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Case 8-3 Parmalat: Europe’s Enron
After the news broke about the frauds at Enron and WorldCom in the United States, there were
those in Europe who used the occasion to beat the drum: “Our principles-based approach to
accounting standard-setting is better than your rules-based approach.” Many in the United States
started to take a closer look at the principles-based approach in the European Community and
Background
Parmalat began as a family-owned entity founded by Calisto Tanzi in 1961. During 2003,
Parmalat was the eighth-largest company in Italy and had operations in 30 countries. It was a
huge player in the world dairy market and was even more influential within Italian business
circles. It had a network of 5,000 dairy farmers who supplied milk products and 39,000 people
who were directly employed by the company. The company eventually sold shares to the public
on the Milan stock exchange. The Tanzi family always held a majority, controlling stake in the
company, which in 2003 was 50.02 percent. Tanzi family members also occupied the seats of
CEO and chair of the board of directors. The structure of Parmalat was primarily characterized
accountants Deloitte & Touche and Grant Thornton. The charges included market rigging, false
auditing, and regulatory obstruction following the disclosure that €15 billion (approximately
$21.15 billion) was found to be missing from the bank accounts of the multinational dairy group
in December 2003. Former internal auditors and three former Bank of America employees have
been jailed for their roles in the fraud. The judge also gave the go-ahead for Parmalat to proceed
U.S. Banks Caught in the Spotlight
Parmalat had induced U.S. investors to purchase bonds and notes totaling approximately $1.5
billion. In addition, in August 1996 Parmalat sponsored an offering of American Depositary
Receipts (ADRs) in the United States, with Citibank, N.A., headquartered in New York City, as
depositary. Parmalat actively participated in the establishment of the ADR program. This activity
made Parmalat subject to SEC rules. The SEC’s inquiries focused on up to approximately €1.05
billion ($1.5 billion) of notes and bonds issued in private placements with U.S. investors. The
Accounting Fraud
One of the most notable fraudulent actions was the creation of a completely fictitious bank
account in the United States that supposedly contained $5 billion. After media reports exposing
the account surfaced, the financial institution at which the depositsupposedly existed (Bank of
America) denied any such account. The company’s management fooled auditors by creating a
fictitious confirmation letter regarding the account. In addition to misleading the auditors about
this bank account, the company’s CFO, Fausto Tonna, produced fake documents and faxed them
to the auditors in order to hide the fact that many of the company’s dealings were completely
fictitious.
Creating revenues was another scheme in which the nominee or subsidiary entities were used; if
a non-Italian subsidiary had a loss related to currency exchange rates, management would
fabricate currency exchange contracts to convert the loss to a profit. Similar activities were
undertaken to hide losses due to interest expense. Documents showing interest rate swaps were
created to mislead the auditors or other parties. Interest rate swaps and currency exchange
contracts are both instruments usually used to hedge on the financial markets, and sometimes to
diversify the risk of certain investments. Parmalat abused these tools by creating completely
fictitious contracts after the fact and claiming that they were valid and accurate. The
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The fraud methods did not stop at creating fictitious accounts and documents, or even with
establishing nonexistent foreign nominee entities and hiding liabilities. Calisto Tanzi and other
management were investigated by Italian authorities for manipulating the Milan stock market.
On December 20, 1999, Parmalat’s management issued a press release of an appraisal of the
Brazilian unit. While this release appeared to be a straightforward action, what Tanzi and others
Missing the Red Flags
The fraud that occurred at Parmalat is a case of management greed with a lack of independent
oversight and fraudulent financial reporting that was taken to the extreme. As an international
company, Parmalat management had many opportunities to take advantage of the system and
hide the fictitious nature of financial statement items. As with many frauds, the web of lies began
to untangle when the company began to run out of cash. In a discussion with a firm in New York
regarding a leveraged buyout of part of the Parmalat Corporation, two members of the Tanzi
family revealed that they did not actually have the cash represented in their financial statements.
At the beginning of 2003, Lehman Brothers, Inc., issued a report questioning the financial status
of Parmalat. Ironically, Parmalat filed a report with Italian authorities claiming that Lehman
Brothers was slandering the company with the intention of hurting the Parmalat
share price.2 Financial institutions failed to examine the accusations thoroughly and continued to
Failure of Auditors
The external auditor during the fraud, primarily Grant Thornton, SpA, failed to comply with
many commonly accepted auditing practices and thus contributed to the fraud. The largest
component of Parmalat’s fraud that ultimately brought the company down was the nonexistent
bank account with Bank of America. The auditors went through procedures to confirm this
account, but they made one fatal mistake: They sent the confirmation using Parmalat’s internal
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Parmalat accused Grant Thornton and Deloitte Touche Tohmatsu of contributing to its €14
billion collapse in December 2003. Parmalat filed suit against the auditors and other third parties,
seeking $10 billion in damages for alleged professional malpractice, fraud, theft of assets, and
The frauds continued for many years due, in large part, to the failures of the auditors. Italian law
requires both listed and unlisted companies to have a board of statutory auditors, as well as
external auditors. Parmalat’s statutory board should have become suspicious of what might be
happening when two CFOs departed within a six-month period during the fraud. Also, analysts
Resolution of Outstanding Matters
Following an investigation, the founder of Parmalat, Calisto Tanzi, was sentenced in Milan to 10
years in prison in December 2008 for securities laws violations in connection with the Italian
dairy company’s downfall in late 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 United States and Italy had alleged the U.S. bank knew of Parmalat’s
financial troubles, but nevertheless sold investors Parmalat bonds that ultimately soured—
allegations Bank of America denied. Both sides said the agreement cleared the way for future
business between the companies. In a statement following the settlement, Bank of America
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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 U.S.
