The Penny Has Finally Dropped

I see that there was a “dust up” this weekend, at the G7 talks, between the President of the European Central Bank (ECB) and the finance ministers of France and Germany.

The leaks from this meeting suggest that the finance ministers are more than a tad “peeved” at the ECB’s refusal to cut rates.

The finance ministers know that they are unable to kick start their sluggish recession bound economies, as long as Europe’s interest rates remain at the current levels.

Jean-Claude Trichet (President of the ECB) knows that as long as it is the ECB’s mission to take a European wide view with regard to inflation, he cannot reduce interest rates at the behest of France and Germany.

Gordon Brown (the UK’s Chancellor of the Exchequer) can look on with a smile of smug self-satisfaction. The UK remains outside of the Euro, and therefore outside of the remit of the ECB.

I have noted before that the European Union cannot succeed in micro managing the economies of its member states (see The Impact of The Euro); as long as there is a single currency managed by a central bank. In my view the EU, in its present form, is destined to fail.

It seems that the finance ministers of France and Germany have only just realised this. The “penny has finally dropped”.

Preventing Cheque Fraud, It’s Not Rocket Science!

This week in the UK, Joyce De-Laurey was found guilty of stealing £4.4M from Goldman Sachs.

It transpires that the former secretary accumulated her “nest egg”, over a period of 14 months, by forging the signatures of two senior members of Sachs on cheques and wire transfers.

The money was used to finance a lavish lifestyle enabling her to purchase, amongst others, a villa in Cyprus for £750K, £56K of Cartier “goodies” and £20K of items from Harrods.

I have had many years international experience running internal audit departments, and investigating frauds (see resume); and am constantly surprised as to how lax some companies’ cheque authorisation procedures are.

It seems an opportune moment to remind those in business of some of the basic controls that should be in place, in order to minimise the risk of fraudulent payments (note this list is not exhaustive):

• There should be a hierarchy of cheque signatories. The larger the amount, the more senior the level required to sign.



• Cheques over a certain predetermined limit should have at least two signatures.



• Cheques should never be drawn without a cheque requisition being signed by a responsible official, who does not sign the cheque.



• Cheque requisitions should be supported by documentary evidence, eg invoice/purchase order.



• Transaction summaries of cheque payments should be routinely reviewed by internal audit.



• Transactions over and above a predefined norm should be checked by internal audit.



• An up to date cheque signatory list should be maintained, showing limit/authorities etc.



• The bank should be encouraged to proactively query suspicious transactions.



• Bank reconciliations should be performed regularly, and be up to date.



• All directors’/senior managers’ personal accounts should be thoroughly reviewed by internal audit on a regular basis.



• Finally, and this really ought to have rung alarm bells at Goldman Sachs, where an employee starts to display ostentatious signs of new found wealth; identify the source of this wealth.

As you can see, the above points are not rocket science. However, I would bet good money that many companies, not just the hapless Goldman Sachs, may not have all of these procedures in place.

What Use Are the Olympics?

The Olympics are soon to be foisted upon us again. I confess that I have little interest in sport, and find the “over the top” enthusiasm and saturation coverage by the media of this four yearly event to be tedious in the extreme.

This time it is the turn of the “lucky” Greeks to host this sporting extravaganza.

The modern Olympics, a far cry from the games envisaged by the ancient Greeks, are in my view a complete waste of time and money:

• The hapless cities that host them are turned into a traffic congested hell on earth.



• A media circus descends on the city and occupies every hotel, bar and restaurant; displacing the local citizens.



• Despite the hype and media splurge, those that host the event rarely see a profit.



• The security risks these days far outweigh the benefits; viz the pipe bombing in Atlanta in 1996, and the terrorist atrocity in Munich in 1972. Goodness only knows what is being planned by the fanatics and scum for the 2004 games.



• The athletes themselves, instead of being fine examples of the human body in its natural form, are in fact pumped up products of illegal steroids and substances. So much for promoting health, fitness and vitality!



• Some athletes so grotesquely abuse substances and their bodies, in order to make their mark on the Olympics; that even their gender is called into question.



• The games, originally designed to promote friendly competition between rival nations, are used as a massive propaganda tool by the host countries to promote their own vision of society. Witness the Munich Olympics of 1936, or the tit for tat boycotting of the Olympics by the USA and USSR in the 1980’s.

I for one will be doing everything possible to avoid reading about them, or watching them, when they start later this year.

They are, in my opinion, of little value or purpose.

