The Curious Case of Satyam Computers: the story behind ’s biggest corporate scandal.

Srijoy Das

Archer & Angel *

On Thursday, April 9 2015, the Central Bureau of Investigation (CBI)-appointed Special Court1 overseeing the Satyam Computers (‘Satyam’) trial in brought the six-year long case to a close. It convicted all ten accused in the multi-billion rupee fraud case on charges of criminal conspiracy and cheating, with each of the accused bearing independent fines and seven years rigorous imprisonment. Additional fines were also levied on each of the accused on the basis of the other criminal charges filed against them.

The case, which began in 2009, is being heralded as India’s biggest corporate fraud till date. The following timeline traces the major events in the case’s history starting with its inexplicable beginning: Satyam Chairman, B. Ramalinga Raju’s letter of confession.

The Confession

The content of the letter2

On January 7 2009, Raju, the Chairman and Founder of Satyam, India’s fourth-largest IT services firm at the time, wrote a letter acknowledging his role in an accounting fraud to the tune of ₹71.36 billion (approx. US$1.1 billion). He admitted to having manipulated Satyam’s accounts and records by inflating revenue and profits over a period of several years to show non-existent cash reserves, while also understating the liability at ₹12.3 billion and overstating the debtor’s position of ₹4.9 billion (as against the ₹26.51 billion reflected in the books). He indicated that what had begun as a marginal gap between real and reflected profits had morphed into a mammoth cover-up over time, expanding as the company’s operations did. Satyam’s borrowings over the last two years (approx. ₹12.3 billion, as per Raju’s letter) - raised by pledging promoter shares and offering various assurances- secured to maintain operations, were left off the books.

He stated that several attempts to plug the fictitious assets with real ones had failed, citing the December 2008 failed acquisition of Maytas Infrastructure and Maytas Properties (both controlled by Satyam, and owned by Raju’s sons) as one such example. The proposed acquisition was approved by Satyam’s board, which included some independent directors, and was announced after the close of business on December 16, 2008. Fiercely opposed by foreign investors - who were quick to make their displeasure- the deal was aborted by Satyam the following day.

Raju asserted that neither he nor the Managing Director, his brother, had pocketed any funds from the company, moreover exculpating the company’s board members (past and present) of knowledge of the company’s financial straits. The letter addressed to the Securities and Exchange Board of India (‘SEBI’) and the company’s shareholders, stated that Raju was tendering his resignation as Chairman of Satyam, and was prepared to ‘subject [him]self to the laws of the land and face the consequences thereof.’

Following this admission, Satyam’s already plummeting stock prices took a phenomenal dive on the , falling from ₹179.10 on January 6, 2009 to ₹39.95 the following day, dropping even further to ₹23.85 on January 93. Raju later retracted the sensational confession in coordination with a defense plea of not guilty during the criminal trial.

The Catalyst

1 The CBI is India’s main criminal investigative agency. Among others, it investigates and prosecutes large-scale cases of fraud, cheating and embezzlement by companies. A special trial court was constituted for the exclusive trial of this case in order to expedite the process, given the sheer enormity of the Satyam corporate fraud. 2 Full text of Raju's confession letter 3 NDTV Profit: Satyam BSE Share Price Movement Dec 2008-2009

