies have a telephone hotline.” Additionally, as the hotlines are internal, anonymity is low and risk of retaliation is high.

Closing Thoughts

The survey gives, in addition to fraud risks, interesting insight on bribe and corruption, and new regulatory changes. It is a good read and there are very few fraud surveys available solely focused on India. Disclosure: I am ex-E&Y, hence am likely to be biased. Mind you, I haven’t written previously of E&Y surveys and reports, hence, you can presume that some level of independence in thought has been maintained.

References:

1.Fraud and corporate governance: Changing paradigm in India – Ernst & Young Survey

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A Debate – Profitability Versus Human Life

Everybody uses everybody else for their own benefit. That is the justification we give for most of our negative actions. Some follow use and discard policy; others follow use, abuse and discard policy. The complexity arises as it hard to differentiate when it is right to use. Isn’t a wife being used by her family when she is doing house work, looking after the kids and sacrificing her pleasures? Isn’t a husband being used by the family when he is putting ten hours in office to earn a living so that his family has food on the table and leads a comfortable life? What about the hired help in-house, who works twelve hours for minimum wages just because they are poor and uneducated, isn’t that exploitation? Hence, can the public really blame corporate world for perusing profitability at the expense of human life.

1. Scenario – Non-profit Social Organization

A couple of days back in Bangalore, a young footballer collapsed on the practicing field in Banglaore. There was no medical aid or ambulance available on the field and the young player died. Karanataka State Footballer Association is getting the flak and offered Rs 100,000 to the grieving parents. Is the money sufficient compensation for death? If a million was offered, will the negligence of the association be more tolerable to parents? What is the right value of use or exploitation of human life?

2. Scenario – Corporate World

The old 1960’s Ford Pinto case is an example where organizations put dollar value to human life. The Pinto had a gas tank in the rear, and it burst into flames on collision. A number of car users lost their lives or were severely burnt during accidents, but the company continued to lobby for lower safety standards. The engineers knew about the defects, however, the senior management advised them to continue manufacturing. In a judicial hearing, Ford management justified their actions claiming that they had done a cost-benefit analysis for the same. The cost of removing defects was higher to the benefit of saving a human life, hence it didn’t make business sense to improve safety measures. In the analysis, the price of human life was US$ 200,000.

The case is relevant, as Tata Nano in India, has in a few occasions burst into flames without an accident. The car just becomes a fireball. Although Tata Motors management has claimed that the defect was removed, customers are still wary . Therefore, the question is – is it justified for organizations to risk the life of customers for profitability?

3. Scenario – Crime Scene

With increasing crime, the question becomes more complex. Let us take a hypothetical case. A man was hired by group A to conduct a crime on X, to ensure X does something for group A. The same man was hired by group B to conduct a different crime on X, to ensure X agrees to the demands of group B. Now the man double crossed group A and didn’t inform them he was working for group B. He double crossed group B and informed them that he will be successful even when he knew his plan isn’t working. He involved a number of friends and associates to help him with his plans. He double crossed his friends and didn’t inform them about the risks of the crime and how they are jeopardizing their life.

In nutshell, he used everyone to his own advantage for sake of monetary gain and safeguarding his own life. He assumed safety in numbers;   involvement of other people will bullet proof him against the negative repercussions of  group A, B and X. Now in this case, would you say, since all involved except X were undertaking unethical behavior, the use and exploitation of everyone else is justified? If we remove the legal aspect, how should this person be judged on moral aspects of his action? If one is risking another’s life, does loyalty to his own group has value?

Closing Thoughts

In all the above cases, we will say it is wrong thing to do even if we ignore legal aspects of each case. Human beings code of conduct and morality states that use of another for fulfilling duty or a greater cause is justified. However, use of another for personal benefit without compensating them appropriately for labor amounts to immoral behavior. There is a saying that even in the mob world, loyalty counts. There also, using your colleagues or clients which might harm them is not acceptable.  Human life has value and all human beings are expected to respect it. A code of conduct is followed as it keeps all human beings safe and secure. Breaking those always results in negative repercussions.

References:

1. Ford Pinto

The Battlefield – Pleasure Versus Morality

People madly pursue materialism to lead a happy life. A person’s main belief is that expensive products give pleasure; hence more the money, more the pleasure, more happiness. In leading a pleasurable life, if some ethics need to be compromised, so be it. When the ultimate goal is happiness, some sacrifices are worth it. It is better to subdue the conscience, than listen to the voice within when hurting someone or breaking laws. It is a dog eat dog world, and the toughest will reach the top of the food chain. Therefore, morality be damned; either ways everyone is doing it, so why not me? Morals won’t pay the medical bill, money will.

To live a happy life, does one has to choose between pleasure and ethics? If so, what is pleasure? As per Oxford dictionary – a) feeling of satisfaction or contentment; b) source of enjoyment and delight; c) sensual gratification or indulgence. Materialism focuses on b and c parts of the definition, it doesn’t give contentment. Simply put, a content person sleeps when his/her head touches a pillow. Money gained from an illegal means cannot provide contentment. The insidious fear of being caught  generally erodes all feelings of peace and contentment.

