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Failure of the Board
The statutory board is intended to act as a fundamental monitor within the
company and check that the board of directors is complying with laws in their actions and
decisions. The Parmalat board of statutory auditors was composed of three members; the
number is significant as had there been more than three seats on the statutory auditor
board, minority shareholders would have had the ability to elect two of the members.
Parmalat’s board never reported any irregularities or problems despite receiving
complaints because of the influence of the Tanzi family. After the fraud was discovered
and resolution of the issues began, it became clear that the statutory audit board did
nothing to prevent or detect the fraud.
Resolution of Outstanding Matters
Following an investigation, the founder of Parmalat, Calisto Tanzi, was sentenced
in Milan to 10 years in prison in December of 2008 for securities-laws violations in
connection with the Italian dairy company’s downfall late in 2003. Tonna, the CFO, was
sentenced to 30 months in jail following a trial in 2005, and other officers reached plea
bargain deals. Bank of America settled a civil case brought by Parmalat bondholders for
$100 million.
Bondholders in the U.S. and Italy had alleged the U.S. bank knew of Parmalat’s
financial trouble, but nevertheless sold investors Parmalat bonds that ultimately soured –
allegations Bank of American denied. Both sides said the agreement cleared the way for
future business between the companies. In a statement following the settlement, Bank of
America stated that the record of court rulings in the case “makes it clear that no one at
Bank of America knew or could have known of the true financial condition of Parmalat.
We have defended ourselves vigorously in these case and are satisfied with this outcome
today.”
After the accounting and business problems surfaced, a court battle ensued
regarding who was responsible for the audit failures. The umbrella entities of Deloitte
and Grant Thornton, Deloitte Touche Tohmatsu and Grant Thornton International, along
with the U.S. branches of both firms, were included in a lawsuit by Parmalat
shareholders. Questions were raised as to whether or not the umbrella entities could be
held liable for the failures of a country specific branch of their firm. The courts held that
due to the level of control that the international and U.S. based branches wielded over the
other portions of the firm, they could be included in the lawsuit. The extension of liability
was a huge issue for accounting firms and the external auditors were ultimately held
liable. Both groups of external auditors were fined large sums to settle a class-action
lawsuit by U.S. equity investors over their roles in the Italian company’s 2003 collapse;
Deloitte Touche Tohmatsu and its U.S. unit, Deloitte & Touche, LLP agreed to pay $8.5
million while Grant Thornton International and its U.S. and Italian units agreed to pay
$6.5 million. In addition, Deloitte agreed to pay $149 million to settle with Parmalat
itself.
Legal Matters with Bank of America
On February 2, 2006, a U.S. federal judge allowed Parmalat to proceed with much
of its $10 billion lawsuit against Bank of America including claims that the Bank violated
US racketeering laws. Enrico Bondi was appointed as the equivalent of a U.S.
bankruptcy trustee to pursue claims that financial institutions including Bank of America
abetted the company in disguising its true financial condition. Bondi accused the Bank of
helping to structure mostly off-balance sheet transactions intended to “conceal Parmalat’s
insolvency” and collecting fees it did not deserve.
The lawsuit against Bank of America was dismissed. Parmalat appealed the
dismissal of its lawsuits accusing Bank of America and the company’s auditor, Grant
Thornton LLP, of fraud in the Italian dairy company's 2003 collapse. Bondi filed notice
of Parmalat's appeal to the U.S. Court of Appeals for the Second Circuit in New York.
Bondi and the Parmalat Capital Finance Ltd unit had accused Grant Thornton of helping
to set up fake transactions to allow insiders to steal from the company. Parmalat Capital
made similar claims in a lawsuit against Bank of America. On September 18, 2009, U.S.
District Judge Lewis Kaplan said Parmalat should not recover for its own fraud, noting
that the transactions also generated millions of euros for the company. "The actions of its
agents in so doing were in furtherance of the company's interests even if some of the
agents intended at the time they assisted in raising the money to steal some of it," Kaplan
wrote.
The SEC Charges
The SEC filed an amended complaint on July 28, 2004, in its lawsuit against
Parmalat Finanziaria SpA. in U.S. District Court in the Southern District of New York.
The amended complaint alleged that Parmalat engaged in one of the largest financial
frauds in history and defrauded US institutional investors when it sold them more than $1
billion in debt securities in a series of private placements between 1997 and 2002.
Parmalat consented to the entry of a final judgment against it in the fraud.
The complaint includes the following amended charges:
1. Parmalat consistently overstated its level of cash and marketable securities by at
least $4.9 billion at December 31, 2002.
