Understanding the-demand-supply-equations-of-corruption-fraud-final

Understanding the Demand and Supply
Equations of Corruption and Fraud
An insight into the Corruption and Fraud
by the private sector in India
Supported by

Disclaimer
Thought Arbitrage Research Institute has exercised due care and diligence in preparing the report. However, the
information contained is of statistical nature and has been compiled or arrived at from sources believed to be
reliable, but no representation or warranty is made to their accuracy, completeness or correctness and hence
Thought Arbitrage Research Institute cannot be held responsible for omissions or errors.
This document is for information purposes and to initiate a debate or dialogue concerning matters contained in it.
The information contained in this document is published for the assistance of the recipient but is not be to be relied
upon an authoritative or taken in substitution for the exercise of judgment by any recipient. This document is not
intended to be a substitute for professional, technical or legal advice.
Thought Arbitrage Research Institute and Global Compact Network India disclaim all responsibility and liability
(including, without limitation, for any direct or indirect or consequential costs, loss or damage or loss of profits)
arising from anything done or omitted to be done by any party in reliance, whether wholly or partially, on any of the
information.
Readers are encouraged to inform the project partners about any inaccuracies or to provide additional information
for future editions.
Cover image: Ahmed Firoz
Designed by Paper Dog
2

Research Team
Thought Arbitrage Research Institute
Principal Authors and Research Design:
Mr Kaushik Dutta
Mr Sameer Kapoor
Data Analysis and Contributing Author:
Ms Rewa P Kamboj
Report Editors:
Ms Kshama V Kaushik
Mr Naveen Srivastava
Ms Rosanna Vetticad
We are supported on our data collection and primary
analysis by M/s Grant Thornton India and we are
grateful for the efforts and support of:
Mr Anil Roy, Partner, Grant Thornton
Ms Saguna Sondhi, Associate Director, Grant Thornton
Mr Kartik Gupta, Associate Manager, Grant Thornton
3

Stakeholder Consultations
International Business Leaders Forum
Global Compact Network India
Global Compact Network India partnered with the
International Business Leaders Forum for the successful
execution of the Stakeholder Consultations in
Bhubaneswar, Mumbai, Delhi and Hyderabad.
The chapter on stakeholder consultation in the report,
has been compiled by Ms. Shabnam Siddiqui of Global
Compact Network India & Mr. Joe Phelan of International
Business Leaders Forum with assistance from Ms. Jot
Prakash Kaur & Ms. Chitra Nair.
We are grateful for the support of Xavier Institute
of Management in Business, Bombay Chamber of
Commerce and Industry, Oil and Natural Gas Corporation,
Federation of Indian Chambers of Commerce and Industry
and National Mineral Development Corporation for
facilitating the Consultations around this report.
4

Acknowledgements
We acknowledge with our gratitude
the comments we have received from
the following reviewers of this report:
• Mr VK Shunglu, Former Comptroller and Auditor
General of India
• Prof Matthias Kleinhempel, Head of Corporate
Governance and Transparency, IAE Business School,
Argentina
• Prof Asish Bhattacharya, Head of School of Corporate
Governance, Indian Institute of Corporate Affairs,
Ministry of Corporate Affairs, India
• Ms. Moramay Navarro-Perez, UN Global Compact
Office, Anti- Corruption Team, USA
• Mr K. Vaidyanath, Director, ITC Limited, India
• Mr Amal Ganguli, Chair of Audit Committee, Maruti
Suzuki and HCL Technologies Limited, India
• Prof V Raghunathan, Former professor of IIM Bangalore,
Director of GMR Limited, India
• Mr P Ramakrishna, Founder, Uthistha Fund, India and
former partner of PwC, India
We also like to thank Indian Institute of Corporate
Affairs (IICA) for their support in this study. IICA has
been established by the Ministry of Corporate Affairs,
Government of India as a unique world class institution to
function as a think tank, action research, service delivery
and capacity building support to the Ministry, corporate
sector, professionals and related stakeholders.
We are also grateful to International Business Leaders
Forum (IBLF) for designing this publication. IBLF is an
international non profit organisation which works with over
150 companies to redefine growth so that it is smarter,
more inclusive and more responsible. A major programme
in India, China and Russia is Business Standards for
smart growth. This brings together companies that
want to reduce the risk of corruption in their business
and markets.
We finally wish to acknowledge the support of Siemens
through their Siemens Integrity Initiative, which made
the Consultations, Printing, and Distribution of this
Publication possible.
5

List of abbreviations
AAER Accounting and Auditing Enforcement Release
ACB Anti-Corruption Bureau
ACFE Association of Certified Fraud Examiners
AICPA American Institute of Certified Public Accountants
AO Assessing Officer
CBDT Central Board of Direct Taxes
CBI Central Bureau of Investigation
CCI Competition Commission of India
CEO Chief Executive Officer
CFO Chief Financial Officer
COSO Committee of Sponsoring Organizations
CVC Central Vigilance Commission
ED Enforcement Directorat.
EOW Economic Offences Wing
FERA Foreign Exchange Regulation Act
GDP Gross Domestic Product
ICICI Industrial Credit and Investment
Corporation of India
IDBI Industrial Development Bank of India
IFCI Industrial Finance Corporation of India
IICA Indian Institute of Corporate Affairs
IMF International Monetary Fund
IP Integrity Pacts
IPC Indian Penal Code
LIC Life Insurance Corporation
MCA Ministry of Corporate Affairs
MLM Multi-Level Marketing Companies
MRTP Monopolies and Restrictive Trade Practices Act
NACS National Anti-Corruption Policy
OECD Organization for Economic Co-operation
and Development
PC Act Prevention of Corruption Act
PCAOB Public Company Accounting Oversight Board
RBI Reserve Bank of India
RTI Right to Information Act
SAT Securities Appellate Tribunal
SEBI Securities Exchange Board of India
SEC Securities Exchange Commission
SFIO Serious Fraud Investigation office
TI Transparency international
UN United Nations
UNCAC United Nations Convention Against Corruption
US United States
UTI Unit Trust of India
6

Table of Contents
Forward By Georg Kell 8
Introduction By S. Ramadorai 9
Executive Summary 10
An Introduction to Corruption 13
An Introduction to Fraud 19
Corruption and Fraud in Corporate India 24
Research Data and Analysis 27
Stakeholder Perspectives on 42
Private Sector Fraud in India
Fraud and Corruption: Mechanics
and Perspectives 48
Detecting Fraud and Corruption:
Challenges for Oversight 54
Good Practices for Maintaining Ethical Behaviour 58
Conclusions 67
Endnotes 70
7

Forward By
Georg Kell
It has been nearly 10 years since the UN Global Compact
adopted the 10th Principle, calling on business to work
against corruption in all its forms, including extortion and
bribery. The 10th Principle not only sends a strong signal
on the role of business in the fight against corruption, but
also emphasizes the importance of ethical principles in
creating healthy markets. Where corruption is pervasive,
economies cannot function properly, efficiently or fairly.
To reduce this cost to doing business, an increasing
number of companies have already introduced measures
to prevent corruption and respond more proactively
to incidents.
The Global Compact Network India and its business
participants play an instrumental role in advancing the anti-corruption
agenda through their commitments, dedication
and action. As a partner of the Siemens Integrity Initiative,
the Global Compact Network India has worked with
hundreds of companies since 2011 to discuss challenges
and opportunities to enhancing transparency in their
interactions with governments and other stakeholders.
In 2013, Indian companies have shown their enthusiasm
for the Call to Action: Anti-Corruption and the Post-
2015 Development Agenda, a global campaign which is
mobilizing companies to urge Governments to integrate
anti-corruption into the future development goals. I hope
that more Indian companies will join this campaign.
Despite progress made in this area globally, more efforts
are needed to create a level playing field where ethical and
responsible businesses are rewarded; combating fraud is
an important step towards this. Corruption and fraud are
closely linked – as fraudulent practices are often found
where tolerance to corruption exists.
In this regard, I am pleased that the Global Compact
Network India and Thought Arbitrage Research Institute
have developed this report. The publication showcases
a robust set of institutional watchdogs to monitor and
investigate corruption and fraud in India, and highlights
how companies can more proactively engage to address
corruption and fraud. The report aims to stimulate
dialogue among stakeholders and galvanize business
leaders to advance ethical corporate practices and
eradicate corporate fraud.
The Indian private sector has shown immense potential
to foster a transparent and sustainable economic
environment. I am optimistic that we can collectively
triumph against corruption and fraud by forging a
collaborative relationship between government and
business, as emphasised in this report. I hope that
this report is found to be an effective tool by various
stakeholders to encourage corporate leadership to scale
up its efforts to create a transparent, ethical and thereby
level-playing field.
Georg Kell
Executive Director
UN Global Compact
8

Introduction By
S. Ramadorai
I am delighted to introduce “Understanding the Demand and
Supply Equation of Corruption and Fraud”, compiled by the
“Thought Arbitrage Research Institute” and Global Compact
Network, India. This is a piece of work that gives the reader
a very good insight into instances of corruption and fraud in
India’s corporate sector.
The effects of fraud and corruption can be far reaching.
As pointed out in the report, fraud and corruption affects
not just the image of a company, but often leads to
discontinuation of business, resulting in erosion of wealth
at many levels. When ‘thrown off balance’ due to instances
of unethical activity in their midst, companies with high
standards of corporate governance and conduct always
manage to take strict action against those found guilty,
and bring them to book. The report highlights this need for
decisive action in many places.
A good deal of research has gone into compiling this report.
It takes an in-depth look at about 100 major corporate frauds
that have occurred in India’s private sector over the past 15
years, and puts forth practical solutions that would be useful
for corporate houses, to both prevent, as well as manage,
corruption and fraud.
The report provides a detailed analysis of frauds - their
types, means, frequencies, etc. It examines the weaknesses
or inefficiencies of regulators that sometimes lead to their
failure to predict and prevent corporate frauds. But what is
particularly valuable to read about are the various possible
fraud management solutions, with special emphasis on
organizational control and code of conduct.
Having been a member of the Tata Group for over four
decades, I have been fortunate to be part of a system, where
the ethical practice of business is a ‘way of life’. Still, it was
felt necessary by the Group to codify this belief formally,
resulting in the publishing and adoption of the Tata Code of
Conduct in 1998.
As we all know, a chain is as strong as its weakest link!
Irrespective of their history or good intentions, all companies
need to place internal controls, sound monitoring
mechanisms, risk assessment and risk management
processes in place. This report shares practices followed
by companies like Tata Chemicals, Siemens, Infosys, GAIL,
etc. It explains how these companies are now striving
towards developing various formal (and informal) systems
of governance to improve overall organizational strength.
And, these companies are not just relying on improving their
internal systems, but are also trying to influence the overall
corporate environment by promoting collective corruption-fighting
mechanisms through social groups, civil society, etc.
Clearly, while a lot is being done by reputed businesses to
promote good corporate governance, a lot still needs to be
done to improve the corporate environment of the country, in
terms of business ethics.
The report points out that of the 100-odd cases of fraud
studied, most occurred in medium-sized companies with
revenues around Rs. 200 cr. A pointer to where reform and
action is needed. In a country like India, solutions could range
from strengthening regulatory mechanisms and our legal
system, to ensure swift redressal. Punitive action on the guilty,
successfully implemented, could be a strong deterrent to
future criminal acts.
In our technology-driven age, we need to see increasing use
of IT-based solutions and analytics that could not only detect
fraud and corruption, but also help recognize risks even
before the fraud is committed. The power of popular social
networks could be powerfully leveraged to spread awareness
about corrupt practices, and as a platform for ‘whistle-blowers’.
Taking on board the recommendations in the report would
be no ‘guarantee’ against future attempts at fraud and
corruption. Intelligent, but crooked individuals, will always
seek, and often find, new ways to ‘beat the system’.
But useful advice suggested in the study will certainly go a
long way to reduce the probability of their occurrences.
I believe that this report provides useful lessons and ideas to
help businesses undertake their activities ethically, in a highly
dynamic and challenging business environment.
S. Ramadorai
Vice Chairman
Tata Consultancy Services
9

Corruption and Fraud
In one way or another, people all across the globe get
impacted by fraud and corruption. This study is an attempt
to understand corruption and fraud, its multiple facets,
sources, nuances and related complexities.
Corruption is commonly understood as the abuse of
entrusted power to extract private gain at the costs of
society by diversion of legitimate funds. Business is both the
cause and victim of corruption. Corruption can take various
forms: political or bureaucratic; grand or petty; isolated or
systemic and private sector corruption.
Corruption thrives in a world of opacity caused by a maze
of rules, discretion of governmental authority and the
lack of accountability or consequences for actions by an
official. When information asymmetry persists among the
general public, it results in a low level of awareness and
demands for bribes are easily fulfilled. Further high taxation,
multiple regulations, layers of authorization, numerous
subsidies and other spending decisions of government
provides impetus to corruption. Corruption also thrives in
conditions of low bureaucratic quality, inadequate public
sector wages, low institutional controls, poor leadership
standards, vague rules, ineffectual laws, processes and
their unimpressive implementation.
Corruption includes instances of fraud, fraudulent behavior,
receiving bribes or other benefits. Corruption and fraud are
intricately linked, as a corrupt environment makes it easier
to perpetrate frauds; equally, frauds help generate illicit
funds which can be used to win favours by paying bribes or
for other quid-pro-quos.
Fraud is mostly defined as a wilful act of deception or
misrepresentation resulting in an unauthorized benefit to the
perpetrator or others. Asset misappropriation, conflict of
interest, bribery and extortion, and manipulation of financial
statements are common ways for perpetrating fraud.
The public procurement system is very prone to fraud with
prevailing malpractices of cartel formation accompanied by
collusive bidding and rigging. In private sector too, the risk
of fraud is pervasive across all enterprises and countries
irrespective of their sizes.
Research Data and Analysis
The risk of fraud is an inherent risk in all financial statements
issued by companies all over the world and India is no
exception to this. An in-depth analysis of the major corporate
frauds (100 in number) that occurred over the last 15 years1
have been undertaken in the this study to understand their
underlying factors, modus operandi and outcomes. The
analyses of fraud cases in this study is limited only to cases
in private sector companies, perpetrated by promoters and
management commonly referred to as ‘management fraud’
and excludes employee frauds. Some key findings from data
analytics of the study are:
• The occurrence of fraud is almost equally poised
between public and private limited companies
• Most of the companies have medium scale of
operations with the average revenue size of less than
Rs 200 crores. Further, in 80% of the cases, the size
of the fraud was less than Rs 200 crores. However, the
average revenue size of these companies has increased
7.25 times in the period after 2009, exposing larger
number of stakeholders to risks of corporate failure
• Fraud risk is pervasive across all the industry sectors
with manufacturing sector accounting for one out of
three cases highlighting the need for appropriate fraud
policies across all the sectors
• Significant spurt not only in the number of fraud cases
but also in their size after 2009 with an average size of
fraud almost doubling since 2009
• Most fraudulent transactions were designed to either
siphon of the companies funds by promoters or top
management or to defraud government/ investors/
lenders. One of the key contributing factors for corporate
fraud in India is the control and concentration of promoters,
whether families or MNC’s at the helm of affairs. Such
controls over all aspects of business are often abused for
personal gains at the cost of other stakeholders
1 Our sample comprised of the cases which have been investigated
by the Serious Fraud Investigation Office (SFIO), the Central Bureau
of Investigation (CBI) and the Income Tax department on the basis of
information available in public domain.
Executive summary
10

• Fraud techniques used in last 15 years have not
undergone much sophistication. Most of frauds in our
study perpetrated through recording of assets at a
value higher than their fair value or alternatively by a
web of book entries through related party accounts to
embezzle. This also points towards existence of control
weaknesses that give perpetrators of the fraud an
‘opportunity’ to commit such a fraud
• No significant cases have come to light where the
auditors have been able to detect such fraud in
the course of their audits, reflecting poorly on the
watchdogs (i.e. internal, statutory and tax auditors)
who take their cues from the gatekeepers i.e. regulators.
The auditors should have been the first ones pointing
out most of these frauds in the financial statements
because the schemes do not seem to be too
sophisticated or complex
• Number of frauds in the our study are equally distributed
among firms audited by the Big 4 and Non-Big 4
auditors indicating that detection of fraud is hard even
for large auditing firms
• Presence of earnings management can be construed
to be a potential indicator of presence of financial
statement fraud
• Majority of the companies involved in fraud have
either been liquidated or business discontinued or are
continuing at reduced levels with market valuations
drastically reduced
• The study cannot comment conclusively on the
adequacy or otherwise of the penalties/fines imposed
due to lack of adequate public information. There
seems to be an inadequate enforcement of laws and
deterrence for committing frauds. These frauds seem
to be carried out with impunity as the chances of
getting caught are minimal and the quantum of fine and
punishment is not a valid deterrence ensuring them to
retain the spoils of the fraud as personal wealth.
• Effectiveness of Clause 49 of Listing Agreement
(corporate governance code for all for public listed
companies) covenants on fraud occurrence, detection
and prevention is very limited
The study also conducted a limited review of violations
of securities trading and related laws from 1998 to 2012
that have resulted in convictions and fines as a result of
prosecution cases filed by SEBI in order to understand the
effectiveness of the prosecution mechanism and whether
it acts as a deterrence for the violators. In case of breach
of SEBI laws the consequent fines or length of sentences
is not a deterrent or is punitive for defaulters. In fact given
the paltry nature of fines or the facile length of sentences,
it may even make it to be profitable for offenders to violate
securities trading or corporate laws in India.
Challenges for Oversight in India
The economic liberalization started in 1991 has reduced
the incidence of corruption with the dismantling of an
elaborate system of inspectors set up under some of the
draconian outdated legislatures. The Government of India
initiatives, such as RTI Act 2005 and on e-governance,
constructive role played by the CAG of India, and greater
judicial involvement have been some of the steps towards
coping with widespread corruption prevalent in the
last century in India. However, this does not mean that
corruption has disappeared from India. The decrease in
‘petty’ corruption has been more than compensated by
the rise in ‘grand’ corruption as recent scandals have
shown. It is also true that liberalisation has provided even
larger opportunities to corporates who are more than
willing to use both fair and unfair methods of winning
favours with the government.
Corporate conduct in India is overseen by multiple
gatekeepers who act on different aspects of business
transactions. There are multiple regulators such as the
Securities and Exchange Board of India, the Reserve
Bank of India and the Institute of Chartered Accountants
of India that are responsible for enforcement of corporate
laws. Gatekeepers operate in an interdependent rather
than an independent manner and it is important to have
a certain degree of collective responsibility among all
gatekeepers to harness their total capacity to deter
wrongdoing. These regulators have been bestowed with
the powers to, investigate, issue of summons, prosecute
and levy penalties. However this structure has led to major
regulatory overlaps and gaps.
11

Good Practices for Maintaining
Ethical Behaviour
Corruption affects the cost of doing business, particularly
in developing countries. It is widely recognized that
corruption takes place with the tacit cooperation of both
businesses and government.
There are numerous tools and practices available to
business to prevent and/or control fraud and corruption
at organizational level, such as, setting up efficient
internal control systems; establishing code of conduct
for employees and top management; setting tone at top
management for zero tolerance towards fraud; instituting
fraud risk assessment programme; establishing whistle
blower hotline; enforcing a deterrence mechanism;
formulating detection plan; setting up audit committee
and enhancing role of internal auditors.
Certain improvements in external factors in the form
of healthy governance, effective prevention and robust
prosecution and recovery mechanism by governments/
enforcement agencies can provide the necessary impetus
in fraud prevention and detection endeavours. Collective
measures include the role of social groups, civil society
and other organizations in improving fraud and corruption
environment. Other measures relate to international
cooperation for greater transparency and sharing of
resources and best practices in governance mechanism
in laws and regulations.
Way Forward
Going forward a number of players in corporate India
would need to decide whether they will continue to
rationalize corruption and fraud as a way of doing
business or whether they will adopt more sustainable
business practices.
There cannot be a single silver bullet solution to curb
corporate fraud and corruption; the current study is an
attempt to look at the evidence available and compile
various facts and nuances surrounding this complex issue.
It is an attempt to move away from the emotive appeal
of the anti-corruption and anti-fraud stand to explore the
subject dispassionately so that a platform of dialogue
and possible solutions can be created.
The discussions and dialogue generated by the
report could lead to a number of complementary and
supplementary measures required both inside of an
organization and outside. A mix of regulatory and
enforcement solutions and initiatives can very quickly
move the current mind-set of gloom and doom to an
environment, which is suitable for more transparent and
sustainable business. The high confidence created in
business and society would help invigorate economic
growth and development of society at large.
12