You Get What You Ask For

I note that my previous article, "The Merging of the Customs and Inland Revenue", seems to have been rather prophetic; with regard to the inability of politicians to manage IT projects.

An article in Wednesday's Times notes that owing to the slipshod vetting of tenders; the UK tax payer has been landed with a cost over run of £150M, relating to a contract with an IT agency that vets people working with children and the vulnerable.

It seems that the number of people using this service was massively underestimated. A classic mistake often made when defining the usage requirements of new IT systems.

The politicians thought that they were being clever in contracting with the company that offered the lowest bid.

However, that bid was based on low usage figures which were in fact wrong. The actual figures, which were much higher, have resulted in a significantly higher variable running cost.

Be careful when vetting tenders, you get what you ask for!

The Merging of the Customs and Inland Revenue

Gordon Brown, in his recent UK budget, announced that the offices of Customs and Excise and the Inland Revenue would be merged. The timescale for this is estimated, by KPMG tax chief Laughlin Hickey, to be around five years.

The disruption and chaos to the UK tax and VAT systems, that it will undoubtedly cause, is beyond measure. Needless to say, the overburdened tax payers will bear the brunt of the chaos.

One area that will undoubtedly cause the most difficulty will be the merging of the departments’ computer systems. As anyone who has managed an IT changeover knows, the process of upgrading or changing an IT system needs to be carefully planned controlled and monitored.

Many private sector firms find IT system changes to be unexpectedly costly, both in terms of time overruns and money expended trying to fix “bugs” etc; which were not expected at the planning stage. The history of public sector IT changes is littered with even more expensive failures, the IT upgrade of the air traffic control system is one such example of poor planning and control.

This seems an apposite time to remind IT managers (and the Treasury) of the basics of planning, and managing, a successful IT change.

Here is a very generic checklist, which can be used when reviewing the merits/demerits of a new IT system. Note, it is very basic, and is not intended to be comprehensive.

General

System/user specification - compared with standard Internal Control Objectives. Is the package in conformity with company recommendations?

• Is the system being taken "as delivered" or is it being customised?


• if so, additional development costs and timescale


• if so, implications for system size and response time


• use of PC packages to replace or supplement larger systems


• are features being lost which will have to be replaced e.g. inputs to planning at head office level.

Cost rentability/payback savings:

• what are the alternatives?


• have all costs been identified and included e.g. incremental licence fees?


• has the in house IT department been permitted to bid for service and have cost-comparisons been prepared on a rational basis?


• downsizing risks.


• cost implication for remaining users.

Interfaces to other systems

Organisational issues:

• user profiles set up to reflect organisation.


• discipline in manufacturing environment.


• is integration within the package matched by an integrated approach to the implementation?


• is system ownership/module ownership clearly defined?


• is the role of Data Administrator defined?


• is there sufficient local expertise for a stand-alone IT dept. especially if there is a change to unfamiliar hardware and operating system?

Controls

• Security and disaster recovery.


• what is covered by a Service Contract with the in house IT department, and what is a local responsibility e.g. order desk terminals?


• Maintenance/support:


• costs of third party support

Internal Control Checklist

This checklist covers the key issues which will arise from the initial review of the application.

Access controls:

Validation checks:

• both within the system and by responsible officials e.g. credit referral


• All points of data entry identified/controlled


• Clearance of rejected data/dump accounts:


• clearly defined who should receive the data


• timescale for reacting to that data


• escalation procedure if a serious problem manifests itself


• log for registering error reports and their disposal

Processing/proving checks (closed loop):

• goods movement:


• consider all aspects of logistics chain e.g. is material removed by Quality Control?


• identify exit and entrance points.


• Are transactions registered in correct chronological sequence e.g. if work in progress is back flushed before stores issues are booked, there will be an apparent negative consumption.


• Does opening balance plus each class of transaction produce an amount equal to sum of closing balances on stock file?


• Does opening balance of debtors plus each class of transaction produce an amount equal to sum of balances on sub-ledger?


• Does same logic apply to accounts payable sub-ledger?


• Batch thinking can be usefully carried over to modern packages when considering completeness of processing.

Exception reports:

• responsibility for acting on them


• Authorisation of sensitive transactions e.g. special discounts, credit notes, write offs/ons, adjustments. VAT implications.


• All physical points of despatch identified and controlled, including direct deliveries. Proof of despatch to and receipt of goods at remote sites e.g. telecommunication infrastructure project.

Exceptional transactions outside normal system parameters:

• one-offs, manual dockets, specials, projects, tooling charges.