More than six years later, Raju’s confession, which triggered the arrest of eight Satyam officials and two partners at Price Waterhouse Coopers ('PwC’), still remains shrouded in mystery. It has been attributed to fears of having been exposed by different whistleblowers. One theory suggests that, following the aborted Maytas acquisition deal - allegedly meant to superficially account for the gaping hole in Satyam’s accounts, and consequently pay-off when Maytas’ various land assets bore fruit-, Raju attempted damage control by engaging DSP-Merrill Lynch (‘DSP-ML’) to secure a buyer for Satyam: a process that would require DSP-ML to carry out due diligence, inevitably revealing the accounting inconsistencies. It is alleged that DSP-ML alerted SEBI of the inconsistencies revealed by the due diligence report, on January 6, prompting Raju to confess4. The Serious Fraud Investigation Office (SFIO)5 report on the matter points to an alternative whistleblower as the catalyst, suggesting that an email (from a whistleblower under the alias of ‘Jose Abraham’) to Krishna G. Palepu, one of the independent directors, stating that Satyam did not have any liquid assets (which could be verified by the banks), quickly circulated amongst the other board members, duly being forwarded to Raju and one of his accomplices. The SFIO indicates that discussion of this issue between Raju, his CFO, and the Vice-President for finance, G.Ramakrishna between 25 December 2008 and January 7, 2009, additionally cements this theory. The precise catalyst behind Raju’s letter, however, has not been definitively identified till date, and remains a bit of a mystery.

The Aftermath

Arrests

Following Raju’s letter, the Andhra Pradesh Crime Investigation Department (CID) swung into force, arresting him, B. Rama Raju (his brother and former Satyam’s Managing Director), and Vadlamani Srinivas (CFO, Satyam) allegedly on the basis of a complaint filed by an investor who had incurred huge financial losses due to the alleged fraud; later, also arresting S.Gopalakrishnan and Talluri Srinivas (partners at the statutory auditors, PwC); G. Ramakrishna (former VP Finance, Satyam); B. Suryanaryana Raju (Raju’s brother); and former employees, D. Venkatapathi Raju, Ch. Srisailam, and chief internal auditor, V.S.P. Gupta.

Government Rescue Efforts

The Government, meanwhile, took the unprecedented step of attempting to save the company. Although a complete bailout was not on the cards for Satyam, the Ministry of Corporate Affairs nonetheless achieved effective damage control. A few days after Raju’s confession, the Ministry dissolved the Satyam board, and installed a three-member board tasked with identifying a buyer for Satyam, featuring luminaries, Deepak Parekh, Kiran Karnik and C. Achutan, in its place: subsequently expanding this board, appointing three more directors, T.Manoharan, Tarun Das and S Balakrishna. The interim board took some key steps, such as engaging new legal counsel, auditors, and a CEO. Satyam continued to fulfil its obligations under the aegis of an interim Chairman, and following an open-bid auction in April 2009, emerged with the winning bid (₹58/share). Tech Mahindra and Satyam merged under the rebranded identity of Mahindra Satyam in June 2009. The Government’s efforts to save Satyam were thus both significant (without precedent in India), and successful.

CBI Investigation: charges

The CID investigation was subsequently taken over by the Central Bureau of Investigation (CBI) in February 2009. The government instructed the SFIO to launch an investigation as well; SEBI, and the Enforcement Directorate (ED)6 subsequently also launched independent probes into the scam. The CBI espoused a multidisciplinary investigation team -comprising of CBI officers, auditors, bankers, forensic experts and income tax officials amongst others- and filed three chargesheets on April 7 2009, November 24 2009

4 Datta, Devangshu, “Ramalinga Raju And The Incredible Story of India’s Greatest White Collar Crime.” The Huffington Post. 9 Apr.2015. Satyam: India's Greatest White Collar Crime 55 The Serious Fraud Investigation Office (SFIO) is a multi-disciplinary organization under the Ministry of Corporate Affairs consisting of experts in accounting, forensic auditing, law, information technology, capital markets, etc, for the purpose of detecting and prosecuting, or recommending for prosecution white collar crimes and frauds. 6 The Enforcement Directorate (ED), investigates contraventions of provisions under the Foreign Exchange Management Act 1999. The ED also investigates offences of money laundering under the Prevention of Money laundering Act 2002, and subsequently attaches, and confiscates properties if it is determined that these were purchased with the proceeds of a crime derived from a Schedule Offence under the Act.

and January 7 2010, respectively. The first two dealt with charges pertaining to account falsification, and the third related to violation of Income Tax rules. All three were later clubbed into one charge sheet. The charges on which the ten appeared before the CBI Special court in the trial, which began in November 2011, are listed below.