“Corruption afflicts all countries, undermining social progress
and breeding inequality and injustice. When desperately needed
development funds are stolen by corrupt individuals and
institutions, poor and vulnerable people are robbed of education,
healthcare and other essential services.”
UN Secretary General, Mr Ban Ki-Moon2
An Introduction to Corruption
Definitions, Causes and Effects
The last few years have seen large scale demonstrations
by citizens across the world. If the ‘Arab Spring’ has
seen popular and violent uprising against long standing
totalitarian regimes, there have been almost peaceful
protests commonly referred to as ‘Occupy Wall Street’
demonstrations in the USA and other parts of the world
against the capitalistic system and greed associated with
it. These movements have impacted politics, economics
and the society around the world and as they continue to
reshape the world around us, it is important to understand
the core issues that lead to such upheavals.
While the reasons triggering these protests appear
to be local and diverse, if we look deeply we will see
that corruption has emerged as a common theme in all
these protests3.
Corruption is a complex subject with many facets,
nuances and a constantly shifting landscape. In some
countries, citizens accept corruption as a day-to-day
reality with stoic silence, while in others they are
determined to fight against it. Some governments merely
create an illusion about combating corruption, while others
attempt to root it out with various tools at their disposal.
In some instances business is a cause of corruption, in
others, it is simply a victim of a vicious environment where
there is a need to bribe just to survive.
What is Corruption?
The word corrupt has Latin roots. It originates from
‘corruptus’ which means ‘to abuse; spoiled’ and
‘corrumpere’ which means ‘to ruin; break into pieces;
to destroy.’4 Therefore it seems that corruption has the
corrosive power to destroy the very fabric of civilised life.
2 Message of the UN Secretary-General, on December 9, 2011.
http://www.un.org/en/events/anticorruptionday/sgmessages.shtml
3 Who pays for corruption? by Kaushik Dutta, Sameer Kapoor &
Sumati Rajput. Article published in The Pioneer on September 14,
2012. http://www.dailypioneer.com/business/94564-who-pays-for-corruption.
html
4 N Handbook on Practical Anti-corruption measures for prosecutors
and investigators. Page 23. http://www.unodc.org/pdf/crime/
corruption/Handbook.pdf
The United Nations Convention Against Corruption
(UNCAC) was the first binding global anti-corruption
instrument. Former UN Secretary General, Kofi Annan,
had written in the foreword to the UNCAC that “Corruption
is an insidious plague that has a wide range of corrosive
effects on societies. It undermines democracy and the
rule of law, leads to violations of human rights, distorts
markets, erodes the quality of life and allows organized
crime, terrorism and other threats to human security to
flourish.”5 UNCAC first entered into force in December
2005 and was ratified by India on May 1, 2011.
The UN Global Compact (UNGC) has adopted
Transparency International’s (TI) definition of Corruption
- a global civil society movement, which is “the abuse of
entrusted power for private gain.”6 Gain can mean financial
as well as non-financial advantages.
The World Bank also defines Corruption in a very similar
and straightforward manner – “the abuse of public office
for private gain.”7 It is however, important to note that
the World Bank’s definition is a bit narrower as it only
considers the public office while considering corruption.
The Organization for Economic Co-operation and
Development (OECD), defines corruption as “active or
passive misuse of the powers of Public officials (appointed
or elected) for private financial or other benefits.”8
OECD observes that corruption can have different
definitions, and that also includes fraud and fraudulent
behaviour. They state that there are two different types of
corruption, one active corruption, “paying or promising to
pay a bribe”, and other passive corruption, “demanding or
receiving a bribe.”
UNGC also recognizes that corruption can take
many forms that vary in degree from the minor use
of influence to institutionalized bribery. Again UNGC
uses TI’s definition of bribery i.e. “An offer or receipt
5 The United Nations Convention against Corruption (UNCAC)
December 2005.
6 Collective action project business case for public-private dialogue on
Anti-corruption and Green Economy. Policy paper by Global Compact
Network, India.
7 Helping countries combat corruption. Role of World Bank.
(www.worldbank.org).
8 Glossary of Statistical Terms, Organisation for Economic co-operation
and development. (stats.oecd.org)
13

“Corruption breeds in a world of opacity caused by a maze of
rules, discretion of governmental authority and the lack of
accountability or consequences for actions by an official.”
of any gift, loan, fee, reward or other advantage to or
from any person as an inducement to do something
which is dishonest, illegal or a breach of trust, in
the conduct of the enterprise’s business.”9
In their study on corruption, Kauffman and Vincente
(2005)10 have challenged conventional definitions of
corruption with primary focus on public office and bribery,
and private sector being left unscathed. In the author’s
view, corruption is:
a collusive agreement
between a part of the agents
of the economy who, as a
consequence, are able to
swap (over time) in terms of
positions of power (i.e. are
able to capture, together,
the allocation process of
the economy). This is the
idea underlying high-level
corruption or “influence”, and
is broader than the notion of
bribery, which corresponds to
a particular sharing pattern
of the joint payoff from the
referred relationship.”
9 Collective action project business case for public-private dialogue on
Anti-corruption and Green Economy. Policy paper by Global Compact
Network, India.
10 Legal Corruption by Daniel Kauffman and Pedro C. Vincente (2005).
Page 1
What Causes Corruption?
The World Bank observes that opportunity for corruption,
is a function of the size of the rents under a public official’s
control, the discretion that official has in allocating those
rents, and the accountability that official faces for his or
her decisions.11 In that regard, World Bank points that the
dynamics of corruption by a person holding public office,
therefore, can be depicted in a model.
Corruption breeds in a world of opacity caused by a maze
of rules, discretion of governmental authority and the
lack of accountability or consequences for actions by an
official. Studies including those by the World Bank indicate
that there are three pillars on which corruption rests;
discretionary powers of public officials; opacity in rules
and their application; and low deterrence in the form of
punishments or consequences.
In the developing world including India, the other reason
that feeds corruption is information asymmetry caused by
low literacy levels. A common citizen often gets caught
in the circle of asymmetry as he is often unaware of his
rights and entitlements. This is exploited by a public official
who takes advantage of his position even when there
is no justification such as having to pay a postman for
receiving a remittance sent by relatives or paying a teller
for withdrawing one’s deposit from a bank.
Vito Tanzi (1998), in an IMF staff paper titled ‘Corruption
around the World’12 has identified the following direct
causes of corruption:
(a) Regulation and authorizations;
(b) Taxation;
(c) Spending decisions of the Government (including
investment projects, public procurement and extra-budgetary
spending);
(d) Providing goods and services below market price
(i.e. subsidies);
(e) Financing of elections; and
12 Corruption around the world by Vito Tanzi (1998).
http://papers.ssrn.com/sol3/papers.cfm? abstract_id=882334
“
14

(f) Other discretionary decisions like tax incentives,
zoning or acquisition of private land, transactions on
government land, decisions on foreign investments,
public sector disinvestment and providing monopoly
power for export, import or domestic use.
Tanzi13 has also identified certain indirect causes of
corruption in his paper. These include:
(a) Quality of bureaucracy;
(b) Level of wages in the public sector;
(c) Penalty systems;
(d) Institutional controls;
(e) Transparency in rules, laws and processes; and
(f) Examples of leadership.
These studies have a recurring theme of high bureaucratic
or institutional controls, low systems of penalties and
lack of transparency in rules and processes to be the key
drivers of a corrupt society.
In another IMF sponsored study, Paulo Mauro (1997)14
highlights other factors that lead to corruption. Prominent
among these are the ‘natural resource endowments’
like oil, gold etc. which may be sold at a very high value
as compared to their production cost; and while their
sale is usually controlled by government regulations,
corrupt officials could help circumvent such controls. The
economic incentive for corruption in some cases is so high
that it is almost impossible to prevent it, without lowering
the incentive.
Mauro also brings out certain sociological factors of
corruption, such as, government officials are more likely
to do favours to their family members in societies where
family ties are strong. The division of society along ethnic
and linguistic lines also has been found to be correlated
with corruption as was hypothesized by Shleifer and
Vishny (1993).15
13 Corruption around the world by Vito Tanzi (1998).
http://papers.ssrn.com/sol3/papers.cfm? abstract_id=882334
14 Why worry about Corruption ? Paolo Mauro, 1997. IMF.
http://www.imf.org/external/pubs/ft/ issues6/ issue6.pdf
15 Shleifer, A., and Vishny, R. (1993). Corruption.
The Quarterly Journal of Economics, 599-617.
Laws and
Policies
Social
Development
Types of Corruption
The World Bank16 classifies corruption into:
Corruptio.
Influencers
Prevalent
Culture
Bureaucratic
Process
Political
Maturity
Economic
System
World Bank
classification of corruption
Political &
bureaucratic
corruption
Grand and petty
corruption
Corruption in the
private sector
Isolated and
systemic corruption
15

(a) Political and bureaucratic corruption: Political
corruption involves abuse of election laws, conduct
of elections and campaign finances. Bureaucratic
corruption is intrinsic to the way power and
discretion are exercised and could involve conflicts
of interest. Corruption within government can take
place at both the political and the bureaucratic levels,
independently or in collusion with each other.
(b) Grand and petty corruption: ‘Grand’ (i.e.
occurring at the highest level of government or
political establishment) or ‘Petty’ (i.e. occurring at
administrative level for granting small favours).
Both forms can co-exist and one can actually
facilitate the other.
(c) Isolated and systemic corruption: Corruption is
systemic (pervasive or entrenched) where bribery
is routine in dealings between the public sector
and firms or individuals. Corruption is rare when it
consists of a few individual/sporadic acts.
(d) Corruption in the private sector: Private
organizations can be a key source of providing
bribes through unaccounted money generated by
fraud. Where corruption is systemic in the public
sector or ‘grand’ corruption, firms and individuals
that do business with government agencies can
seldom escape participating in bribery.
Impact of Corruption
The corruption impacts society and the whole economy
in several ways, as pointed below:
Nathaniel Leff (1964) and Huntington (1968) have argued
for “development through corruption.” The arguments
given by these economists are:
(a) “Speed money” or bribes help circumvent
bureaucratic red tape and speed up economic
activity; and
(b) It makes the government employees who receive
bribes more efficient especially if the bribes act as a
piece rate incentive.17
Leff’s conclusion was based on the instance of freezing
of food prices in Chile and Brazil in the 1950s. In
Brazil, the regulation was circumvented by a corrupt
bureaucracy, leading to increase in food production. In
Chile, they were strictly enforced leading to lower food
production. However, many economic research conducted
subsequently on these perspectives does not have
conclusive evidence in support of these points of view.
Also, while widespread corruption may coexist with strong
economic performance, however, studies suggest that
corruption is bad for development. In their study, Tanzi and
Davoodi (1997)18 have concluded that corruption distorts
the entire decision-making process connected with public
investment projects. The evidence presented shows that
higher corruption is associated with:
• higher public investment;
• lower government revenues;
• lower actual expenditure on operations and
maintenance; and
• lower quality of public infrastructure.
Evidence also shows that corruption increases public
investment while reducing its productivity as well
17 Corruption and Growth by Paolo Mauro, 1995.
http://www.jstor.org/discover/10.2307/2946696?uid=3738256&
uid=2129&uid=2&uid=70&uid=4&sid=21101255409687
18 Corruption, Investment and Growth, by Vito Tanzi & Hamid R. Davoodi.
http:// www.imf.org /external / pubs/ cat/longres.cfm? sk=2353.0
Impact of Corruption
Lower Economic Development
•
Lower Government Revenues
•
Lower Quality Public Infrastructure
•
Income Inequality
•
Poverty
•
Inefficient Government Regulation
•
Reduced Efficiency
16

as reducing optimal capacity utilization of existing
investments. Lambsdroff (2003)19 has proven that
there is a significant negative impact of corruption on
a country’s capital productivity. Most of the bribes and
un-accounted money are utilized for private gains outside
the formal economic system, thereby wasting precious
resources and entrepreneurial talent that would have been
otherwise allocated for the common good.20 Paulo Mauro
(1995) concludes that corruption lowers investment and
economic growth. One standard deviation improvement in
corruption indices causes investment to rise by 5 per cent
of GDP and the annual per capita GDP growth rate to rise
by half a percentage point.21
In their study on corruption, income inequality and
poverty, researchers Gupta, Davoodi and Alonso-Terme
(1998)22 have found that an increase of 0.78% in the rate
of corruption will result in reducing the rate of income
growth of the poor by 7.8%! In the same study they have
also found that worsening of the corruption index by one
standard deviation point will reduce the average secondary
schooling of the poor by 2.3 years.
Corruption also leads governments to intervene where
they don’t need to because there may be a perverse
agenda to extract rents by doing so i.e. permits and
quotas, acquisition of private land for industry, etc. It is
easily observable in many countries, including India that
corruption tends to flourish when institutions are weak
and government policies generate economic rents. In fact,
Toke Aidt (2009) argues that corruption and inefficient
regulation go hand in hand.23 Artificial scarcity is first
created through inefficient regulation to make room for
19 How Corruption affects productivity by Lambsdroff J. G.
http://onlinelibrary.wiley.com/doi/10.1046/j.0023-5962.2003.00233.x/
abstract
20 Who pays for corruption? by Kaushik Dutta, Sameer Kapoor &
Sumati Rajput. Article published in The Pioneer on September 14,
2012. http://www.dailypioneer.com/business/94564-who-pays-for-corruption.
html
21 Corruption and Growth by Paolo Mauro, 1995. http://www.jstor.org/
discover/10.2307/2946696?uid=3738256&uid=2129&uid=2&uid=70&
uid=4&sid=21101255409687
22 Does Corruption effect Income Inequality & Poverty by Gupta, Davoodi
and Alonso-Terme (1998). http://papers.ssrn.com/sol3/papers.
cfm?abstract_id=882360
23 Aidt, Toke S. (2009), Corruption, Institutions and Economic
Development, Cambridge, University of Cambridge, working papers in
economics 09-18.
rent-seeking behaviour. Corruption is thus not independent
but the product of the steps apparently taken to control it.
Further, due to limited resources and administrative
bandwidth it undermines their ability to enact and
implement policies in areas in which government
intervention is clearly needed, i.e. education, health care,
food security, etc. Therefore, apart from the economic
cost, there is a social cost of corruption in the form of
lower ‘actual’ investment in social and human capital.
Kauffman and Wie (1999)24 have found that firms that pay
bribes spend more time dealing with government officials.
Bribes take a huge amount of time to be negotiated
increasing inefficiency and cost. More studies, therefore,
actually show that corruption decreases inefficiency unlike,
what Leff and others like him have argued.
In a recent estimate by the World Economic Forum, the
cost of corruption equals more than 5% of the global
GDP or US$ 2.6 trillion.25 This is a huge amount and could
have made a significant impact on the human condition if
available for productive use.
While studies have shown that corruption reduces
efficiency and increases inequality, quantifying the impact
of corruption remains a challenge due to its very nature.
In a holistic assessment of the impact of corruption in the
context of a developing country, Kofi Annan in a UNCAC
document observes that:
“corruption hurts the poor disproportionately by
diverting funds intended for development, undermining
a Government’s ability to provide basic services, feeding
inequality and injustice and discouraging foreign aid and
investment. Corruption is a key element in economic
underperformance and a major obstacle to poverty
alleviation and development.”26
24 Kaufmann, Daniel and Shang-Jin Wei (1999), Does “Grease Money”
Speed Up the Wheels of Commerce?, Cambridge MA, NBER working
paper 7093.
25 http://reports.weforum.org/global-agenda-council-2012/councils
/anti-corruption/
26 The United Nations Convention against Corruption (UNCAC)
December 2005.
17

Corru pti on : Definiti on, Causes and Effect s
• Abuse of office/ position for private gain, encompassing diversion of
legitimate funds.
• Business both cause and victim of corruption.
• Jeopardises interest of society, poor and vulnerable people leading to
human rights violations.
• Undermines democracy, rule of law by promoting crime and terrorism.
• Various forms of corruption are : political and bureaucratic; grand and
petty; isolated and systemic; and private sector corruption.
• Results due to opacity in rules, officers’ discretionary powers, low
deterrence in the form of punishments and consequences, low level of
awareness or information asymmetry among general public.
• High Taxation, too many regulations & authorisations, subsidies and
other spending decisions of the Government, Election funding, natural
resource endowments also result in corruption.
• Corruption thrives in condition of low bureaucracy quality, public sector
wages, institutional controls, transparency in rules, laws and processes
and leadership examples.
• Corruption results in the lower economic development, Government
revenue, public infrastructure inequality, income inequality, poverty,
inefficient government regulation, reduced efficiency.
18

“Organizations lose 5% of their revenues to fraud each year with potential
global fraud loss projected at more than $3.5 trillion!”27
Association of Certified Fraud Examiners,
An Introduction to FRAUD
Understanding Fraud:
A Sub-set of Corruption
Fraud is a “deception or misrepresentation that
an individual or entity makes knowing that the
misrepresentation could result in some unauthorized
benefit to the individual or to the entity or some other
part” as per definition of the Association of Certified Fraud
Examiners (ACFE).
In the real world it is very difficult to separate corruption and
corporate fraud. They are intricately linked, as a corrupt
environment makes it easier to perpetrate frauds; equally,
frauds help generate illicit funds which can be used to win
favours by paying bribes or for other quid-pro-quos.
In order to understand corporate fraud, it is important
to better conceptualize various models that have been
proposed on the subject. These models, based on research
over a long period of time, can clarify various dimensions
and facets of corporate fraud that need to be examined.
It is however, important to note that ‘corporate fraud’ is a
dynamic concept and there cannot be one over-arching
model for fraud and conceptual models keep evolving.
Most literature on fraud uses a conceptual model called
the fraud triangle, first suggested by Donald Cressey in
1950.28 It hypothesises three conditions for fraud and says
that generally all the three conditions should be present for
a fraud to occur.
Rationalization
Pressure
The conditions given by Cressey are as follows:
(a) First, individuals committing the fraud possess an
attitude that enables them to rationalize the fraud’;
27 http://www.acfe.com/rttn-highlights.aspx
28 Cressey, D. R. (1950). “The criminal violation of financial trust”.
American Sociological Review, 15 (6), pp.738-743, December,
pp.1-15. Avilable at : www.JSTOR.org
2012 Report to the Nations.
(b) Second, there is an incentive or pressure that
provides a reason to commit fraud (e.g. pressure
to achieve earnings guidance and linkage of the
same to top management compensation);
(c) Third, there is an opportunity for fraud to be
perpetrated (e.g. absence of controls,
ineffective controls, or the ability of management
to override controls).
In 2004, Wolfe and Hermanson, introduced the
“Fraud Diamond Model”29 where they presented
another side that extends the fraud triangle which
is “the fraudster’s capabilities”.
They believed many frauds would not have occurred
without the right person with the right capabilities
implementing the details of the fraud. They also
suggested four observable traits for committing fraud:
(a) Authoritative position or function within
the organization;
(b) Capacity to understand and exploit accounting
systems and internal control weaknesses;
(c) Confidence that he/she will not be detected or
if caught he/she will get out of it easily; and
(d) Capability to deal with the stress created within an
otherwise good person when he commits bad acts.
Another model called “MICE”30 was propounded by
Kranacher, et al. in 2010. In this model researchers
suggested that incentive or pressure, which is one of the
sides in the fraud triangle, may be more appropriately
expanded and identified with the acronym MICE
that stands for money, ideology, coercion, and ego
representing the various motivations of fraud perpetrators.
All the above models may be regarded as an extension
to Cressey’s fraud triangle and can be integrated into one
model that includes motivation, opportunity, integrity, and
fraudsters’ capabilities as its four dimensions.31
29 Wolfe, D. T. and Hermanson, D. R. (2004). “The fraud diamond:
Considering the four elements of fraud”. The CPA Journal,
December, pp.1-5
30 Kranacher, M.-J., R. Riley, and J. T. Wells. 2011. Forensic accounting
and fraud examination. Hoboken, N.J.: John Wiley.
31 Kassem, R. and Higson, A. 2012. The new fraud triangle model.
Opportunity
The Fraud Triangle
19