To illustrate, let us say that a person has acquired US$ 50 million through fraudulent means. To protect himself from being caught by intelligence agencies, he has involved 50 other people in the fraudulent activities. He has ensured that those 50 others also earn US$ 50 million each. He has cleverly used 20 different countries with 20 different methods of frauds over a period of 10 years to remain undetected. He lives in the lap of luxury and so do the other 50. Do you think, any of them can say they are happy? Most probably, they need sleeping pills, alcohol and drugs to have eight hours of sleep at night.

The misconception about morality arose from Utilitarian or Happiness theory by philosopher Jeremy Bentham. The theory differentiates between right and wrong on the basis of happiness obtained by the majority.  It holds that actions are right in proportion as they tend to promote happiness, wrong as they tend to produce the reverse of happiness. By happiness is intended pleasure, and the absence of pain; by unhappiness, pain, and the privation of pleasure. Hence, people misconstrued that doing immoral things is okay if it makes the majority of the people happy.

However, J.S. Mill pointed out a fundamental misinterpretation by most, of the term pleasure and morality. He said it is incorrect to assume that pursuit of pleasure equals an immoral sub-human behavior “worthy of a swine.”   Human beings have faculties higher than animals hence degrading themselves to pursue perverse desires isn’t suggested by the Happiness theory.

The theory on the other hand mentions the higher order of pleasures. Michael Sandel in his lecture gave a simple example of the same. He asked a question to his students  – if given a choice, would you watch Shakespeare’s play, Simpsons or Fear Factor. Though most would watch Simpsons, Shakespeare’s plays offers better mental enlightenment and higher satisfaction. The difference is that most human beings need to be taught to appreciate higher pleasures of life, while lower ones come naturally.

Therefore, does the confusion between pleasure and morality prevail because most humans are not taught the higher pleasures of life. As per Maslow’s “Hierarchy of Needs Theory”, self- actualization needs are at the top of the pyramid. People primarily focus on meeting physiological, safety and social needs. Most follow lower road to morality even when they are aware. For example, in India in social events, song numbers by heroines (example Chhammak Challo, Sheila Ki Jawani) though absolutely crass, are enacted by 4-10 year old girls publicly in the presence of their parents and various adults. This of course raises the questions – are we teaching kids the wrong things to get pleasures in life?

Closing Thoughts

The battle between pleasure and morality appears more of a case of lack of education in higher orders of pleasure. Maybe something as simple as educational institutions inculcating the desire for self-actualization in students would transform the society. The focus would shift from materialism to morality. As the saying goes, money may pay the medical bill, but one cannot buy good health. Will continue my meanderings on the subject. What do you say?

References:

Justice at Harvard- J.S. Mill Utilitarianism Theory

Competition – Cause of Unethical Bahavior

Greg Smith, ex- Goldman Sachs executive director and head of the firm’s United States equity derivatives business in Europe, the Middle East and Africa, resigned last week. His public statement in New York Times “Why I am Leaving Goldman Sachs” has generated worldwide debate on organization culture and ethics in financial institutions and other organizations. He clearly mentions – “And I can honestly say that the environment now is as toxic and destructive as I have ever seen it.”

Then he further articulated that now clients interests are ignored to benefit the organization. The focus shifted from making profit for the clients to making profits for the organization. Brokers suggest clients to trade in securities that benefit Goldman, even if the products are wrong for them. The “Business Ethics” blog mentions Goldman Sachs was charged with 13 cases in the last decade, hence this isn’t the first time ethics of Goldman Sachs employees have come under search light. Excessive competition to be the leader makes organization culture dysfunctional. Employees driven by salaries, bonus and other perks, find it difficult to be ethical if the tone at the top is wrong.

The research paper “Organi-cultural Deviance: Socialization of Individuals into Deviant Culture” authored by  Gendron, R. and Husted – states that financial self-interest is the key reason white-collar-criminals engage in illegal acts. He states that wealth and success are the central goals of human behavior. In a capitalistic society personal wealth and power give the stamp of success. When people compete, and realize that they cannot achieve success by legal means, they indulge in illegal acts.  He further describes Coleman’s thoughts as –

Unable to lawfully obtain goals that are deemed appropriate or correct by the specific organization or society writ-large, an individual or a group of individuals may engage in neutralization strategies and begin to engage in deviant behaviors. Often more acts of deviance are required to continue to meet the organization’s or society’s goals. In this process, the individual or group may negate any concerns about their actions arguing that it is in fact “market forces at work”, that there are “no real victims” in such transactions.