All ten were accused of criminal conspiracy and cheating, under the Indian Penal Code (IPC). Suryanarayana Raju and V.S.P Gupta were only charged with the above, while additional independent charges were levied against the others:

 Chairman and founder, Ramalinga Raju, and his brother, Rama Raju, the former MD of Satyam were also charged with criminal breach of trust by a merchant or agent, forgery of valuable security, forgery, forgery for cheating, and falsification of records. Ramalinga Raju was additionally charged with causing the disappearance of evidence with respect to the IPC.  Vadlamani Srinivas (former CFO, Satyam), G. Venkatapati Raju, Senior Manager in the Finance Department at Satyam, and Ch. Srisailam, Asst. Manager Finance at Satyam, were charged with forgery of valuable security, forgery for cheating, and falsification of records, with respect to the IPC. Vadlamani Srinivas was also charged with criminal breach of trust.  S. Gopalakrishnan and Talluri Srinivas, former partners at PwC, and G.Ramakrishna, former VP of Finance at Satyam, were charged with impersonation, criminal breach of trust, forgery of valuable security, forgery for cheating, and falsification of records with respect to the IPC. G.Ramakrishna was also charged with causing the disappearance of evidence.

CBI Investigation: trial

The CBI trial saw a profusion of documentary evidence: 3 CBI charge sheets running in 650 pages, 3,137 supporting documents comprising 170,000 pages, and 226 witnesses7

The prosecution’s case, in brief8:

 Contrary to Raju’s confessional claim of having defrauded the company and its shareholders of ₹71.36 billion, the CBI alleged the actual amount to be approx. ₹140 billion in market-to-market losses.  The accused had falsified the company’s balance sheets, promoting a picture of company-wide health, defrauding investors and shareholders, who were encouraged to invest as a result. They had done so by:

- manipulating internal management software, such as the Invoice Management System. They abused the provision for Emergency Invoicing to generate 7561 hidden invoices (in association with 205 fake project IDs) worth ₹51.17 billion. Thus, faking, or inflating the sales figures to depict higher revenues and profits; - falsely projecting a greatly inflated growth of 25% per quarter; projecting a current account balance of ₹18.41 billion as against ₹1.28 billion. - forging fixed deposit receipts (FDRs) to show ₹33.19 billion in FDRs as against the actual ₹110 million worth; - falsifying the balance sheet to show a non-existent accrued interest on FDRs as ₹3.75billion versus the actual accrued interest of ₹0.7 million; in conjunction with this, showing inflated Tax Deducted at Source on accrued interest payments therein violating the Income Tax Act.; - inflating the debtor position of ₹4.90 billion; - suppressing liabilities and availing of unauthorized loans and advances to the tune of ₹12.3 billion each;

 It was alleged that Raju and his fellow promoters had inflated the balance sheets in order to engage in insider trading activities, later offloading their shares to make enormous profits. The mechanism employed was as follows:

- In 1996-1997, bonus shares were issued to the promoters, who then sold a portion of their shares via transfer to 17 family members, and close associates within the company. The recipients disposed of them, selling them on the market through five

7 “Press Release.” Central Bureau of Investigation. 9 April 2015. CBI Satyam Verdict - Press Release 8 This summary is based primarily on the main CBI chargesheet in this case, and the Press Release of April 9, 2015.

- investment companies established by Raju and his associates. The sales proceeds were deposited in these 17 accounts, and later transferred to the promoters.

- The promoters also sold their shares directly via these investment companies as well in 2000-2001, later dividing the proceeds amongst Raju’s family members. They continued to do so for enormous profits thanks to the doctored balance sheets, while other investors held onto their shares, believing the company to be in excellent health.

