Introduction
Parmalat started as a small family-owned dairy shop in 1961 and grew into a gigantic enterprise with over 30 branches in Italy (Dibra 286). This business belonged to Calisto Tanzi who owned the majority of the stake. It had a significant impact on the world farm products market as well as the country’s economy. For example, about 5,000 farmers supplied milk to the company while 39,000 were employed directly (Soltani & Soltani 222). However, this successful corporation was mismanaged and it went bankrupt. The fall was mainly attributed to family members overriding internal control to commit fraud.
A scandal ensued in the Parmalat industry in late 2003 after a discovery that about $64 billion that was supposed to be in the Bank of America savings account were not available (Dibra 287). This caused Milan prosecutors to open a case against the founder of the organization Calisto Tanzi, his family members, and some other executive officers in March 2004 (Ogutu 2758). Consequently, the Bank of America Italian branches, 29 people, and accountants in Deloitte and Touche and Grant Thornton were investigated for three months before judgment.
The filed charges against the persecuted included false auditing, market rigging, and regulatory obstruction after a disclosure that about $1.15 billion were missing from the dairy group account (Ogutu 2758). Three employees were imprisoned for their role in facilitating the fraud and a lawsuit was filed against all the auditors involved. Despite the financial challenges, Parmalat is currently thriving on five continents. This paper discusses the events, causes, and impacts of fraud as well as the lesson learned from the fall of the business empire.
Events
Fraudulent activities, which led Parmalat to debt started in the 1990s when a need for expansion into a larger company arose (Dibra 288). The corporation’s stock was made public in order to improve performance, attract investors, and propel it into international markets. In 1991, the founder bought Parma Football Club, which acquired fame rapidly but later recorded a significant deficit that led to its closure (Soltani & Soltani 226).
Calisto expanded his market globally by starting the Parmalat milk firm and buying shares from his competitors. He bought the Odeon TV network and started a tourism venture, which later ruined his finances. Tanzi spent about ÂŁ130 million on the TV channel network and sold it at a loss of ÂŁ100million (Soltani & Soltani 222). Due to these challenges the company invested using falsified figures, taking bank loans, and altering their accounting books to cover the damages.
The company progressed aggressively and acquired properties using fabricated transactions from 1992. It obtained small enterprises from Hungary, Brazil, Italy, Argentina, and the US (Soltani & Soltani 222). From 1995, Parmalat was not able to fund its own needs although its records showed that the firm was registering profits in 2004 (Dibra 287). Several organizations were lured to invest in the enterprise such as the Bank of America through private placements and bonds.
Italian law requires companies to change external auditors after 9 years. Therefore, Deloitte and Touche replaced Grant Thornton. Consequently, the new auditor exposed scandals in Parmalat. Nevertheless, Grant Thornton continued working closely with the enterprise by facilitating illicit payments. In addition, the firm executives also took part in generating false debts and creating dishonest accounts from which the company can receive money. Deloitte and Touche rarely discovered irregularities with cash flow because Thornton records had been falsified.
In 1999, the Parmalat finance director laid a financial fraud through Buconero Company based in Delaware. This enterprise transferred money to Parmalat Swiss subsidiary worth $137 million and in return, it was paid 6%, and an additional $7 for the services rendered (Ogutu 2752). In addition to using Buconero, other offshore companies such as Shell were utilized to conceal debts. For instance, in Latin America, the corporation had been losing about 300 million yearly (Ogutu 2752). However, its debts were erased in the financial records by utilizing Caribbean shell companies.
Concerns were raised regarding high debts accrued by Parmalat in the late 90s. For example, Esteban Pedro Villar filed a warning report concerning the Latin American Parmalat’s arrangement, which was termed ridiculous. After the expose some businesses such as Argentina Deloitte’s Parmalat were terminated to hide evidence and their accounts certified. Thereafter, in 2003 a similar complaint about a fictitious transfer of $7 billion was launched by Wanderley Olivetti of Brazil (Ogutu 2758). His concerns were also ignored and he was excluded from dealing with the firm accounts.
Summary of the Fraudulent Activities Undertaken by Parmalat
The key events that resulted in the exposure of fraudulent activities were a transaction between Tanzi, his son, and a private equity company called Blackstone Group in 2003 (Ogutu 2748). The two wanted to sell half of their family shares to the New York firm, however, they realized that Parmalat had only 3 billion euros recorded in the annual report with no liquid assets (Ogutu 2750). In addition, it was in debts accruing to almost 10 billion euros. Blackstone group discovered that the seller was operating on a falsified accounting record and exposed it. This event marked the end of the dishonest activities in the dairy enterprise.
Parmalat Company fraudulent activities affected several companies in America and other parts of the world. It sold in debt securities amounting to $ 1 billion in different private placements from 1997 to 2002 (Soltani & Soltani 233). On July 28, 2004, the firm consented to a lawsuit filed against them in Southern District Court concerning fraud. The charges raised include overstating the amount of cash and marketable securities by more than $ 4.9 billion by the end of 2002 and understating their debts, which was about $10 billion during transactions (Ogutu 2749). These dealings largely implicated the firm in swindling several US-based investors.