International Perspectives on Fraud
The Global Fraud Report32 2012/13 by Kroll, which is
based on a survey of 839 senior executives worldwide,
notes that “India, despite some improvements, remains a
challenging fraud environment. Outside Africa it possesses
the highest number of companies affected by fraud in
any region or country (68%) and its average loss to fraud
(1.2% of revenue) is significantly higher than the global
average (0.9%).”
The Global Fraud Report (2012/13),33 further notes that
while the number of firms affected by corruption in India
dropped to 31% in a 2012/13 survey as compared to
a 2011/12 survey, the percentage is still higher than the
global average of 11%. It also mentions that corruption
remains a leading concern for Indian companies with as
many as 50% reporting themselves to be moderately or
highly vulnerable to it.
It also states that some types of fraud were more
widespread in India as compared to the global average.
In particular, it mentions internal financial fraud (22% as
compared to 12% globally) and vendor or procurement
fraud (20% as compared to 12%) more prominent in the
country than its global counterparts.
The Association of Certified Fraud Examiners’ (ACFE),
“Report to the Nations on Occupational Fraud and
Abuse 2012”34, compiled from a study of 1,388 cases of
fraud that occurred in 94 nations (including 34 cases from
India) between January 2010 and December 2011 based
on the information provided by investigating Certified
Fraud Examiners.
32 Global Fraud Report 2012/13 by Kroll Advisory Solutions. Page 40
34 http://www.acfe.com/uploadedFiles/ACFE_Website/Content/
rttn/2012-report-to-nations.pdf
Some of the main findings of the report are:
• Asset misappropriation accounted for 88.7%
of reported incidents.
• Corruption, which includes conflicts of interest,
bribery and extortion, accounts 27.4 % incidents.
• Manipulation of financial statements accounted
for 10.3% of reported incidents.
• Frauds took an average of 18 months before being
detected and are more likely to be detected by a tip-off
(usually by employees) than by any other method.
• Fraud is a significant threat to small businesses which
suffered the largest median losses because of the few
anti-fraud controls than their larger counterparts.
• 50% of the organizations are not able to recover the
losses that they suffer due to fraud.
• In 81% of the cases, the fraudster displayed one or
more behavioural red flags that are often associated
with fraudulent conduct.
• Living beyond means (36% of cases), financial
difficulties (27%), unusually close association with
vendors or customers (19%) and excessive control
issues (18%) were the most commonly observed
behavioural warning signs.
• The most common industries impacted are government
and public administration, banking and financial services
and manufacturing sectors.
20

Public Procurement and Fraud
The procurement function is especially prone to corruption
and kickbacks. In the procurement function, employees
are expected to select vendors, raise purchase orders,
maintain vendor files and approve final invoices. Having
such responsibility and authority provides an opportunity
to commit frauds such as favouring vendors where they
have a direct or indirect financial interest, bid rigging, false
billing, kickbacks (bribes) from vendors, etc.
The Global Fraud Report35 2012/13 states that while the
incidence of procurement related fraud fell globally from
20% to 12%, in India the incidence changed marginally
from 22% to 20%, showing that India was not really
making significant progress in this area.
In their India fraud Survey 2010,36 KPMG finds that
most respondents identified the procurement process
to be more vulnerable to fraud risk. Notably 57% of the
respondents from real estate and government industry
segments put procurement at high risk, well ahead of
other function like finance and payments as well as
treasury which have been traditionally considered to be
highly vulnerable to fraud risk.
A thought paper by international consulting firm Deloitte,
titled ‘Procurement Fraud & Corruption: A multifaceted
challenge’37 brings out why the whole procurement cycle
is very susceptible to fraud. At the pre-procurement stage
itself there could be collusion between the buyer and the
vendor, conflicts of interest, poorly written specifications
or vague/customised specifications to favour a particular
vendor, etc. At the procurement assessment & negotiation
stage there could be bid rigging schemes, defective
pricing schemes and bid submission schemes which
favour a particular vendor. Further, at the contract
performance stage there could be product substitution,
false invoices, phantom vendors, mischarges and missing
inventory or lack of proper supporting documents, etc.
Finally at the contract closeout stage there could be
36 http://www.kpmg.com/IN/en/IssuesAndInsights/ArticlesPublications/
Documents/KPMG_Fraud_Survey_2010.pdf
37 http://www.deloitte.com/assets/Dcom-India/Local%20Assets/
Documents/Thoughtware/Procurement%20Fraud%20Corruption
%20Brochure.pdf
missing contracts and document destruction. The paper
also provides the possible ‘red-flags’ that may indicate
procurement fraud and ways to prevent, detect and
investigate such a fraud.
In their ‘Green Paper on Procurement in India’, the
Global Compact Network (GCN), India has raised
several issues related to public procurement, which
are mentioned below:
• Procurement officials express confusion created by
the existence of multiple procurement guidelines and
procedures issued by multiple agencies;
• Lack of standardization and proper documentation
causes inefficiency and is a major hurdle in ensuring
transparency, probity and accountability in procurement;
• Public procurement is governed by administrative rules
and procedures which only attract departmental action
in case of violation;
• Absence of penal consequences for misrepresentation,
cheating or fraud in public procurement, except
under normal penal code for dealing with complex
procurement matters.
A serious problem confronted by public procurement
is the malpractice of cartel formation accompanied by
collusive bidding and bid rigging. An anomaly observed
is that there is an attempt to apply the procurement
procedures and guidelines in letter without an appreciation
of the spirit behind these stipulations. Further, lack of
specialized knowledge and skills of personnel operating
the procurement system does not make the system much
efficient. Due to these anomalies, a consensus is emerging
in favour of enacting a public procurement law in India with
the objective of maximizing economy and efficiency and
promoting competition among suppliers and contractors.
The National Academy of Defence Financial Management
has also created a draft discussion paper titled ‘Public
Procurement: problems and prospects’,38 which observe
that: “procurements by Governments have always been
controversial with allegations of favouritism, inefficiency,
quantitative and qualitative compromises and above all,
corruption and kickbacks.”
38 http://nadfm.nic.in/learning/Research%20Cell/Public%20
Procurement%20-%20problems%20and%20prospects.pdf
21

Impact of Fraud on the
Valuation of a Company
In a recent study by Dyck, Alexander, Morse, Adair and
Zingales, How Pervasive is a Corporate Fraud? (February
22, 2013) attempted to estimate as to what percentage of
firms in the USA engage in fraud and the economic cost of
such fraud.
The researchers find that the probability of a company
engaging in a fraud in any given year is 14.5% based on
the data of detected frauds, and frauds that are started
but are not caught. They validate it using alternative
methods. They find that “on average corporate fraud
costs investors 22 per cent of enterprise value of fraud
committing firms and 3 percent of enterprise value across
all firms.”
The authors arrived at this loss in corporations’ value
through extrapolations “from the pre-fraud period,
assuming the trajectory would have followed that of
other firms in the same industry.” They find a median
loss of 20.4 percent in fraud companies valuations, by
benchmarking them against their valuation before the start
of fraud.
In a similar study on an approach to measure the cost of
fraud by Karpoff, Lee and Martin (2008) that is well suited
to situations with financial frauds, estimates that the social
costs of fraud of 21.8% of enterprise value.
The key take away from these studies is that the risk of
fraud is pervasive across all enterprises and countries
irrespective of their sizes and the economic and social
costs are not localised to the entity committing fraud but is
also borne by the entire population of firms in that sector
or geography as the investors put a higher risk premium
across all enterprises.
There are no specific studies done in India for determining
the pervasiveness of misreporting of financial statements
and the effect on the valuation of the enterprise on the
discovery of such fraud. However, if such a study was
done in India, one might think that the results would not
be very dissimilar in relation to the pervasiveness of fraud
and financial misstatements.
For the purpose of this report, we are restricting our
research and study to corruption and fraud in the private
sector in a focussed manner. Fraud and corruption often
happen in unison. It is therefore important to understand
them and to explore bribery/corrupt transactions from the
perspective of the giver.
22

23
Fraud : Definiti on, Per spective and Impact
• Fraud is a wilful act of deception or misrepresentation resulting in
an unauthorized benefit to the perpetrator or others.
• Fraud is intricately linked with corrupt environment.
• Vital conditions for occurrence of fraud are pressure, rationalization,
opportunity, capabilities and integrity of perpetrators.
• Internal financial fraud and vendor or procurement fraud are more
prominent in India.
• Major reasons for fraud in public procurement – favouritism of a
particular vendor with direct or indirect financial interest, bid rigging,
false billing, and kickbacks from vendor.
• The social cost of fraud is 21.8% of enterprise value.

Corruption and Fraud
in Corporate India
Corruption in Corporate India -
A Perspective from Independence
to Modern Times
A business cannot operate in a vacuum and depends on
the eco-system created by the interplay of government
and society for its inception and growth.
Historically, the operating structure of most Indian
business was based on the family set-up and values.
The capital was provided by the family, it was run by family
members taking up important functions in the business
and the economic returns were also shared with the
family. Under the British rule, the concept of a company
did come into play but while corporations were formed
in the form, the essence of the enterprise remained the
family. R. K. Hazari, a noted historian, has estimated that
most prominent industrial firms on the contours of Indian
business during the 1950s were in the hands of just
eighteen Indian families and two British houses.39
Dr. William Gould mentioned in his article that at the time
of independence in India:
The system of food and civil supply
was subject to commodity controls
and rationing – a legacy of the
war years which had generated
complex systems of patronage.
These involved deeply entrenched
black markets in lucrative industrial
and agricultural concerns. This
was the background to what was
later known as ‘Permit-Licence-
Quota Raj’ – the linking of business
interests with political brokers.”40
39 ‘India Means Business’: How the Elephant Earned its Stripes, Kshama V
Kaushik, and Kaushik Dutta, Oxford, 2012, page 54.
40 A brief history of corruption in India by Dr. William Gould. http://www.
theindiasite.com/a-brief-history-of-corruption-in-india/
Indian businesses, traditionally family-owned, needed
licenses from the Government to run their businesses.
The success of such businesses depended to a great
extent on their ability to receive a license or a right to
receive rent from an allocation of assets or right from
the government. There is a deep-rooted nexus between
bureaucracy/politics and business in India. It is getting
deeper as politics has now become dynastical; the
need to stay in power is not restricted to a generation
but moves to the future ones, which fuels the constant
need for money to sustain the power equation including
fighting elections.
The government encouraged a mixed economy, i.e.
both private sector and state controlled public sector
to invest in the economy, to boost economic growth.
However Indian policy makers were also hugely influenced
by socialist paradigm and the use of the public sector
for greater social good. So over a period of time, the
state decided to curb the growth and economic wealth
concentrated with the private sector.
In independent India corruption has been rampant, though
a number of laws have been legislated to curb corruption
and fraud. One of the reasons for high levels of institutional
corruption in India is due to the deep entrenchment
of businesses and now politicians, who are becoming
dynastical, in their restrictive domains. However, there is
now a growing trend of fungibility between business and
politics where there is a thin dividing line and people move
over from one to the other with consummate ease.
For four decades starting from 1950, the growth of
business groups was regulated by a few principal
legislative instruments which were restrictive in
nature. Some of these acts, which stand withdrawn
or superseded today but were the tools of control for
government, include the Industrial Development and
Regulation Act, 1951 (the primary law on licensing which
restricted the number of manufacturers for a specific
product), the Monopolies and Restrictive Trade Practices
Act (MRTP), 1969 (a law restricting market growth and
market size share), and the Capital Issues (Control) Act,
1947 (a law on how an equity should be priced based
on net assets or past profits as against market driven
valuations on future prospects).
“
24

There were sections in the Companies Act, the law that
governs corporate India, which contained restrictions on
growth by limiting inter-corporate deposits, inter-company
investments, directorships, etc. These pieces of draconian
legislations in effect created what was known as the
‘license-permit raj’, allowing near-absolute government
control over private enterprise activity in the country.41 All
these developments provided huge opportunities for these
businesses that were quick to grasp them by means both
fair and unfair.
Such laws which were meant to regulate private enterprise
became so overbearing that entrepreneurship became an
exercise in survival. To survive and in fact to grow, private
business often resorted to corrupt practices including
bribery to ensure that they got the license, permits and
quotas while their competitors were denied the same.
Thus regulations which were put in place with intent to
curb malpractices only enhanced them in reality and made
it an established way of doing business.
The other element of concern is that a number of people
with a criminal past representing national parties join
politics and win elections. This sends out a message to
people that there are no legal consequences for criminal
activities, thereby severely compromising the rule of law.
This disregard for laws permeates to other parts of society
and puts it at risk.
The advent of the 1970s saw even tougher regulations
being introduced. In 1970, the marginal rate of income
tax in India, including surcharge was a whopping 93.5
per cent and additionally there was a tax of 8 per cent on
one’s wealth. These high tax rates till the reforms in the
1990s gave very little incentive for business to expand
and create wealth.
Corruption and evasion of taxes was rampant and ‘black
money’, money on which tax was evaded was nearly as
big as the real economy.42
41 ‘India Means Business’: How the Elephant Earned its Stripes,
Kshama V Kaushik, and Kaushik Dutta, Oxford, 2012, page 56.
42 ‘India Means Business’: How the Elephant Earned its Stripes, Kshama
V Kaushik, and Kaushik Dutta, Oxford, 2012, page 57.
The high tax rates coupled with high level of controls
ensured flight of private capital from the country and some
business families decided to set up business ventures
outside India to escape the iron hand of the government
in India. While, rumours of vast amounts of money being
deposited in tax havens by rich Indians has never been
conclusively proven, high income tax and wealth tax rates
have definitely been responsible for giving a fillip to the
‘black economy’.
The Foreign Exchange Regulation Act (FERA) of 1974
made it mandatory for foreign companies with a stake
over a certain threshold to seek government permission
or sell the excess shareholding through public listing. In
the absence of current account convertibility, every small
foreign exchange transaction needed the approval of
Reserve Bank of India (RBI). Due to changes in laws in
1977, about sixty companies including Coke and IBM,
left India rather than share their proprietary technology
with others.43
Till the 1990s, raising finances to run large businesses
was a key challenge for the private sector, particularly after
nationalisation of banks in the 1970s had ensured that
business houses did not have an internal bank to fund
group activities. Additionally, Indian promoters in this era
preferred using public money either from government-owned
banks or financial institutions like IFCI (Industrial
Finance Corporation of India), IDBI (Industrial Development
Bank of India), LIC (Life Insurance Corporation), and ICICI
(Industrial Credit and Investment Corporation of India),
several state financial institutions, besides UTI (Unit Trust
of India), or less frequently from the public, to run the
enterprise they controlled. These institutions were the
providers of long-term credit in exchange for seats on the
boards of the borrowing companies, in effect investing
taxpayers’ money in the private sector with apparent
government oversight.44
Economic liberalization which started in 1991 due to the
dire financial condition of government finances turned
out to be a blessing in disguise for the common citizens
and corporate India. It would not be wrong to say that
25

the dismantling of some of the draconian laws and the
resulting control was akin to the ‘economic freedom’ for
the citizens of India almost similar to the ‘political freedom’
achieved in 1947. This has also led to the creation of a
large and assertive educated middle class, which was
marginal and submissive pre-1990s.
The growth of large business groups in the 1990s and
beyond was in part due to the easing of controls over
sector-related policies, a more benign tax and duty regime,
and de-reservation of sectors to permit private sector
participation (such as petroleum refining or oil exploration,
telecommunication and defence).45
45 ‘India Means Business’: How the Elephant Earned its Stripes,
Corruption and Fraud in India
• Corruption rampant in India due to deep-rooted nexus between
bureaucracy/ politics and business in India, a dynastical form of
political parties fuelling the need for money to sustain the power
equation including fighting elections.
• Promulgation of certain Acts, such as Industrial Development and
Regulation Act and MRTP Act prompted private business to resort to
corrupt practices including bribery to ensure that they got the license,
permits and quotas while their competitors were denied the same.
• The high tax rates coupled with high level of controls resulted in flight of
private capital from the country and encouraged parallel or black economy.
• Raising finance to run large businesses was a key challenge for the
private sector, particularly after nationalization of banks in the 1970s.
• Economic liberalization in 1991 endowed opportunity for private
sector growth.
26

27
Methodology, Rigour
and Limitations
This section discusses our research methodology and
data analyses for analysis of fraud by management in
private sector companies in India.
The risk of fraud is an inherent risk in all financial
statements issued by companies all over the world. India
is no exception and in recent years there have been some
fairly large frauds that have jolted the Indian corporate
sector, government and society as a whole.
In this section we conduct an in depth analysis of the
major corporate frauds that happened over the last 15
years so as to understand the underlying factors, modus
operandi and outcomes of these frauds.
Financial Statement Fraud: Background
The three main government agencies involved in the
investigation and prosecution of companies involved in
large scale corporate accounting frauds are the Serious
Fraud Investigation Office (SFIO), the Central Bureau of
Investigation (CBI) and the Income Tax (IT) department.
We have considered data from all the cases investigated
by the SFIO and some of the cases investigated by the
CBI and the Income Tax department based on what is
available in the public domain. In short, our sample for
the purpose of this report, covers cases that have been
investigated by one or more of these three agencies.
The Serious Fraud Investigation Office (SFIO)46 was
set up by the Government of India under the Ministry of
Corporate Affairs (MCA) in 2003 and is a multi-disciplinary
investigating agency, wherein experts in the banking
sector, capital markets, company law, other laws, forensic
audit, taxation, information technology etc. work together
to analyze and investigate a corporate fraud.
Kshama V Kaushik, and Kaushik Dutta, Oxford, 2012, page 61.
46 Annual Report 2011-12, Government of India, Ministry of Corporate
Affairs. Page 16
The SFIO is the primary agency for investigating
corporate frauds and takes up investigation of frauds
characterized by:
(a) Complexity, and having interdepartmental and
multi-disciplinary ramifications;
(b) Substantial involvement of public interest in terms
of monetary misappropriation (Rs.50 crores or more,
or where the paid up capital of the company is
Rs.5 cores or more of which at least 20% has
been subscribed by the public);
(c) Substantial involvement of public interest in terms
of persons affected (at least 5000 persons);
(d) The possibility of investigations leading to, or
contributing towards a clear improvement in
systems, laws or procedures.
The annual report of the MCA, for 2011-12 has this to
state about investigation of corporate frauds “Government
of India, through its multi-disciplinary investigating agency,
namely, the Serious Fraud Investigation Office (SFIO),
carries out an investigation under the provisions of the
Companies Act, 1956. During 2011-12 (upto 31.12.2011)
seven fresh cases have been ordered for investigation.
So far, a total of 89 cases have been referred to SFIO
for investigation. Out of these, SFIO has submitted
investigation reports in 73 cases, four cases have been
either stayed or dismissed by Courts and the remaining
12 cases are under investigation.”47
The Central Bureau of Investigation (CBI)48 is part of the
Department of Personnel, Ministry of Personnel, Pension
& Public Grievances, Government of India. It is the premier
investigating police agency in India which also coordinates
investigations on behalf of Interpol Member countries.
The services of its investigating officers are sought for all
major investigations in the country. It is also involved in
collection of criminal intelligence pertaining to three of its
main areas of operation, viz., anti-corruption, economic
crimes and special crimes. Special crimes include crimes
involving terrorism, bomb blasts, high profile homicides,
kidnappings and the underworld. Thus it handles a large
number of very complex cases.
47 Annual Report 2011-12, Government of India,
Ministry of Corporate Affairs. Page 5
48 http://cbi.nic.in/aboutus/cbiroles.php

