India’s Enron Puts Auditors Back Under Scrutiny (Update1)

India's Enron Puts Auditors Back Under Scrutiny (Update1)

By Subramaniam Sharma, Ian Katz and Ben Holland

Jan. 13 (Bloomberg) -- The accounting scandal that imperils Satyam Computer Services Ltd., embroiled in India's biggest corporate fraud investigation, is raising concerns about oversight of international companies that trade in the U.S.

Seven years after the implosion of Enron Corp. led to the dissolution of accounting firm Arthur Andersen, the Satyam case has put PricewaterhouseCoopers LLP and the U.S. regulator that oversees auditors in the spotlight. Hyderabad-based Satyam's former chairman, Ramalinga Raju, was arrested last week after saying that he falsified accounts that went undetected for years.

Satyam, the nation's fourth-largest software exporter, is one of 14 Indian companies with a combined value of $63 billion that trade on U.S. exchanges, according to Bloomberg data. The Public Company Accounting Oversight Board, which oversees auditors of U.S.-traded companies, last year examined the Indian arm of PricewaterhouseCoopers, Satyam's auditor since 2000.

"There are gaping holes in the inspection process," said Richard Dietrich, an accounting professor at Ohio State University in Columbus and a former member of a PCAOB advisory group. "As an investor, I can't rely on the inspections."

Price Waterhouse in India says it complied with the country's accounting standards and will cooperate with regulators investigating Satyam.

Indian System

India's regulatory system is weaker than that in the U.S., said Jermyn Brooks, director of the private sector program at Transparency International, an anti-corruption group based in Berlin.

"The enforcement of the laws and the audit standards are not always what we'd expect them to be in North America or Western Europe," said Brooks, a former global managing partner at PricewaterhouseCoopers.

Satyam, which counts ArcelorMittal, the world's largest steelmaker, and Telstra Corp., Australia's biggest phone company, among its clients, began trading on the New York Stock Exchange in May 2001. It has been required to file financial reports with the U.S. Securities and Exchange Commission ever since.

"I don't think you can expect the same level of review of audit work in non-U.S. companies as you will see here," Charles Mulford, an accounting professor at the Georgia Institute of Technology in Atlanta, said. "It just shows the added dimension of risk when you're buying non-U.S. companies."

The PCAOB was created by the 2002 Sarbanes-Oxley Act, passed after the collapse of Enron and WorldCom Inc., once the second- biggest U.S. long-distance phone company. It has been criticized by the AFL-CIO labor federation and investor advocates for not being aggressive enough in fighting fraud.

'Ratcheting Up' Standards

The board "is still ratcheting up its activities, and I assume this will be an incentive to ratchet it up more quickly," said Dennis Beresford, an accounting professor at the University of Georgia in Athens and former chairman of the Financial Accounting Standards Board, the U.S. accounting rulemaker.

The PCAOB has inspected Price Waterhouse India, the local member of PricewaterhouseCoopers, said Mike Davies, a London- based spokesman for the firm. He declined to comment on the board's findings.

Colleen Brennan, a spokeswoman for the PCAOB, said the board had inspected auditors in India. She declined to comment on Dietrich's statements or whether the board examined Price Waterhouse.

'First-Year Rookie'

Raju, 54, on Jan. 7 told Satyam's board that he had falsified accounts for "several years" to stave off a takeover. More than $1 billion of cash and assets that were reported at the end of September didn't exist, he said in a letter to the Bombay Stock Exchange.

"It looks like something that should have been caught by a first-year rookie auditor," said Ganesh Krishnamoorthy, a professor of accounting at Northeastern University in Boston who specializes in audit and corporate governance issues. "It's something that's taught in courses: how to audit cash."

The Institute of Chartered Accountants of India, a statutory body which oversees auditors, has asked Price Waterhouse India, to explain its actions in the Satyam audit by the end of January. Ved Jain, president of the institute, says the results may lead to changes in corporate governance.

"Depending on the outcome, it can have far-reaching implications on the lines of Enron," he said.

The institute set up a six-member panel today to investigate Satyam's accounts and submit its report by Feb. 11, Jain said.

Forgery, Conspiracy

Raju was arrested Jan. 9 on charges including forgery, breach of trust and criminal conspiracy, and the government named three new directors to take control of the company.

The government directed the Serious Fraud Investigation Office to take over the enquiry today and gave it three months to report its findings, Prem Chand Gupta, minister for company affairs, said in New Delhi.

Satyam's shares fell 9.7 percent in Mumbai, extending the decline to 83 percent since Raju's admission. The stock was removed from both the benchmark Sensitive index of the Bombay Stock Exchange and the 50-stock S&P CNX Nifty index of the National Stock Exchange last week.

Accounting experts couldn't explain how the reporting error described by Raju went unnoticed.

"A misreported cash balance is the easiest number to audit that there is," said Mulford, comparing the scandal to Parmalat SpA's misreporting of cash. The Italian dairy company collapsed in 2003 after revealing that a 3.95 billion-euro ($5.26 billion) account at Bank of America Corp. didn't exist and documents certifying the account were falsified. Parmalat later emerged from bankruptcy.

'Appropriate Audit Evidence'

Price Waterhouse in India said it received appropriate evidence to support Satyam's accounts.

"The audits were conducted by Price Waterhouse in accordance with applicable auditing standards and were supported by appropriate audit evidence," it said in a Jan. 8 press release issued by its public relations adviser, Edelman.

Price Waterhouse has offices in nine Indian cities, according to the firm's Web site. The Indian operation is a separate legal identity from PricewaterhouseCoopers International Ltd.

The auditor's clients include Maruti Suzuki India Ltd., maker of half the cars in the country, and the local units of Colgate-Palmolive Co., the world's largest toothpaste maker.

According to second-quarter figures released by Raju last week, Satyam had a 3 percent operating margin on earnings, compared with the 24 percent initially reported, Nemkumar, an analyst at India Infoline Ltd. in Mumbai who goes by one name, said in a Jan. 9 note to clients.

Profit Margins

In the quarter ended Sept. 30, Tata Consultancy Services Ltd. and Infosys Technologies Ltd., India's two biggest software service providers, reported margins of 26.2 percent and 33.1 percent, respectively, according to Nemkumar.

"The confession itself does not seem to add up," he said.

India's biggest software code writers including Satyam made their names by helping companies tackle the year 2000 computer bug. Subsequently, they won contracts from overseas companies for projects such as software that helps complete transactions over the Internet, as they employed Indian engineers at a lower cost than their rivals.

Northeastern University's Krishnamoorthy says auditing standards may also vary between countries.

"If you're an auditor working in an emerging market like India and you believe regulatory scrutiny is going to be somehow lower than if you were doing it somewhere else in the world, then there are less incentives to give the same quality audit," he said.

To contact the reporter on this story: Subramaniam Sharma in New Delhi at ssharma@bloomberg.net; Ian Katz in Washington at ikatz2@bloomberg.net; Ben Holland in Istanbul at bholland1@bloomberg.net

Last Updated: January 13, 2009 06:15 EST

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