Parmalat used several tactics to hide its credit status, it removed $ 1.6 billion owed by one of its nominees and recorded $ 1.6 billion in debt as equity using an untruthful participation agreement (Usman et al. 45). In addition, the firm eliminated liabilities worth $500 million by labeling the sales of receivables as non-recourse (Dibra 287). The organization also excluded $1.6 million in debts when accounting by mislabeling debts owed to banks as intercompany debt (Ogutu 2758). The hidden debt denied the company growth opportunities and it also led to bankruptcy.
Additionally, Parmalat utilized nominee entities to offset losses incurred in operating subsidiaries by making fake financial operations. It also concealed intercompany loans between different branches experiencing operating losses. The firm avoided scrutiny because its receivables were aging. The enterprise recorded fictitious revenue through sales undertaken by the subsidiary companies and sold to controlled nominee entities at extremely high prices. According to Dibra (288), properties worth $500 million were transferred to other businesses owned by the Tanzi. This was done to benefit some family members who wanted to accumulate more wealth to the detriment of other shareholders.
Causes of Fraud
The lack of sufficient control over the working environment caused mismanagement and fraud. Probing of issues was hindered by the fact that one person acted as both the CEO and the chair. Furthermore, the interest of shareholders was not well represented because the board had only three members including the founder. Thus, the non-separation of the two positions contributed to the fall of the multi-giant dairy industry.
The auditors were required to undertake auditing with care, objectivity, and professional skepticism. In the case of Parmalat, the leaders were responsible for perpetuating the scam because they were not diligent in their work to stop fraudulent activities. The governance was inauthentic for not creating a just working environment. There is no evidence to suggest that the organization’s culture fostered transparency and openness, which are critical elements for establishing an ethical setting. It seems that the managers had a keen interest in benefitting themselves from the company’s resources rather than being honest.
Failure to implement an effective and adequate monitoring system is also a key cause of Parmalat’s fall. The firm had no proper way of streamlining the governance framework and detecting greed, abuse of power, and fraudulent activities. Although auditors such as Deloitte Touche Tohmatsu, and Grant Thornton International were blamed for not noticing the fraudulent activities, most of the mistakes should be attributed to a lack of operational monitoring structures because both the auditors, legal advisors, and some banks aided the company to sustain fraud.
Parmalat’s top management leaders played a significant role in facilitating fraudulence, their duty was to give reliable and honest financial reporting to the company. However, they were involved in creating non-existent bank accounts and misleading information as well as maintaining false records. In addition, these managers were required to serve all the investors and shareholders equally without favors but they prioritized the Tanzi’s.
The working culture in Parmalat did not promote ethics, for this reason, the workers were less concerned about the credibility of the financial statements, which had an impact on operations, and the monetary position of the company. In addition, the board of directors in the firm were not involved actively in the governance system, this was evidenced by the fact that no action was undertaken when theft done by the Tanzi family was reported.
The failure of auditors to perform their function as required was key in causing the dairy company to fall. It was discovered that about $ 5 billion purported to be in the Bank of America account was not existing (Usman et al. 53). The leaders had created a fake confirmation letter concerning the non-existent account and forwarded it for approval. Although the auditors undertook the required procedures when confirming this bank account, they made a serious mistake of using the Parmalat internal mail system.
The firm employees intercepted the verification request and forged it by printing the letter with bank of America letterhead. Due to negligence by the auditors, the confirmation letter emailed to the Bank of America had a fax number with the wrong area and country code, this fault caused the firm to be investigated and exposed for having a non-existent bank account.
The non-executive directors lacked independence in performing their tasks. It was easier to influence the senior manager to make biased decisions because he had worked with Parmalat for more than 3 decades by 2008 (Dibra 287). Five directors out of 13 were not related to Calisto Tanzi who was both the CEO and chair (Soltani & Soltani 232). The executives from the founder’s lineage were, Tanzi’s son Stefano, nephew Paola Visconti, brother Giovanni, CFO Fausto Tonna, Alberto Ferraris, Luciano Del Soldato, and Fransesco Giuffredi. It is evident from this structure that power-sharing was unethical and it was a huge mockery of strong and effective governance.
Fraud Impact
Parmalat was the eighth largest business empire in Italy, therefore, its collapse had a significant impact on the country’s economy. This is because several people working in the firm were terminated from their jobs and the company lost revenues while settling legal matters. The Italian government changed its oversight role by streamlining systems that allowed fraud to flourish. This was done to restore foreign investors’ confidence and to attract international finance opportunities to Italy.
Parmalat had to change its corporate governance by implementing changes that could help in promoting compliance with the stipulated security laws. It consented to adjustment by adopting a code of ethics and an insider dealings code of conduct. In addition, the firm created a code of conduct, which governs the activities of all the employees. The company also decided to utilize bylaws giving governance powers to an independently elected board of directors, who serves for specified finite terms.