The 1998 money laundering and securities fraud case of Jordan Belfort, illustrates this thought process. Jordan Belfort in an interview mentioned that if anyone had asked him at 21, his aim in life, he would have answered = “to get rich”. Belfort while still in his twenties opened Stratton Oakmont, a securities company. He hired youngsters in their teens and early twenties to sell stock to high net worth investors by writing their sale scripts. Over a 1000 people worked in the company. In his book  ” The Wolf of Wall Street” he narrates the hard playing culture in his organization –

“They were drunk on youth, fueled by greed and higher than kites. And day by day the gravy train grew longer, as more and more people made fortunes providing the crucial elements young Strattonites needed to live the Life.” 

Fast cars, mansions, babes, drugs, expensive products and dysfunctional behavior defined the core attributes of “The Life” of Strattonites.  Youngsters in their twenties without professional qualifications earned salaries over a million dollars. Since they spent their whole salary on living the Life, they were totally dependent on Berfort. He led the culture and in the rehabilitation center for drug addiction, he described himself as – “My name is Jordan, and I’m an alcoholic and a drug addict and a sexual deviant.”

Jordon Belfort was prosecuted and spent 22 months in federal prison for a pump and dump scheme, which resulted in investor losses of approximately $200 million. In the book he narrates that he transferred over US$ 10 million illegal cash funds to Switzerland bank accounts and FBI tracked his activities. He talks about Swiss Bank executive putting him in touch of a trustee who basically functioned as a master forger. He opened skeleton companies to pass fictitious transactions. Most of his business associates were also prosecuted by FBI as Belfort cooperated with FBI after his arrest.

Closing Thoughts

Some take Gordon Gekko’s statement “Greed is good” seriously. The desire to have money and become rich fast pushes them to take risks. Since legitimately one cannot become rich overnight or have savings higher than salaries, a few break the laws. In the financial sector, with the knowledge and relationships, it becomes easier to override the laws. Hence, they pursue a rich lifestyle far more aggressively than employees of other industries. As they sink deeper and deeper in illegal activity, they believe they can control the situation and have nine lives. They ride a tiger with no capability of stopping.

References:

  1. Why I Am Leaving Goldman Sachs – New York Times
  2. 13 Reasons Goldman’s Quitting Exec May Have a Point
  3. The Wolf of Wall Street – How Money Destroyed a Wall Street Superman – By Jordan Belfort
  4. Organi-cultural Deviance: Socialization of Individuals into Deviant Culture

A Philosophical Discussion on Murder of Whistle Blowers

This Sunday, Anna Hazare is fasting in Delhi in support of Whistle Blower Protection Act. Indian laws don’t provide for whistle-blower protection and the damage is evident. Over the years, numerous whistle-blowers have lost their life. A few cases are covered up as personal dispute due to the high level corruption in the system.

Corruption benefits the majority, so does it make it acceptable? Legally, public will say – of course not. But even Hazare’s big protests in 2011 have lost public support. The government used delay tactics and maligned the name of key leaders of his team. Most state leaders didn’t want a Lokayukta in their states. There is no political will among the politicians, bureaucrats and business to pass a strong bill against corruption.

Then it isn’t surprising, that even on  witnessing the death of whistle blowers, public doesn’t protest about it. On the other hand, most keep quiet, lest they become the target. In such circumstances, majority of the people have given implicit consent to murder for their own self-interest. Of course readers would be outraged by this suggestion and claim they were no way involved in the murder. They didn’t give implicit consent!

Let us discuss this from a philosophical lens. Micheal Sandel, the Havard professor discusses this point in his video lectures : Justice – The Moral Side of Murder and The Case of Cannibalism. In the episode “Moral Side of Murder” he discusses a hypothetical case:

“Suppose you were driving a trolley on a rail track and its breaks failed. Five workers are ahead on the track, if you continue to drive straight, all five will die. On the other hand, in a diverging track, there is just one worker.  If you change track, that one worker will die but the other five will live. What is the right thing to do?”

Most students responded that they will swerve to the diverging track and chose to kill one to save five. At a psychological level, they have given moral justification of murder. Then Mr. Sandel gives another example :

“Suppose you are standing on a bridge with the track below, and you see this trolley hurtling without breaks. There are five workers on the track. There is a fat man standing next to you. If you push the fat man over the bridge, on the track, the lives of five workers would be saved. Would you do it?”

Majority of the students said – “No, they wouldn’t do it”. The reason is that it would involve explicitly murdering a person. Can we conclude from these examples, that human race is fine with implicit consent to murder however have qualms on explicitly murdering?

Some whistle blowers due to the psychological torture have committed suicide. That is an indirect attempt to murder. The rich and middle class gain from corruption, hence they give an implicit consent to murder of whistle-blowers. Does this statement hold true, or would you debate it?