The Income Tax department49 has been formed
under the Department of Revenue, Ministry of Finance,
Government of India, for the purposes of administration
of direct tax laws. It works under the supervision and
control of Central Board of Direct taxes (CBDT). The CBDT
provides essential inputs for policy and planning of direct
taxes in India and is responsible for administration. The
investigation wing of the Income Tax Department deals
with investigations to detect tax evasion and carries out
operations like surveys & searches to collect evidence
of such evasion and seizure operations to unearth black
money. Such operations are usually carried out after
detailed preliminary investigations.
Besides these three agencies there is also the Directorate
General of Economic Enforcement or the Enforcement
Directorate (ED),50 which is also an agency responsible
for economic intelligence and law enforcement. It is part
of the Department of Revenue, Ministry of Finance. It
covers cases related to money laundering and related
economic crimes. It was established in 1956 and has
been functioning in its current form since June, 2000
to investigate provisions of the Foreign Exchange
Management Act, 1999 (FEMA). However, we are not
analyzing such cases as they may not have a corporate
accounting fraud angle and the ones that do have
corporate fraud are subsequently investigated by either
the CBI or the SFIO or both and so would automatically be
covered under those agencies.
Further, under the Constitution of India, the police and
public order are stated (provincial) subjects. Every State/
Union Territory has its own police force, which performs
not only normal policing duties but also has specialized
units to combat economic offenses. The Economic
Offences Wing (EOW) of the Police functioning under the
administrative control of states (provinces) is entrusted
with the responsibility of investigation of serious economic
offences and offences with inter-state ramifications. It is
also mandated to interact, assist, and guide the district
police on matters related to financial crimes and preventive
and detection measures.51 Cases investigated by state
49 http://www.incometaxindia.gov.in/
50 Black Money. White Paper 2012. Ministry of Finance.
Department of Revenue. CBDT, New Delhi
51 Black Money. White Paper 2012. Ministry of Finance.
Department of Revenue. CBDT, New Delhi
police agencies are usually small in magnitude and not
complex, hence we have not considered this data for this
report as the large number of small cases tend to skew
the data and do not allow for a meaningful analysis.
Our Methodology
The final sample of over 100 companies included in this
study covers a period of 15 years from April 1997 to
March 2012. In the event that an investigation has been
conducted by multiple agencies, we considered all the
available information from each such agency.
Information has been obtained from charge sheets, court
orders, filings with stock exchanges, specific databases
supplemented by web searches, searches of newspapers
and journals, Lok Sabha questions and answers etc.
Both qualitative information and quantitative data have
been considered at the data collection stage to obtain a
holistic understanding of the underlying information. The
overall objective of the analysis was to gain an insight
into the nature of fraud, type of companies involved, the
trends in corporate fraud, the underlying characteristics
and techniques used, factors motivating the fraudsters
etc. and to present the data and our interpretations in a
meaningful manner.
We have restricted our study to fraud perpetrated
by management of companies and not those, where
a company was a victim of fraud by employees,
vendors or any other person.
28

Limitations
The data for this study has been collected through various
sources of secondary data. However, despite our best
efforts, some cases may not have been considered due
to inadequate information available in the public domain.
The results of the study should therefore, be seen to be
indicative and suggestive rather than being definitive.
We have not considered any variable in this study unless
at least 85% of the data relevant for the population was
available to analyze the variable. Where an exception has
made to this rule, we have specifically mentioned it while
analyzing that variable.
We limit our analysis to cases of fraud in private
sector companies which have been perpetrated only
by promoters and management commonly referred to
as ‘management fraud’.
The sample does not cover employee fraud, which
also exists in the corporate sector.
29

Results of our Data Analysis
Type of Ownership and Co-relation with
Higher Risk of Fraud
We explored the nature of the shareholding of a company,
in the endeavour to ascertain some relationship between
the nature of ownership and propensity to de-fraud. In
our study, public limited companies constituted 56% of
the sample, and the rest were private limited companies.
Hence, the prevalence of fraud appears to be evenly
distributed among public and private limited companies.
Further, 44% of the companies in the sample study,
where fraud was detected were listed on Indian stock
exchanges. In nearly two-third of these listed companies,
promoters had a shareholding of over 50%.
Concentrated promoter shareholding may also lead to
higher earnings management52 and has been statistically
proven on Indian companies using Bernford’s Law.53 The
dividing line between intentional earnings management
and fraud is often very thin.
52 Earnings Management’ has been defined as purposeful intervention
in the external financial reporting process, with the intent of obtaining
some private gain, Schipper, K., 1989. “Commentary on Earnings
Management”, Accounting Horizons, Vol. 3, pp.91–102
53 Exploring the Relation between Earnings Management and
Corporate Governance Characteristics in the Indian Context,
Corporate Governance in India: From Policies to Reality.
A study by Thought Arbitrage Research Institute and Grant
Thornton titled “Taking Stock: Playing in the Indian Capital
Markets”(2012)54 shows that in case of listed companies
with majority promoter shareholding, when the promoters
of such companies pledge their shares for loans, the
companies show higher share price volatility than the peer
group and the rest of the market.
Fraud by owners and managers in India is independent
of whether a company is privately held or publicly traded.
Since there is usually a high promoter holding in publicly
traded companies, their control over these companies is
substantial and at times near absolute. Hence, the type
of ownership has limited bearing on the risk of fraud by
management and promoters, as they exercise significant
control over both listed and private companies.
In India, a company whether privately owned
or publicly traded is equally susceptible to fraud
by management.
Size of a Company as an Indicator of
Susceptibility to Fraud
We attempt to ascertain a relationship between
relative sizes of companies based on their turnover
and incidence of fraud.
Almost (61%) of the companies involved in fraud have
small to medium scale of operations with revenue less
than Rs. 200 crores. In our sample, 21% of companies
had revenues of Rs. 200 crores to Rs 1,000 crores and
18% had more than Rs 1,000 crores.
60
50
40
30
20
10
0
Up to Rs
200 crores
Rs 200 to Rs
500 crores
Rs 500 to Rs
1000 crores
54 http://www.tari.co.in/index/reports/id/14
More than Rs
1000 crores
Distribution of companies on
the basis of revenue size
the basis of nature of company (%age)
56%
44%
Private Limited Compnaies
Public Limited Compnaies
61%
13% 8% 18%
30

Fraud is, therefore, present across various types of
companies with turnover whether small, medium or large.
The presence of a higher percentage of companies in the
below Rs 200 crores category in our sample may be on
account of the fact there are a larger number of smaller
companies amongst the total number corporates in India.
It would be interesting to note here that the average
revenue of the companies involved in fraud after 2009 was
Rs. 1,538 crores, significantly higher than those involved in
fraud before 2009.
Average Revenue Size for
15 years Rs 910 crores 7%
The involvement of bigger companies in fraud over the
last few years is a matter of concern as it exposes the
interests of a larger number of stakeholders to risks of
corporate failure.
Type of Industry and Incidence of Fraud
We evaluated whether any specific types of industries
(manufacturing/ services/ banking etc.) were more prone
to risks of management fraud.
The companies in the sample are fairly dispersed among
the various sectors of industry, leading us to conclude that
the incidence of management fraud is unrelated to the
type of industry. All industries seem to be at a similar risk
of management fraud though the services sector seems to
be at a greater risk than the manufacturing sector.
Since over 57 % of Indian GDP is contributed by the
services sector, one would expect to see in the future,
services sector to have a higher proportion of delinquent
companies than in the previous decades.
Hence any action to prevent, detect or deter fraud
cannot be limited to any particular industry.
the basis of industry (%age)
11%
11%
16%
21%
Manufacturing Information, Communication
Banking & Finance
& Telecom
Others
Retail sector Real Estate & Construction
Average Revenue size post 2009
Rs 1,538 crores
35%
Average
Revenue Size
before 2009 Rs
212 crores
31

Number of Frauds Over the Years
60% of the reported cases in our sample pertain to the
years 2009 and prior periods. However, 40% of the
sample belongs to the three year period from 2010 to
2012. The sudden increase in detection of cases over
the recent years may perhaps be on account of improved
regulatory oversight from the MCA, RBI, SEBI etc. and
increased oversight by other gatekeepers like auditors,
lenders and investors etc.
The number of frauds detected since 2008 has
increased significantly. This may be due to better
oversight by regulators and gatekeepers.
Size of Fraud Over the Years
2012
2011
2010
The size of frauds has been determined with regard to
the amount of money misappropriated, embezzled or
otherwise defrauded by management.
Amounts involved in the management’s misstatements
to stakeholders have also been taken into consideration.
These include misstatements in financial statements and
other public documents.
Information on the size of frauds was obtained from
charge-sheets filed by the investigating authorities, court
verdicts, government and other databases and information
available in the public domain.
Our review reveals that 83% of the frauds are to the tune
of amounts less than Rs. 200 crores, while 5% of them
relate to amounts greater than Rs. 1,000 crores.
Distribution of companies
on the basis of fraud size
6 5% %
More than
Rs 1000 crores
Rs 500 to Rs 1000 crores
Rs 200 to Rs 500 crores
Prior to 2009, the average size of frauds was about Rs.
282 crores. This has significantly increased since then due
to a number of high profile and large frauds detected in
the period 2009 to 2012. The average size of frauds since
2009 is Rs 502 crores, an increase of almost 80% from
the average of the past 15years.
Distribution of percentage
of fraud per year
1997
2001
2003
2004
2005
2006
2007
2008
2009
Average Fraud Size for 15 years
Rs 381 crores
Average Fraud Size post 2009
Rs 502 crores
Average Fraud Size before
2009 Rs 282 crores
40%
Up to Rs 200
crores
83%
5%
32

2012 15,440
2011
2010
2009
2008
2007
2006
2005
2004
2003
2001
As the size and number of companies involved in
frauds has increased since 2009, so has the average
size of frauds.
Management Motivation to Commit Fraud
We analyzed data to understand the key motives of
managers or promoters of companies to commit fraud.
The underlying objectives of the fraud were examined in
detail based on the pattern of fraud, charge-sheets and
court judgements. We found that the main motives were:
• Siphoning of funds by promoters/top
management (36%);
• Defrauding the lenders (17%)
• Defrauding the Government (13%)
• Defrauding investors (13%)
• Evading taxes (12%)
•
We found that a significant motivator for fraud by the
promoters and management was a personal enrichment at
the cost of all other stakeholders. However more research
is warranted to understand the behavioural aspects of
individuals committing such fraud.
The un-accounted money generated or the cash siphoned
out could also have been used for bribes or for other
investments of the family but currently we do not have
sufficient data to conclusively support this hypothesis.
Distribution of companies on the
basis of motivation for fraud
Techniques of Fraud
36% funds
Siphoning
17% lender
Defrauding
13% Defrauding
government
13% investors
Defrauding
12% taxes
Evading
5% customer
5% determined
The underlying fraud schemes in the sample were studied
to ascertain the modus operandi of the perpetrators.
In most cases multiple techniques were used to perpetrate
the fraud. However, for our analysis purpose, we examined
the most significant methods or procedures for committing
such fraud. Where data was not available we have done
this allocation based on our judgement and experience.
For example, there could be a revenue overstatement
along with accounting for fictitious assets in the financial
statements and false claims for expenses to cheat on
taxes. In addition, there could be money taken out through
related party accounts.
Total value of fraud (Rs crores) per year
1997
66,880
30,403
138,074
10,739
2,803
2.790
1,500
75,831
3,030
4,476
26,000
5% 5%
17%
36%
12%
13%
13% Defrauding
Not
33

This analysis identified the following top five
fraud techniques:
• Falsifying assets (32%)
• Related party transactions (23%)
• Inappropriate disclosures (13%)
• Recording fictitious revenue (9%)
• Overstatement of expenses (8%)
Falsifying assets refer to the technique of assigning values
to assets reflected in the books of accounts that are
significantly higher than their actual cost, so as to inflate
costs. They may be existing or non-existent assets. This is
a common technique used to inflate assets to give a false
assurance to lenders that the cover is adequate, since
lenders look at fixed asset coverage ratio while granting
loans. In a few cases, falsifying assets also included
understatement of asset values mainly for evading taxes.
In other cases funds may have been simply diverted to
the personal accounts of promoters and top managers.
Related party transactions comprise a web of transactions
created among various group entities with fraudulent
intentions. Recording of fictitious revenue is aimed at
inflated the revenue of an entity. This typically happens
in a listed company, where revenue is manipulated to
meet earnings forecasts. Some other companies record
fictitious revenues to meet the expectations of lenders
or investors.
Overstatement of expenses mainly includes inflation of
expenses either to reduce taxes or to siphon money
through payments made to designated accounts for
fictitious expenses or round tripped from suppliers.
Improper and misleading disclosures have also been made
by some companies in the annual financial statements or
other undertakings given to investors, banks & regulatory
agencies such as SEBI, stock exchanges, RBI, Income
Tax authorities etc. mostly to illegally receive capital/debt
or to evade taxes.
Distribution of companies on the
basis of fraud techniques
Understatement
of expenses
/ liabilities
Falsifying
assets
Related party
transctions
Other
Recording
ficticious
revenues
Lower revenue
recognition to
evade taxes
Inappropriate
disclosure
Overstatement
of expenses
3%
5%
9%
7%
8%
32%
13%
23%
Fraud techniques used in the last 15 years have not
undergone much change or sophistication with the
most preferred fraud technique being overvaluation of
assets. However we also observed that inappropriate
disclosures and disregard to prudent revenue
recognition norms has gained prominence in the
cases detected after 2009.
Size of the Audit Firm and Risk of Management Fraud
Our study explored the correlation between the size of
the audit firm and the occurrence of fraud to ascertain the
effectiveness of auditors as gatekeepers. We obtained the
names of audit firms from the audited financial statements
closest to the time of detection of the fraud, available in
the public domain. These audit firms were divided into
two categories: Big 4 audit firms or their associates viz.
Deloitte Haskins & Sells, Ernst & Young, KPMG and
PricewaterhouseCoopers; and all other medium and small
sized audit firms.
Audit firms used by companies in sample
Big 4 24% Small and Medium Size Firm 76%
34

Our data showed that 24% of the companies in the
sample were audited by Big 4 audit firms, and 76% of
small and medium sized firms.
However, it would be interesting to note that unlike in the
developed markets where large firms enjoy a significantly
higher market share in India the audit concentration is not
very high. An analysis of financial statements for the year
ended 31st March 2011 of the companies forming part of
the Bombay Stock Exchange 500 shows that companies
are being audited both by Big 4 auditing firms (60% of the
BSE 500) and non-Big 4 auditors (40% of BSE 500).55
It would also not be out of place to mention that as one
moves to smaller companies the share of big four auditing
firms goes down further as Big 4 firms tend to audit larger
and better known Indian companies.
We also looked at the relationship between the size
of audit firms and the size of the fraud. We found that
companies audited by the Big 4 audit firms accounted for
57% of the total fraud amount in the sample, suggesting
that a Big 4 audit firm contributed to a significant amount
of the fraud if not the number of fraud cases.
However, this study cannot find a co-relation between
the occurrence of fraud and the presence of big 4
audit firm in such firms performing attest functions.
Fraud Detection
Our analysis of fraud companies in the sample, along
investigation by agencies responsible for detection of
management fraud in India suggests that key reasons
are complaints by lenders/investors/customers which
lead to the detection of the fraud detected by Income
Tax authorities and detection and prosecution by other
regulatory agencies (i.e. RBI, CBI, RoC, SEBI etc.).
However, no significant cases have come to light where
the auditors have been able to detect such fraud in the
course of their audits.
55 Auditors: Judging by the Fairness of the Numbers, Corporate
Governance in India from polices to reality, By Kshama V Kaushik,
Kaushik Dutta, Rewa P Kamboj
Earnings Management: Is it Pervasive Enough
to be Fraudulent?
It may be important to mention that while our sample
of 100 cases did not show a large number frauds using
sophisticated techniques, which may be due to the fact that
more complex and sophisticated cases of corporate fraud
have not come to light in India. However, the use of such
techniques cannot be completely ruled out. As the Satyam
scam showed, technology can be misused to maintain
parallel books of accounts and perpetrate large scale fraud.
In a study on financial opacity for 33 countries conducted
in 2002 by Bhattacharya Daouk, and Welker,56 the
researchers considered factors like:
(a) Managerial motivation for lack of transparency
(i.e. loss avoidance, aggressiveness in earnings
and earnings smoothening);
(b) Quality of accounting standards; and
(c) Oversight and level of enforcement of
accounting standards.
The authors found that India ranked at number 5 (i.e.
the lowest transparency) along with countries like China,
Japan, Greece, Indonesia and South Korea. US was
ranked at no. 1 (i.e. highest transparency) while the UK
was ranked no. 2.57 This clearly indicates that the quality of
Indian financial statements needs significant improvement
to be considered best in class.
A recent study conducted together by Thought Arbitrage
Research Institute and IIM, Calcutta for Indian Institute
of Corporate Affairs of the Ministry of Corporate Affairs,
India58 shows that one can predict the presence of
earnings management using the statistical formula
called Benford’s law (1938). In the study, the observed
frequencies of the second digit were compared with the
predicted frequency as given by Benford’s law as each of
the ten digits are not equally likely to occur in the second
place. Most likely to occur are the zeroes and least likely
are the nines, with other numbers falling in between.
56 The World Price of Earnings Opacity by Bhattacharya, U,
Daouk, H and Welker, M (2002)
57 ibid
58 Corporate Governance in India. From Policies to Reality.
By IICA, TARI & IIMC. Pg 148-187
35

The variables tested showed a positive profit after tax
totalling for some 8026 firm over the years 2006-11.
The study concluded based on the results of 8026 firm
observations that there is the pervasive presence of
earnings management in India.
The study also related corporate governance
variables or proxy measures like presence of
audit committees, size of company, ownership,
auditors etc. to the practice of earnings mis-reporting
and concluded that there were no
definite co relation of the presence of such proxy
measures and the quality of reported earnings.
Indication of ‘earnings management’ can play a key role
in fraud prediction as it proves the presence of some
pressure / motivation for the owner-managers to indulge
in presenting incorrect numbers in financial statements.
Further, its presence over a period of time also indicates a
high level of tolerance or rationalization for ‘managing the
financial results’. Presence of earnings management can
be construed to be a potential indicator of presence of
financial statement fraud.
Effect of the Discovery of Fraud on Companies,
its Promoters and Management
We tracked the companies post their indictment to
understand how the fraud affected the company, its
promoters and the management. We analyzed the
impact on the companies’ scale and continuity,
valuations, closure etc.
Our data analysis shows that, in 43% of the cases
the business or the company ceased to exist. The
companies have either been liquidated, are currently in the
process of liquidation or their operations may have been
discontinued. There are also some companies in the same
category that are completely untraceable with no credible
information available about their existence or operations.
In other instances, 30% of the cases the companies are
continuing their business but at reduced levels. In some of
the listed companies, market valuations have significantly
fallen with little or no trading in their stock.
Further, in 5% of the cases there has been a change in
management or the company has been merged with
another entity. No determination can be made as to their
current state of operations.
The scales of operations and market valuations have
been marginally impacted due to the fraud in only 21%
of the cases.
Distribution of companies on the basis
of final outcome of fraud
5%
7%
24%
21%
43%
Company liquidated /
under liquidation /
business discontinued/
non traceable
Business continuing
with marginal impact
Business continuing
but the share price is
significantly below
face value
Business continuing at
reduced levels
Business continuing with
change in management/
merged
36

It would be appropriate to conclude that most of the
companies where a serious accounting fraud took place
have been severely impacted.
Thus frauds can have significant adverse
consequences on the organisation’s business
operations and its continuity. However, information
regarding the consequences for the promoters or
top managers of these companies who were the
perpetrators of the fraud is not sufficient. Hence
as part of our study we could not conclude on this
important aspect of the consequences.
Penalties and Criminal Prosecution: Are the Company
Management Deterred by the Consequences?
We examined the amount of penalties levied and the
criminal prosecution of people involved. Details of the
cases filed against promoters/top-management and the
final outcome of these cases is not available.
In a few cases where we could collect information
regarding the indictment of the perpetrators of the
fraud, we found delays in investigations because of the
involvement of multiple agencies. Once investigations were
completed, filing of charge sheets also took a long time. In
such cases the prosecution of most of the accused have
not been completed.
Due to the paucity of specific information in the public
domain regarding serious corporate frauds, the study
cannot comment authoritatively on the adequacy or
otherwise of the penalties/fines imposed and recovered,
the timelines within which the summons were issued
and the court decrees/convictions obtained against
the culprits.
The SFIO website mentions that they have 878 court
cases pending against 49 companies where fraud was
detected.59 Out of these, 82 cases are under the Indian
Penal Code (IPC) and 796 are under Company Law. They
also have 9 cases against fraudulent companies in the
Company Law Board60.
59 http://www.sfio.nic.in/websitenew/in%20SFIO.pdf
60 http://www.sfio.nic.in/websitenew/case_CLF.pdf
The details of these cases are not available on the
SFIO website. Regarding serious fraud cases, the 55th
Annual Report on the working and administration of the
Companies Act 1956 for year ended March 31st 2011
states that “During the year, in 39 cases the accused were
convicted by the court and fines imposed.”61 However, the
report does not provide any further details regarding.
The 55th Annual Report62, however, gives the total fine
imposed for violations, for the years 2006 to 2011, as well
as the average fine imposed for each of these cases. The
details are provided below:
Financial Total fine Avg. fine
Year Imposed (Rs.) Imposed (Rs.)
2006-07 5,814.261 2,558
2007-08 1,11,84,020 2,618
2008-09 1,10,58,647 2,948
2009-10 92,30,317 2,484
2010-11 70,84,542 2,814
Prosecution and Convictions for Violations of
Securities Laws
Our study analyzed violations of securities trading and
related laws from 1998 to 2012, which have resulted in
convictions and fines as a result of prosecution cases
filed by SEBI. We have relied on the data in the SEBI
website which was updated till September 30, 2012.63
The objective of our analysis was to understand the
effectiveness of the prosecution mechanism and whether
it acts as a deterrence for the violators.
During this period, there were 139 prosecution
cases including 540 people who were charged with
criminal intent. The charges were for violations under
the Companies Act, SEBI regulations and Collective
Investment Scheme Regulations.
61 http://www.mca.gov.in/Ministry/pdf/55AR_English.pdf. Page 47
62 http://www.mca.gov.in/Ministry/pdf/55AR_English.pdf. Page 53.
63 http://www.sebi.gov.in/cms/sebi_data/attachdocs/1352177036821.
pdf last accessed on February 7, 2012
37