The fall of Parmalat had adverse effects on both the global and Italian economies. All employees who were directly involved in the scandal were sacked by the interim leadership. In addition, many people lost their jobs due to the restructuring process that was undertaken to rationalize the firm. The non-European countries also experienced losses since the corporation subsidiaries were reduced and the number of workers lowered. The founder Calisto Tanzi and chief finance officer Tonna were sentenced in Millan for violation of federal security laws while other officers obtained plea bargains, this forced the company leadership to be restructured.
The Parmalat Company had to file for bankruptcy at the end of 2003 after acknowledging the shortfall of multibillion euros in their accounts. This forced the government of Italy to act swiftly and cushion the farmers from adverse losses. A new rule called extraordinary administration was formulated to allow immediate replacement of individuals involved in the scandal and Enrico Bond was appointed to succeed Tanzi.
The new administrator developed a plan for restructuring Parmalat, which was approved in 2004 by the Italian government (Usman et al. 42). The Italians, non-Europeans, and French farmers had not been paid for supplying milk to the company billed at 120 million euros (Usman et al. 44). The government of Italy stepped in to prevent the complete fall of the biggest food industry that generates massive amounts of revenue. It proposed the creation of three subsidy programs with the Lombardia, French, and Italy governments, which oversaw compensation of farmers who had suffered losses attributed to the firm insolvency.
Lesson Learned
The Parmalat scandal revealed the need for corporate governance in different organizations to represent investors’ interests. The management of the firm failed to establish a keen monitoring and checking structure with the governance framework (Usman et al. 44). This exposed the company to fraudulent activities and abuse of power that led to its downfall. Therefore, the business corporation needs to have devices for detecting misconduct and deceit in workplaces.
Corporate governance ensures business success and it also helps in maximizing social welfare. Therefore, firms should endeavor to have it for auditing and disclosure, ethical management, and determining performing executive directors. Although group control may not prevent the top management from being unethical, the leaders may detect dishonesty before it is too late. In Parmalat, employees with good principles were influenced to partake in activities of benefited themselves at the expense of the enterprise because it was the norm. A presence of team control may have stopped the abuse of power and ethical dissonance, which led to the fall of the company.
The fall of Parmalat was partly attributed to the lack of a separate chair and a CEO. This scenario has taught me that better management and oversight are only achieved in an organization if the top leaders are independent of each other. The role of the chair is to evaluate strategy implementation by the management. On the other hand, the CEO is required to make sure that the board is fully engaged with pertinent activities and strategies. One person cannot be CEO and Chair without prioritizing his or her interest. Therefore, it is ethical and prudent for a company to have an independent chair. This is because the head becomes accountable to a visible leader and the interest of stakeholders are represented fully.
Complying with the government laws regulating companies is important and ethical because it prevents loss of revenues due to penalties. Parmalat disregarded Italy’s corporate governance code that requires several shareholders to control a firm. This rule is critical for accounting purposes because it enables directors to be independent of controlling shareholders. Since the company did not adhere to this legislation, the firm ended up with enormous debts that led to the collapse of the industry (Usman et al. 30).
Thus, a core strong governance system is dependent on effective compliance with regulations and rules from relevant authorities. Furthermore, it is ethical for organizations to promote accountability, good governance, and uphold good citizenship status in their area of operation.
External auditors are important in monitoring, enhancing, and maintaining a sustainable compliance mechanism in the company. Generally, auditors have a mandate to broaden, strengthen, and improve corporate governance. They also ensure that an organization’s internal control and processes of reporting finances are effective, adequate, and free from misstatements. However, Parmalat relied on internal auditors only who failed to produce reliable results and approve true financial statements. Also, the firm was not obedient to relevant federal rules and regulations, which is key to implementing a successful governance process. The involvement of external auditors would have helped the enterprise track process and detect anticipated challenges.
Individual moral integrities are critical in influencing the success of an industry, thus, corporate leaders have to ensure that their pool of employees has high principles, values, and conduct. Business ethics involves how a company deals with customers, stakeholders, profits, corporate conduct, and legal issues. Parmalat management had poor working principles because their activities were characterized by dishonesty and greed. This was evidenced by the fact that they created fake profits, had nonexisting assets, and forged financial records to fool shareholders and lenders. Therefore, the current firm leaders should focus on creating organizational values that will guide the workers.
Works Cited
Dibra, Rezart. “Corporate Governance Failure: The Case of Enron and Parmalat”. European Scientific Journal vol. 12, no. 16, 2016, pp. 286-289. Web.
Ogutu, Emmanuel O. “Corporate Failure and the Role of Governance: The Parmalat Scandal.” International Journal of Management vol. 11, no. 3, 2016, pp. 2748-2752.
Soltani, Bahram, and Flora Soltani. “The Inside Story of the Parmalat Scandal: Family Leadership.” Handbook of Frauds, Scams, and Swindles: Failures of Ethics in Leadership, 2017, pp. 222 -235.
Usman, Muhammad, et al. “Exploring the Links between Ethical Leadership and Organizational Unlearning: A Case Study of a European Multinational Company“. Business and Economic Review, vol. 10, no. 2, 2018, pp. 29-54. Web.