Mr. Sandel discusses this in the next part of the lecture on cannibalism. He discusses The Queen v. Dudley and Stephens case, and the facts are as follows:

“At the trial of an indictment for murder it appeared, upon a special verdict, that the prisoners D. and S., seamen, and the deceased, a boy between seventeen and eighteen, were cast away in a storm on the high seas, and compelled to put into an open boat; that the boat was drifting on the ocean, and was probably more than 1000 miles from land; that on the eighteenth day, when they had been seven days without food and five without water, D. proposed to S. that lots should be cast who should be put to death to save the rest, and that they afterwards thought it would be better to kill the boy that their lives should be saved; that on the twentieth day D., with the assent of S., killed the boy, and both D. and S. fed on his flesh for four days; that at the time of the act there was no sail in sight nor any reasonable prospect of relief; that under these circumstances there appeared to the prisoners every probability that unless they then or very soon fed upon the boy, or one of themselves, they would die of starvation.”

To protect oneself or the majority, is murdering someone else justified? The students raised interesting aspects :

1) Some said if selection was done by lottery, then maybe it is illegal but more acceptable. Reason given was they would consider it that all participants on the boat knew the risks of losing.

2) A few students stated that if the boy would have volunteered to die for the benefit of others, it would be acceptable. The boy was an orphan and all others had family responsibilities.

In case of whistle-blower murders, the person dies without have consented to die or being made aware of the decision of the most. The majority votes behind his/her back for murder to safeguard themselves. Does that make majority behavior acceptable?

Watch the hour-long video, and share your thoughts.

In whistle blowing, most feel threatened about the repercussions from people in power and say that they have family responsibilities and cannot expose themselves to the risk. Hence, it is better to go against the whistle-blower attempting to do the right thing, than the person who is doing the wrong thing. Do the same psychological reasons as given in the above mentioned case apply when society goes against whistle blowers?

References:

Harvard University – Justice with Michael Sandel

Risk Management Failures in Kingfisher Airlines

Mr.Mallya with KFA Air hostesses

The king of good times is facing hard times. Launched in 2006, with much fanfare by its Chairman, Mr. Vijay Mallya, Kingfisher Airlines (KFA) is presently in dire financial straits. After the euphoria abated, KFA’s strategy, performance and financial health has been questioned from mid-2008. Now the company is facing major financial and operational problems. The press statement from KFA, on 12 March 2012, highlights the challenges:

“The flight loads have reduced because of our limited distribution ability caused by IATA suspension. We are therefore combining some of our flights. Also, some of the flights are being cancelled as a result of employee agitation on account of delayed salaries. This situation has arisen as a consequence of our bank accounts having been frozen by the tax authorities. We are making all possible efforts to remedy this temporary situation.” 

KFA is a good case to understand the impact of failure in risk management. The management ignored the warning signs of stormy weather and failed to navigate the company into safety.With hindsight, some of the important decisions made by the airline appear incorrect. Let us analyse the  top 5 risks.

1. Strategic Risk – Market Analysis 

 KFA was launched as a premium business class airline. That was the first mistake, a lack of understanding of customer requirements and basing a decision that luxury sells in airlines. Organizations focus on reducing costs and  usually just CXOs are allowed business class travel. Rest of the staff mostly travels by economy class. Moreover, buying most expensive business class tickets doesn’t go down well when seniors aim to project the image of walking the talk.

Even consultants, whose travel tickets are paid for by clients, hesitate to book KFA tickets. It appears that they are abusing privileges. Hence, the market size for business class tickets is small in India.

Secondly, internationally Southwest Airlines operating model has proven successful. It is a low-cost airlines, provides minimum frills to customers at reasonable rates. Mr. Mallya, highly successful in liquor business, didn’t comprehend the differences in customer preferences within the two industries. Customers may buy expensive alcohol, but not airline tickets, since the total cash outflow  is higher.  It is a price sensitive market. Therefore, KFA adopted an incorrect strategy from the start as it failed to understand the market dynamics.

2. Strategic Risk – Merger with Air Deccan 

KFA acquired Air Deccan, a low-cost airline in 2007. Five years of operations is a key criteria for an airline to fly internationally. Hence, KFA acquired Air Deccan’s international flying rights and simultaneously entered the cheaper market segment.  It made the following announcement in September 2008 financial results commentary:

The merger of the two operating airlines into one corporate entity has also enabled savings on operating costs such as Engineering and Ground Handling, Insurance and Catering. Employee costs have also been addressed through an integrated organization which enabled the Company to terminate the contracts of most expatriate staff and impose a hiring freeze on new appointments.

After the merger, first signs of trouble cropped up. As per a Business Today article, it became the largest Indian airline with 27.5% market share, and domestic travel increased by 30%, however it didn’t make profits. Despite the fact the its main rival – Jet Airways – continuously showed profitable quarters.

KFA showed growth in numbers while having lost the strategy. With the merger, it lost its brand image of a premium business class airline. It expanded with the speed of a jet without building a base and resolving the post merger challenges. This set the course for a bumpy ride.

3. Strategic Risk – Investment in Planes 

According to 31 March 2011 ending annual report, KFA flew 366 domestic flights and 28 international flights. It owned 67 aircraft.