The results are as below:
1. The courts have imposed a total fine of Rs 374 lacs
over these 133 cases (information not entirely available
for 6 cases); in which 540 companies/ persons were
convicted accused. This tantamount to a meagre
average of Rs 69,311 per accused, with 46% of the
accused levied a penalty of less than Rs 10,000 for
being indicted in securities trading violations in India.
2. The analysis of average fines imposed over these
cases, shows that in more than three fourth of the
cases, average fine imposed is less than Rs 50,000.
Thus the monetary deterrence in case of default seems
to be inadequate. However the study cannot comment
on the actual collection of the penalty amounts.
14% 14%
12%
29%
17%
25%
12%
3. We analyze the data from the results of prosecution to
determine any criminal liability for violators by examining
the court orders for sentencing as a result of the
conclusion of the prosecution. The results displayed as
under show that:
Thus our analysis can be summarized as:
• Nearly 80% of the criminal prosecution cases filed by
SEBI do not result any sentencing.
• Further 18% of such cases resulted in a sentencing of
less than 6 months.
• For every four people convicted by the court, there is at
least one person is a proclaimed offender i.e. a person
on whom the notices or the Court’s order cannot be
served as his whereabouts are unknown. Out of 540
accused convicted by the Courts, there were 133
proclaimed offenders in our sample size.
In case of the breach of SEBI laws or those which govern
corporates, the consequent fines or length of sentences
is not a deterrent or is punitive for defaulters. In fact given
the paltry nature of fines or the facile length of sentences,
it may even make it to be profitable for offenders to violate
securities trading or corporate laws in India.
Does Implementation of Corporate governance
through Norms like Clause 49 of the Listing Agreement
help in Reducing Fraud?
The Securities Exchange Board of India (SEBI) mandated
all public listed companies to comply with corporate
governance norms specified under the Clause 49 of the
Listing Agreement in its 2005 notification. In our sample,
we examined those fraud cases that pertain to public
limited listed companies and have been detected in or
after 2005.
The annual reports of these companies in the year
prior to the detection of fraud were studied to ascertain
the composition of the board of directors and audit
committees, the auditors’ opinion in their report on the
financial statements etc. The findings are stated below:
• In most of the companies, the board of directors had
50% to 75% independent directors, thereby raising
questions about the effectiveness of independent
directors in raising concerns in the event of any
financial regularity.
• Auditors report was not qualified in most of the cases
(80%), putting a question mark on the auditor’s
role in detection of fraud or as a gatekeeper of
corporate governance.
1%
4% 4%
9%
4%
79%
Imprisonment till
court rising
One month
Three months
six months
One year
None
4%
1%
4%
9%
4%
79%
4%
25%
17% 29%
4%
More than
Rs 100,000
Rs 50,000 - 100,000
Rs 10,000 - 50,000
Rs 5,000 - 10,000
Up to Rs 5,000
NA
38

• The Chief Financial Officer (CFO) and CEO had
in all cases certified the accuracy of the financial
statements and the adequacy of internal controls over
financial reporting.
• The audit committees had more than three independent
members in 70% of the cases and were still not able to
detect these frauds.
• Directors have issued responsibility statements under
the Companies Act giving their assurance on the quality
of the financial systems, internal controls and the
processes to detect fraud.
The above discussion augments the need for research
on governance processes, interaction of governance
characteristics and the efficacy of the corporate
governance norms so far implemented in India.
Indicted companies complied with the prescribed norms
of adhered to the norms prescribed in Clause 49 of the
Listing Agreement only in letters and not in spirit. Thus,
Corporate governance of Clause 49 of Listing Agreement
by listed companies gives no assurance and often
misleads on the quality of governance.
Conclusions: Dissecting Corporate
Fraud in India
Simple Techniques: Most of the frauds covered in the
sample in our study have deployed basic procedures or
techniques suggesting the existence of internal control
weaknesses that provides perpetrators ‘opportunity’ to
engage in fraudulent activities and commit frauds.
As stated earlier most accounting frauds are carried out
by promoters and/or top management for personal gain
and enrichment. One of the key contributing factors for
corporate fraud in India is the control and concentration
of promoters, whether families or MNC’s at the helm
of affairs. Such controls over all aspects of business
are often abused for personal gains at the cost of
other stakeholders.
The techniques used also points towards abuse of
power and discretion as well as wilful violation of laws.
The existence of strong financial advisor (s) --confidants
who have the ‘capability’ to perpetuate a fraud--could
be critical for fraud to be designed and committed. The
existence of such people among the top management or
promoters themselves could well be a high risk factor.
Tone at the Top: In fact the “tone at the top,” of the
promoters/top-managers set the moral and business
philosophy of the enterprise, and when such a philosophy
is misaligned with accepted ethical. It can create a huge
amount of ‘pressure’ to manage results and falsify the
books of accounts for short term gains. A tone that places
a disproportionate emphasis on financial results or stock
prices may send the message that cutting corners is not
only acceptable but actually desirable.
These frauds are carried out with impunity as the chances
of getting caught are minimal and the quantum of fine and
punishment is not a valid deterrence.
Lack of Information/Enforcement: Further, the lack of
adequate public information and/or punishment to the
perpetrators of frauds indicates that there is inadequate
enforcement of laws and deterrence for committing
frauds. This also means that while there is a very high
probability that the company and other shareholders
might be severely impacted by the fraud, promoters and
top managers are able to get away without any major
punishment and more importantly they manage to retain
the spoils of the fraud as personal wealth.
All these findings also reflect poorly on the watchdogs (i.e.
internal, statutory and tax auditors) who take their cues
from the gatekeepers i.e. regulators. The auditors should
have been the first ones pointing out most of these frauds
in the financial statements because the schemes do not
seem to be too sophisticated or complex. They were
however not able to play that role. It is also interesting
to note that both the Big 4 and Non-Big 4 auditors have
been providing various audits and other attest services to
these companies, indicating that detection of fraud is hard
even for large auditing firms.
39

• The occurrence of fraud is almost equally poised between public and
private limited companies.
• The companies involved in fraud have mostly medium scale of
operations and average revenue size of less than Rs 200 crores. Further
in 80% of the cases, the size of the fraud was less than Rs 200 crores.
However the average revenue size of these companies has increased
7.25 times in the period after 2009, exposing the interests of larger
number of stakeholders to risks of corporate failure.
• Fraud risk is pervasive across all the industry sectors with
manufacturing sector involved in one out of three cases highlighting the
need for appropriate fraud policies across all the sectors.
• There has been a recent spurt in not only in the number of fraud
cases but also the size since 2009 with an average size of fraud
almost doubling.
• Most of the fraudulent transactions were designed to either siphon of
the companies funds by promoters or top management or to defraud
government/ investors/ lenders.
• Fraud techniques used in last 15 years have not undergone much
sophistication. Most perpetrators in our sample have recorded assets at
a value which is higher than the fair value or alternatively have created a
web of book entries through related party accounts to embezzle.
40

• There seems to be no plausible relationship between the incidence
of fraud and the presence of big audit firms, though the companies
audited by large firms have contributed more than half of the total size
of fraud investigated by the Regulators.
• No significant cases have come to light where the auditors have been
able to detect such fraud in the course of their audits.
• Presence of earnings management can be construed to be a potential
indicator of presence of financial statement fraud.
• The majority of the companies involved in fraud have either been
liquidated or business discontinued or is continuing at reduced levels
with market valuations drastically reduced.
• The study cannot comment authoritatively on the adequacy or
otherwise of the penalties/fines imposed.
• In case of the breach of SEBI laws or those which govern corporates,
the consequent fines or length of sentences is not a deterrent or is
punitive for defaulters.
• Effectiveness of clause 49 (corporate governance norms for public
limited companies) covenants on fraud occurrence, detection and
prevention is very limited.
41

Stakeholder Perspectives on
Private Sector Fraud in India
Four consultations were held with stakeholders in West,
East, North and South India. The consultations were run
by Global Compact Network India, and the International
Business Leaders Forum, in partnership with Thought
Arbitrage Institute, and a series of regional partners.
The primary audience was business – private and state
owned. Government stakeholders were also consulted,
especially those in vigilance roles. Accounting bodies,
industry associations and academia were also involved in
these discussions.
After sharing the data, stakeholders were asked to:
• Provide feedback on the patterns and trends identified –
do they feel right? Will they be useful?
• Share approaches to reducing the risk of fraud –
particularly from an accounting/auditing perspective
• Highlight specific vulnerabilities they have come across,
in their business or sector
• Flag at what junctures businesses can do a U-turn, how
they can come out of complicated situations.
• Exchange good practices and practical nuances.
Dialogue between stakeholders was encouraged. The
discussions were characterised by their responsibility,
passion and frankness. Most of the recommendations
for each stakeholder group came from within that group,
but there were challenges across groups, and these
recommendations have been captured too.
The consultations were held off the record, so though the
participants are listed, none of the content recorded here
is attributed.
Consultations were held as follows:
• Bhubaneshwar, hosted by Xavier Institute of
Management in Business, on October 13, 2012
• Mumbai, hosted by Bombay Chamber of Commerce
and Industry, on October 23, 2012
• New Delhi, hosted by Oil and Natural Gas Corporation
in partnership with the Federation of Indian Chambers of
Commerce and Industry, on November 9, 2012
• Hyderabad, hosted by National Mineral Development
Corporation on 19th November 2012
Perceptions On The Landscape
An Indian Problem?
A theme of the consultations was why India
was suffering from corruption in general, more
broadly than simply private sector fraud.
Some participants voiced anger over the impact of
corruption on poverty in their states (Bhubaneswar). Others
asked whether corruption was inherent in Indian religious or
business practices (Hyderabad). This view was countered
by those whose perspective was that the values held by
individual Indians was not reflected in India’s position on
Transparency International’s corruption perception index
(Mumbai). Others argued that MNCs had made corruption
a fine art in India, through the use of lobbyists (Delhi).
“We have accepted corruption to a large extent. We
interact with people in our circles who have taken bribes”.
Laws, technology, values
A series of gaps in the legal and governance framework
were highlighted. For example, certain arms of government
vigilance are unable to pursue companies for fraud
or corruption -uncovered during investigations unless
there was a criminal angle to it. The Indian financial
regulators, which have been compared favourably
with the performance of their Western counterparts,
were encouraged to move from recommending certain
measures for companies, to making them mandatory.
For example, whistle blower protection mechanisms.
A strong message emerged about finding solutions
that work in India. Technology was seen as bringing
transparency, removing discretion, and enabling data
mining, for increased fraud detection. At the same
time, technology shouldn’t be seen as a panacea.
“You can’t create a new technology and wish away
corruption. Systems are important, culture is too.”
42

“We always ignore corruption in private sector. But there is
large-scale fraud. We must aim to understand fraud in private
sector. We always take an economic view of corruption.
We should also look at the moral question. The whole purpose
of this exercise is to make us think.”
Bhubaneshwar Audience
And a strong focus on ethics emerged. Complementing
the legal framework and prevention through technology,
was the view that business ethics was a matter of business
excellence, an area for strong personal leadership, and for
cultivating responsible behaviours within organisations.
“Total Quality Management transformed business
practice in India. We need Total Ethics Management.”
Common Ground
There has traditionally been a gap between business
and government in discussions on fraud and corruption.
These consultations were unusual in that they were well
attended by vigilance practitioners from business and
from government.
Participants challenged each other:
However, by focusing on the challenges faced by both
sectors, shared priorities and approaches were identified.
There was recognition that government corruption and
private sector fraud were two sides of the same coin, and
that similar strategies could be used to mitigate risks in
each sector.
“India is a value brand. Corruption and fraud directly
impact this.”
Boards
Setting the right tone at the top was cited at all
the consultations. Compliance and transparency
should be seen as a matter of business excellence,
with the leadership committed to it.
Code of Ethics
Business stakeholders emphasised that each company,
irrespective of its size, should have a code of ethics which
could serve as an internal check in detecting corruption.
Audits
Auditing was seen as a very powerful and helpful tool, if a
culture can be created where people accept it. In addition
to classic financial audits, boards were encouraged to
commission both system audits and transparency audits.
A system audit done properly will help reduce corruption.
It can help companies assess and revise policies and
make recommendations for reform. This concept was
extended further, through the notion of a transparency
audit, auditing systems and behaviour.
Alongside this, board education was highlighted. Ensuring
that all directors are sufficiently financially literate to provide
proper oversight.
“Customers do due diligence on you, if they see any
cloud, they won’t do business”
“My fear is that companies will be
the victims of a witch-hunt by state
investigating agencies”
“Adopting aggressive tax plans make
companies vulnerable to extortion”
“Some in Government are at sea too –
and don’t know how to fight corruption.”
“Increasing salaries to reduce corruption
is like giving a bribe to stay clean”
43

Human Resource Managers
Human Resources were identified as a key function in
fighting fraud.
The first responsibility was about creating the right culture.
Stakeholders felt that the starting point was establishing a
healthy work/life balance, building notions of quality of life
beyond simply remuneration.
Adequate training in compliance policies was important,
but so were empowerment measures, building awareness,
and encouraging employees to feel able to take personal
responsibility for upholding ethics.
An ethics code should form the basis of employee
education. Employees should be incentivised to uphold
it. And good practice should be made visible within the
organisation. Some companies reported putting ethical
behaviour on the record, identifying ‘heroes’ in recognition
for their ethical behaviour.
At the same time, breaches of the ethical code should be
taken seriously.
CSR And Social Investment
Private sector fraud is a core business matter, of
central concern to the board, CFO and compliance
teams. However, Corporate Social Responsibility
was identified as an important supporting activity,
by both business and government stakeholders.
The emerging idea was that companies could promote
the spread of ethical activities, and strengthen
governance, transparency and accountability in
the communities and markets they operate in.
Stakeholders felt that fighting corruption was
a corporate social responsibility. And as such,
companies should advocate for fighting corruption to
be included as a legitimate area for them to meet their
mandatory CSR spend, under the new guidelines.
Legitimate areas for social investment were identified as:
• Empowering communities to hold public sector delivery
to account
• Strengthening ethics curricula and teaching in
management and legal education institutions
• Supporting community governance programmes
It was also recognised that CSR spend can fuel corruption,
with money going to nominees of government officials,
or simply being mis-allocated. It was therefore seen as
essential that companies bring in effective monitoring
and evaluation of CSR programmes, which prioritise
the social impact of initiatives over the money spent.
Auditors And Business Partners
“Auditors will give a report to my liking”
The consultations involved input from national accounting
bodies and from professional service firms. The first thing
to emerge was that detection of fraud was not seen as
part of auditing firms brief. There was agreement that
fraud was built around shadow accounts, and therefore
outside the purview of auditors. But at the same time,
those in the profession were keen to reinforce their
responsibility to highlight mis-reporting or other concerns.
There were opportunities though for detecting fraud
through the triangulation of data. It was explained
that companies engaged in fraud will often provide
different Profit and Loss figures to different bodies. The
examples given were those figures given to banks,
when applying for credit, versus those given to auditors
for tax purposes. Company accounts are in the public
domain. Banks were encouraged to compare data
submitted to them with that in company reports.
44

Shareholders
Both shareholders and stock exchanges were seen as
having a role in providing a check on private sector fraud.
It was suggested that stock exchanges in India should
be more involved in the implementation of external anti-corruption
policies, as seen in case of Securities and
Exchange Commission in the USA. SEBI has brought out
detailed recommendations about disclosure of pledged
shares – something identified by the research in this study
as being a flag worthy of further investigation. Highly
leveraged companies were recognised as being under
pressure to maintain earnings – another potential driver
for fraud.
Participants felt that shareholders must show greater
diligence. The keys were seen as encouraging shareholder
education and empowerment so they can ask pertinent
questions. Many felt that ordinary shareholders can’t
decipher a company’s Annual report. Again, stock
exchanges had a duty to insist that reports that are filed
in various stock exchanges should be in simple language
which can be easily understood by a general investor.
Government Side
Each of the consultations had representations from
government. Officials from the Department of Personnel
and Training and from the Rajya Sabha secretariat
presented on the government’s legislation plans. State-level
vigilance leads from the Comptroller Auditor
General’s office, from Income Tax and from Police shared
their perspectives on compliance within government.
All exchanged ideas with peers in business on how
to improve transparency and compliance, in both the
business sector and in government.
Legal Framework for Transparent Business
There was discussion of the government’s plans to bring
in new legislation criminalising bribe paying by companies.
India’s ratification of the UN Convention Against
Corruption was raising expectations internationally for
the Government to introduce ‘supply-side’ measures, to
tackle the role of business in corruption and to strengthen
whistle blower protection.
Business participants felt the priorities were not on
new legislation but on enforcement. Strengthening the
judiciary was identified as a priority. As was creating a
separate judicial system for white-collar frauds for speedy
prosecutions. The key from the business perspective was
for Government to reduce the cost of compliance and
increase the cost of non-compliance.
One area not currently being looked at is the formulation
of companies. Some participants felt a clause covering
transparency and anticorruption could be added to the
articles of association for all new companies created.
The participants voiced concern over the multiplicity of
regulators in India. This creates a challenge both from
an enforcement perspective and from a compliance
perspective. But participants also felt it presents an
opportunity. With companies providing information to
a variety of regulators, and investigators generating
additional data, there is a lot of information in the public
domain. Information which can, potentially, throw up
inconsistencies reveal a problem within a business.
“India is legislating – we can guide the debate”
Increasing government resilience to Corruption
Just as companies need to set the right tone at the top, all
stakeholders felt that the environment in which business
operates had a bearing on its own levels of transparency
and compliance. Building the resilience of government to
corruption was therefore seen as an essential component
in creating the conditions for better governance
within business.
Transparency and clear processes for decision-making
was seen as the starting point. Participants felt that
decision making was often dis-incentivised. Civil servants
were encouraged to keep contemporaneous records of
the decision making process, with clear explanation of the
reasons for decisions taken.
The qualities and values of individual were also seen as of
importance. The concept shared was of ‘gene therapy’,
posting right people in right place to positively impact
the system.
45

Since the Pay Commission, participants felt it was
no longer legitimate – if it had ever been – for senior
officials to cite financial need as a reason for graft.
Senior government participants were encouraged to
promote compliance within their departments and to
reward corruption resilience. The time frame for delivering
decisions could be benchmarked and standards set.
Stakeholders called for greater transparency in the
personal assets of public officials – through a declaration
on taking up a post and on leaving office.
Approaches to Vigilance
Government representatives described a move in vigilance
from punitive, to preventive, to participative vigilance.
Punitive Action
Orissa and Bihar have introduced powers to confiscate
property – the only states in India to do so. However,
applying these powers is a challenge. And punitive
vigilance remains the most expensive approach.
One government officer listed these areas as being of
the highest risk in his state, and therefore attracting most
investigative attention:
1.Engineering Department
2. National Resource Allocation Department – Sand, Wind,
Land, Coal
3. Public Service Delivery programmes – in the
Employment, Education and Health sectors
4. Acts of omission
Preventative Action
This was seen as a more cost-effective approach, and one
where ICT (Information and Communication Technology)
was having an increasing impact. For example, the
employment of ICT has reduced the interaction between
the Income Tax officials and citizens with an objective of
reducing instances of bribery.
A simple checklist for preventing corruption was shared
with participants:
1. Examine every procedure and remove bottle necks
2. Prepare standard operating procedure for all
3. Teach conduct rules to all staff
4. Insist on everyone giving annual property returns
Participative Action
Those involved in Vigilance in government argued that
preventative, detective and punitive approaches had
proved not to be enough – reformative measures are
required if corruption is to be reduced.
The government is also making several anti-corruption
policies as a participatory move to involve the private
sector as well as civil society in curbing corruption.
46

