Mischief is cyclical—it is bred in good times and uncovered in bad times
news just keeps coming. Ten months after America’s stockmarket peaked, its big technology companies have suffered another rout. Hopes that the Federal Reserve might change course have been dashed; interest rates are set to rise by more than previously thought. The bond market is screaming recession. Could things get any worse? The answer is yes. Stockmarket booms of the sort that crested in January tend to engender fraud. Bad times like those that lie ahead reveal it.
The archetypal sin revealed by recession is accounting fraud. The big scandals play out like tragic dramas: when the plot twist arrives, it seems both surprising and inevitable. No simple formula exists to sort the number-fiddlers from the rest. But the field can be narrowed by searching within the “fraud triangle” of financial pressure, opportunity and rationalisation.
Motive is not enough to lead people to commit fraud. The circumstances have to be right . Opportunity will vary by jurisdiction. In places where the rule of law is weak, scope to falsify accounts with impunity is wider. You should expect to find more book-cooking in emerging markets than in rich ones. Some short-sellers, such as Mr Block, have trained their attentions on Chinese firms listed abroad, whose accounts are hard for foreigners to verify.
Eventually, earnings must tally with cashflow. Firms that do not generate a lot of cash tend to pile on debt to disguise the fact. Corporate sleuths know this, which is one reason fraudsters go to great lengths to conceal their true debt burden. Another reason, powerful during recessions, is to avoid a downgrade from rating agencies, which would raise borrowing costs.
How many such cases are thrown up by the next recession depends in part on its severity. It is easier to keep a fraudulent show on the road in a short downturn. In a prolonged one, a few sorts of corporate sinners are likely to come to be unmasked. The least guilty category is firms that were run with a view to meeting accounting goals but to the long-term detriment of the business.
Danmark Seneste Nyt, Danmark Overskrifter
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