• Cancellation/reversal of transactions. Authority and method of booking e.g. tends to be basic data capture as distinct from system-generated transactions. Effective communication of effect on net net turnover.

Master data file maintenance:

• customer, product, price files, vendor record, classification of accounts.
  

Bill of Materials:

• completeness and accuracy.


• Processing/job dependency sequences control. Quality of user manual - are dependencies explained?


• Interface/reconciliation of operational system with financial accounts - nominal ledger:


• order processing, goods movement, accounts payable, accounts receivable, cash


• Month end/year end procedures. Closing off and archiving procedures.


• Ability to restore. Initialisation of new accounting period.


• Initial transfer/loading of files from previous system including manual systems. Are front-end validations/checks being used or by-passed? If latter, will copied over data be regarded as corrupt by new package?
  Watch for reversible entries when transferring over a trial balance.
  

Goods Received Note/Receiving Report clearance:

• age listing and price difference analysis.


• Audit trail/history records:


• days/months available on screen?

Back-up/contingency planning:

• risks prioritised


• disaster recovery plan


• Control of change management. Implications for software and organisation. Will home-grown changes make it impossible to take new releases of third party software?


• Is there an ability to fix problems locally or is all technical expertise in, say, the USA of Germany? If overseas, what is response time?

EDI links with suppliers and customers:

• cost benefit of reducing goods movement pipeline but need to minimise exposure to hacking.

System reporting

• Do people get the reports they need and does the IT department know the distribution list?



• Does the package provide an addressing facility; do not take it for granted that it will.



• Are the reports acted on and/or do staff know what to do with them?



• Training of operators and users. Are features understood and are they being used cost-effectively? Are staff working around the system e.g. is it in danger of migrating to PC spreadsheets?



• Control of charges from software houses for maintenance and development. Proper contracts in writing and proper system for screening orders for change requests.

The Lesson of History

I understand that Tony Blair is “dismayed” that President Bush has rejected the UK’s call for an American led monitoring force, to be deployed as a buffer zone between Israel and the Palestinian Authority.

The rationale for Tony Blair’s proposal was based on the knowledge that Israel would never accept a UN led force.

However, he ignored the other side of the equation; namely:

• The USA already has large numbers of its forces committed around the world, eg Iraq to name but one place, these commitments are overstretching its resources.



• President Bush is standing for re-election, and will do nothing to antagonise the Jewish vote.

In view of the above, the USA would not have deemed Tony Blair’s proposal to be in its interest; no matter how well intentioned. Therefore it rejected it.

PM Blair felt, that after his support for the US invasion of Iraq, he was owed some form of payback. He ignored the lesson of history, that when dealing with the USA, the USA will always do whatever is in its own national self interest.

This is as true today, when dealing with President Bush; as it was in the Second World War when dealing with FDR, or during the Suez crisis when dealing with Eisenhower.

I do not understand why Blair is “dismayed”, ignore the lesson of history at your peril.

Parmalat, a Warning to Directors

I recently wrote an article entitled “Parmalat, Europe’s Enron”, about the Italian dairy company which is accused of falsifying its accounts.

Since that article was written the wheels of Italian justice have been set into motion, with a fast track prosecution being initiated.

However, what is of more interest is the action being taken by the creditors of Parmalat. They are not content with waiting for their own country’s legal system to bring them justice, and more importantly compensation, for the money that they claim that they have lost as a result of the alleged fraud.

Instead they have initiated a class action using, not an Italian firm of lawyers, but an American firm Milberg Weiss (details of the class action can be viewed via this link Milberg Weiss). Even more interestingly the class action is citing American law, not Italian law. The rationale being that as Parmalat traded in the USA, and allegedly presented falsified accounts, then USA law has been breached. A case can be made by non US creditors for compensation, using the US legal framework and lawyers who are vastly more experienced at bringing class actions.

This, in my view, is a natural development of the Sarbanes-Oxley legislation (introduced post Enron); which imposes tough reporting requirements on directors of US companies, and those companies that have US subsidiaries or listings in the US.

Directors who believe that they are not affected by the tougher regulatory regime in the US, simply because their company is listed in Europe, are deluding themselves. The less robust legal framework of Europe will no longer protect those who, either deliberately or through incompetence, cause investors and creditors to suffer significant financial losses.

The Parmalat case should be seen as a wake up call to those directors who are in denial about Sarbanes-Oxley. Lax reporting, poor internal controls and weak corporate governance will no longer be tolerated; you have been warned.

