Class 16 International Operations

Question 1

What case is Parmalat similar to?

Answer 1

Adelphia (one of the biggest European corporate frauds)

Question 2

As Parmalat expanded, how did debt did the acquisitions leave the company in?

Answer 2

$7.3 billion in debt

Question 3

What type of business is Parmalat?

Answer 3

• Food business

- Milk producer in Parma region

Question 4

Who was involved in the Parmalat fraud?

Answer 4

• CEO Tanzi and members of his family

Question 5

What conditions appear to have allowed the Parmalat situation to get out of control?

Answer 5

• Family BOD and management
• Rapid growth
• Expansion in non-core businesses
• Lack of controls
• Lack of outside scrutiny (GT and Deloitte)

Question 6

What specific audit procedures could have uncovered the Parmalat fraud?

Answer 6

• Adequately assessing significant risk factors

Question 7

In 2002, how much did Parmalat report in annual sales?

Answer 7

7.6 billion euros

Question 8

In late 2003, what happened to Parmalat?

Answer 8

• Placed under administration and declared insolvent

Question 9

What did the Italian “Draghi” law passed in 1998 to improve corporate governance require?

Answer 9

A public co. is required to change auditors every nine years

Question 10

How is it that a food company (Parmalat), which operates in a stable cash-generating sector, can develop a shortage of cash?

Answer 10

• Series of acquisitions/expansion (Asia, Southern Africa, Australia. NA, SA, Eastern Europe)
• Borrowed money to finance

Question 11

Were all of Parmalat’s expansions related businesses?

Answer 11

• NO (e.g. soccer team Parma A.C., Formula 1 racing team)

- Reflected interests of family members

Question 12

Parmalat’s bankruptcy caused vast losses affecting whom?

Answer 12

• Multinational banks
• Investors around the world
• Tens of thousands of employees
• Auditors

Question 13

How did the Parmalat CEO Calisto Tanzi and members of his family run Parmalat?

Answer 13

Like a family business

Question 14

Describe the environment at Parmalat that allowed the Tanzi family to perpetrate such a massive fraud.

Answer 14

• Rapid expansion
• Unprofitable acquisitions
• Poor management
• Lack of controls

Question 15

How did Tanzi and other executives at Parmalat mask the company’s financial problems?

Answer 15

• Manipulated financial statements
• E..g established a series of overseas companies to transfer money among and conceal liabilities in order to give appearance of financial stability and liquidity

Question 16

How did Parmalat manage to stay afloat during this massive fraud?

Answer 16

Raised funds by selling bonds

Question 17

True of false.

Parmalat auditors failed to determine that 200 companies created by Parmalat did not exist.

Answer 17

True

Question 18

What happened b/w Parmalat and Lehman Brothers in 2003?

Answer 18

• Lehman issues neg. report (casting doubt on Parmalat financials)
• Tanzi complains to Italian regulators that he is being slandered (as part of Lehman scheme to drive down share price to acquire Parmalat)

Question 19

Aside from Lehman Brothers, how were other banks feeling about Parmalat in early 2003??

Answer 19

• Optimistic (e.g. Deutsche Bank, Citibank)

- Still buying, promoting Parmalat bonds

Question 20

True or false.

Parmalat’s vast network of fraudulent activity involved: creative tax planning, complicated off B/S transactions, related party transactions, illegal diversion of funds, and falsification of documents.

Answer 20

True

Question 21

How was Parmalat’s true financial condition uncovered?

Answer 21

When company fails to make a scheduled bond repayment in December 2003

Question 22

What conditions appear to have allowed the Parmalat situation to get out of control?

Answer 22

• Incestuous board and management (Tanzi family and locals from Parma)
• Rapid growth
• Expansion in non-core businesses
• Lack of controls
• Lack of outside scrutiny by GT and Deloitte

Question 23

What specific audit procedures could have uncovered the fraud earlier?

Answer 23

• Adequately assessing significant risk facts
• Exercise professional judgement when considering risk factors individually or in combination
• And whether there are specific controls that mitigate the risk
• MORE TESTING!!!

Question 24

True or false.

A common type of fraud is the capitalization of expenses

Answer 24

True

Question 25

In auditing Parmalat, Deloitte did seek confirmation of the $5 billion Bank of America account. What mistake did Deloitte make in going about it?

Answer 25

• Made mistake of using interoffice mail

- Where it was intercepted and favorable reply forged

Question 26

In auditing Parmalat, was Deloitte able to locate “Account 999”?

Answer 26

NO

• debit of $12.83 billion
• trash bin of all faked revenues, assets and profits

Question 27

How did the following area of risk in Parmalat’s control environment contribute to the fraud?

Audit committee participation

Answer 27

Not an independent audit committee

Question 28

What changes could be made to improve Parmalat’s control system and corporate governance to mitigate the risk of accounting and business fraud in future years?

Answer 28

• Whistleblower system
• Independent audit committee
• Internal audit function reporting to BOD audit committee
• Have a financial expert on audit committee
• Segregation of duties
• Good tone at the top
• Majority of independent directors
• Code of conduct

Question 29

What are five insights you get from the Parable of the Sadhu case concerning the resolution of ethical dilemmas?

Answer 29

1) It’s easy to be blinded by the light of your goal (single-minded pursuit)
2) Affects how you frame the issue/perceive the need (egoism)
3) Don’t get lost in the group
4) Beware the conflict of loyalty
5) Beware of moral relativism