A huge amount has been written about Carillion and its ineffectual audit but, unfortunately, I believe Carillion could be the tip of the iceberg and that the next few years are likely to see an explosion in the discovery of frauds. After the last long bull market in the 1990s, a series of massive frauds was uncovered – Enron in 2000, WorldCom, Qwest and Global Crossing the following year, Tyco in 2002 and HealthSouth in 2003. In the space of just four years, nearly $0.5tr of market cap evaporated (probably equivalent to $1.5tr today).
Accountants and regulators would probably claim that this could not happen now, thanks to the introduction of new accounting rules and Sarbanes Oxley in the US.
Certainly, many of the new accounting practices would prevent a repeat of Enron’s accounting shenanigans, but fraudsters will find a way around any rule.
Just look at Valeant, the pharmaceutical giant that was revealed to be manipulating its earnings, where $80bn of value evaporated in nine months in 2015/16, after short-seller Citron Research published a damning report. Valeant was using a technique known as “channel stuffing”, while also using a related party to disguise that it was overstating its revenue.
Fortunately, we have more short-sellers today – they publish their findings to smash the target’s share price and allow them to bank a profit. These forensic analysts have uncovered many frauds – one recent example was a report that raised major questions about luggage maker Samsonite, forcing its CEO to resign. That this is the main difference in investor protection today is hardly a pat on the back for regulators, nor does it mean that all or even the majority of frauds have been discovered.