Corporate fraud refers to any illegal or deceptive actions committed by a company or its employees. This includes fraudulent transactions, dishonestly manipulating accounts to hide debt and not declare assets, and even defrauding the company’s creditors. Recent years have seen many extreme cases of corporate fraud that have changed the legal landscape of corporate governance across the globe. The Sarbanes-Oxley Act enacted in the United States in 2002, for example, came in response to multiple high-profile corporate financial scandals in the previous decade, including the Enron Corporation and WorldCom. These frauds harm not just companies and their employees, but entire markets and investor confidence. In this regard, Singapore is in a particularly precarious situation as it is one of the world’s most competitive economies.
In preventing fraudulent practices from taking place, directors and managerial personnel have a key role. Just a few months ago, in a case filed by Inter-Pacific Petroleum’s liquidators against former director Goh Jin Hian, the Singapore High Court held the former director liable for not taking reasonably diligent care and failing to act on “several red flags” of corporate fraud. Thus, it is imperative for directors and officers of companies to be proactive when it comes to detecting and preventing corporate fraud in their companies. In this light, this article explains Singapore’s legal landscape governing corporate fraud, and the duties of directors and other stakeholders in preventing this. It then outlines red flags that should be watched out for and suggests internal controls companies may implement in order to detect and prevent corporate fraud.
Corporate Fraud in Singapore’s Legal Landscape
In Singapore, corporate fraud is governed mainly by the Companies Act, the Misrepresentation Act, and the Penal Code.
Under the Companies Act, corporate fraud offences include making false and misleading statements or reports (Sections 401 and 402) and frauds by officers (Section 406). The Companies Act also imposes penalties if directors breach their duties, including that of disclosure of interests in transactions and properties (Section 156) and acting honestly and exercising reasonable diligence (Section 157). Section 199(1) also imposes a duty on directors to keep proper accounting records. Proper accounting methods, as will be explained earlier, are a key tool in both preventing and detecting corporate fraud.
When it comes to fraudulent misrepresentation, the common law position has been codified by the Misrepresentation Act, which provides the procedure for damages where a contract is made based on misrepresentation. As far as criminal offences go, the Penal Code prohibits criminal breach of trust (Section 405), cheating (Section 415), fraudulent deeds and dispositions of property (Sections 421 to 424B), forgery (Section 463), and falsification of accounts (Section 477A).
There are two main authorities with the power of investigation and enforcement in cases concerning corporate fraud: the Commercial Affairs Department (CAD) and the Monetary Authority of Singapore (MAS). The MAS released a Code of Corporate Governance in August 2018, which provides guidelines on the processes and structures required to manage the business of a company. By improving accountability mechanisms, good governance procedures are instrumental in preventing and detecting corporate fraud.
Duties of Directors and Other Stakeholders Regarding Corporate Fraud
Considering the key role of directors in corporate governance and a company’s management, the Singaporean legal landscape imposes several duties and responsibilities on directors. Generally, directors have a fiduciary duty to act in good faith in the interests of the company (including employees, shareholders, creditors, etc.), and to use the powers conferred on them for their proper purpose. This would suggest that it is the director’s duty to ensure they are not enabling fraud in the company, as this would not be in ‘good faith’ and is contrary to the interests of the company. In support of this, Singapore High Court Justice Aedit Abdullah, in the case against Goh Jin Hian mentioned earlier, observed that that while a director is not an internal auditor, they do have the obligation to monitor the corporation’s affairs and broadly supervise its activities and officers to protect all stakeholders.
When it comes to other stakeholders, the officers of a company also have a duty to not commit fraud under Section 406 of the Companies Act. Specifically, they cannot fraudulently induce a person to give credit to the company and cannot conceal, remove, or transfer any company property to defraud creditors.
Additionally, the MAS issued a notice last year prescribing the required business conduct for corporate finance advisers. This notice requires corporate finance advisers to identify and mitigate any potential conflict of interest. This is essential to ensure the advice rendered does not lead to fraudulent financial activity on the company’s part that unduly and unjustly benefits any one party.
In addition to legal obligations, since directors are collectively responsible and work with the management team for the long-term success of their company, they generally have the obligation and the capacity to implement policy changes for better corporate governance and to better mitigate corporate fraud. In this regard, the next part of this article will outline factors that must be considered and policies that may be implemented to mitigate corporate fraud.
