Worlds Apart But Two Of A Kind: Glitnir, Satyam And Their Auditor PwC

Family.

Taking care of family and close friends first is universal.  Whether Irish, Italian, Kenyan, Mexican, or Tunisian… Legal, regulatory, ethical and moral lines are often crossed in service to family and those who are “like a brother to me…”

re: Satyam in the New York Times January 9, 2009: “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,” he wrote. “It was like riding a tiger, not knowing how to get off without being eaten.”

Mr. Raju said he had tried and failed to bridge the gap, including an effort in December to buy two construction firms in which the company’s founders held stakes.

The Times of India, January 8, 2009: The country’s fourth largest IT company—after TCS,Infosys and Wipro—was for several years cooking its books by inflating revenues and profits,thus boosting its cash and bank balances; showing interest income where none existed; understating liability; and overstating debtors position (money due to it)….[On December 16, 2008] Raju announced his ill-fated plan to shell out $1.6 billion to acquire his sons’ companies, Maytas Properties and Maytas Infra. It created such a furore that Raju was forced to backtrack. It now transpires that what was seen as a move by Raju to bail out his sons was actually a last-ditch effort to covering his tracks through fictitious cash transfers and wriggle out of a tight corner...There’s intense speculation as to what finally triggered Raju’s confession of wrongdoing. It’s clearly more than coincidence that it came hot on the heels of investment banker DSP Merrill Lynch’s letter to the company on Tuesday evening terminating its days-old agreement with Satyam to advise it on strategic options because of “material accounting irregularities’’. But the beginning of the end came when furious investors forced Raju to reverse his Maytas moves.

Contrast this scenario of cronyism run amok with the news out of Iceland re: Glitnir:

From Kevin LaCroix’s D&O Diary: In October 2008, in the midst of the global financial crisis, Iceland’s Financial Services Authority took control of Glitner. Glitner ultimately filed a petition for bankruptcy in the U.S. under Chapter 15 of the Bankruptcy Code. According to the May 11 complaint, creditors have filed claims exceeding $26 billion…The May 11 complaint alleges that Jon Asgeir Johannesson and his wife, Ingibjorg Stefania Palmadottir , and businesses they owned or controlled, used improper means to “wrest control” of Glitnir and to “fraudulently drain over $2 billion out of the Bank to fill their pockets and prop up their own failing companies.”

According to the complaint, beginning in 2006, Johannesson “engaged in a scheme” using his “web of companies” to take control of Glitnir in violation of Icelandic law. By April 2007, Johannesson and his companies owned about 39% of Glitnir’s stock. As a result, Johanneson was able to “stack” Glitnir’s board “with individuals who had connections with companies he controlled,” and he also “had his inexperienced hand-selected candidate” replace the existing CEO.

Having taken control of the Bank, its board and its management, Johannesson and the other individual defendants “used their control over the Bank and funds raised in U.S. financial markets to issue massive ‘loans’ to, and a series of equity transactions with, companies Johannesson controlled, in an effort to stave off their eventual collapse,” which “placed the Bank in extreme financial peril.

There are obvious similarities between Satyam and Glitnir…

• Companies using loans and investments to related entities to hide distress at main firm and funnel cash abroad.
• Glitnir sold U.S. investors $1 billion in medium-term notes to finance their schemes. Satyam’s ADR’s were listed on the NYSE.
• Glitnir’s CEO stacked the bank’s board of directors with “willing accomplices” in “a sweeping conspiracy” to wrest control of the bank.
• Satyam’s Board filled with Indian elite industry and academic leaders who didn’t get involved in details.

The involvement of the board, Chaudhuri adds, was at the “strategic level; in companies like Satyam, it is the owner/promoter/founder who runs the show. It has to do with the ownership structure.”

