Author: Komal Verma from Fairfield Institute of Management and Technology
Corporate Crime is being increasing with the change in the decade, the reason behind this enormous increase behind this is found in the fast developing countries and industrial growth in the developing countries. The fast growth of industries and the technologies is the reason behind this crime. One of the major havoc that has been found in recent times is disappearing of companies. Out of 5651 companies listed in BOMBAY STOCK EXCHANGE, 2750 has been vanished. It means that one out of two companies that comes to the stock exchange to raise crores from the investors and then run away. We have SEBI, RBI and Department of Companies Affairs to monitor the stock exchange but none has documented the whereabouts of these 2750 odd companies suspended.
WHAT ARE THE CAUSES?
A corporate fraud occurs when a company or an entity deliberately changes and conceals sensitive information which then apparently makes it look healthier. Companies adopt various modus-operandi to commit such corporate frauds, which may include miss-information in the prospectus, manipulation of accounting records, debt hiding etc. The aspect of falsification of financial information includes false accounting entries, false trades for inflation of profits, disclosure of price sensitive information which comes under the ambit of insider trading and showing false transactions which result in attracting more investors and lenders for funding.
There can be several reasons cited for which companies commit such frauds like making more falsified money, creating a false image of the company for the market scenario and misguiding Governmental authorities for tax evasion. In India, the Commission on 'Prevention of Corruption', in its report, observed, "The advancement of technological and scientific development is contributing to the emergence of mass society with a large rank in file and a small controlling elite, encouraging the growth of monopolies, the rise of a managerial class and intricate institutional mechanisms. There is a necessity for a strict adherence to high standards of ethical behaviour for even the honest functioning of the new social, political and economic processes. The report of the Vivian Bose Commission inquiring into the affairs of the Dalmia Jain group of companies in 1963, highlighted as to how the big industries indulge in frauds, falsification of accounts and record tampering for personal gains and tax evasion etc.
The first successful trial of a financial scandal in independent India was the Mundhra Scam, in which Hon'ble Justice M.C. Chagla made certain critical observations about the big business magnate Mundhra who wanted to build an industrial empire entirely out of dubious means.
CORPORATE FRAUD UNDER COMPANIES ACT, 2013
The Companies Act, 2013, is the legislation which focusses on issues related to corporate frauds. Fraud in relation to affairs of a company or any corporate body as defined in S.447 of the Companies Act 2013, includes any act, omission, concealment of any fact or abuse of position committed by any person or any other person with the connivance in any manner, with intent to deceive, to gain undue advantage from, or to injure the interests of the company or its shareholders or its creditors or any other person, whether or not there is any wrongful gain or wrongful loss.
In order to amount to Fraud, an act must be confined to acts committed by a party to contract with an intention to deceive another party or his agent or to induce him to enter into a contract. Fraud, which vitiates the contract, must have a nexus with the acts of the parties entering into the contract. This definition highlights the precondition to prove the intention of the person who has committed fraud. If that person has willingly committed a fraud, then he will be punished. Here the person means himself or his agent. The acts which include fraud are wrong suggestions or concealment of facts or false promises or any fraudulent act to deceive others.
PUNISHMENT FOR FRAUD (S.447)
Any person who is found guilty of fraud shall be punishable with imprisonment for a term which shall not be less than six (06) months but which may extend to ten (10) years and shall also be liable to fine which shall not be less than the amount involved in the fraud, but which may extend to three (03) times the amount involved in the fraud. Where the fraud in question involves public interest, the term of imprisonment shall not be less than three (03) years.
TYPES OF FRAUD:
There are many types of frauds like Fraudulent Financial Statements, Employee Fraud, Vendor Fraud, Customer Fraud, Investment Scams, Bankruptcy frauds and miscellaneous. Some of the common types of frauds are:
Financial frauds - Manipulation, falsification, alteration of accounting records, misrepresentation or intentional omission of amounts, misapplication of accounting principles, intentionally false, misleading or omitted disclosures.
Misappropriation of Assets - Theft of tangible assets by internal or external parties, sale of proprietary information, causing improper payments.
Corruption - making or receiving improper payments, offering bribes to public or private officials, receiving bribes, kickbacks or other payments, aiding and abetting fraud by others.
Though it may be conducted in a variety of ways, corporate fraud frequently is performed by taking advantage of confidential information or access to sensitive assets and then leveraging those assets for gain. The fraud is often hidden behind legitimate business practices or exchanges to disguise the illicit activity. Multiple stakeholders involved in corporate fraud also allows for elaborate fraud schemes to be protected by a group of complicit actors.Other forms of corporate fraud may aim to disguise or misrepresent a service or product the company is developing or has in service, hiding its flaws or defects. Rather than investing in repairing, refurbishing, or redesigning the product, those responsible for the product attempt to deflect or disguise these issues. This might be done if the department or company does not have the finances to correct the problem or if revealing the issue might drive away customers and investors. If a company or individual claims it is putting some of its funds towards investments or other types of monetary reserves that are intended to gain in value, but in actuality, those funds have been expended or diverted elsewhere, this counts as a type of corporate fraud.