“Aircraft Engine/Lease Rentals: Aircraft/engine lease rentals stood at Rs. 984 crore (USD 197 million) during the twelve month period from April 2010 to March 2011. Your Company operated 67 aircraft (scheduled and non scheduled) in the year under review, 13 of which are owned through finance leases and 54 are held under operating leases.”

Business Today article mentions that presently the airline owns 63 planes and a few have been returned to the lessors. However, the plane financing problem isn’t new. In September 2008, after the merger with Air Deccan,in financial results commentary KFA stated the following:

“Two aircraft have already been returned to Lessors with no additional cost, and the Company is in discussion for the return of a further eight aircraft. The impact of this capacity contraction will be visible during the second half of the Financial Year.”

After the merger, according to the Business Today article, the airline refused to take delivery of 5 Airbus A340-500. It had over 90 aircraft in Airbus books and no delivery was taken after 2008. This is a case of investment plans made under a cloud of unknowing.

4. Financial Risk – Excessive Debt  

In the December 2011 quarter unaudited financial results, signed by the Chairman Mr. Mallya, the following note is given:

The Company has incurred substantial losses and its net worth has been eroded. However, having regard to capital raising plans, group support, the request made by the Company to its bankers for further credit facilities, planned reconfiguration of aircrafts and other factors, these interim financial statements have been prepared on the basis that the Company is a going concern and that no adjustments are required to the carrying value of assets and liabilities.

KFA posted a loss of Rs 1027.39 crore (USD 205.95 million) in December 2011 quarter. As of 31 March 2011, its net worth was negative at Rs 3633.08 crore (USD 728.29 million). It was last positive in March 2008, and now the picture is dismal. Presently, KFA has a total debt of Rs 7057.08 crore (USD 1414 million) and total accumulated losses of Rs 6000 crore (USD 1202 million). The banks refuse to extend further  credit as the non-performing assets (NPA) will jeopardize the profitability and liquidity of the banks.

Here it is a clear case of excessive debt and poor cash flow management systems. The situation has gradually worsened from March 2008 and in three years the capital is completely eroded. A better financial risk management may have helped mitigate the problem. It appears no one in the company was monitoring the risk dashboard. Maybe they were flying high on optimism.

5. Operational Risk – Fuel Costs

It’s a well know fact in aviation industry that most airlines nosedive due to high fuel costs. The rise in fuel costs are an uncontrollable risks as the price of petrol is set internationally. Additionally, in India, states charge heavy sales tax on petrol. Hence, the fuel costs are much higher in India. KFA annual report of 31 March 2011 acknowledges this issue:

Aircraft fuel expenses: Expenditure on fuel stood at Rs. 2274 crore (USD 456 million) during the twelve month period from April 2010 to March 2011 accounting to 28% of the total costs. While the average fuel prices have come down from a high of Rs. 74 per litre in August 2008, prices have steadily risen through the year and ended 34% higher than prices at beginning of the year. 

As given in the commentary on the results for the half-year ended 30th September 2008, KFA was aware of the problem.:

The Aviation Industry is going through a challenging phase globally, driven primarily by spiraling fuel costs, which hit an un-precedent USD 147 per barrel in July 2008. The Indian industry was hit more adversely due to the cumulative impact of Customs Duty and Sales Tax on account of this sharp increase in international fuel prices. The average price of ATF in the six month period from April to September 2008 increased by about 60%. The impact on Kingfisher Airlines alone was to the tune of Rs.640 Crores (USD 128 million).

Most airlines to recover fuel costs increase the number of seats in the aircraft by better use of space. KFA couldn’t do it, as it projected itself as luxury class. Despite enjoying an occupancy rate of 75-85%, the company failed to break-even. Although the management was aware of the truculent factors in aviation industry it failed to take preemptive measures timely.

Closing Thoughts

A look at the 31 March 2011 year-end annual report reveals that KFA had 7-8 directors, with just one executive director. The audit committee had 3-4 directors and didn’t seem active, since there were just 4 meetings during the year. Since inception of the company, three CEOs have come and gone. Mr. Vijay Mallya, the Chairman, controls the company. The board of directors have not actively participated in charting the route of the company. Hence, pilot of the company is responsible for the downward spiral of KFA.  As the banks and government refuse to give a life jacket to KFA, the probability of safe landing is low.

References: 

  1. Kingfisher Airlines – Media statement 12 March 2012
  2. Kingfisher Airlines – 31 March 2011 Annual Report
  3. Kingfisher Airlines – 31 December 2011 Unaudited results
  4. Kingfisher Airlines – Commentary on results for half year ending 30 September 2008
  5. Losing Color – Business Today article.

