Corporate governance essentially involves balancing the interests of the many stakeholders in a company - these include its shareholders, management, customers, suppliers, financiers, government and the community.
Need for Corporate Governance: Good corporate governance practices can mitigate the risk of corporate Frauds and Scams.
Mechanisms and controls are designed to follow good corporate governance Practices and includes both internal and external Control.
Internal corporate governance controls takes place within the organization itself. Furthermore, few methods of internal monitoring include:
- Monitoring by the board of directors.
- Monitoring by procedures and internal auditors.
External corporate governance controls encompass the controls by external stakeholders over the organization. Examples include:
- government regulations
- media pressure
- Statutory Audit
- Secretarial Audit
GAPS IN THE EXISTING CORPORATE GOVERNANCE SYSTEM:
1- Independence of Independent Directors: As companies act 2013 and SEBI listing regulations, 2015 mandates appointment of independent director in specified companies and also prescribes detailed qualifications for the appointment of an independent director on the board of a company. Independent director shall assist the company in implementing the best corporate governance practices.
Areas of concern: High accountability of independent director may discourage a lot of persons who could potentially have been appointed as independent directors from accepting such a position as they would be exposed to greater liabilities while having very limited control over the board. Practices for ensuring that participation and working of an independent director is really independent i.e. free from influence or pressure, otherwise will defeat overall purpose.
2- Difficulty in availing electronic voting: Shareholders of specified companies can vote at general meeting by electronic means for ensuring higher presence of the shareholders in the meeting.
Areas of concern: Essential requirement for electronic voting includes computer system having internet connection and shareholder must have basic knowledge of computer in order to cast vote electronically. Though it’s an enabling step towards governance but can be benefitted by the educated shareholder having required facilities.
3. Independent Vigil Mechanism: As per SEBI Listing Regulations 2015 and the Companies Act, 2013, certain companies have to establish Vigil/Whistle-blowing mechanism to report any unethical behavior or other concerns to the management.
1. Internal Whistle Blower: A Whistle Blower may be within the organization who discloses any illegal, immoral or illegitimate practices to the employer. He/she may be Employee or Senior officer or any designated officer.
2. External Whistle Blower: A whistle Blower may be outside the organization who discloses any illegal, immoral or illegitimate practices to the company. He/She may be Lawyer or Media or any agency like- Law enforcement or Watchdog agencies.
Areas of concern/ Barriers to Whistle-Blowing:
- A lack of trust in the internal system
- Unwillingness of employees to be “snitches”
- Belief that management is not held to the same standard
- Fear of retaliation
- Fear of alienation from peers
4- Corporate Social Responsibility: The Board of prescribed company shall ensure that the company spends, in every financial year, at least two percent of the average net profits of the company made during the three immediately preceding financial years, in pursuance of its Corporate Social Responsibility Policy.
Areas of Concern: To check the genuine expenditure in fulfilling corporate social responsibility.
5- Difficulties in Implementation of Policies: There is legal requirement to form various policies for the prescribed companies like- Related Party Policy, Nomination and Remuneration Policy, Risk Management Policy, and Whistle Blower Policy etc.
Areas of concern: Various policies are formed to ensure good corporate governance practices in the company. Most of the time these policies are framed just to fulfill legal requirement and remain in paper only. It is required to implement the policies in true letter as well as spirit. Corporate should be motivated to adhere with the policies.
6- Working of the committees: There is legal requirement to form various Committees for the prescribed companies in order to ensure proper working of the company.
Areas of concern: There should be check and balance between the working of various committees. Proper training structure should be formed within the corporate for the genuine working of various committees.
External control procedures and statutory audits: External auditors are professionals outside an organization who test the secretarial and financial policies and practices followed by the company and the reliability of its financial reporting.
Areas of concern: As the appointing authority of the auditors is board there may be chances of Audit under pressure or influence.
REASONS FOR CORPORATE FRAUDS AND SCAMS
What is Corporate Fraud? Any action undertaken by the corporate to conceal fact, deceive, injure the interests of the company or its stakeholders, or to gain undue advantage constitutes fraud.
What makes a person commit a fraud? After all, it is individuals, who commit fraud. At the core of all fraud, even fraud by large corporate entities, there are decisions and actions by individuals. Frauds can be detected at their early "just-getting-started" stages, as well as when they are full-blown. Top list of reasons why frauds occur.