Characteristics of an Effective Audit Committee

I read with interest the “goings on” at Shell last week. The Chairman, Sir Philip Watts, was forced to resign on Wednesday. This was the culmination of a chain of events that started when Shell announced, on 9th January, that it had reduced its proven oil and gas reserves by 20%.

Various groups and events led to the departure of Watts. However, it is reported that the final push came from the internal audit committee; which advised the board that management changes were needed.

During my career (see my resume), I have set up a number of audit committees around the world, and have been involved with others. I was therefore pleased to see an audit committee proactively asserting itself, and being listened to.

I would like to take this opportunity to remind those less proactive audit committees, and less supportive boards, as to what in my opinion (based on my experience) constitutes the top ten characteristics of an effective audit committee:

1. The audit committee must be independent, members should not have previously held executive positions in the company for which they sit on the audit committee; eg the chairman of the audit committee should not have previously been the finance director. The company should not use the audit committee as a paid retirement home for previous directors.

2. The audit committee should be suitably qualified and experienced, at least one member should hold a relevant financial qualification; so that they can at least understand the intricacies of the company’s accounts.

3. The audit committee should present a report in the year end accounts, as to the quality and effectiveness of the internal controls and risk management process.

4. The audit committee should be prepared to take a stand against the board on matters of significance, and resign if the board does not take the appropriate corrective action.

5. The members of the audit committee should be up to the job, they should not hold an excessive number of other positions. Those that, through age, fall asleep during the meetings should be retired. Do not think that this is an exaggeration, I personally have witnessed this occurrence.

6. The audit committee should have free and unfettered access to the internal auditors and external auditors of the company, as well as the board and management of that company.

7. The role and scope of the audit committee should be laid down in a charter, which should be signed by the board and distributed within the company.

8. The internal audit department should report directly to the audit committee. Dual reporting lines, to eg the Finance Director, do not work.

9. The audit committee should be responsible for assessing the quality and effectiveness of the internal audit department and external auditors. The committee should be able to make changes, as and when required, to the scope and providers of the audit (both internal and external) coverage.

10. The audit committee should be responsible for the budget of the internal and external audit coverage. I have witnessed a situation where neither the board nor the audit committee held the budget; needless to say this did not work.

This list is not intended to be exhaustive. However, it can be used as a starting point to establish an effective and respected audit committee that adds value to the business.

A Simple Guide to Investing

I have been reading the posts on one of the threads of a bulletin board, hosted by a popular UK financial website, with interest and alarm over the past few weeks.

The thread relates to a company that listed in the last year. The shares of the company have enjoyed a dramatic 3000% rise in value over this period.

Needless to say, the thread relating to this company has been very active as of late; as more people are drawn in by the idea of making a "fast buck".

There are a number of people posting on this thread who, by the grace of God, seem to feel that they have been gifted with second sight.

They routinely, via goat's entrails and runes (I assume), make bold predictions as to the upward price movement that they expect the stock to make over the coming days. In the last fortnight or so, as the speculative bubble begins to burst, these predictions have been wrong.

The price has started to dip, and there are a number of "investors" who (I suspect bought in at much higher levels) will get their fingers "badly burnt".

This is a more extreme example of the daily ebb and flow of share prices around the world. However, it serves to highlight a number of common characteristics of some "investors" and the "techniques" that they apply when investing money in companies:

It is apparent that many of the investors in this share have not the slightest understanding, or knowledge, about the company or the industry in which it operates.

The slightest hint of positive news concerning the company, or its area of operations, is seized upon as an omen that the stock will double in value.

Individuals who post warnings about the risks involved are shouted down with vitriol, and denounced as "de-rampers" (people who deliberately seek to drive down a share price, in the hope of making money).

Certain posts pertaining to contain "facts" and information are, at best, dubious and worst dishonest.

The average investor appears to have a limited time horizon, extending no further than 2 weeks. This is usually the length of time that they have to pay for the shares that they have purchased.

The desperation to make a "fast buck" suggests that some are in serious financial difficulties.

The atmosphere on this bulletin board is more akin to a casino or racetrack, rather than an investors?f discussion forum.

In short it is apparent that these people have not a clue about what they are doing. They are no better than an ill informed, and reckless, gambler staking all on the spin of a roulette wheel.

My advice, for what it is worth, to those seeking to invest in companies is as follows:

Never make any investment without consulting a suitably qualified independent financial adviser.

Never invest what you cannot afford to lose. Investments can go down as well as up!

Do not put all of your eggs in one basket; spread the risk.

Never invest for short-term gain. Life is full of uncertainties; you must assume that you may have to hold for two or more years before seeing a decent return.