Leadership Lessons From Cricketer Rahul Dravid

Rahul Dravid bid farewell this Friday to test cricket – his passion and his profession. In his retirement speech he eloquently described his 15 years career manifesto:

“My approach to cricket has been reasonably simple: it was about giving everything to the team, it was about playing with dignity and it was about upholding the spirit of the game. I hope I have done some of that. I have failed at times, but I have never stopped trying. It is why I leave with sadness but also with pride.”

In one of the interviews, Dravid mentioned he read autobiographies of great men to learn the lessons of life. Now with his 15+ years career he inspires many to follow in his footpaths. Business managers, especially Chief Risk Officers (CROs) takeaways from his life can be clubbed in three main attributes of his personality.

1. The Gentleman

Rahul Dravid is equally known for his batting and his gentlemanly conduct. He left his sporting legacy spotless, by putting his best foot forward not only on the batting crease but also in public domain. Fame and money didn’t affect him, and he continued to be humble and dignified.

Even his toughest opponents – the Australian team – honored him. He in December 2011, became the first non-Australian cricketer to give the annual lecture at the Bradman Oration. While giving his tribute to Sir Donald Bradman, he recalled Sir Don’s inspiring thoughts in the following words –

That the finest athletes had, along with skills, a few more treasured qualities : to conduct their life with dignity, with integrity, with courage, and modesty. As this he believed were totally compatible with pride, ambition, determination and competitiveness.”

Dravid further added – “Maybe these words should be put up in cricket dressing rooms all over the world. ” Maybe organizations should incorporate these words in their mission statements and core values.

In the business world, some  believe that business ethics and competitiveness are mutually exclusive goals. A few CXOs think that any means can be used to achieve their ambition. While most have participated in sports and played the game by its rules, they don’t give a second thought on breaking business rules.

CROs have a double role to play. They must be role models for balancing ethical conduct and business growth. They also have to ensure that others don’t compromise ethics for monetary advantages and personal agendas.

2. The Wall

Dravid got the nickname “The Wall” from Reebok advertisements and it stayed with him. The nickname was so popular that one twitter @NigelBritto today posted this amusing tweet – “As is usual in India, they could name a street after #RahulDravid. But then, the Americans have already done it – Wall Street.”

During his career, he mostly held number 3 position in the batting order. He made the middle order impregnable and his consistent performance made bowlers miserable. When the top order collapsed, he showed grace under fire. Nothing deterred him, his concentration on the job at hand was so great. He protected his team.

In the corporate world, CROs basically hold the number 3 position and have to bat under crises when top order is collapsing.  They have to provide the organizations a circle of protection and a defense against all risks. CROs are responsible for risk identification and mitigation – strategic, operational and financial. Hence, they are “The Wall” for their companies.

3. Mr. Dependable

Dravid’s teammates nicknamed him “Mr. Dependable” as he put the team before personal glory. While he is a batsman, when the team needed a wicket keeper, he pitched in. He did the job even when he was publicly   criticized for lacking skills. He is also a great fielder and holds a few records on catching balls. He gave up captaincy when he felt he wasn’t the best man for the job. He retired to give new blood a chance to make it to the big league. In all his decisions, the team came first, and none of the decisions were based on egoism.

Amazing attributes for a person of his caliber. Indian team was fortunate to have such a team player. When he led, he thought of the team; when he followed, he worked with the team. Companies invest heavily to inculcate team spirit but a few fail due to the aggressively competitive organization culture.

Again, CROs have to wear various hats and be there for the business units to help and handhold them. Whether it is for managing financial risks, or risks of entering emerging markets or managing disaster scenarios, they are the person business teams must rely on. Business teams must trust the CROs to give the right advise. CROs must be the “Mr. Dependable” in the organization.

Closing Thoughts

Dravid is leaving a spectacular legacy and will always be counted among cricketing greats. His batting won him millions of fans and his unassuming behavior respect from everybody. He conquered all the lows of his career with quiet determination and persistence. There are very few public figures who inspire for both – skills and character. A big thank you to him for being a role model for an entire generation. There are numerous lessons for corporate citizens to learn from his life. Maybe now we need to wait for his autobiography.

References:

  1. ESPN – Rahul Dravid’s Retirement Speech
  2. Rahul Dravid’s annual lecture on Bradman’s Oration

A Women’s Day Special – Play with Colors of Life

“How wrong is it for a woman to expect the man to build the world she wants, rather than to create it herself?”   ― Anaïs Nin

Women are smart. They demand equality and have a special day for women. Men claim superiority and have no men’s day. One can say the rest of the days are of them, but are they? The male gender suffers; poor chaps can’t even protest as it isn’t a masculine trait to show weakness. Women can complain, shed tears, howl their heart out and it reflects feminine traits. Mothers teach sons – boys don’t cry. Wives complain – Husbands are unemotional. Haven’t women successfully shackled men in a stereotypical image from birth?

Shouldn’t women be fighting for the male cause to bring in some emotional gender equality? Shall we start by being a bit more honest ? Lets discuss some of the things that women should do for themselves and the male gender on this women’s day.