2. As of September 30, 2003, Parmalat had understated its reported debt by almost
$10 billion through a variety of tactics including:
a. Eliminating about $6 billion debt held by one of its nominee entities;
b. Recording approximately $1.6 billion debt as equity through fictitious loan
participation agreements;
c. Removing approximately $500 million of liabilities by falsely describing
the sale of certain receivables as non-recourse, when in fact the company
retained an obligation to ensure that the receivables were ultimately paid;
d. Improperly eliminating approximately $1.6 billion of debt through a
variety of techniques including mischaracterization of bank debt as
intercompany debt.
3. Between 1997 and 2003, Parmalat transferred approximately $500 million to
various businesses owned and operated by Tanzi family members.
4. Parmalat used nominee entities to fabricate nonexistent financial operations
intended to offset losses of operating subsidiaries; to disguise intercompany loans
from one subsidiary to another that was experiencing operating losses; to record
fictitious revenue through sales by its subsidiaries to controlled nominee entities
at inflated or entirely fictitious amounts, and to avoid unwanted scrutiny due to
the aging of the receivables related to these sales, the related receivables were
either sold or transferred to nominee entities.
In the consent agreement without admitting or denying the allegations,
Parmalat agreed to adopt changes to its corporate governance to promote future
compliance with the federal securities laws, including:
Adopting by-laws providing for governance by a shareholder-elected
board of directors, the majority of whom will be independent and serve
finite terms and specifically delineating in the by-laws the duties of the
board of directors
Adopting a Code of Conduct governing the duties and activities of the
board of directors
Adopting an Insider Dealing Code of Conduct
Adopting a Code of Ethics.
The by-laws will also require that the positions of the chairman of the board
of directors and managing director be held by two separate individuals, and Parmalat
must consent to having continuing jurisdiction of the US District Court to enforce its
provisions.
Ethical Issues
This case discusses the global concern and issues of financial reporting and financial
transparency. It appears that Parmalat engaged in misappropriation of assets to related
parties, and reported fraudulent, misleading financial statements. Investors (U.S. and
global) rely on the accuracy of the financial statement information. If revenue, expenses,
assets and liabilities are deliberately misstated, then these users will be making
investment decisions based on incorrect information.
Using a rights perspective, it is not right to mislead the investors by making it
look as though the company is doing better than it really is. Any attempt to intentionally
misstate the financial statements violates the categorical imperative. Using a justice
perspective, it is unfair to the other stakeholders that one class of stakeholder is receiving
unauthorized appropriations of assets. Act-utilitarianism requires that the act that creates
the greatest good for the greatest number of stakeholders should be selected. The only
stakeholders to benefit from misappropriate of assets was Tanzi family. All other
stakeholders are harmed by this action, including the entity, because the SEC imposed
sanctions on the company due to the fraudulent financial statements. From a virtue
perspective, honesty requires that the statements should be truthful and recognize revenue
using GAAP. Objectivity requires that the company should approach its decision about
the proper revenue recognition procedure with fair-mindedness and without partially to
one set of stakeholders. Trustworthiness means that the accountants should not violate
the investors’ faith that the statements are accurate and reliable.
Questions
1. In the case, Judge Kaplan dismissed Parmalat’s lawsuit against Deloitte
stating that Parmalat “did not show that poor auditing of Parmalat USA was
equivalent to fraud.” Comment on the judge’s decision from the perspective
of the auditor’s obligation to identify fraud in the financial statements.
The auditor has an obligation to plan and perform the audit to detect material
misstatements. This would require that the auditor adhere to ethical standards including to
The largest component of Parmalat’s fraud which ultimately brought the company
down was the nonexistent bank account ($5 billion) with Bank of America in the U.S.
The auditors went through procedures to confirm this account, but they made one fatal
mistake; they sent the confirmation using Parmalat’s internal mail system. The
confirmation request was intercepted by Parmalat employees and subsequently forged by
2. Based on the information in the case, classify the improper transactions
engaged in by Parmalat into one of the seven “financial shenanigans”
identified by Schilit in Chapter 7. Explain why each transaction violated
professional standards.
Parmalat engaged in shenanigan number 2, recording bogus revenue, and shenanigan
number 5, and failing to record or improperly reducing liabilities. Parmalat created
revenues through a nominee entity and it was done by backdating and fabricating
3. Who is to blame for the fraud at Parmalat: the company?; top
management?; the auditors?; the Bank of America? How did each party
violate its ethical obligations?
All of the above parties take some blame in allowing the fraud to continue for so long.
Top management is ultimately to blame for the fraud. They created and maintained
misleading information and documents on nonexistent bank accounts. The management
and company had a duty or obligation to honest and reliable financial reporting. They
also had a duty to all the shareholders and investors, not just to the Tanzi family. Top
management cannot blame the other parties; that is like saying, “if the other parties had
The Bank of America did not cause or perpetuate the fraud. However, when Bank
of America was selling debt securities of Parmalat in the U.S., they had an obligation to
make sure the securities were legitimate and that the financial information was not