Whistle Blowers
Whistle blower protection came up at all the consultations,
on both the government and corporate side, with
common themes.
Whistle-blowing is typically resisted because of
• Ignorance of protection mechanism
• Fear of reprisals
• Fear of motivated reports clogging the system
• Confidentiality compromises
• Exposure or risks for the entity
Stakeholders felt that greater adoption of whistle blowing
mechanisms and better protection for whistle blowers
was required.
Companies should give whistle blowers anonymity, by
outsourcing the mechanism. And whistle blowers should
be rewarded if vindicated.
Technology was increasingly being used by leading
companies to bring in greater transparency to
mechanisms, while preserving anonymity.
India does not have many laws pertaining to whistle-blowers;
Clause 49 of the Listing Agreement briefly
touches upon it – saying that companies could introduce
whistle blower protection. This was contrasted with
Sarbanes Oxley, which states that companies must
provide whistle blower protection, and has penalties for
whistle blower reprisals.
Companies also felt that whistle blowers in government
needed protecting. A number of companies argued for
a collective fund, created by companies, to provide legal
protection to individuals in government who blew the
whistle on government-side corruption.
“Can we create a fund to protect whistle blowers
along the same principles as the international oil
pollution compensation fund? To provide protection
for whistle blowers and protect against this pollution
called corruption.”
The Consultations can be best summed with the quote
from a key stakeholder:
“We always ignore corruption in private sector. But there
is large-scale fraud. We must aim to understand fraud
in private sector. We always take an economic view of
corruption. We should also look at the moral question.
The whole purpose of this exercise is to make us think.”
47

Fraud and Corruption:
Mechanics and Perspectives
Mechanics of Fraud and Corruption
Corruption money payments or bribe taxes as per one
of the media post tantamount to a whopping 6% of
GDP of the Indian economy during 2010-2011.65 The
extravaganzas witnessed in these payments raises two
crucial questions, first how are such funds generated
and how do these entities conceal such enormous
transactions in books of accounts. The current section
looks at the modus operandi of such bribe/ corruption
pay-outs resulting in instigation of frauds.
The companies generate these payments through a
system of slush funds that is most of the times created
prior to the actual transaction. Slush funds are created
by using various illicit techniques so that the legitimate
business funds are diverted to secret bank accounts in
order to create a buffer for future corruption payments.
These bank accounts may be maintained in the country
or offshore destinations. At times these slush funds are
retained in cash and are utilized as such or alternatively
find an entry into the legal banking channels through
money laundering activities. Some of the commonly used
techniques are:
• Under invoicing of genuine business
revenue transactions.
• Overstatement of expenses.
• Creating inaccurate agreements referring to
non-existent services or goods.
• Fictitious service agreements with bogus or forge
consultancy firms.
• Retaining export realizations overseas.
The corruption or bribe payments made by companies
can be made in various forms in cash or kind. The
payments in kind encompass gifts and favours such as
lavish entertainment, free transportation on corporate jets,
free hotel stays, paid vacations etc. The payments in cash
may be made in hard currency or through wire transfers or
through cheques. In the current section we will essentially
look at the second category.
64 http://articles.timesofindia.indiatimes.com/2010-12-09/
india/28238249_1_bribe-transparency-international-international-anti-corruption-
day
65 http://www.firstpost.com/economy/real-scam-we-pay-rs-400000-
cr-in-bribe-taxes-a-year-434656.html/2 last accessed on January 4,
2013
Bribe payments are generally disguised in the payers’
books as legitimate business transactions, mostly through
a web of transactions hiding the true identity of the
beneficiaries and making it extremely complex to trace.
It would be pertinent to note here that both generation
and payment of corruption money involves money
laundering activities whereby the identity and origin of
illegally obtained money, such as bribes, are concealed
or disguised. Further beneficiaries take steps to make
illegally obtained money to appear as if it comes from a
legitimate source.
Transfer of funds and payments during corruption can take
place in following manner:
1. Loan transactions
The payments made to a beneficiary are shown
as a loan with or without interest. The amounts so
recoverable are carried in the balance sheet as such for
a long period of time. There is no intent to recover such
outstanding and most of the times are written off as
bad debt or a non-recoverable asset.
The company may also make an actual loan but at
favourable conditions such as zero interest or for
longer tenor.
2. Related Party Transactions
Related parties such as promoters, subsidiaries, joint
ventures etc. may be used to channel funds from the
payer to the beneficiary. For instance holding company
may instruct the subsidiary company to make payment
directly or indirectly to the concerned entity on the
pretext of certain deceptive invoices. The subsidiary
company may or may not get reimbursement from the
holding company. This circuitous route of payments
made via related parties through domestic and at times
off shore entities adds further level of ambiguities and
complexities to transactions.
48

“One person in four worldwide paid bribes and 54 per cent
Indians said that they greased the palms of authorities to get
things done during the year 2010.”
3. Capital market transactions
The company may transfer a hidden interest in a
joint venture or other profit making enterprise to the
beneficiary or its associate at nominal value or no
consideration. The companies may issue sweat equity
virtually with no services rendered in lieu of the illicit
favours received conferring share in profits to the
beneficiary. At times convertible / non-convertible debt
securities or instead equities out of promoters’ quota
are issued at much favourable conditions than the
common investor.
In these cases the beneficiary, in supplement to one
time receipt of money obtains dividend or share
in profits for a long period of time in return of the
illicit favours.
4. Especially structured transactions
The companies may float special purpose vehicle
shell companies to facilitate such payments through a
web of clandestine transactions inhibiting the identity
of the beneficiary and ensuring anonymous money
trail. These corporate entities are mostly unnecessarily
and unjustifiably complex multi-tiered entities with
ownership spread across other corporates with in the
country or offshore destinations.
5. Payments made through agents/
distributors
In this case payment is made to an intermediary such
that there is no direct trace leading from the company
to bribed official.
An intermediary may be a relative, business associate
or close friend; alternatively a business consultant
who does not provide any identifiable or economically
justifiable services; alternatively may provide a
combination of both legitimate and illegitimate services.
An intermediary may be appointed by a subsidiary
company or subsidiary company may itself become
an intermediary.
Transparency International, Report 2010.64
The intermediary operates under the complete
control of beneficiary and payment is transferred
either on a standalone or through layers (cascade) of
intermediaries to actual beneficiary.
Further to justify the payment to an intermediary
fictitious book entries such as false invoices for
purported goods or services received are created. Fake
documentation with deceptive contracts, ingenuine
invoices containing non descriptive terms and
conditions or vague language is the common feature
across all types of intermediaries’ agreements.
6. Payments made to trusts
The corruption money may transfer from the payer to
a trust which has beneficiary or one of its associate as
the trustee. In most of the cases trust has no legitimate
business or social cause but is especially operated for
receipt and diversion of graft money. These trusts have
benami ownership with real ownership interest difficult
to ascertain and establish.
At times these trusts are formed as non-profit
organizations with charity or social cause as primary
objectives but are mostly used as vehicles for ill-gotten
money and money laundering.
7. Transfer of assets at values other
than fair market value
The company may transfer its movable or immovable
assets to the beneficiary at values other than fair market
value. Alternatively the company may buy assets
from the beneficiary or its associates at exorbitant
prices much higher than their economic value, thereby
transferring consideration much higher than warranted.
Thus to conclude the corruption money is transferred
using sophisticated and complicated network of
individuals or entities with transactions meticulously
planned and executed such that the intricacies
impede detection.
49

Gatekeepers of Fraud Detection
The gatekeepers monitoring and investigating frauds have
different perspectives on means, motives and procedures
for conduct of fraud. In section, we present perspectives
of the Indian and US gatekeepers towards corruption and
fraud in the private sector.
Indian Perspective
Serious Fraud Investigation Office (SFIO)
The annual report of the MCA for 2011-1266 mentions
the different types of fraud observed by SFIO in their
investigations. Presented below is a summary of the
analysis provided in the report:
(a) Financial Statement Fraud
In this kind of fraud, SFIO finds that fraudulent
companies prepare two different sets of financial
statements for different regulatory authorities. Such
companies showed different profits by valuing
inventory differently or booking fraudulent sales in the
two different sets of accounts. In few companies, it
observed that they did not capitalize assets despite
starting commercial production. In some fraud
cases, SFIO, found that:
“By following two accounting years, the company
was showing losses or very nominal profit in the
Profit & Loss account filed to the Income tax
department. However, huge profit was being
shown in the Profit & Loss accounts filed with stock
exchanges, ROC etc”.67
(b) Capital Market Fraud
SFIO find various modus operandi for capital market
frauds, for example in one case a company created
capital by circulating back-to-back cheques with
associate companies, another by doing an equity
swap with a dummy/dormant company,
Affairs. Page 5
Affairs. Page 35
another by swapping shares against preference
shares of an associate company at a huge premium
and another by colluding with another company by
issuing shares in each other’s company reciprocally
without exchange of money & then selling such
shares. SFIO concludes that general trend of
involvement of the promoters of the company
through preferential allotment of shares to them by
method of circulation of cheques or swapping. It
points that:
“promoters often resort to selling their shareholding
in the company at manipulated prices to make illegal
gain from share market and later, repurchase the
same at reduced price by reversing the process in
the subsequent period and thus continue to maintain
their control on the company”.68
(c) Fraud in Project Funding
The SFIO has also found cases where companies
fraudulently siphoned off money given to them by
financial institutions for setting up Industrial projects.
In one stance of fraud, SFIO found that a subsidiary
company in India siphoned off working capital
investment by procuring their major raw material
from its main overseas company at very highly
inflated prices. SFIO observed that:
“Company imported second hand plant and
machinery from its parent company at a very high
price. This over-valued plant and machinery was
used to obtain higher term loans from funding
institutions. The loan amount thus obtained was
transferred to the parent company as payment
liability against such plant and machinery. It was
noticed that the Indian company had received
different invoices for submission to different
Government agencies for majority of its machinery.”69
Affairs. Page 36
Affairs. Page 35
50

(d) Fraud through Fake Invoices and Bills
The SFIO also found cases where large purchases
were made from petty suppliers or group companies
and material received was shown under work-in-progress.
Most of these suppliers were either non-existent
or had subsequently been wound up.
The report mentions that “Funds transferred to
these entities showing the supply of material were
found to have been taken out in cash by rotating
through certain accounts are showing payments
for certain non-verifiable expenses.”70 In one case it
was also found that some group companies were
doing circular trading raising fake invoices without
transfer of goods. They subsequently got the fake
invoices discounted by banks and after some initial
payments, stopped making payments and the
promoter absconded with a large sum of money
leaving bad loans for the banks.
Central Board of Direct Taxes (CBDT): Tax
In a white paper issued in 2012 on ‘Black Money’ by the
Government of India, Ministry of Finance, Department of
Revenue, CBDT conceptually described how different
kinds of manipulations of financial statements71 result
in tax evasion and generation of black money thus
describing the dynamics of corporate fraud.
The white paper by tax regulator on points that ‘black
money’ is generated through legitimate economic activity,
primary either through i) manipulation of accounts; or
ii) out of book transactions.
The schematic diagram given below shows how
companies perpetrate corporate fraud by manipulating
the financial books of accounts.72
Affairs. Page 35
71 Black Money. White Paper 2012. Ministry of Finance. Department of
Revenue. CBDT, New Delhi.
72 Black Money. White Paper 2012.Ministry of Finance,
Department of Revenue.CBDT, New Delhi. Pg 4
Understanding Genesis of Black Money:
Financial Statement Approach
Out of Books
transactions
Manipulation of Books
of Accounts
Manipulation of the
Sales/Receipts
Manipulation of
the Expenses
Bogus Expenses to
Foreign Entities
Manipulation of
the Capital
Manipulation of
Closing Stock
Inflation of
Capital Expenses
Informal Economy -
No Books of Accounts
Parallel Books
of Accounts
Unaccoun ted Assets
Investment in the
Shares of listed
companies through
dummy entities
Suppression of the
Sales/Receipts
Diversion of the Sales to
Associated Enterprises
Interrelation between
the unaccounted Sales
and Purchases
Artificial Deferment of
the Revenue
Stamping of the
Incorrect Price
Inflation of the Sales/
Receipts
Introduction of
own Money
Share
Application Money
Shares at
Heavy Premium
Share Capital from
Foreign Companies
Bogus Gifts
Bogus Capital Gains
and Purchase of
Bogus Losses
51

The US Perspective
The Committee of Sponsoring Organizations (COSO) of
the Treadway Commission73 conducted comprehensive
study on alleged 294 cases of fraudulent financial
reporting by US public companies from 1998 to 2007
investigated and prosecuted by the SEC is based on
Accounting and Auditing Enforcement Release (AAER).
The SEC named the CEO and/or CFO for some level of
involvement in 89 percent of the fraud case sin 1998-
2007, up from 83 percent of cases in 1987-1997. Within
two years of the completion of the SEC’s investigation,
about 20 percent of the CEOs/CFOs were indicted and
over 60 percent of those indicted were convicted. The
most common fraud technique involved improper revenue
recognition, followed by the overstatement of existing
assets or capitalization of expenses. Revenue frauds
accounted for over 60 percent of the cases in 1998-2007,
versus 50 percent in 1987-1997. The SEC’s observed
that most commonly cited motivations for fraud included
: need to meet internal or external earnings expectations,
an attempt to conceal the company’s deteriorating
financial condition, need to increase stock prices, need
to bolster financial performance for pending equity or
debt financing, or the desire to increase management
compensation based on financial results.
73 Fraudulent Financial Reporting: 1998-2007 – An analysis of U.S.
Public companies (2010) http://www.coso.org/FraudReport.htm
52

Fraud and Corruption:
Mechanics and Perspectives
• Various ways through which transfer of funds takes place during fraud
and corruption includes: loan transactions, related party transactions,
especially structured transactions, payments made through agents/
distributors, payments made to trusts, transfer of assets at value other
fair market value.
• From MCA perspective, SF IO points that four different types of frauds:
financial statement fraud, capital market fraud, fraud in project funding,
fraud through fake invoices and bills.
• From tax regulator perspective, CBDT observes that black money is
generated either through manipulation of accounts or through out of
book transactions.
• From the US securities market regulator – SEC perspective corporate
frauds mainly takes place through improper revenue recognition,
overstatement of existing assets, and capitalization of expenses.
53

Challenges for Oversight in India
The economic liberalization started in 1991
dismantled of an elaborate system of inspectors who
gatekeepers of ‘license-permit raj’. In fact the terror
of such inspectors and the lower bureaucracy was
so large that it was also sometimes referred to as the
‘inspector raj’.
Since early 2000, the Government of India introduced
computerisation in the various services offered to the
citizens bring in greater efficiency and transparency. These
e-governance initiatives have not only made government
services more accessible, but also ensure their efficiency,
transparency and affordability. Further, by reducing the
discretion of lower bureaucracy, it also impacted the day
to day corruption otherwise prevalent in such transactions.
However, this does not mean that corruption has
disappeared from India. The decrease in ‘petty’ corruption
has been more than compensated by the rise in ‘grand’
corruption as the recent scandals have shown. It is true
that liberalization has provided even larger opportunities
to corporations who are more than willing to use
both fair and unfair methods of winning favour with
the government.
A major role in this exposure has been played by the
Right to Information Act (RTI) of 2005, which empowered
citizens to query the Government on anything with
exception on matters related to national security. Initial
attempts to utilize its provisions have had a mixed
response from authorities but as the citizens have
understood the power of this tool, it is bringing out more
instances of corruption into the public domain.
Besides the act, the constructive role being played by
some of the watchdogs like the office of the Comptroller
and Auditor General of India (CAG) as well as the higher
judiciary have also ensured that the problem of corruption
will not be swept beneath the carpet but would need to be
firmly dealt with. The challenges however still remain.
Corporate Regulators in India
In India, there are multiple regulators such as the
Securities and Exchange Board of India, the Reserve Bank
of India and the Institute of Chartered Accountants of India
that are responsible for enforcement of corporate laws.
These regulators have been bestowed with the powers
to, investigate, issue of a summons, prosecute and
levy penalties.
In the case of SEBI, the body that regulates the capital
markets, data related to the duration of investigations and
prosecution of corporate frauds throws up some very
interesting insights.
Corporate conduct is overseen by multiple gatekeepers
who act on different aspects of business transactions.
Gatekeepers operate in an interdependent rather than an
independent manner and it is important to have a certain
degree of collective responsibility among all gatekeepers
to harness their total capacity to deter wrongdoing. A
regime of fault based liability coupled with joint and several
liabilities would be optimal for advancing the cause of
optimal deterrence.74
The current system involves half a dozen apex regulatory
agencies, apart from several ministries in the government
that retain direct regulatory powers. This structure leads
to major regulatory overlaps and gaps. Some examples
of regulatory overlap include, overlap between SEBI
and MCA in the regulation of the issuer companies;
overlap between SEBI and RBI in the regulation of foreign
institutional investors as well as in exchange traded
currency and interest rate products; overlap between RBI
and state governments in the regulation of cooperative
banks. This sometimes leads to regulatory arbitrage and
regulatory capture.
Further, one of the Planning Commission Report75 point
that regulators suffer from conflicts of interest, such as, a
desire to protect certain kinds of institutions and certain
forms of ownership. They confront immense heterogeneity
in the entities they regulate, as well as in the investors and
customers whom they protect.
74 Multiple Gatekeepers, Andrew F Tuch, discussion paper no. 33,
3/20120, Harvard Law School, Cambridge, MA
75 A growth friendly regulatory framework, available at: http://
planningcommission.nic.in/reports/genrep/rep_fr/ch6_fr.pdf, last
accessed on October 5, 2012
54