1. Miss Goody Two Shoes

Men are convinced women are more principled, honest and virtuous than them. Women have done a wonderful job of personal brand building. Most haven’t got their hands dirty publicly. However, surveys say women participate equally in sexual harassment in offices and are showing increasing propensity to commit white collar crime as their ratios improve in the workforce. Moreover, they backbite, rumor monger, tattletale and indirectly bully more than men in offices. Women are more likely to use sex to get a promotion. Yes, some strategically decide to sleep with the boss to boost their careers.

Women play an equal role in making destructive management practices flourish in an organization and do not hesitate to use them for personal gain. Let us stop playing the blame game and take ownership to improve the work climate within our organizations.

2. Women’s Worst Enemies

Women undercut women. They make loud claims that male gender does not support them. However, women make bad bosses to junior women. Women ruin careers of aspiring young women to remove competition. They feel insecure if men give attention to a younger woman, hence damage the youngsters chances of succeeding. If a senior male wishes to harass a young female, he uses her female colleagues to do so to avoid sexual harassment charges.

While women target the men’s club for all the negative events happening to them, they fail to collaborate to form a women’s club. With 20-50% female workforce in offices, female leaders need to push for reforms in their offices that benefit the gender. Laying the blame on male CXOs door doesn’t absolve women leaders of their responsibilities.

3. The Sacrificing Souls

Women undersell themselves by portraying the picture of sacrificing souls. At every opportunity they lament about the difficulties of being a mother and a career women. Yes, they have to make sacrifices but so do men, specially single dads. It is difficult but stop crying about it all the time. As Gloria Steimen said– “I have yet to hear a man ask for advice on how to combine marriage and a career.” 

Being successful is about managing different priorities effectively. Have you seen successful men or women incessantly talking about the same universal issue? Husband, kids and career are a woman’s personal choice, hence its an individual decision. No man or woman is going to get all three handed on a silver platter for all times. There is no point in attempting to win the corporate battle using these tactics.

Closing Thoughts

Fight the battle of equality on ethical and principled grounds, without playing the victim. Successful women don’t enact the damsel in distress routines while pointing fingers at others. Quit complaining and enjoy the colors of life. Be fair, be just and give both genders an equal chance of succeeding on merit and talent.

I know, women will be mad at me for writing this post.  But what to do, 90% of my readers are men :).

Wishing all my readers a special women’s day and a happy Holi.

Fraud Symptom 12 – Unethical Compromises by External Auditors

In the recent corporate frauds, auditors’ professional robes were soaked in dirty money. Their unblemished reputations tarnished, they dealt with allegations of compromising ethics, code of conduct and reporting responsibilities for self-interest and business opportunities. Auditors, the bastions of corporate governance and maintaining shareholders interests miserably failed in performing their duties. In some cases they failed to detect the frauds, and in others they collaborated with clients to facilitate them in conducting frauds.

The contract clauses of reasonable assurance, limited liability and others lets them escape criminal liabilities usually. The regulators, shareholders, employees, third parties and the public helplessly watch the organization going bankrupt and/or closing down because auditors failed to detect wrong doing or failed to report the same. The financial crises showed that without due care, global economies go in recession. That should make auditors more responsible; however, it is not the case.

Francine McKenna author of blog re: The auditors  is a pro in digging dirt about big four and openly shares her views. This extract from her blog shows the interrelationships between big four and corporate giants. With these relationships independence of external auditors is easily questionable and suspect frequent compromises. Though I normally don’t post big extracts from other blogs, this one is too good to miss.

“KPMG audits Citigroup, Wells Fargo – who now owns client Wachovia – GE, and GM.  They used to audit two big mortgage originators before they blew up – Countrywide and New Century. They also used to audit Fannie Mae and Moody’s before they were fired and sued. They also audit the US Treasury.

PricewaterhouseCoopers audits JP Morgan Chase, Bank of America, Goldman Sachs, AIG, the Federal Home Loan Banks, and Freddie Mac. PwC is also responsible for Satyam, Northern Rock in the UK, Glitnir in Iceland, and Russia’s Yukos.

Deloitte, who is now Fannie Mae’s auditor, was also auditor of four other housing related companies that had issues: Taylor Bean & Whitaker, Beazer, Novastar, and American Home. (The bank that TBW bankrupted, Colonial Bank was audited by PwC.) Deloitte audited three no-longer-independent large firms sunk by bad mortgages: Merrill Lynch, Bear Stearns, and Royal Bank of Scotland. Deloitte used to audit Washington Mutual before it was taken over forcibly by JP Morgan. They also audit the Federal Reserve Bank and Buffett’s Berkshire Hathaway.

Ernst & Young, everyone knows, audited Lehman Brothers. But don’t forget UBS and Societe Generale, home of the “rogue” traders, and Anglo Irish in Ireland. EY also audits News Corp and S&P, the ratings agency.”

