Corporate
fraud is defined as “one that occurs within an organization or by its owners or
managers and involves deliberate dishonesty to deceive the public, investors or
lending companies, usually resulting in a financial gain to the individuals or
organization.” Most of the corporate frauds fall under the categories of asset
misappropriation, money laundering, accounting frauds, frauds committed by
senior management, bribery and corruption and regulatory non-compliance. It is
practices such as these that are denting the image of our financial system. The
organizations, therefore, must be attentive to these challenges and adopt
pro-active anti-fraud measures rather than being reactive. Otherwise,
organizations and entire societies have to bear the risk of fraud and its
consequences, which will become more devastating.
Keys
to solving ethical issue
1. Sound
Risk Management Framework
2. Data
Management and analysis
3. Code
of Conduct for Board of Directors
4. Internal
& External control system
5. Forensic
Accounting
6. Independent
auditor’s role
7. Role
of top management
8. Whistle
blowing policy
A.
Sound Risk Management Framework
With
the occurrence of such major financial crisis globally a lot of emphasis is
laid on strengthening risk management practices for both financial and
non-financial institutions. However, with respect to the financial
institutions, it is evident that much attention is being paid to financial risk
such as market risk, credit and liquidity, despite the focus being on managing
operational risk. Accordingly, major reports have been published by many
organizations, such as the Basel Committee, Institute of International Finance
and others that highlight the need for effective risk management in financial
institutions (OECD report, 2014).
B.
Data Management and Analysis
An
organization’s ability to generate revenue, manage the expenses and extenuate
risks is determined by its ability to successfully share, store, retain and
retrieve the escalating data. Effective data management practices can bring in
large customer base, improve customer relationships which in turn help in
generating revenue. According to American Institute of Certified Public
Accountant (AICPA) report 2013, accountants play an important role in governing
the organization’s data and ensure that it is in accordance with the CG
practices of the organization. Since any financial institutions’ operation is
based entirely on its customer base, governing the ever-increasing customer
data becomes an important part of its CG practices.
C.
Strict code of Conduct for Board Of Directors
Although
people have always questioned the need for having corporate boards, it is
empirically proven that their presence matters a lot at the time of
organizational crisis. This can be verified as in the case of Enron, Worldcom
and Parmalat scandals where the directors in particular were held liable for
the fraud. Consequently, more attention is being paid to research on the role
of corporate boards. Uzun, Szewczyk and Verma (2004) have demonstrated that the
composition of the board and the structure of the supervisory committee were
significantly related to occurrence of corporate frauds. In contrast, the study
also found that the larger the number of independent outside directors, lesser
was the possibility of occurrence of corporate frauds in U.S during the period
1978-200. Nevertheless, not many papers are available on the composition and
effectiveness of corporate boards in the financial sector, which motivated this
study to investigate the relationship between CG and fraud.
D.
Internal and External Control Systems
Internal
control system refers to the approved policies and procedures followed by the
management in order to carry out smooth and proper functioning of business
thereby avoiding various types of risks such as improper maintenance of
accounts, unauthorized transactions and frauds which may affect the
organization’s financial performance.
On
the other hand external control system refers to the government regulations,
market competition, media exposure, takeover activities, public release and
assessment of financial statements. In spite of the fact that the company’s
governance process also comprises of government regulations the role of
external control systems in the financial sector is still a mystery.
E.
Forensic Accounting
Forensic
accounting is a special field related to accountancy profession where the
accountants implement their accounting, auditing and investigative skills to
detect frauds, bankruptcy and other litigations. The role of forensic
accountants in investigating corporate frauds has long been identified by many
countries and they now play a major role in probing corporate frauds. However
the field is still in its nascent stage in India due to rapid increase in
“white collar crimes” and the notion that the law enforcement agencies do not
have sufficient time or expertise to expose the frauds committed. Therefore the
researcher anticipates studying the role of forensic auditors and auditing
process which may determine the quality of CG practices in the banking sector.
F.
Independent auditor’s role
The
purpose of designing a set of codes for CG is to enhance the efficiency of
auditing process in order to retain the interests of all the stakeholders and
investors. This is where the role of independent auditor comes into picture.