• Satyam’s balance sheet included nearly $1.5 billion in non-existent cash and bank balances, accrued interest and misstatements. It had also inflated its 2008 second quarter revenues by$122 million, and actual operating margins were less than a tenth of the stated $135 million.
• Per Times of London October 25, 2009: Each of the three big banks — Kaupthing, Landsbanki and Glitnir — loaned large sums to their biggest shareholders on favourable terms.It has emerged that at the time of Glitnir’s collapse, the 15 biggest creditors were all connected to FL Group, its largest shareholder, which was controlled by Jon Asgeir Johannesson, the boss of collapsed Icelandic retail group Baugur.

And then there is the most telling similarity between the two companies:

Both Satyam and Glitnir were audited by PwC.

PwC is now named in lawsuits in New York by shareholders and creditors of both entities.

In the Satyam case, the PwC India partners landed in jail, and are still awaiting trial for their role in covering up the fraud.  Although one was recently released pending trial, regulators in India are rattling their sabers and threatening jail time if it’s proved that the auditors were involved in criminal activity. They have already made a “prima facie” case against them.

The Institute of Chartered Accountants of India (ICAI) has recommended strict penal action, including imprisonment, for auditors who are found associated with serious accounting frauds…The report, finalised by ICAI’s highest decision-making council a few days ago…prima facie found fault with PriceWaterhouse auditors S Gopalakrishnan and S Talluri, and recommended disciplinary action, including a professional ban on the two individuals.

PwC has vigorously denied any involvement by the firm or its partners in the fraud.  Their leadership even went so far as to claim that PwC had also been victimized by the fraud.

On the Satyam scam, DiPiazza said: “What we understand is that this was a massive fraud conducted by the (then) management, and we are as much a victim as anyone. Our partners were clearly misled.”

Damages against PwC may reach billions.

Glitnir’s bankruptcy administrators filed claims in New York against its management, board members and PwC last week.

The lawsuit, filed in New York by the winding-up board overseeing Glitnir’s liquidation on behalf of creditors, also targets PwC, the bank’s former accountant, for “facilitating” the fraud by overlooking “clear” violations of Icelandic law and bank policies.

“There is evidence supporting the allegation that Glitnir bank was robbed from the inside,” said Steinunn Guobjartsdottir, who chairs the Glitnir winding-up board.

PwC, of course, stood by the opinions it gave on Glitnir’s accounts “based on information and data the accountants had access to at that time”.

However, as in the Satyam case, the authorities may have quite a bit more dirt on PwC than the firm cares to admit.  This evidence can be used  by New York plaintiffs and may result in criminal prosecutions against partners and the audit firms themselves in Iceland and India.

From The Telegraph UK, October 1, 2009: Police have raided the offices of KPMG and PricewaterhouseCoopers (PwC) in Reykjavik, seizing documents and computer data as part of an investigation into alleged criminal activity at three collapsed Icelandic banks.

The targets of the raids were the firms’ banking clients Kaupthing, Glitnir and Landsbanki, but the move is nevertheless likely to cause embarrassment for the two companies, both among the “big four” accountancy names in the world. The Reykjavik branches of KPMG and PwC are owned by its partners, common with most accountancy practices, but are also part of the multinational network of firms.

“The purpose of the searches was to look for and secure evidence related to the investigation of several charges which have been investigated by the office,” a statement said. Among the matters being investigated are “violation of laws on accounting and annual reports, violation of laws on financial institutions and securities transactions and violations of laws on public limited companies”.

Where is the PCAOB, the audit firm regulator, in all this?

The PCAOB went to India in the Spring of 2008 but a report of that inspection, which reportedly included a review of Price Waterhouse India and Satyam, has not yet been issued.  We did recently see the PCAOB sanction two low-level PW India employees for lack of cooperation in this investigation but there is still, more than two years later, no other news of this pre-Satyam scandal inspection.

The PCAOB plans to return to India in 2010.

The PCAOB has never been to Iceland and has no plans to go there in 2010.

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Main page photo, Bjork, from her album Medúlla.