Be prepared to cut your losses and sell, before you lose everything.

Research, research, research; learn all there is to know about the company, and industry in which it is operating in, before you part with any of your hard earned money.

Test your investment policy first, before putting down hard cash; see if you really do know what you are doing.

Note that this advice is based purely on my own opinions, observations and experience. It is not exhaustive, and should not be used solely as a basis for any investments that you may be considering to make in the future.

Paranoia Over the Enlarged EU

As from May 2004 the EU will be joined by a number of countries from the old Soviet Bloc including; Latvia, Lithuania, Estonia and Poland.

Predictably, certain elements of the British press have whipped up a frenzy of fear and loathing.

We are told that we can expect thousands of economic migrants "swamping" our overstretched infrastructure, and taking our hard earned benefits away.

Well, let me shine a little light of reality on this "paranoid claptrap". I have travelled many times to many of these countries, including the Baltic States, on business. In my opinion, this country could do a lot worse than have a wave of immigration from the population of these countries.

The people of these countries have a number of admirable characteristics, including:

A high level of education

A good grasp of English, among many

A desire to shrug off the restrictions of the old Soviet era, and a welcoming attitude to change and progress

A desire to work hard to better themselves

An inspired entrepreneurial streak, that the UK could most certainly do with

Aside from the benefits of the citizens of these countries choosing to make their homes in the UK, there are other benefits of enlargement:

The enlargement of the EU will open up previously closed markets, hence creating an opportunity for economic growth.

The ex Soviet economies are ripe for Western entrepreneurs to set up businesses, and earn healthy revenue streams which benefit all.

It may be that given the opportunities available in these countries, some British citizens will emigrate there instead.

I certainly enjoyed my time when I was there and, if a good opportunity arose, may well do the same myself.

Something that Really Scares Me

I am, like all other humans, subject to feelings of wariness about certain behaviour traits that do not necessarily fit in with my own.

Taking a look at my own habits, and traits, I categorise the following as causing me “mild” wariness:

· I am a sociable person, who enjoys a sociable drink; consequently I am a little wary about people who do not drink socially.

· I am not a religious person, and although I respect everyone’s right to follow and practice their own religious beliefs; I am wary of those who inflict their beliefs on others.

· I am of the school “work hard, play hard”; consequently I am wary of those, fit healthy adults, who habitually retire to their beds early.

It is publicly recorded that President Bush:

· Does not drink

· Holds compulsory morning prayer meetings for all his staff

· Tries to be in bed by 21:30

Now, that really scares me!

Scandinavian Airlines-an Object Lesson in Management Motivational Techniques

Scandinavian Airlines (SAS), like many other airlines around the world, have been having a tough time recently. Sales revenues have fallen as a result of a number of factors, including:

· The world economic slowdown

· Declining travel due to the impact of 9/11, and repeated terrorist threats

· Competition from cheap fare budget airlines.

In response to the decline in revenues, SAS have been looking for ways to save money. One particular initiative was to ask their loyal staff to take a pay cut of 10%.

One the face of it this, if the situation warrants it, is a sensible measure. Far better for individual members of staff to take home less in their pay packets, than to find themselves un-employed.

However, although the pay cuts were to be for all levels of staff from the most junior to the most senior; there was a glaring anomaly, which made this gesture of communal Scandinavian self sacrifice not as altruistic as it first may appear.

For you see the senior management were, despite the fact that the airline is losing money, still going to receive their bonuses; which, in some individual cases, would be more than the salaries of some of the lower ranks. It would seem that some, as the saying goes, “are more equal than others”.

This cost cutting measure has not, from what I understand, been enough. It seems that the staff at the call centre office in Stockholm have been told that it will be closed. They have not, at the time of writing, yet been told what will happen to their jobs or what severance pay they will receive if there is no alternative offer of employment.

Needless to say morale in the office has hit an all time low, uncertainty over the future of your job is a very soul destroying emotion.

Recognising this SAS senior management, in their infinite wisdom, organised a meeting on the 12th of February. The hapless staff, needless to say, should have been given some more factual information about their fate.

Apparently, this was not the case. Instead they were treated to a course on how to handle personal crises and the effects of stress, eg loss of sleep and anxiety. These effects they are undoubtedly aware of already; although maybe the directors of SAS have yet to feel any stress, and would have benefited from attending the course instead.

However, the ever sympathetic and employee focussed management of SAS did show some empathy towards their employees. It being so close to Valentines’ day, they gave each member of staff a piece of Valentines cake.

Now there’s an example of a great management motivational technique!