Coping with Corruption and Fraud:
Challenges of Indian Legal and
Regulatory System
The efficacy of the legal system can be comprehended in
terms of enforcement of the contracts. A 2012 report of
the World Bank76 on “Doing Business” has ranked India
at 182nd position worldwide in terms of enforceability
of contracts, at bottom of the table. Laws included in
sections of the IPC and those pertaining to anti-fraud
measures are not specific and stringent. The report listed
various procedural legal steps, which showed that it takes
around 1,420 days from the date of filing a claim to the
enforcement of a judgment. Out of these 1,420 days the
trial and judgement take up the maximum time of 1,095
days and enforcement of the judgement takes another
305 days.77 This reflects weakness of the Indian legal
system, and which large extent suffices the corruption
problem in the country.
In the country, there are substantial delays in the Indian
legal system and a large number of pending cases. A
research paper by PRS Legislative Research places the
number of pending cases in India, as of July 2009, at
53,000 with Supreme Court, 4 million with various High
Courts, and 27 million with various lower courts. As
compared to the pending cases in January 2000, this
reflects an increase of 139 per cent with the Supreme
Court, 46 percent with High Court and 32 percent with
lower courts. Further, since the numbers of fresh cases
added every year are larger than those being resolved,
there is obviously a shortfall in the delivery of justice,
and a consequent increase in the number of cases
pending.78 Recently, the Union Law Minister, mentioned
that approximately 9% of the cases have been pending for
over 10 years and a further 24% of the cases have been
pending for more than 5 years.79
The conviction rate by investigating and prosecuting
76/6 http://www.doingbusiness.org/data/exploreeconomies/
india#enforcing-contracts
78 Corporate Governance in India. From Policies to Reality. By IICA, TARI
& IIMC. Pg. 22
79 Text of Speech – Union Law Minister on the programme to reduce
pendency in courts (July 1, 2011), http://pib.nic.in/newsite/erelease.
aspx?relid=72970
agencies is quite low. One of the Standing Committee
Report of the Parliament noted that “conviction rate in
criminal cases is as low as ten percent due to perjury.
Perjury is committed by the witness on his/her own volition
or under threat/ allurement/ inducement of third party”.80
In all the cases reported under criminal breach of trust
and cheating (i.e. economic crimes), the conviction rate
is 31.2% and 27.5% respectively as per National Crime
Records Bureau, in 201181. Inability of regulatory system
to convict a corrupted person takes out bite to deal
effectively with corruption and fraud.
India has several regulators to deal with cases of
corruption and fraud. The multiplicity of agencies and
laws in India seems to be creating hurdles for regulators
to effectively detect, investigate and prosecute corporate
frauds. Multiplicity of regulators creates severe problems
in inter-agency coordination. Coordination problems are
aggravated by the variation in skills and experience of
regulators.82 The multiple investigations on each fraud and
involvement of a large number of people results in lack of
accountability, delays and provides the ‘opportunity’ to the
fraudsters to cover up their trails, manage witnesses and
delay prosecution.
Investigating agencies and regulators in the country face
with severe resource crunch of experienced professionals.
Given the heavy workload and diversity of cases it is not
appropriate to expect the CBI to play a premier role in
investigating fraud. In fact the SFIO was envisaged to be
the premier corporate fraud investigating agency in India.
However, it currently does not have powers to initiate an
investigation into a corporate fraud except for some minor
offences nor does it have other police powers, making it
dependent on the CBI for criminal investigations.83 The
proposed Company’s Act 2011, which has been in the
works since 2009 post the Satyam scam, incorporates
several stringent measures/changes, including greater
powers to the SFIO, to plug some of the existing
weaknesses in the system.
80 Rajya Sabha standing committee report on home affairs on
Amendment of Criminal Law (Amendment) Bill 2003. Pg 6.
81 Figures at a glance 2011. http://ncrb.nic.in/
82 A growth friendly regulatory framework, available at http://
planningcommission.nic.in/reports/genrep/rep_fr/ch6_fr.pdf, last
accessed on October 5, 2012
83 http://articles.economictimes.indiatimes.com/2011-05-22/
news/29571284_1_sfio-investigation-satyam-fraud-case
55

Dealing with Corruption:
The Way Forward
Overall, the Indian judicial and enforcement system are
marred by inordinate delays due to multiple investigations
by different agencies and also the time taken to file
charge-sheets. Prosecutions may take even longer, with
a low conviction rate, thus not working as an effective
deterrent. The delays and low rate of conviction in India
may act both as ‘rationalisation’ and a ‘motivation’ in the
minds of the perpetrators of fraud as they feel that they
can get away with corruption and fraud and that ‘crime
does pay’.
There are also certain weaknesses in the legal framework
as well as the regulators and investigating agencies.
Investigating agencies in India may leverage technology
to improve their own efficiency in the same manner as the
SFO in UK, which has been able to reduce the time of first
charge for cases of frauds from 48 (plus) months five years
ago to 19 months now.84 Updates on legal cases should
also be shared by the investigating agencies with the
public on their websites. This information will also provide
inputs to the policy/lawmakers regarding the loopholes
that they need to plug in timely administration of justice.
84 www.sfo.gov.uk
Currently, just sifting through multiple charge sheets and
court orders to keep track of the final out-comes of a
cases of fraud is a herculean task and needs a more
professional and systematic approach. Investigating
agencies need to create a knowledge repository
comprising of every single case of fraud. They should be
able to use this information in a cogent and organized
manner not only to facilitate and expedite prosecutions,
but also use it as a tool for development of training and
enhanced learning for the future.
The government is however trying to bring in changes to
take care of these problems. The proposed Companies
Act and Public Interest Disclosure (Protection of Informers)
Act are steps to deal with corruption and fraud problem.
A predictable, competitive, and fair economic environment
which is free of corruption is central to sustainable
business, economic growth and national development and
can be achieved through measures mentioned above.
56

Challenges and Way Forward Perspectives
• The Government of India initiatives, such as RTI Act 2005 and on
e-governance, constructive role played by the CAG of India, and greater
judicial involvement have been some of the steps towards coping with
widespread corruption prevalent in the last century in India. However,
challenges still persist.
• In India, multiple regulators, such as SEBI, MCA, and RBI exist with
overlapping domains.
• Significant challenges prevail in the Indian legal and regulatory system:
enforcement of contracts and delay in the judicial system, low conviction rate
of corrupt people, multiplicity of regulators and investigating agencies and
lack of skilled resource person.
• The way forward to deal with corruption – leveraging technology, more skilled
resources for investigating agencies, better co-operation and coordination
between multiple agencies, greater efficiency of the judicial system.
57

Good Practices for
Maintaining Ethical Behaviour
The previous chapters of this study mentioned that
both the incidence and magnitude of fraud have been
increasing in the past few years. In this chapter, we shall
delve into the practices and processes of staying ethical
so as to prevent and neutralize the ill effects of fraud
and corruption.
It is widely recognized that corruption takes place with the
tacit cooperation of both businesses and government. The
literature on corruption, and anti-corruption conventions
and agreements unambiguously maintain the need for a
multi-sectoral collaboration in addressing corruption.85
Business against Corruption
The International Chamber of Commerce, Transparency
International, the United Nations Global Compact (UNGC)
and the World Economic Forum Partnering Against
Corruption Initiative (PACI) have jointly come out with a
document titled “Clean Business is Good business: A
Business Case Against Corruption.”
The document estimates that on an average corruption
increases the cost of doing business by up to 10%.86 It
further estimates that corruptions adds 25% to the cost
of procurement contracts in developing countries. This
means that the effect of moving a business from
a country with relatively low corruption to one with
medium to high corruption is equivalent to a 20% tax
on foreign business.87
Private companies run the risk of reputational damage,
fall in market value if listed on stock exchanges,
blacklisting from government contracts and penalties if
their participation in corruption and fraud gets exposed.
Siemens, the German engineering giant, had to pay
penalties of US$ 1.6 billion in 2008 to settle charges that
it engaged in bribery around the world. Further, despite
85 Towards better corporate governance, a handbook on developing
anti-corruption programme, Hills Governance Centre, available at :
http://www.rvrcvstarr.aim.edu/Library%20CV%20Starr/Center%20
Publications/Towards%20Improved%20Corporate%20Governance.
pdf last accessed on October 11, 2012
86 https://members.weforum.org/pdf/paci/
BusinessCaseAgainstCorruption.pdf
87 https://members.weforum.org/pdf/paci/
BusinessCaseAgainstCorruption.pdf
paying bribes, uncertainty still exists about whether the
company will get the intended business benefit and to
what extent.
The document further suggests that engaging in ethical
practices could reduce the cost of doing business, attract
highly principled employees and ethically concerned
customers as well as vendors.
UNGC has adopted certain guiding principles for
businesses, of which the tenth principle is “Businesses
should work against corruption in all its forms, including
extortion and bribery”.88 UNGC further urges businesses
to develop policies and concrete programs to address
corruption and to join hands with governments, UN
agencies and civil society to realise a more transparent
global economy.
UNGC suggests the following three elements to
fighting corruption:
1. Internal: As a first and basic step, introduce anti-corruption
policies and programs within the organization
and business operations;
2. External: Report on the work against corruption in
the annual Communication on Progress; and share
experiences and best practices through the submission
of examples and case stories;
3. Collective: Join forces with industry peers and with
other stakeholders.
88 http://www.unglobalcompact.org/AboutTheGC/TheTenPrinciples/
principle10.html
Internal
External
Collective
58

The current chapter has been similarly organized, whereby
in the first section (internal) we would be discussing the
internal actions that can be taken by businesses, the
second section looks into the role of the government and
regulators (external) and their interface with business and
in the final section business and other social groups’ joint
responsibility (collective) to fight fraud and corruption.
Measures Against Corruption
Internal Measures
There are numerous tools and practices available to
business to prevent and/or control fraud and corruption.
These are discussed below.
1. Internal Control
A robust, dynamic internal control system can help
businesses adapt and fight against the nuisance of
fraud risk. COSO defines internal control as a “process,
affected by an entity’s board of directors, management
and other personnel, designed to provide reasonable
assurance regarding the achievement of objectives with
regard to effectiveness and efficiency of operations,
reliability of financial reporting and compliance with
applicable laws and regulations.”89
It further clarifies that, internal control is a process.
It is a means to an end, not an end in itself. Internal
control is not merely documented by policy manuals
and forms. Rather, it is put in by people at every level
of an organization. Internal control can provide only
reasonable assurance, not absolute assurance, to an
entity’s management and board. Internal control is
geared to the achievement of objectives in one or more
separate but overlapping categories.
One of the significant steps towards building a robust
internal control system is changing employee attitudes
towards the relevance and advantages of adapting it.
Building attitudes bears its genesis from the tone at
the top. According to the Institute of Internal Auditors,
“Responsibility for the system of internal control within
89 http://www.coso.org/resources.htm
a typical organization is a shared responsibility among
all the executives, with leadership normally provided by
the Chief Financial Officer.” An internal control system
should unambiguously define or clarify ownership
roles and responsibilities relentlessly through effective
communication channels and appropriate demarcation
of jobs & responsibilities.
Given the ever changing business and regulatory
environment and the number and diversity of frauds
being committed against companies globally, internal
controls must be reviewed, evaluated, tested and
strengthened regularly. It’s insufficient to create internal
controls and expect them to stand the test of time
without periodically modifying them to meet current
conditions.90
2. Code of Conduct
The board and senior management should
communicate their commitment to fraud risk
management by establishing and implementing
organization’s values or principles and code of
conduct.91
3. Tone at Top
American sociologist Edwin Sutherland, in his theory on
fraud and corruption known as Differential Association
Theory, published in White Collar Crime (1949/1983),,
stated that “Criminal behaviour is learned in association
with those who define such criminal behaviour
favourably and in isolation from those who define it
unfavourably, and a person in an appropriate situation
engages in such criminal behaviour if, and only if, the
weight of the favourable definitions exceeds the weight
of the unfavourable definitions.” Therefore, the executive
management must set the tone at the top and model
the highest level of integrity.92
90 http://www.csoonline.com/article/678375/fraud-prevention-improving-internal-
controls- last accessed on October 10, 2012
91 COSO report
92 http://www.theiia.org/theiia/about-the-profession/internal-audit-faqs/?
i=3087 last accessed on October 10, 2012
59

Top management should demonstrate both by words
and action the acceptable behaviour thereby by setting
an ethical environment with zero tolerance for fraud for
others to follow such that fraud risks can be mitigated.
4. Fraud Risk Assessment Programme
Fraud risk management program depending on the
size and nature of an organisation should include roles
and responsibilities, commitment, fraud awareness,
affirmation process, conflict disclosure, fraud risk
assessment, reporting procedures and whistle blower
protection, investigation process, corrective action,
quality assurance and continuous monitoring.93
5. Role and importance of
Whistle blower
The Public Company Accounting Oversight Board
(PCAOB) has recommended establishing a whistle-blower
hotline to mitigate the risk of management
override of internal controls.94 Corporate fraud is more
likely to be detected by an employee from within a firm,
rather than external auditors, government regulators,
self-regulatory organizations, or the media.95 According
to a PricewaterhouseCoopers survey, while professional
auditors were only able to detect 19% of the frauds on
private corporations, whistle blowers exposed 43%.
The executives surveyed estimated that the whistle
blowers saved their shareholders billions of dollars.96
PricewaterhouseCoopers’ survey is consistent with
statistics released by the U.S. Department of Justice,
demonstrating that employee whistle blowers are
responsible for detecting the majority of civil frauds.97
The 2012 Report to the Nation on Occupational Fraud
and Abuse by the Association of Certified Fraud
Examiners (ACFE) found whistle-blowing (tips) from
93 COSO report
94 Detect and prevent financial fraud available at http://www.mncpa.
org/publications/footnote/2011-04/detect-and-prevent-financial-statement-
fraud.aspx
95 http://pogoblog.typepad.com/pogo/2010/04/who-discovers-more-corporate-
fraud-whistleblowers-regulators-or-journalists.html
96 Economic Crime, People Culture and Controls, Global Economic
Crime Survey available at http://www.whistleblowers.org/storage/
whistleblowers/documents/pwc_survey.pdf
97 http://www.whistleblowers.org/index.php?option=com_
content&task=view&id=102&Itemid=136
employees, customers, vendors, and other sources
remained the most common detection method (43.2%
up from 40.2% in2010). ACFE also recommended,
providing individuals a means to report suspicious
activity as a critical part of an anti-fraud program. Fraud
reporting mechanisms, such as whistleblowing hotlines,
should be set up to receive tips from both internal
and external sources and should allow anonymity and
confidentiality. Management should actively encourage
employees to report suspicious activity, as well as
enact and emphasize an anti-retaliation policy.98 In this
regard some studies have also recommended providing
financial incentives to whistle blowers, or adequate
compensation and complete protection against losing
their jobs or other related harassments.99
6. Deterrence Mechanism
As a deterrent, organizational policies should reflect the
consequences and processes for those who commit
or condone fraudulent activity. These consequences
may include termination of employment or of a contract
and reporting to legal and regulatory authorities. The
organization should articulate its right to institute civil or
criminal action against anyone who commits fraud.100
7. Detection Plan
An organization may determine that it is more cost-effective
to design its controls to detect rather than
prevent certain fraud schemes. It is important that
organisations consider both fraud prevention and fraud
detection.101
rttn/2012-report-to-nations.pdf
99 http://www.macroresilience.com/2010/03/17/employee-whistle-blowers-
as-an-effective-mechanism-to-uncover-fraud/
100 COSO report
101 COSO report
60

8. Audit Committee
The PCAOB has recommended establishing audit
committees to mitigate the risk of management override
of internal controls.102 An “Audit Committee” is a key
element in the corporate governance process of any
organisation. The Audit Committee is a sub-group of the
board of directors formed to regularly review processes
and procedures to ensure the efficacy of internal
control systems to maintain high levels of accuracy and
competence in the reporting of financial results. The
role of the Audit Committee is to perform as a catalyst
for effective and transparent financial reporting. Section
292A of the Companies Act, 1956 requires that every
public company having paid-up capital of not less than
Rs. 5 crores should constitute an Audit Committee of
the Board. For listed companies a similar requirement is
contained in Clause 49 of the SEBI Listing Agreement.
The provision related to Audit Committees contained in
the Companies Bill, 2011 is almost (but not in entirety)
a replica of the provisions of Clause 49 of Listing
Agreement.103
9. Role of Internal Audit
The importance an organization attaches to its internal
audit function is an indication of the organisation’s
commitment to effective internal control. The internal
audit charter, which is approved by the board or
designated committee, should include internal auditing’s
roles and responsibilities related to fraud.104
fraud.aspx
103 http://www.caclubindia.com/articles/audit-committee-an-overview-
12433.asp last accessed on October 12,
104 COSO report
External Measures
In the E&Y report titled “Fraud & Corporate Governance:
Changing Paradigm in India’ based on the India Fraud
Survey 2012105 around 40% of the respondents blamed
the inherent nature of the industry in which they operate
for corruption. 33% respondents thought that lack of an
effective regulatory mechanism and weak law enforcement
are equally responsible for corruption. Only 34% of the
respondents said that bribery and corruption was due to
the ‘weak tone at the top’. This suggests that a majority
of the respondents think that the causes of corruption and
bribery lie outside their organisations.
Further, around 62% of the respondents are in favour
of stringent disciplinary procedures and 73% said that
companies should have a zero tolerance approach
to bribery and corruption, for example by taking legal
action against the perpetrators of fraud. This finding
shows remarkable commitment of the respondents
to anti-corruption, for despite the fact that a majority
think the problem is beyond the boundaries of their
organisation, they are willing to take action against bribery
and corruption.
Businesses thrive in an eco-system created by the
interaction of society and government. If the eco-system
has problems and weaknesses, they would invariably
impact the corporate as they cannot work in isolation.
Despite all the efforts that corporates may make
internally to curb fraud and corruption, they also have
to constructively influence the environment to create a
positive, transparent and fair environment to ensure that
business can meet its objectives without really having to
break the law or deprive society and citizens of their dues.
In this section we will look at the legal environment,
enforcement and government processes which can help
in early detection, resolution and prevention of fraud and
corruption cases. This will also help create a constructive
environment for business.
105 http://www.ey.com/IN/en/Services/Assurance/Fraud-Investigation-
--Dispute-Services/Fraud-and-corporate-governance-Changing-paradigm-
in-India
61

EXTERNAL ENVIRONMENT
The above picture106 aptly summarises the role of various
components of the external environment along with the
desired features to provide governments/ enforcement
agencies the necessary impetus in their prevention and
detection endeavours.
We have covered some of the areas that the government
needs to address as part of its responsibility to curb
corruption and frauds. However, corporates are equally
responsible and could contribute by:
Communicating the measures they have taken to ensure
ethical operations internally to their stake-holders i.e.
investors, customers, vendors and general public. Besides
other information they could share their code of conduct
in public communications. They should share ethical
practices, their experience in implementing them and their
impact with other corporates. This would help them make
a smoother transition and change.
106 The picture has been taken from The Cleangov Biz Toolkit for integrity,
available at http://www.oecd.org/cleangovbiz/resources.htm
They should participate in industry forums and advocate a
more ethical way of doing business so as to influence the
overall business environment.
Collective Measures
In this section we look at the role of social groups and
other agencies in improving the general fraud and
corruption climate in a society. Clearly there is a need for
an alignment of goals amongst civil society, government
and business. Most democratic governments need to
work for the good of the civil society and that should
include development of fair and transparent economic
activities through strong rule of law and a responsible
private sector.
An example of goal alignment and collaborative working
is the concept of integrity pacts. The CVC in the draft
national anti-corruption strategy has suggested the
adoption of Integrity Pacts (IP) by the private sector to help
reduce corruption in public procurements.
Healthy Governance
• Regulatory policy
• Competition policy
• Judicial systems
• Public financial
management
• Development
co-operation
Effective Prevention
• Public sector
integrity
• Public procurement
• Tax transparency
• Export credits
• Lobbying
• Business sector
integrity
• Civil society
empowerment
Development
co-operation
Robust prosecution
and recovery
• Criminalising
bribery
• Asset recovery
Sharp detection
• Money laundering
• Tax administration
• Whistle blower
protection
• Independent
media -operation
62

The IP107 is a tool developed in the 1990s by Transparency
International (TI) to help governments, businesses and
civil society to fight corruption in public contracting and
procurements. They are essentially an agreement between
the government agency offering a contract and the
companies bidding for it that they will abstain from bribery,
collusion and other corrupt practices for the extent of
the contract. To ensure accountability, IPs also include a
monitoring system typically led by civil society groups.108
Benefits to the organization that signs an IP is that it helps
enhance public trust in government contracting through
transparency. It also enables companies to abstain from
bribing by providing assurances to them that:
(a) Competitors will also refrain from bribing
(b) Government bidding system and procurement will be
absolutely transparent
(c) Government will not only prevent corruption
but also extortion by their officials, and follow
transparent procedures.
(d) Helps Government and companies to reduce high
cost and maintain quality control.
(e) Creates confidence and trust in decision making
process, a more hospitable investment climate, and
public support in the country.
107 http://www.transparencyindia.org/resource/books/Implementation%20
of%20Integrity%20Pact%20in%20India.pdf
108 http://www.transparency.org/whatwedo/tools/integrity_pacts
Other Measures
There is enough scope for international co-operation
in the matter of greater transparency and sharing of
best practices in governance mechanisms, laws and
regulations. Greater co-ordination should be there
between law enforcement agencies and regulators to
counteract cross-border frauds and corruption. Countries
should consolidate their resources and coordinate their
efforts to prevent the effects of corruption from acquiring
a transnational scope and should sign anti-corruption
conventions and agreements.109
Further, countries that offer economic refuge to a number
of economic offenders through tax havens and secrecy
laws need to seriously re-consider such strategies and
laws. They need to provide transparency and a level
playing field in such international financial transactions
otherwise they are only paying lip service to the anti-corruption
conventions that get signed.
anti-corruption programme, Hills Governance Centre, available at
pdf
63