CORPORATE FRAUD: FAMOUS CASES
East Indian Company
The East India Company was a Crown chartered trading company. It was owned privately but had a mandate to benefit the British State commercially and politically. First and foremost, the EIC was an agent of the Crown.
It was first Multinational Corporation in the world that pursued investment opportunities as well as territorial power. EIC employees based in India sought commercial profits for themselves, the Crown, and East India House; while they acquired Indian Territory aggressively on behalf of the Empire. In late 1700s Edmund Burke had Robert Clive, (the founder of the empire) and Warren Hastings, (India’s Governor General), brought up on impeachment charges laden with corruption issues. Though the trail failed to convict anybody.
To achieve all of these ends, the EIC’s corporate conduct was inconsistent. Sometimes, the Company complied with ethical practice in safety and financial matters. At other times it readily engaged in economic theft and bribes, or breached civil liberties and human rights. The concept of corporate social responsibility was secondary to its interests. The company was subsequently wound up under East India Company Stock Redemption Act.
Mundhra Scam- First Scam of Independent India
Haridas Mundhra, an industrialist and stock speculator sold fictitious shares to Life Insurance Corporation (LIC) and thereby defrauding LIC by 125 crores. Mr Jawaharlal Nehru, (the then Prime Minister), set up a one-man commission headed by Justice Chagla to Investigate. Justice Chagla concluded the matter and Haridas was found guilty and was sentenced to imprisonment of 22 years and T.T. Krishnamachari, the then Finance Minister, resigned from his position.
Enron scandal, publicized in October 2001, eventually lead to the bankruptcy of the Enron Corporation, an American energy company based in Houston, Texas and De-Facto dissolution of Arthur Andersen.
· In February 2000, Fortune Magazine Chooses Enron as its “Best Managed and Most Innovative Company”.
· August 2000: Stock at $73 Billion.
· March 2001: Financial Year 2000 revenues at $100 Billion.
· September 16, 2001: Enron buys more shares.
· October 2001: Enron pays its regular Dividend.
· October 16, 2001: 3rd quarter loss was shown as $618 million and further made deduction of $1.2 billion in equity shares.
· October 31, 2001: SEC upgrades inquiry into a formal investigation.
· December 2, 2001: Enron files for Bankruptcy.
Result of this was 4,000 employees were fired, 20,000 workers loses their jobs and $73 billion was lost in the stock value.
Reason behind Enron Fiasco: Enron Senior Management used complex and murky accounting schemes,
· To reduce Enron’s tax payments.
· To Inflate Enron’s income and profits.
· To inflate Enron’s stock Price and credit rating.
· To hide losses in off-balance-sheet subsidiaries.
· To engineer off-balance-sheet scheme to funnel money to themselves, friends and family.
· To fraudulently misrepresent Enron’s financial condition in public report.
Satyam – Enron of India
Satyam Scam, 2009: Satyam was the biggest scam in the history of India. The Satyam scam of 2009 has shatter the peace and tranquillity of investors in the share market. The chairman Ramalinga Raju has manipulated the financial statement and the books of accounts. Satyam’s books of account shows:
· Over stated Assets of Rs. 490 crores.
· Fake cash balance over Rs. 5000 crores in the balance sheet.
· Interest component of Rs. 376 crores which never flowed into the company’s coffers.
· Understated Liabilities of Rs. 1,230 crores.
He has also inflated with revenues and net profit figures of the company, with which he was charged with heavy penalty.
Harshad Mehta Scam Case
The Harshad Mehta Scam shocked the entire economy of India. He fooled many investors by taking advantage of the loopholes of the system.
· Harshad Mehta obtained fake Bank receipts from small Banks.
· The said Bank Receipts were further passed on to other banks as security to obtain cash.
· This money was used to drive up the prices of stocks in the stock market.
· Bubble of stock market manipulation and fake bank receipts busted.
· Drastically impacted the stock market, economy and progress of the country.
· Banking system was swindled was swindled of a whopping of Rs. 5000 crores.
· Even, the chairman of one of the bank committed suicide.
Sahara vs. SEBI: It was a case of issuing misleading information and clause in prospectus of company.
· In this case, Sahara India Real Estate Corporation Limited (SIRECL) and Sahara Housing Investment Corporation Limited (SHICL) floated an issue of option of fully convertible debenture (OFCD’s) to more than million investors and termed their issued debenture as private placement, with a defence that the company did not intend to get their OFCD’s listed because the security which have been issued is a Hybrid Security.
· During this period, the company had total collection of over Rs. 17,656 crore. This amount was collected from 30 million of investors.
· The Hon’ble Supreme Court on 31st august, 2012 in one of the most anticipated judgment of recent times has directed the Sahara Group and its two group companies SIRECL and SHICL to refund around Rs. 17,400 crore to their investors within 3 months.
· Supreme Court also ruled that SEBI has myriad powers to invest listed and unlisted companies functioning regarding the issue of securities in order to secure the interest of investors. This was the landmark judgment in the field of Indian corporate Law.
Government of India has taken many steps to prevent this type of Crime in India. There are certain mechanisms that have been cited by the Government of India by which the frauds can be prevented under the Companies Act, 2013.Further, Central Government can also order investigation into the affairs of a company and on the receipt of the report of the registrar or the inspector.