Ahold: Don't discount possibility of fraud

And this time experts say we could soon see similar cases in the UK.

The warning, from Peter Wyman, president of the ICAEW, is a clear message not to be complacent in the face of a scandal that has its roots in very different issues from those that brought Enron down.

Food provider Ahold’s problems arose in the comparatively simple area of booking supplier purchase discounts, rather than the complex special purpose vehicles that lay behind the problems at Enron.

Ahold’s auditor, Big Four firm Deloitte & Touche, discovered significantly overstated supplier discounts during the annual audit in the company’s US subsidiary, US Foodservice. As a consequence, it refused to sign Ahold’s 2002 financial report and suspended the audit for consideration of the company’s supervisory board.

As a result, Ahold last week warned shareholders that it was forced to reduce its income statement by $500m – and possibly more. This will cover supplier discounts for 2001 and 2002.

Ahold’s profit notice sent shockwaves through the financial markets because, until last week, the company was a reputable brand whose shares were considered a safe buy. Ahold’s share price instantly plummeted 70% – from ? ¬674.50 (£465) to ? ¬196.

An estimated A6bn of equity disappeared in one day and groups of investors soon began six law suits in US and the Netherlands.

President and chief executive officer Cees van der Hoeven and chief financial officer Michael Meurs resigned. Ahold appointed replacements four days later. Alfredo Garcia Pye, formerly country manager of Ahold Peru, has been appointed as chief executive. Pieter de Nooij, a former member of Ahold’s Latin America support group, has been appointed chief financial officer.

Ahold has now launched an internal investigation to find out what happened and who was responsible. And, despite the current climate, in which auditors seem to be blamed for all corporate crises, Ahold has not pointed the finger at Deloittes.

Meanwhile, the SEC has launched an investigation into supplier discount accounting in US Foodservice. Pan-European exchange Euronext has opened a financial investigation into Ahold and so has Dutch financial watchdog the Netherlands Authority for Financial Markets.

A spokeswoman for D&T Holland warned against making early judgements.

‘People should not jump to conclusions until more facts can be revealed,’ she said.

But supplier discounts are a notorious area for fraud. The discounts are typically calculated at the end of each year, based on the volume of purchases a company makes from its supplier.

End-of-period supplier discounts are difficult to audit for two reasons.

Firstly, the majority of audit measures are based on contradictory flows of goods and money – goods come into a company and money goes out, and vice versa. But with supplier discounts both goods and money come into the company at the same time, so standard audit measures do not work.

Secondly, this type of supplier discount is granted at the end of a period, so they are difficult to connect to individual transactions. In order to verify the discounts, auditors need to rely on the accuracy of the purchase ledger, which is fairly easy to manipulate. These difficulties mean that auditors tend to keep a close watch in this area.

Past fraud cases in this area have usually involved understated supplier discounts, because wayward employees instructed suppliers to pay discounts into their own bank accounts.

To prevent this, audit measures often instruct companies to assign two different accountants to work on the figures for discounts. One to book expected discounts based on contract information and purchase transactions, and one to book received discounts and book cash.

The Ahold case is unusual as supplier discounts were overstated rather than artificially reduced.

But the precautions are open to abuse. Peter Wyman believes that in the separated discount booking construction it is possible one accountant could correctly book expected discounts, while the other could potentially syphon off the money into his own bank account.

Wyman argues there is no proof that the Ahold case is either about a fraud for personal gain or about manipulation of profit. ‘It could be a combination,’ he says, but he says the scale of the event suggests another explanation.

Critics of the Sarbanes-Oxley exemption campaign have used Ahold as an example to explain why US regulators should become involved with foreign audits. Some even argue that the Ahold fiasco could mean that in the future UK firms will face probes from US regulators.

But Wyman has discussed the matter with SEC officials in Washington, and said the issue had created little fuss there. Perhaps this time the US regulators won’t want to be involved.