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-
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. A Bank of America spokesman said in a statement:
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 of debt held by one of its nominee entities.
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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 bylaws 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
Accounting in the Global Environment
Accounting and auditing standards and regulation of the accounting profession often are country
specific. In addition to complying with any locally applicable rules, however, Deloitte firms
follow general professional standards and auditing procedures promulgated by Deloitte Touche
Tohmatsu. Member firms regularly cross-check each other’s work to ensure quality, and they
cooperate and join together under the direction of a single partner to provide audit services for
international clients.
Partners and associates of member firms participate in global practice groups and attend Deloitte
Touche Tohmatsu meetings. Although disclaimers on the firm’s website assert the legal
Questions
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1. What were the failings of ethical leadership and corporate governance by management
of Parmalat? How do you think these deficiencies contributed to the fraud?
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 said something or caught the fraud, we would
have stopped.” The auditors had a duty to perform the audit with objectivity, due care and
professional skepticism. They did not perform the audit with due care and skepticism and may
have been responsible for the perpetuation of the fraud by not being more diligent. How many
were affected by the auditor’s inaction and poor audit procedures? How much did it cost the
stakeholders?
2. Explain the accounting and financial reporting techniques used by Parmalat to commit
accounting fraud with respect to Schilit’s financial shenanigans.
Parmalat engaged in shenanigan number 2, recording bogus revenue, and shenanigan number 5,
failing to record or improperly reducing liabilities. Parmalat created revenues through a nominee
entity and it was accomplished by backdating and fabricating currency exchange contracts to
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3. Do you believe the auditors should have detected the accounting manipulations
described in question 2? Critically evaluate whether the firms adhered to generally
accepted auditing standards given the information in the case. Was this a case of “poor
auditing,” as characterized by Judge Kaplan, or fraud?
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 be independent both in fact
and appearance, objective (skeptical), perform the work with due care, and follow relevant
technical standards. The external auditor during the fraud failed to comply with many commonly
accepted auditing practices and thus contributed to the fraud.
4. Given our discussion in Chapter 5 of the PCAOB’s desire to gain access to audit
workpapers of Chinese units of U.S. firms that audit Chinese companies listing in the
United States, does it seem reasonable for a U.S. firm such as Deloitte to argue it has no
liability for the actions of a network firm in Parmalat? What common characteristics
might you look for in these alliances to assess overall firm liability?
Background Reading
The following is from an opinion piece written by Francine McKenna in re: The Auditors. She is
a frequent critic of the accounting profession and Big 4 firms in particular. While it goes beyond
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actually does the audit of multinationals, in particular when significant portions may be audited
in countries where the PCOAB has no inspection rights.
To that end the PCAOB had issued a proposed rule on October 11, 2011, Improving the
Transparency of Audits: Proposed Amendments to PCAOB Auditing Standards and Form 2, that
also included a proposal for audit partners to sign audit reports in their own names. The proposed
rule describes the problem for investors of significant portions of audits done by non-US firms as
such. This proposal has not been adopted as yet.
The PCAOB proposed amendments that would require the auditor to disclose in the audit report
the name of other independent public accounting firms and other persons not employed by the
auditor that took part in the most recent period’s audit. The proposed amendments would require
disclosure when the auditor (a) assumes responsibility for or supervises the work of another
independent public accounting firm or supervises the work of a person that performed audit
procedures on the audit; and (b) divides responsibility with another independent public
accounting firm. Specifically:
Disclosure when assuming responsibility or supervising – The auditor would be required to
disclose the name, location, and extent of participation in the audit of (i) independent public
accounting firms for whose audit the auditor assumed responsibility pursuant to AU-C sec. 543,
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Deloitte Touche Tohmatsu (“DTT”) uses its global internal inspection program to assess and
monitor the quality of the audit work of its member firms. However, the specific results of the
inspections of member firms or practice offices are not disseminated to the Firm’s partners.
Under DTT’s practices, a U.S. engagement partner would be notified of a deficiency in a specific
practice office or member firm only if there was a finding from a global internal inspection on
the work performed by the foreign affiliate on that U.S. partner’s issuer audit client.
The CSG also co-ordinates with the China firm and the appropriate subsidiary of Deloitte LLP to
assist Chinese companies seeking to access U.S. markets – expanding operations, raising capital
and/or engaging in M&A. The Deloitte national network of bilingual professionals works closely
with colleagues in China to deliver seamless service to globalizing Chinese companies.”
But let’s look instead at the “reality” that the SEC and the audit firm lawyers are portraying. If
China companies and their audit firms – as well as law firms – have closed the drawbridge – all
work is done locally, access to client information like workpapers limited to local staff, no
emails or data sent out of country – what does that say about ability of SEC or PCAOB to
enforce laws for US listings including multinationals with significant operations? It says the
It is interesting to note the statement made on Deloitte’s website about global network firms:
“Deloitte” is the brand under which tens of thousands of dedicated professionals in independent
firms throughout the world collaborate to provide audit, consulting, financial advisory, risk
management, tax and related services to select clients. These firms are members of Deloitte
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Each DTTL member firm is structured in accordance with national laws, regulations, customary
practice, and other factors, and may secure the provision of professional services in its territory
through subsidiaries, affiliates, and other related entities. Not every DTTL member firm
provides all services, and certain services may not be available to attest clients under the rules
and regulations of public accounting.
The DTTL member firm in the United States is Deloitte LLP.
It does seem that the firm considers each unit in foreign countries as separate from the global
entity and each has its own liability for following appropriate standards in each country. The