- In 2006 a private company, M/S SRSR Holdings was floated by one of Raju’s brother along with other relatives. All the promoters’ shares were subsequently transferred to this company. 327 other companies were established to convert the wrongful gains into lucrative real estate investments. SRSR Holdings pledged the shares and availed of loans on behalf of these companie, raising loans to the tune of ₹17.44 billion in all, over a period of time. Many of these companies could not repay their loans, resulting in their lenders selling off the collateral securities: the promoters’ shares. In the interim, however, vast amounts of money in the form of these loans for pledged shares were rotated amongst these 327 companies. 37 of these even loaned Satyam money to the tune of ₹14.25 billion; Satyam repaid ₹1.946 billion to 15 of the 37 companies, leaving it with an outstanding liability of ₹12.3 billion, which was left off the books.

- It was alleged that the accused PwC partners, engaged in the early years of the scam (2000-2001), actively connived with the other accused, deliberately failing to acknowledge the huge variation in figures in the company’s balance sheets, and FDRs held by the company, as against the company’s actual bank balances, amongst other deliberate derogations of their official duties as auditors, for which they were handsomely paid (almost three times what other IT services companies with larger turnovers were paying their auditors).

CBI Investigation: trial verdict

The verdict in the CBI trial, announced on April 9, 2015 vindicated the prosecution’s case. The accused were convicted on all the charges. The Raju brothers were found to have perpetrated the fraud for over a decade before its discovery. The accused employees were said to have actively assisted them in this fraud, while the statutory auditors Gopalakrishnan, Srinivas, and the internal auditor, Gupta had knowingly failed to alert the authorities, later actively conniving with the Rajus to suppress the fraud. The other Raju brother was convicted of facilitating the offload of promoter shares during the fraud period, and for circulating the proceeds of the crime.

All ten were sentenced to seven years rigorous imprisonment, with the Raju brothers, Ramalinga and Rama, additionally facing a fine of approx. ₹52.4 million. The remaining 8 accused were each fined between ₹2.6 million to ₹3.1 million, in addition to the seven-year prison sentence. The Raju brothers, who have already served about 30 months in prison, will only have to serve the remainder of the seven-year sentence. The penalties meted out to the accused pale in comparison to the magnitude of the fraud carried out.

The Other Investigations and Trials

Unfortunately for Satyam, other regulatory and investigative authorities such as SEBI, the SFIO and the ED, also launched independent investigations following Raju’s 2009 confession letter, separate from the CBI probe.

The SEBI investigation

Market regulator SEBI issued an order in July 2014 following its investigation, banning the accused from any securities-related activity for 14 years, additionally slapping a fine approx. ₹30 billion(including interest) on the accused. The order was subsequently stayed by a court in November 2014, pending the outcome of the CBI trial.

In conjunction with the CBI prosecution, SEBI also filed two criminal complaints: the first, in connection with unfair trade practices, cited 8 accused persons, while the second, relating to violations of insider trading regulations at Satyam, cited 14 persons and entities. Both violations are punishable under the SEBI Act, carrying a maximum punishment of 10 years imprisonment. The Raju brothers

appeared before the Court of the Special Judge for Economic Offences in Hyderabad on 22 December 2014 to face trial for these charges, but the hearing has since been postponed to later in 2015.

The SFIO investigation

The SFIO was directed by the Government to launch a probe into various corporate aspects of the fraud on January 13 2009, and subsequently published a 14,000-page report on the matter, having investigated the money trail and other aspects within the country. The report alleged that Satyam had committed nearly 30 violations, mostly under the Companies Act 1956. The SFIO, under the aegis of the Ministry of Corporate Affairs in consultation with the Solicitor-General, later initiated prosecution of the accused (the Raju brothers and their accomplices, along with other directors) in December 2009. They filed seven cases in regard of company law violations. The Special Economic Offences Wing Court at Nampally in December 2014 convicted the accused on six of the seven charges. Raju and his brother were sentenced to six months imprisonment, and ₹0.5 million each for two of the cases (₹1 million each) overall: the judge directed that the jail sentences in all the cases would run concurrently. The paltry six month sentence was the longest imprisonment term provided for under the Companies Act. Former directors, including Ram Mynampati and Vadlmani Srinivas, amongst other top executives were fined ₹1 million each. Significantly, independent directors were fined as well. The Harvard Business School Professor, and erstwhile Satyam independent director, Krishna G. Palepu was fined ₹26.6 million, while other independent directors, like Vinod Dham were fined ₹20,000. In imposing fines on independent directors, the court indicated that their duties were not to be taken lightly. Going forth, however, it is likely that Raju and the others will appeal the court’s verdict.