Red Flags to Look Out For
There are several signs and minor irregularities in a company’s operation that may be indicative of a larger corporate fraud. Directors and management should watch out for these red flags:
- Incomplete or missing records, documents, and receipts – The absence of important documents relating to a transaction might indicate that the required documents are unfavourable to the transaction and/or forged. Receipts are important to check the veracity of the company’s expenditure, without which it is difficult to verify that company funds are not being misappropriated or siphoned off for fraudulent purposes.
- Transactions with unregistered individuals and/or firms – Transactions with entities that do not have a legal identity may indicate the transaction is not for legal purposes, and that the business in question might not have operations beyond illegal or fraudulent activities. One should always check if the entity which the company is contracting with is registered with the appropriate governmental authority before making any transfers.
- Urgent funds and offers of unrealistic returns – One of the typical red flags of an investment scam is a need for urgent funds, or an offer for returns that sounds “too good to be true”. Companies should be wary of entering into transactions with entities who claim to require funds urgently, or which promise to provide unrealistic returns, all without verification.
- Overly complex corporate structures – Companies engaging in corporate fraud may have a complicated corporate structure, possibly involving multiple subsidiaries, partner companies, or even offshore accounts. This may be a sign that the company is trying to deceptively alter its books to conceal debts and bad assets through its structure.
- Skipping internal approval steps – This may be indicative that certain important legal procedures have not been complied with, leaving the company susceptible to legal action.
Internal Controls for Fraud Detection
There are several measures companies can consider implementing to detect fraud, such as:
- Creating a facilitative environment for whistleblowers – Often, employees who are aware of instances of fraud feel uncomfortable to speak up and report such instances for fear that they may be socially ostracised or that their career and growth in the company may be negatively impacted. To prevent this and to encourage reporting of fraud, companies should set up a mechanism whereby whistleblowers may report such incidents anonymously and without fear of their career being impacted.
- Regular audits and inquiries – Conducting audits regularly throughout the year increases the chances of detecting financial irregularities (if any). After the identification of such irregularities, it is important for directors to start inquiries with respect to the concerned transactions, to prevent the fraud from persisting. These audits and investigations may even involve roping in third-party agencies, auditors, or accountants, to improve impartiality and transparency.
- Conducting due diligence before transactions and mergers – It is important for a company to know whom they are contracting or merging with to ensure their money is not used for unlawful purposes. The company may employ external agencies or legal advice to assist them with conducting thorough checks on the concerned party.
Internal Controls for Fraud Prevention
In addition to fraud detection, companies can also implement safeguards to prevent fraud from occurring in the first place, including:
- Creating a culture of integrity & not putting excessive pressure on meeting specific financial targets – Fraud is often committed to make the company appear more profitable than it really is. Pressure on managerial personnel to meet financial targets might incentivise them to fraudulently adjust their accounts to show that they are meeting financial targets, whether this is through hiding debts through complex corporate structures, or engaging in dishonest transactions. By promoting a healthy growth-based culture instead of one based on meeting specific targets, this incentive could be diminished.
- Improving human resources procedures – Human Resources can play a key role in reducing fraud from the foundational level. This involves conducting thorough background checks on all members or prospective members of the company and conducting training programs to educate employees on the proper practices to avoid fraud and red flags to identify the same.
- Setting limits on individual authority and concentration of control – Concentration of power in the hands of a few people in the company significantly reduces accountability and the possibility of detecting fraud. Corporate governance structures should be set up in a manner whereby each individual’s authority is clearly specified, to avoid ultra vires acts and confusion. Additionally, each individual should be adequately supervised and/or accountable to other members of the company.
- Vigilant internal detection and investigative procedures – By implementing the internal controls to detect fraud, individuals will be deterred from engaging in fraudulent activity. Setting strong, impartial investigative mechanisms would actively prevent fraud from occurring in the first place.
Conclusion
Combatting corporate fraud requires directors and other key managerial personnel to play a proactive supervisory role in the company’s affairs. By implementing internal controls towards fraud detection and prevention, and vigilantly monitoring the presence of any red flags, directors can fulfil their fiduciary duty towards upholding the company’s best interests and avoid liability under Singapore laws.
Please note that this article does not constitute express or implied legal advice, whether in whole or in part. For more information, email us at info@silvesterlegal.com