Case Studies: Good Practices for
promoting ethical conduct
TATA CHEMICALS LIMITED (TCL):
Tata Chemicals has formulated formal and informal systems of governance to
ensure ethical business conduct. TCL has clearly defined the role of its leaders
and employees in ethical conduct of business. The company has governance
structure, organisation structure and resolution mechanism in place to cater
to the grievances of the employees. The organisation structure has provided
with ethical officer at every level of its functioning addressing gift and donation,
whistle blowing and safety issues. TCL, also, works towards bringing about
transparency in dealing with external agencies, training its employees for ethical
working and the leadership is involved in regular review of its code of conduct.
SIEMENS:
Since 2007, Siemens is involved in framing compliance polices by creating
a process plan of prevention, detection and response. As a long terms goal,
Siemens is working towards eliminating the process weakness, simplifying the
work process and teaching the culture of integrity to its employees. In case
of misconduct, based on the severity of the cases, steps are taken; informal
warning, formal warming and laying off. The compliance process is not just
confined to Siemens employees but is also extended to its vendors and
customers. Siemens has contributed USD 4.35 million to the United Nations
Global Compact Project to promote Collective Action against corruption in key
markets, including India.
INFOSYS LTD:
The Infosys code of conduct and the value training program enables the
organization to ensure that its employees assimilate corporate and business
values in their daily working. The Infosys Values Program was formulated to
create awareness about the company values and engage the employees to
implement these values, discuss and debate to improve the compliance policies,
provide training and self–learning modules and create a cycle of feedback. The
program equips the new hires with the understanding of the company values.
The program also publishes anti-corruption literature, conducts surveys of the
senior leadership, creates value portals and uses electronic media to spread the
company’s ethics.
GAIL:
In 2003, GAIL introduced a web-based centralised system called the Bill Watch
System (BWS) to keep track of the vendor bills. BWS is an application for
tracking the flow and status of all the bills received by GAIL. A unique receipt
number generated through the system is provided to vendors at the time of
bill entry in BWS. The status of each bill can be checked by the vendor online
through the receipt number. The use of online forms, workflow, reporting and
other tools which were a part of the BWS enabled the GAIL team to streamline
their bill settlement process and reduce it from 20 days to less than 7 days.
64

HCL TECHNOLOGIES LTD:
HCL Technologies Limited (HCL), a software company of over US 4,4 Billion in
turnover, has operations over 31 countries across the globe. HCL employs over
85000 people and has a unique ethos of “Employees First, Customers Second”,
which creates a focus on employees as a key value driver for the company.
HCL reaches out to its stakeholders comprising of employees, customers,
vendors and shareholders for any grievance they may have on the code
of conduct of the company through a unique programme of creating an
independent external Ombudsman to be focal point for receiving such compliant
and working with the company for a resolution. The process provides to
the stakeholders a platform for voicing their complaints and a mechanism
for resolution that would be fair and without the fear of any retribution. The
Ombudsman in turn reports to the Chairman of the Audit Committee.
HCL values the process they have put in place, independent of any regulatory
requirement, and going by the number of resolutions believe that the voice of
the stakeholders are truly heard and the resolutions take place in a time bound
manner based on a Service level agreement for all concerned.
INFO EDGE INDIA LTD.(NAUKRI):
Info Edge India Limited, (Naukri) is India’s leading Internet Company with India’s
most successful employment portal called Naukri.com. They also run a property
portal called 99acres.com, an education classifieds portal called Shiksha.
com and a matrimonial portal called jeevansathi.com. Info Edge is listed on
NSE & BSE with a public float of over 47% and a market cap of about INR
38.21 billion. Info Edge has created unique ethical standards for its promoters,
board members and all key employees in relation to trading of the shares of
the company, beyond the requirements of the Securities laws and corporate
governance conventions. The company is focused on implementing controls
and processes, so that the persons in possession of sensitive information
having potential to affect its share price do not take undue advantage from such
information at the expense of other shareholders. The Company has instituted a
system for Board Members & Officers for obtaining pre-clearance of trade above
a threshold limit from Chairman of the Audit Committee & providing an appeal
matrix in case the permission is denied by the approving authority.
Info Edge has also adopted a policy to regulate external commitments of
its Promoter Directors which includes their strategic investments beyond a
threshold limit and external directorships e.g. the Promoter Directors are not
permitted to invest in internet-based businesses since those may be in conflict
with the Company’s businesses, both internal and through external investments.
Going a step ahead of statutory requirements, Info Edge Board comprises of a
majority of Independent Directors (5 out of 9) despite having a Non-Executive
Chairman, which would have meant one third Independent Directors. The
compensation plan of Independent Directors has been designed to promote
their participation in the Board & Audit Committee meetings by having fixed and
variable components in the commission paid to them annually.
The Company has voluntarily constituted its Audit Committee with only
Independent Directors as Members. Info Edge believes such practices create
value for all stakeholders and reduce the risk of misuse by those in charge of
governance of the company.
65

Good Practices for Maintaining
Ethical Behaviour
• Various international organizations like the ICC, UNGC, and PACI
agree that corruption affects the cost of doing business, particularly in
developing countries.
• Different dimensions related to fighting corruption includes: internal, external,
collective and other measures.
• International measures work at organizational level which includes: internal
control, code of conduct, and tone at the top, fraud risk assessment program,
the role of whistle-blowers, deterrence mechanism, detection plan, audit
committee, and internal control.
• External measures for dealing with corruption include creation of healthy
governance policy and system, effective prevention, sharp detection with
robust prosecution and recovery.
• Collective measures include the role of social groups, civil society and other
organizations in improving fraud and corruption environment.
• Other measures relate to international cooperation for greater transparency
and sharing of resources and best practices in governance mechanism in laws
and regulations.
66

While, corruption has been present from time immemorial,
focus on the issue has increased due to frequent and
massive institutional failures. While developed economies
like US and UK are expected be at the forefront of anti-corruption
Fighting Corruption : Measures
and anti-fraud measures, even developing
economies are confronting these issues head on. V.
Raghunathan, mentions in his article Corruption in India
and China: A study in contrast (2011) that:
“This New Year, China has announced a renewed effort
to fight increasing corruption in the country. According
to reports, in 2010 alone, its war against corruption
resulted in no less than some 5,000 higher-level Chinese
government officials — mostly above the county head
level — being punished for corruption. Further, according
to CCDI, again in 2010 alone, some 1,44,000 cases of
corruption were investigated, leading to penalties for more
than 1,46,000 lower-ranking government officials! Most of
these cases pertained to officials involved in corruption,
bribery and acting against public interest — much like
our own.”
As per the Corruption Perception Index of 2011, published
by Transparency International, India has a composite
score 3.1 while China is ahead at 3.6 and Brazil is at 3.8.
India’s overall rank has also slipped in 2011 to 95 out of
183 countries while earlier it was 87 out of 178 countries.
Meanwhile China has improved its rank from 78 to 75.
The unearthing of mega scams over the last two years
which has made everybody give the issue of corruption
and fraud its due focus and importance has meant
that the monkey is firmly on India’s shoulder and isn’t
going away in a hurry. In fact in the last couple of years
independent India has experienced something rarely
seen before i.e. politicians, bureaucrats and businessmen
being jailed and tried for corruption and fraud. Future
elections could well be fought and decided on the issue of
curbing rampant corruption and fraud. These governance
issues have had a huge negative impact on India’s
economic growth.
Raghuram Rajan, the chief economic adviser to the
finance ministry, has said a period of rapid economic
growth in which governance capabilities did not keep
pace has allowed sections of the private sector to “make
a killing”. He mentioned that “The private sector to some
extent took advantage of this gap — some of them
through means that were fair, some through means less
fair — and has made a killing”. Rajan said what was
urgently needed was to bring the level of governance on
a par with the level of the economy, a process that “is
under way”.
Corporate Fraud
Along with the cases of corruption there has also been
increased in cases of corporate fraud, in the recent years.
This has brought to light the supply side of the equation
and the ever present danger of this malaise. The recent
trend also shows an increase in quantum of fraud with
ever evolving complexity. This has created a challenge
for governments, managements and society as a whole.
While increased regulatory scrutiny and reforms in
corporate governance have helped in unearthing several
large cases of fraud in the past few years in India, the
government is aware that it needs to do more.
Greater independent oversight is required over the audit
and accounting profession so as to improve its quality
and make it a key defence against corporate frauds rather
than an ambivalent watchdog which hardly provides and
meaningful assurance to investors and regulators against
corporate fraud.
No industry is immune to fraudulent situations and the
negative publicity that swirls around them. The implication
of this trend is very clear to the lawmakers, regulators,
investigating agencies and managements i.e. every
organization is vulnerable to fraud, and managers both
of organizations and the economy must know how to
predict and detect it — or at least known when to suspect
it. Further, as has been proven globally, whistle-blowers
need to be protected and encouraged to provide useful
information in order to uncover frauds.
Global studies and trends indicate a need to keep up
with changing times by leveraging technology and
having strong mechanisms for detecting, investigating
and prosecuting. Given that corporate frauds are
becoming increasingly sophisticated with improvements
in technology, the Indian investigating agencies also need
Conclusions
67

to become technology savvy in detecting and predicting
frauds. There are mathematical models which can predict
the probability of fraud in financial statements using GAAP
and non-GAAP indicators, which can be leveraged.
They also need to create a knowledge repository
comprising of every single case of fraud. They should be
able to use this information in a cogent and organized
manner not only to facilitate and expedite prosecutions,
but also use it as a tool for development of training and
enhanced learning for the future. Further, regulators and
investigating agencies also need to ensure that their data
collected by them is shared between them in a secure
IT infrastructure for better detection using analytics and
pattern-recognition.
There is also enough scope for international co-operation
in the matter of greater transparency and use
of information technology. Greater coordination between
law enforcement agencies and regulators to counteract
cross-border frauds and corruption as well as sharing
of skills and resources to tackle serious economic crime
should also be facilitated. Further, Investigating agencies
in India need to leverage technology to improve their own
efficiency in the same manner as the SFO in UK, which
has been able to reduce the time of first charge for cases
of frauds from 48 (plus) months five years ago to 19
months now.
India also needs to streamline the multiplicity of
investigating/regulatory agencies and bringing in efficiency
and effectiveness in the administration of existing
regulations. It also needs to consider instituting other
fast-track legal remedies/mechanisms given India’s
cultural context and weak legal administration to tackle the
growing menace of fraud. Regular updates on legal cases
should also be shared by the agencies with the public on
their websites. This information will also provide inputs to
the policy/lawmakers regarding the loopholes that they
need to plug in timely administration of justice.
The Government does recognize this challenge and
some changes are on their way including strengthening
the legal & the regulatory framework with new laws,
rules & regulations and initiatives. These need to
be operationalized as soon as possible to ensure
effective deterrence.
In Summary
A predictable, competitive, and fair economic environment
which is free of corruption is central to sustainable
business, economic growth and national development.
Going forward a number of players in corporate India
would need to decide whether they will continue to
rationalize corruption & fraud as a way of doing business
or whether they will adopt more sustainable business
practices. They would also need to decide whether to
continue playing the ‘victim’ and blame the system,
society and history of their problems or whether they will
take the bull by the horns and lead a transformational
change. Unless fundamental changes are made in
tackling corruption and improving governance, the very
basis of modern life would be under grave threat. Mass
movements are the latest indicators of public disaffection.
Civil society should also work in a collaborative approach
with the government and business to create a more
transparent, true and fair system rather than an approach
of confrontation. A rabid anti-corruption and anti-fraud
stance can easily become an anti-government stance
which can lead to anarchy. Or it may degenerate into an
anti-business stance which can lead to slower economic
growth. If peace and prosperity of a nation are hit, it can
in the final assessment only hurt the poor and vulnerable
sections the society.
While, there cannot be a single silver bullet solution to curb
corporate fraud and corruption, the current study is an
attempt to look at the evidence available and compile the
various facts and nuances surrounding this complex issue.
It is an attempt to move away from the emotive appeal
of the anti-corruption and anti-fraud stand to explore the
subject dispassionately so that a platform of dialogue and
possible solutions can be created.
68

It is hoped that the discussions and dialogue
generated by the report could lead to a
number of complementary and supplementary
measures required both inside an organization
and outside. A mix of regulatory and
enforcement solutions and initiatives can very
quickly move the current mind-set of gloom
and doom to an environment which is suitable
for more transparent and sustainable business.
The high confidence thus created in business
and society would help invigorate economic
growth and development of society at large.
69

1 Our sample comprised of the cases which have been investigated
by the Serious Fraud Investigation Office (SFIO), the Central Bureau
of Investigation (CBI) and the Income Tax department on the basis of
information available in public domain.
2 Message of the UN Secretary-General, on December 9, 2011. http://
www.un.org/en/events/anticorruptionday/sgmessages.shtml.
3 Who pays for corruption? by Kaushik Dutta, Sameer Ka-poor
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4 N Handbook on Practical Anti-corruption measures for prosecutors
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5 The United Nations Convention against Corruption (UNCAC) Decem-ber
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9 Collective action project business case for public-private dialogue
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10 Legal Corruption by Daniel Kauffman and Pedro C. Vincente (2005).
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24 Kaufmann, Daniel and Shang-Jin Wei (1999), Does “Grease Money”
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26 The United Nations Convention against Corruption (UNCAC) Decem-ber
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27 http://www.acfe.com/rttn-highlights.aspx.
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31 Kassem, R. and Higson, A. 2012. The new fraud triangle model.
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36 http://www.kpmg.com/IN/en/IssuesAndInsights/ArticlesPublications/
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37 http://www.deloitte.com/assets/Dcom-India/Local%20Assets/ Doc-uments/
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39 ‘India Means Business’: How the Elephant Earned its Stripes, Ksha-ma
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48 http://cbi.nic.in/aboutus/cbiroles.php.
49 http://www.incometaxindia.gov.in/.
52 Earnings Management’ has been defined as purposeful intervention
in the external financial reporting process, with the intent of obtaining
some private gain, Schipper, K., 1989. “Commentary on Earnings
Management”, Accounting Horizons, Vol. 3, pp.91–102.
Endnotes
70

53 Exploring the Relation between Earnings Management and Corpo-rate
Governance Characteristics in the Indian Context, Corporate
Governance in India: From Policies to Reality.
54 http://www.tari.co.in/index/reports/id/14.
55 Auditors: Judging by the Fairness of the Numbers, Corporate
Governance in India from polices to reality, By Kshama V Kaushik,
Kaushik Dutta, Rewa P Kamboj.
56 The World Price of Earnings Opacity by Bhattacharya, U, Daouk, H
and Welker, M (2002).
57 ibid.
58 Corporate Governance in India. From Policies to Reality. By IICA,
TARI & IIMC. Pg 148-187.
59 http://www.sfio.nic.in/websitenew/in%20SFIO.pdf.
60 http://www.sfio.nic.in/websitenew/case_CLF.pdf.
63 http://www.sebi.gov.in/cms/sebi_data/attachdocs/1352177036821.
pdf last accessed on February 7, 2012.
64 http://articles.timesofindia.indiatimes.com/2010-12-09/ in-dia/
28238249_1_bribe-transparency-international-international-anti-corruption-
day.
65 http://www.firstpost.com/economy/real-scam-we-pay-rs-400000-
cr-in-bribe-taxes-a-year-434656.html/2 last accessed on January 4,
2013.
Affairs. Page 5.
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72 Black Money. White Paper 2012.Ministry of Finance, Department of
Revenue.CBDT, New Delhi. Pg 4.
73 Fraudulent Financial Reporting: 1998-2007 – An analysis of U.S.
Public companies (2010) http://www.coso.org/FraudReport.htm.
74 Multiple Gatekeepers, Andrew F Tuch, discussion paper no. 33, 3
/20120, Harvard Law School, Cambridge, MA.
75 A growth friendly regulatory framework, available at: http:// planning-commission.
nic.in/reports/genrep/rep_fr/ch6_fr.pdf, last accessed
on October 5, 2012.
76 /6 http://www.doingbusiness.org/data/exploreeconomies/ india#en-forcing-
contracts.
78 Corporate Governance in India. From Policies to Reality. By IICA,
TARI & IIMC. Pg. 22.
79 Text of Speech – Union Law Minister on the programme to reduce
pendency in courts (July 1, 2011), http://pib.nic.in/newsite/erelease.
aspx?relid=72970.
80 Rajya Sabha standing committee report on home affairs on Amend-ment
of Criminal Law (Amendment) Bill 2003. Pg 6.
81 Figures at a glance 2011. http://ncrb.nic.in/.
82 A growth friendly regulatory framework, available at http:// planning-commission.
nic.in/reports/genrep/rep_fr/ch6_fr.pdf, last accessed
on October 5, 2012.
83 http://articles.economictimes.indiatimes.com/2011-05-22/
news/29571284_1_sfio-investigation-satyam-fraud-case.
84 www.sfo.gov.uk.
anti-corruption programme, Hills Governance Centre, available at :
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86 https://members.weforum.org/pdf/paci/ BusinessCaseAgainstCor-ruption.
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87 https://members.weforum.org/pdf/paci/ BusinessCaseAgainstCor-ruption.
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88 http://www.unglobalcompact.org/AboutTheGC/TheTenPrinciples/
principle10.html.
89 http://www.coso.org/resources.htm.
90 http://www.csoonline.com/article/678375/fraud-prevention-improv-inginternal-
controls- last accessed on October 10, 2012.
91 COSO report.
92 http://www.theiia.org/theiia/about-the-profession/internal-audit-faqs/?
i=3087 last accessed on October 10, 2012.
93 COSO report.
fraud.aspx.
95 http://pogoblog.typepad.com/pogo/2010/04/who-discov-ers-
morecorporate- fraud-whistleblowers-regulators-or-journalists.
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96 Economic Crime, People Culture and Controls, Global Economic
Crime Survey available at http://www.whistleblowers.org/storage/
whistleblowers/documents/pwc_survey.pdf.
97 http://www.whistleblowers.org/index.php?option=com_ con-tent&
task=view&id=102&Itemid=136.
rttn/2012-report-to-nations.pdf.
99 http://www.macroresilience.com/2010/03/17/employee-whistle-blowers-
as-an-effective-mechanism-to-uncover-fraud/.
100 COSO report.
101 COSO report.
fraud.aspx.
103 http://www.caclubindia.com/articles/audit-committee-anoverview-
12433.asp last accessed on October 12,.
104 COSO report.
105 http://www.ey.com/IN/en/Services/Assurance/Fraud-Investigation-
--Dispute-Services/Fraud-and-corporate-governance-Changingpar-adigm-
in-India.
106 The picture has been taken from The Cleangov Biz Toolkit for integri-ty,
available at http://www.oecd.org/cleangovbiz/resources.htm.
107 http://www.transparencyindia.org/resource/books/Implementa-tion%
20 of%20Integrity%20Pact%20in%20India.pdf.
108 http://www.transparency.org/whatwedo/tools/integrity_pacts.
anti-corruption programme, Hills Governance Centre, available at
pdf
71

Thought Arbitrage Research Institute (TARI) is a not
for profit organisation set up under Section 25 of
the Indian Companies Act. TARI is one of the few
privately-funded, independent and non-partisan Indian
think-tanks on -
• Corporate Governance • Sustainability
• Economics • Public Policy
Today research in such areas is usually funded by the
government, bilateral agencies or foreign universities; there
is very little privately funded research that puts forth an
unbiased and a non-partisan point of view.
TARI attempts to bridge the gap in the area of thought
development. This research will ultimately contribute to
reducing the cost of capital for India as more business
decisions will be based on researched facts rather
than opinions.
Tomorrow’s arbitrage will not be on labour, cost or
capital—but on knowledge, ideas and thought. Countries
that are ahead in these areas will control the course of
global economic power.
www.tari.co.in
The Global Compact Network India (GCNI) is
registered as a non-profit society, and is the India
Local Network of United Nations Global Compact
(UNGC) - the largest voluntary corporate citizenship
in the world, operating in 130 countries. UNGC
offers a unique platform to engage companies
in responsible business behaviour, through Ten
Principles, in the areas of human rights, labour
standards, the environment and anti-corruption. GCNI
has 150 members and 303 signatories, comprising
of all the major private and public sector business in
the country.
In December 2010 UNGC launched the Anti-Corruption
Collective Action Project in five countries – Brazil, Egypt,
India, Nigeria and South Africa – with support from
Siemens Integrity Initiative Fund. The project offers an
opportunity for a wide range of stakeholders to explore
how collective action can create incentives for ethical
business performance.
gcnindia.org/projects.php

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