The ED investigation

The Enforcement Directorate launched its own investigation into the matter, under the Prevention of Money Laundering Act 2002 (‘PLMA 2002’), and filed a chargesheet against Raju and 216 others (including his kin), and 166 firms in October 2013. The ED alleged that the accused had engaged in inter-connected transfers of wrongful gains due to sale of inflated shares and bonus shares artificially creating distance between the criminal proceeds and the initial beneficiaries. They also alleged that the 327 companies floated by Raju and his relatives were used to ‘layer the proceeds of the crimes’, investing in several movable and immovable properties in their names and the names of these front companies. The ED has attached 350 immovable properties and five movable properties valued at ₹10.75 billion, having taken possession of most.

In 2012, the ED also sought to add Mahindra Satyam to the list of the accused, serving them with attachment orders freezing ₹8.22 billion worth of Mahindra Satyam fixed deposits, along with provisional orders in respect of additional deposits held with other banks. The ED alleged that Mahindra Satyam had implicated itself in the money laundering case, by possessing the proceeds of a crime and projecting them as untainted. Mahindra Satyam, which had methodically dealt with many of Satyam’s liabilities (chiefly from foreign suits), since the take-over, argued that they were victims of the fraud – the ‘white knights’ in this scenario – and thus could not be prosecuted under the PLMA 2002. A single judge bench quashed the ED’s appeal to bring proceedings against the company in December 2014. The ED has since appealed this decision before the Hyderabad High Court. Mahindra Satyam in turn questioned the validity of the ED’s prosecutorial action, stating that Mahindra Satyam could not be a party to the proceedings given that the company did not exist at the time of the misconduct. A two-judge bench of the High Court has, however, admitted the ED’s appeal. They issued an interim order on 1 April 2015, directing Mahindra Satyam to appear before the ED and participate in the process of framing the charges. The bench did, however, also instruct the trial court to examine whether there was sufficient evidence available against Mahindra Satyam for the framing of charges, notwithstanding the December 2014 single-judge decision. In the meantime, the appeal has been adjourned for further hearing after 20 April 2015, when the special court is expected to frame charges.

The rest of the ED investigation is ongoing, as the money trail both within the country and abroad is still being excavated.

Foreign lawsuits

Foreign investors were keen to sue for losses as well. Mahindra Satyam bore the cost of these suits, reaching an out-of-court settlement of $125 million in February 2011 in a class-action suit in the US, also settling the case with the US Securities and Exchange

Commission for $10 million in April 2011. They have also borne the costs in law suits launched by other foreign investment funds, like Aberdeen Global, and 22 others for $68 million.

Corporate fraud in a post-Satyam world

The case has highlighted a number of important questions regarding regulatory slackness. Tighter regulations and vigilant oversight of regulatory compliance are imperative. The SEBI requirement in respect of independent directors in a listed company, for instance, was only superficially adhered to in the Satyam case. All the independent directors were allotted a significant number of stock options (at the strike price of ₹2/share) along with a handsome commission (approx. ₹1.2 million on average). 9 Given this, it could be argued that such directors could not have carried out the objective decision-making required independent directorship: potentially explaining why the Maytas acquisition deal –so unrelated in substance to the IT services sector, was passed by the board in December 2008. Failure of the auditing process; private sector corruption; the role and efficacy of independent directors; and the lack of enforced corporate governance standards are now significant concerns in the aftermath of Satyam.

