Satyam: India's IT Scandal

[Riaz Haq]

Satyam Computer Services Ltd., considered the poster child of India's information technology age, has shocked the world with a scandal of major proportions. The chairman of Satyam, a name that literally means "truth" in Sanskrit, said he cooked up key financial results, including a fictitious cash balance of more than $1 billion, raising doubts about the IT revolution hype in India that has attracted many international companies and significant foreign investments to the nation of over one billion people.

The Wall Street Journal is reporting that B. Ramalinga Raju, founder and chairman of Satyam Computer Services Ltd., said in a letter of resignation that he also overstated profits for the past several years, overstated the amount of debt owed to the company and understated its liabilities. Eventually, he said, the scheme reached "simply unmanageable proportions" and he was left in a position that was "like riding a tiger, not knowing how to get off without being eaten."

In the four-and-a-half page letter distributed by the Bombay stock exchange, Mr. Raju described a small discrepancy that grew beyond his control. “What started as a marginal gap between actual operating profit and the one reflected in the books of accounts continued to grow over the years. It has attained unmanageable proportions as the size of company operations grew,” he wrote. Mr. Raju ended his letter by acknowledging his misdeeds and said, "l am now prepared to subject myself to the laws of the land and face consequences thereof". While the Satyam scandal is being dubbed as "India's Enron", Raju's admission is in sharp contrast to Enron chairman Ken Lay's defiance in the face of massive evidence against him. Indeed, Raju's words are rare in the annals of corporate confessions and acceptance of personal responsibility by a top leader.

Deeply worried by the fall-out from the Satyam scandal, other Indian firms are downplaying it. "I'm very sure that this is just an isolated incident which has nothing to do with the industry that it is in, the business that it is in, or the country it is in. It has to do with individuals and the specific company," Mr. Suresh Senapathy of Wipro told the Wall Street Journal.

The analysts, however, are not as sanguine as Mr. Senapathy. "I think it's going to be a mixed bag for the other offshore IT-services firms," said George Price, an analyst at Stifel Nicolaus & Co. "Both investors and clients and potential clients are going to be more concerned about how stable their providers are."

In the wake of Satyam revelations, the company's market valuation has dropped by nearly 80% in two days. India's benchmark Sensex index has plunged 7.2%, as investors reassess level of risk in the Indian market amid serious concerns about corporate governance and accounting standards across Indian industry.

In Thursday trading, there were continuing fears that the Satyam scandal will affect other companies and hurt foreign investment. ICICI Bank tumbled 11%, Reliance Industries sank 13%, and Reliance Communications skidded 17%. However, shares of rival software firms outperformed the broad market, with Infosys Technologies gaining 1.7% and Wipro rising 0.2%.

India's market cap overtook its GDP in May 2007. By January 2008, it had reached 180% of GDP, extraordinarily high compared to 131% for the U.S. during the dot-com boom and 150% for Japan at its market peak. In July, the market-cap ratio dropped below 100%. What it means is that even if the Indian economy continues to do well over the next two decades, GDP would have to more than double for the market cap to return to its previous heights without an equities bubble. If the economy keeps growing at 7.2%, that doubling would take at least ten years.

Hong Kong-based Political & Economic Risk Consultancy Ltd. has recently rated India as the riskiest of 14 Asian countries, not including Pakistan and Afghanistan, it analyzed for 2009. Satyam scandal is likely to add additional risk if the Indian authorities and corporate sector fail to take measures to restore investor confidence in India's publicly traded companies.

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