Accounting Observer > Public Blog - Enforcement Of A Different Flavor

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Enforcement Of A Different Flavor

Location: Blogs AAO Weblog (Public)
Posted by: Jack Ciesielski	4/28/2006 5:49 AM
We've heard endless kvetching about the Sarbanes-Oxley Act and its Section 404 requirements; seems like an eternity. So, when there's an enforcement action of an internal controls law, my ears perk up: hey, something else that might show why internal controls matter to investors. The internal controls law, in this case, is not SOX 404. It's the Foreign Corrupt Practices Act of 1977, and the company involved is Oil States International. The story is not an indictment of a bunch of really scummy managers; it's actually a pretty good cautionary tale in the sense that a) when you're making friends in a foreign country, be careful, and b) if you've got internal controls in place to prevent and detect fraud, be sure they apply to the right people. And if they're telling you something, listen. Oil States does business in Venezuela, and one of its subsidiaries had hired a consultant to "interface with employees of PDVSA" - the state-owned oil company. Said consultant was not employed to obtain business for the firm, but to genuinely facilitate normal daily operations. One of those duties was to write invoices. The consultant was approached by three employees of PDVSA who proposed a kickback scheme, and he went along with it. While Oil States had an FCPA policy in place, they didn't extend it to consultants who worked for the firm - and they didn't do a background check on the fellow either. In the course of more than a year, the consultant and cohorts bilked the PDVSA for hundreds of thousands of dollars, returning the funds to the PDVSA employees. Oil States was effectively the conduit for taking money out of PDVSA through its invoicing system, leaving a trail in its books and records. The scheme might have been detected earlier than it was, had the US subsidiary's VP of finance not been satisfied with a dust-off answer he received when he noticed the Venezuelan profit margins didn't make sense. In the end, the scheme was found out, the company made the proper disclosures in its filings about the investigation, and it cooperated with the SEC in their investigation of the matter. Oil States remedied the weaknesses in its internal control system and received a cease-and-desist order from the SEC (basically an admonishment: "don't let this happen again.") It's the old story: "ounce of prevention is worth a pound of cure." But it's true.

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