Some new statutory and regulatory changes, however, offer hope:

The Prevention of Corruption (Amendment) Bill 2013

The bill is primed for reintroduction in Parliament soon, and if approved will be a watershed moment in Indian law, in respect of corporate criminal liability. The Bill proposes to criminalize bribery of a public official by a commercial organization, in exchange for retaining or maintaining business. Where convicted of bribery, the agent acting for the company, its directors, and those in charge (who are unable to prove lack of knowledge, or those who fail to take adequate anti-bribery compliance measures), will all be held guilty – liable to a fine and imprisonment. The head of the organization will also be held accountable: liable to a fine and imprisonment from three to seven years.

The Companies Act 2013 (‘CA 2013’)

CA 2013 has introduced a new fraud provision, stipulating penalties of imprisonment and fines for any person found guilty of fraud in relation to company, or body corporate with the minimum fine set at the amount of money involved in the fraud. The recent verdict in the SFIO Satyam trial, however, suggests that the penalties meted out in economic offences cases are persistently meagre. Restricted by the Companies Act’s six-month sentencing upper-limit, and given the judge directed the jail sentences in all six cases to run concurrently, the Raju brothers appear to have come away with a rap on knuckles, despite the enormity of the fraud. It is hoped that raising the minimum sentencing threshold, and strict enforcement of the new monetary penalty under CA 2013 will go some way to ensuring that the punishment fits the crime.

CA 2013 also provides for enhanced corporate governance requirements. The Act expands upon the previously stipulated independent director requirements. CA 2013 also has provisions for the establishment of an Audit Committee (comprised of a majority of independent directors), to review the appointment of statutory auditors for the company, scrutiny of inter-corporate loans, and evaluate the company’s internal financial controls, amongst other duties.

As of October 2014, SEBI (in keeping with the new corporate governance provisions in the CA 2013) has prohibited the provision of stock options to independent directors, also approving proposals regarding the implementation of a compulsory whistleblower mechanism, along with an expansion of the audit committee, and a mandatory annual meeting of the independent directors, with respect to all listed companies.

It is hoped that regulatory compliance with these measures will be strictly enforced in the future.

9 “Satyam Balance Sheet for 2007-2008.” Fernando, A.C. 'Satyam - anything but Satyam'.

The April 9 verdict is being heralded as a big victory against corporate fraud, which is so rarely prosecuted in India. The fact that members of India’s erstwhile corporate elite have been successfully prosecuted and punished is thought to be a deterrent for future corporate scams.

Yet many are calling this verdict a disappointment that provides only superficial closure, claiming the punishment meted out to the accused is insufficient, given the nature and extent of the fraud carried out. Some of the provisions under which Raju and his accomplices have been convicted, carry a maximum penalty of life imprisonment along with fines much heavier than the meagre ₹52.4 million imposed on the ringleader by the CBI Special court. Moreover, while US-based investors and the SEC have sought to recuperate some of their losses via out-of-court settlements with Mahindra Satyam, Indian shareholders are yet to be compensated in respect of their losses.

In the meantime, the April 9 verdict appears to have only hit the pause button on the Satyam story. Raju, and 7 of his accomplices have since appealed the Special Court’s verdict (including the conviction and the fine), under the Code of Criminal Procedure, before the sessions court of Hyderabad. Given the multiple levels of appeals that still lie ahead, this process is likely to take a substantial amount of time, and may not be definitively settled till it reaches the Supreme Court. Truth be told, the Satyam case is far from over.

DISCLAIMER: This report is intended as a general overview and discussion of the subjects dealt with. It is not intended, and should not be used, as a substitute for taking legal advice in any specific situation. Archer & Angel will accept no responsibility for any actions taken or not taken on the basis of this publication.

CONTACT: For additional information, please contact: Srijoy Das, Partner of Archer & Angel at [email protected]. More information about Archer & Angel can be found at www.archerangel.com