The issue is can shareholders expect auditors to report independently and forgo lucrative business to adhere to ethical standards. Audit organizations need an organization culture that focuses on social responsibility with profit motive. However, some successful ones have a competitive aggressive culture that fails to build in the ethical aspects of auditing.

Therefore, the cultural climate in auditing firms raises questions. The research  paper “Public Accountants’ Perceptions of Ethical Work Climate” authored by Howard Buchan  evaluates Ethical Climate Questionnaire developed by Victor & Cullen for public accountant firms. The following questions were asked from partners to staff to assess the instrumental climate.:

  • “E1 In this Firm, people protect their own interests above all else._____
  • E2 In this Firm, people are mostly out for themselves._____
  • E3 There is no room for one’s own personal morals or ethics in this Firm._____
  • E4 People are expected to do anything to further the Firm’s interests, regardless of the consequences._____
  • E5 People here are concerned with the Firm’s interests-to the exclusion of all else._____
  • E6 Work is considered substandard only when it hurts the Firm’s interests._____
  • E7 The major responsibility of people in the Firm is to control costs._____”

The instrumental climate emphasizes individual self-interest and company interests above all others. Though the study mentions that participants didn’t perceive an instrumental climate, the mean responses ranged from between “mostly false” to “somewhat false”. The results indicate that partners and junior staff perceive ethical climate differently in the firms. Hence, more focus is required on building an ethical culture within the auditing firms

Moreover, though audit firms have been asked by regulators to segregate non-audit and consulting practices, the  bifurcation is cosmetic and not in spirit. A recent example is of PWC India whose partners were implicated in the Satyam fraud.  Times of India reported the insurance claim by PWC for Satyam fraud is fraught with irregularities and arms length distance was not maintained between various PWC entities as required by Institute of Chartered Accountants of India (ICAI).

Price Waterhouse (PW) Bangalore, the tainted auditor of scam-hit Satyam, utilized over 95% of a $60-million (Rs 280 crore approximately) insurance cover available to all Price Waterhouse entities in India to meet post-fraud litigation expenses and damages without paying a single rupee towards the premium. The revelation raises questions about the arguments put forth by the global financial services company that each of its Indian firms is a separate legal entity and not responsible for the acts or omissions of any other member firm. 

PW Bangalore, which had the mandate for the Satyam audit before the fraud came to light in 2009, did not contribute any money towards the Professional Indemnity Insurance (PII) of $60 million, but surprisingly enjoyed the cover when it faced trouble and litigation for the lax audit, documents accessed by TOI showed. PW Bangalore even used the cover to pay $15.5 million towards settlement of a class-action suit filed against it in the US. Till financial year 2011, various entities of PricewaterhouseCoopers India (PwC India)-including a private limited company which renders only non-audit related services-had a common insurance cover. ”

The blame for the malpractices has to be shared by regulators, board of directors and shareholders. Most of the fortune 500 companies select big four as auditors. Though audit committees are required to annually review and recommend auditors, in most cases the auditors are not changed. In my previous post on audit committees, I had mentioned this data from Economic Times article – “Can the big four survive a break-up attempt”.

  • In top 100 (US) companies, the average tenure of audit firms was 28 years. 20 companies had the same audit firm for 50 years or more.
  • 85% of the companies in EU are audited by big four.
  • 99% of the audit fees paid by FTSE 100 (UK) in 2010 were earned by big four.
  • Just 2.3% of FTSE firms changed their auditor between 2002 and 2010.

Without regulators taking their responsibilities seriously the audit firms aren’t going to change. For instance, ICAI disciplinary committee for chartered accountants have big four partners as members. In other committees also, big four partners have an influential position. Considering this, it is not surprising that the disciplinary process is slow, as was in the case of Satyam.

Recommendations

1. Regulators must lobby for laws to mandate audit firms rotations. For instance, the new Companies Bill 2011 (India)  requires rotation of audit firm every 5 years and audit partner every 3 years. It also states that no audit firm will audit a company for more than 10 years. These laws will ensure some level of independence and also give a growth option to other audit firms.

2. ICAI and other institutes granting permission for practice to audit firms may periodically conduct an assessment to evaluate the ethical climate of the firm.

3. ICAI and other institutes should either segregate disciplinary responsibilities to another organization or become proactive in disciplining errant chartered accountants.

4. Audit committees, boards and shareholders must proactively manage the appointment of audit firms and evaluate the financial reporting systems.

5. Audit firms should take a leaf out of their own book and focus on building a benevolent organization culture to balance their social responsibility with profit earning objectives.

References:

  1. re: The Auditors by Francine McKenna
  2. PwC arm’s insurance cover under cloud – Times of India 29 February 2012
  3. Public Accountants’ Perceptions of Ethical Work Climate: An Exploratory Study of the Difference Between Partners and Employees within the Instrumental Dimension by Howard Buchan

If you wish to read the Fraud Symptoms series, click here.