Analysis of the Parmalat Scandal - Research Paper Example

The Parmalat Scandal A summary of the case The Parmalat scandal involved the world’s largest diary company at the time, its senior employees, auditors, bankers, founder and chairperson called Calisto Tanzi (Markham 375). The scandal involved the creation of fictitious accounts and incorrect billing (International Monetary Fund 56). The company misrepresented its financial status for thirteen years. It had overstated its earnings by 500% in the 9 months before the scandal imploded and $11 billion during the whole period (Markham 375). Its actual debt was $15.1 billion, eight times more than it had reported (Markham 375). The companies and individuals involved and the outcome of the case Parmalat employees tried to obstruct justice by shredding documents and spoiling computers. Tanzi and two members of his family were arrested. Zini of Zini legal firm was the mastermind behind the fraudulent activities while Fausto Tonna is played a key role. Parmalet’s outside counsel and ten members of its management pleaded guilty to criminal charges, but were lucky to get sentences not exceeding thirty months. While claims against Deloitte&Touche LLP and Grant&Thornton LLP were allowed to continue, a suit against Bank of America was dismissed (Markham 375). Italian prosecutors sought to cast the net wider. They indicted Deloitte &Touche, Grant & Thornton and their employees. They accused Citigroup and Morgan Stanley Deutche Bank with aiding and abetting the fraud since they were the company’s investment banks. Citigroup filed a countersuit in New Jersey claiming they were also a victim of Parmalet’s fraud (Markham 375).The scandal was an embarrassment to the Italy political establishment that had received $120 million in political contributions from Tanzi. The Parmalat scandal forced the Italian government to take measures to restore investor confidence. It passed laws that should have been passed long ago to prevent frauds such as the Parmalat scandal. However, as history has shown, there will always be a lot to be done. It takes an economic collapse or a big scandal to force legislators to seal loopholes and increase regulation (Mallin 86). The measures the Italian government took to prevent fraud were long overdue. Publicly traded companies should have been required to rotate their lead auditor’s after a brief period. The government set it at two years that should be ideal. The new laws extend the time of engagement from three years to six but limit the number of times they can be contracted (Mallin 86). The extension ensures continuity that is crucial to an auditing firm’s success. In addition, mandatory rotation maintains its independence. When and where it happened The Parmalat scandal happened in 2003. It came just as the financial markets were healing from the effects of the Enron scandal. It involved actions done by the company for a period of thirteen years from 1990 to 2003(Markham 375). The company violated both Italian and United States of America financial regulations. Authorities in both countries got involved in the case and went after the companies and individuals involved. Why it happened Calisto Tanzi’s downfall was caused by his ambition to build a global multinational that traded on milk (Macintosh and Quattrone 318).This undertaking was impossible given his limited financial resources. His ambitious nature led him to commit financial crimes. Most scandals are the result of the ambition of one individual. If the ambitions of such individuals are not controlled, they risk the livelihoods of their employees, shareholder’s money and the country’s financial system. Calisto Tanzi and Parmalat exploited flaws in the system and regulations to commit their fraud. They exploited the mandatory auditor firm rotation that did not require the auditor partners to rotate. The auditor partners changed their firms and kept working at Parmalat (Mallin 86).This enabled them to cover up the fraudulent scheme. The company was a family owned multinational with complicated operational structures that were operating under different regulatory frameworks. The situation made it difficult to enforce corporate governance and audits (Global Financial Stability report 56).The perpetrators of this fraud took advantage of the situation. How it attracted media attention The withdrawal of a $360 million Eurobond offering by the company in February 2003 prompted questions about the company’s financial health since it was unusual for a company with an investment grade rating to act in such a way (Markham 375). Later that year, it admitted to lying about a $4.83 billion deposit in the Bank of America that did not exit (Markham 375). The December 2003 revelation drew the attention of the media and made prosecutors to have concerns about the company’s practices. The company had a kickback scheme through which a Bank of America official in Italy had received $27million to fraudulently certify their documents. The company admitted to lying about buying back its bond with $3.6 billion. Tanzi and his family diverted company funds to their private enterprises. The founder misappropriated $1billion from his own company to his tourism company, Parmatour that was also missing $2 billion. The scandal is an example of a significant problem in Europe where controlling shareholders use the company for their own selfish purposes rather than keep a leash on the management (Ramage 1). How it could have been avoided There should have been a way to ensure that companies are rated fairly according to their financial condition. The rating agencies should have made sure they have a system that provides a true reflection of a firm’s financial strength. They should have evolved to match the company’s increasing globalization and complex operational structures. Shareholders should have been more involved to ensure the management safeguards their investments. The fraud happened due to poor enforcement of rules (Ramage 62). The best way to protect the integrity of the financial system is to enforce existing laws first. Italy’s reliance on public enforcement proved to be its undoing in this case (Ramage 62). An unclear operational relationship gave Tanzi a chance to siphon money from the company (Macintosh and Quattrone 318). The company paid Tetra Pak the full amount as any supplier. However, the packaging company gave it a discount based on volume. This discount went into Tanzi’s Swiss Bank account (Macintosh and Quattrone 320). The existence of clear and open operational guidelines would have prevented exploitation of the system. Lessons learnt from the case The rise of globalization means that regulators will start dealing with global organizations operating under different jurisdictions with unique corporate and accounting standards. Regulators should come up with uniform corporate governance, accounting and auditing standards to prevent such companies from committing financial crimes. There should also be sharing of information so that regulators around the world have access to information about a given company. A law should be passed that restricts the auditor to only one operational unit as opposed to the entire global operation. This will expose any malpractice by increasing the independence of operational units. The scandal highlighted the role of auditors as gatekeepers of the system. The company and the system suffer leading to an economic collapse when they fail. This happened because Deloitte and Touché and Grant and Thornton failed to detect the fraud (Ramage 62).There is a need for a system to monitor auditing firms to ensure they live up to expected standards. It is impossible to eliminate fraud though the safe measures that have been built to guard against such practices should be strengthened (International Monetary Fund 56).Legislative and regulatory measures should be taken to ensure effective supervision of business. Accounting, auditing and corporate governance structures should match the highest standards. One of the most important lessons from this scandal is that additional reforms are necessary (International Monetary Fund 57).The strategy should protect the minority shareholders and guarantee the integrity of the system. The Parmalet scandal is a reminder that companies that record massive growth while practicing operational secrecy should be viewed with distrust. There is need to separate state from business. The world financial system requires vigilance to guard against such events. It is necessary to enforce laws though some people would argue that the scandal calls for increased government regulation of the financial system. Works Cited International Monetary Fund. Global Financial Stability Report, April 2004: Market Developments and Issues. Washington, D.C: International Monetary Fund, 2004. Print. Macintosh, Norman B, and Paolo Quattrone. Management Accounting and Control Systems: An Organizational and Sociological Approach. Hoboken, N.J: Wiley, 2009. Print Markham, Jerry W. A Financial History of Modern U.S. Corporate Scandals: From Enron to Reform. Armonk, N.Y: Sharpe, 2005. Print. Mallin, Chris A. Handbook on International Corporate Governance: Country Analyses. Cheltenham: Edward Elgar, 2011. Print. Ramage, Sally. A Comparative Analysis of Corporate Fraud. New York: IUniverse, Inc,4 2006. Print. Read More