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January 08, 2009

Satyam Failure Hurts All Investors

Catherine New
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The massive accounting scandal involving Satyam, one of India’s largest outsourcing companies, seriously hurts investor confidence, not only in India but worldwide, says Professor Sudhakar V. Balachandran.

“They should have been under good accounting scrutiny, and so this is shaking confidence,” Balachandran said in a phone interview Thursday morning. “There will be spillover effects, people will think twice about investing in Indian tech companies, investing in India and, following that, investing in the market. It’s the old story of a few lemons corrupting the entire market.  If you can’t tell the good from the bad, it just becomes too risky to invest. Eventually that poses risk to the entire economic system.”

In an op-ed published on Forbes.com on January 8, Balachandran says that the three mechanisms to prevent fraud — corporate governance, audits and legal consequences — are not doing enough.

The company’s good social standing added another layer of complexity. “[Satyam] was well run and well governed.  They also did a lot of charitable work in rural development in India, so they appeared to be taking social responsibility seriously. They did a couple little things with their accounting early and then it snowballed,” said Balachandran. “These may not have been evilly intentioned guys; they had a history of doing good.”

Especially worrisome to Balachrandan is the failure of the requirements for auditing control systems.

“Satyam has an ADR [American Depository Receipt] and they are listed on the NYSE, so they have to follow American rules similar to those of American publicly traded companies. That includes having audited financial statements, using US GAAP, having signatures from the CEO and CFO stating that their accounting is sound as required by Sarbanes-Oxley Section 302, and so on. With all this, the company reported a lot of cash — a little more than $1 billion — that wasn’t there,” he said.

“Section 404 of Sarbanes-Oxley has very strict and very costly rules on what should be audited in the firm’s internal control systems. Auditors certify the controls so we can believe that the company is not recording fictitious transactions, so that when they say they have made a sale, we can believe they actually made a sale. In addition, auditing standards in India are not trivial and definitely require the auditing of cash. The fact that they didn’t catch the missing cash [at Satyam] raises a lot of questions.”

Prof. Balachandran acknowledges Columbia Business School professors Ray Fisman, Bruce Kogut, Partha Mohanram and Amir Ziv for their contributions in the analysis of the Satyam situation.

Comments

by Gopinath | January 09, 2009 at 7:10 AM

The entire, scenario of software giant satyam and its cooperate scam is confusing and pretty unexpected.It is quite unimaginable and unpredictable, for a company so large(approximately 53000 employees), has suddenly run out of cash and it cannot reinforce liquidity.I have no idea, what the board of directors were literally thinking, when the company's operating margin was reported 3 percent, keeping in view satyam was the dominant IT company in INDIA and was servicing the fortune 500 companies.Recently, the Bombay stock exchange(BSE) has pulled out satyam from the share market.I wonder how does the interim CEO Ram, manage to pay the current month salaries of the employees. Satyam has no source to introduce liquidity into the system.All that satyam computer services, can do now is, fire employees(atleast 10000 of them) to save the company from bankruptcy. It is devastating , to learn that the founder, chairman of Satyam, Mr. Raju has sent a 5 page resignation letter, accounting for the unexisted balance from the account books.According to his own words.."It is like riding a tiger, and getting down without being eaten".This company ,is a perfect example of how , a very large organization, can reach bankruptcy within just 48 hours of CEO's resignation. The resignation letter can be viewed online by clicking this link: http://www.watblog.com/2009/01/07/satyam-chairman-ramalinga-rajus-resignation-letter-goes-online/

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