1. Greed –intervenes when an individual, or group of individuals, sees a chance to make ‘a fast buck’.
There are frauds committed with intent to steal money. These are frauds that are planned in advance, and where the person committing it is acting intentionally to defraud. This type of person is often behind, for example, advance fee schemes, ponzi schemes, offering frauds with no product behind the pitch. In these situations, the person may be highly creative, cunning, and charming, and may have committed other frauds in the past.
What can minimize? Certainly, vigorous civil and criminal prosecution can deter it.
2. Lack of transparency – where a company’s management information system does not produce results that are timely, accurate, sufficiently detailed and relevant; the warning signals of a fraud, such as ongoing theft from the bank account, can be obscured. Complex financial transactions that are difficult to understand are an ideal method to hide a fraud.
This may result in borrowing with the intention to create good image in financial statements and showing inflated revenues instead of real one. Company may borrow to cover a shortfall in the revenues or to conceal less-than-expected performance results. For example, people may lie about meeting this quarter's earnings targets, or in this quarter's account statements sent to clients. People who do this may be embarrassed to admit the truth of the losing trade or sub-par performance.
What can minimize? Checks and balances are key to prevent. separating functions so that the same person who is responsible for trading is not also reporting the results of that trading; having a third party prepare and send account statements to clients; making sure that customers are receiving these account statements and not falsified or doctored account statements and having the auditor seek independent confirmations.
3. Excessive performance based bonus –where bonus is excessively depend on individual’s performance.
This may result in tempting towards manipulation of results, such as year end sales figures, to reach that target, which ultimately results in manipulated inflated revenue, gives false impression to the stakeholder.
What can minimize? Can be prevented through keeping some part of bonus as fixed and other variable i.e. linked with performance.
4. Non independent internal audit department – where an organisation’s internal audit department is not independent, e.g. where it does not report to a truly independent audit committee but to the Finance Director, the more likely that when there are signals that a fraud is occurring the more likely they will be ignored.
It may results in making tailor made financial statements and used for creating good rapport among stakeholders.
What can minimize? Ensuring that customers are receiving true and fair financial statements; and having audited by independent Auditor.
5. Unethical behavior of senior management – leadership comes from the top. Where the senior management indulge themselves in ‘semi corrupt’ behavior, e.g. adjusting their expense claims upwards, others will follow adopting the well worn mantra ‘everyone’s at it’.
- There are people who find themselves in a position to benefit, even though they did not seek out the opportunity to engage in fraud. This is the "open cash drawer" scenario. Examples of this are seen in insider trading cases involving people who otherwise may hold positions of respect and authority — corporate executives, lawyers, even compliance professionals.
What can minimize? Deterrence is particularly important - the opportunist must believe that he or she runs a high risk of detection and punishment.
- There are people who believe that they're just going with the flow, acting in a way that is consistent with industry practice.
What can minimize? Having a strong Culture of Compliance — a culture that emphasizes from the top down doing what's right even if others are not. Having a Code of Ethics that specifically addresses this issue may help to discourage it.
6. Excessive complex organizational structure – designed to obfuscate the revenue streams; and so hide reality from third parties, such as the Internal Revenue Service.
There are people who know what they're doing is illegal or unethical, but who justify their actions by minimizing the impact. For example, minimizing behavior is by people who do not disclose material conflicts of interest or other material information, and may believe, with respect to their investors, clients and customers, that "what they don't know won't hurt them," thereby minimizing in their own minds the harm they cause.
What can minimize? These people are perhaps less likely to be deterred by public enforcement action because they have a tendency to minimize their conduct. The best preventative measure is to disclose all undisclosed material to potential clients.
7. Poor accounting controls – where the accounting controls, such as a monthly reconciliation of the bank account, are lapse the signals that a fraud has occurred will be missed.
This results in tempering with the books of accounts of company and same will reflect in the financial statements provided to stakeholders.
What can minimize? Formulation of accounting Policies and its implementation in accounting department in true letter and spirit can prevent.
8. Other reasons: The well-known "fraud triangle" is often used to explain why otherwise law-abiding people commit fraud. According to this model, there are three factors that must exist for a normal person to commit fraud: pressure (e.g., financial need, avoiding embarrassment or loss of status); opportunity (and a perceived low risk of detection); and rationalization (the ability to avoid feeling guilty by finding conduct acceptable or justifiable).
What can minimize? Implementation of Code of Conduct and ethical training at the organizational level can minimize the fraud.
Tags Corporate Law