The auditor has all the authority to capture the offender, eliminate bias from
financial reports of the company and report objectively. Recently a lot of
emphasis is placed on the role of auditor with respect to CG as auditors’ are
solely responsible in detecting the scam. On the contrary, the auditor’s must
not be forced into any kind of obligation which may bind his hands from
discharging his duties veritably.
G.
Role of top management
According
to the Basel Committee report on banking supervision published in the year 2014
(Bank for International Settlements, 2014), it is the responsibility of the
senior managers to carry out and manage all the activities of the banks in
accordance with the business strategy, risk policies and other strategies as
approved by the board. The top management’s personal conduct also contributes
significantly in achieving “sound CG” along with the members of the board.
H.
Whistle blowing policy
Whistle
blowing policy in a company refers to the particular internal policy designed
for its employees to report to the management about any suspicious behavior or
frauds or any kind of infringement in company’s norms or code of conduct. The
policy enables an employee to report to the senior managers or top management
directly without informing his immediate manager(s). Because of this advantage,
whistle blowing policy is considered to be a valuable tool in an organizations
effective CG strategy.
The
issues of corporate governance
1. Asset
Misappropriation
2. Money
laundering
3. Accounting
frauds
4. Frauds
committed by senior management
5. Bribery
and corruption
6. Regulatory
non-compliance
7. Practice
of Insider Trading and Selective leak of sensitive data
A.
Asset Misappropriation
Asset
misappropriation refers to the misuse of a company’s assets or resources for an
individual’s personal use at the expense of the company. Sometimes it may even
involve stealing of the company’s assets for personal interests and producing
false records to mask the committed fault. Studies have shown that though asset
misappropriation might not be visibly significant, disregarding the same may
become “an incurable disease” and consequently affect the financial status due
to unnecessary expenditure incurred.
B.
Money laundering
Money
laundering is gaining illegal money from criminal activities and projecting it
to be a source from legal proceedings by concealing its actual source of
inflow, ownership and use of funds.
C.
Accounting frauds
Accounting
frauds refer to deliberate falsification introduced in the financial statement
to gain unlawful financial advantage by employees, management or any other
individuals related to the organization. On the other hand, accounting
irregularities arise due to inadvertent misrepresentation of facts or omission
of certain entries in the financial statements. Both these mistakes lead to
economic problems which ultimately find its root cause in fruitless CG
mechanism and its inability to detect and prevent such faults. For instance the
financial irregularities that happened with Enron, WorldCom and Satyam, all
point towards a lack of proper CG at some point for the tragedy occurred.
D.
Frauds committed by senior management
Also
known as “white collar crime”, frauds committed by the members of the top
management directly impacts the shareholders, employees and society as a whole.
Frauds committed may not always be in terms of capital. It may also include the
involvement of top managers in certain activities that are against the rules
and regulations of the company or refrain themselves from taking necessary
action after being aware of any illegal activity happening in the organization
or certain disastrous decisions taken by the managers.
E.
Bribery and corruption
Studies
have demonstrated that poor CG practices can breed corruption. Corruption
pertains to “the misuse of public office for private gains and has both demand
and supply sides to it”. CG practices can be affected by bribery and corruption
practices of the members involved at various levels including the board
members, to managers, employees, shareholders and stakeholders. Good CG is
expected to reduce the level of corruption by imposing strict constraints on
the officials.
F.
Regulatory non-compliance
For
any organization it is mandatory to comply with the legal framework prescribed
by the respective boards apart from the internal rules and regulations of the
company. In India the Securities and Exchange Board of India imposes the rules
and regulations and frames the guiding the guiding principles for companies to
protect the interests of the investors. Apart from this, companies are also
required to comply with the provisions of Companies Act 1956, Kumara Mangalam
Birla report on CG, accounting standards issued by ICAI and additional listing
agreements with the stock exchange they are listed with.
G.
Practice of Insider trading and Selective leak of sensitive data
Insider
trading indicates the practice of buying and selling company’s securities
illegally without the knowledge of the public with the intention of making
profit or preventing loss in the securities transactions of the company. In
India it is considered as illegal trading by SEBI. In this case, the management
of the company may take advantage of the confidential and price-sensitive data
to make profit for themselves without informing the public investors.
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