TT-562 -- Huge Local Fraud Case, ebiz in Japan

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A weekly roundup of news & information from Terrie Lloyd.
(http://www.terrie.com)

General Edition Sunday, April 18, 2010 Issue No. 562

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+++ WHAT'S NEW

A most surprising press release came into our email box
last week, outlining an event that appears to have gone
unreported here in Japan. The press release came from Molex
Corporation, a US$2.6bn leader in the electronic parts and
connectors business. In it, Molex outlined a fraud of
massive proportions perpetrated by one of its Tokyo-based
finance department managers.

That's right, here in Tokyo.

According to Molex's press announcement, the finance person
had managed to get unauthorized loans from local lenders to
the tune of JPY17bn...! What's more the person was doing
margin trading with the cash and between this and some
other cash he/she stole from the company, the losses
sustained so far amount to about JPY1.5bn...! Molex says
that the person was caught and has admitted to forging
documents to arrange the loans. The company is now
investigating the extent of the damage done to see what its
final position is.

The company also speculated in the press release that it
might be able to dodge some of the liabilities involved for
the loans because they were unauthorized. However, we doubt
things are going to work out so conveniently. Our guess is
that the person used the company hanko (seal) to authorize
the loans -- which would have been necessary because of the
amount of money involved, and while it may be proved that
the loans were unauthorized, if there are losses involved it's
not going to be the lender who is going to be responsible for
making good on them but rather Molex, due to the fact that
somehow it was possible for the employee to use the
company hanko in this way in the first place.

As we all know, use of a hanko is equivalent to one's
signature and as a company the onus is on management to
control its use. Failure to do so would make the company
liable. Of course Molex does have the option of seeking to
recover the losses from the ex-employee. But we're talking
about margin trading, where piles of money can be made and
lost in the blink of an eye -- so good luck to them in
trying to get it back.

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[...Article continues]

The point to realize in this case is that while employee
fraud may be rare in Japan, it does happen -- and more
often than you might think. When it does happen the
amounts of money involved can be large. In Molex's case,
the amount is perhaps as much as 5% of the company's global
sales for FY2009.

The lesson here is that somehow this employee managed to
produce documentation sufficient to convince the lender to
part with such a large amount of money. Therefore, we can
assume they had access to the company hanko and furthermore
that they were effectively able to bypass any checks and
procedures in the company as to its use. Although the press
release doesn't name the lenders involved, because of the
large sums, we can reasonably assume that they came from
a major bank that wouldn't have been complicit in the fraud
and these banks are really stringent in their checks --
especially about the use of a hanko. Therefore, the
employee must have been in a position to sufficiently satisfy
them that the application was bonafide.

Therefore we can also reasonably say that Molex probably
had insufficient rules and procedures in the firm to
prevent such fraud -- because the employee was able to
perpetrate it.

This is not the first time we have heard of such fraud. In
the last 15 years we are aware of at least 3 other cases
involving millions of dollars, where the heads or senior
management of each firm involved were quietly "retired" by
their foreign employers after being caught doing something
VERY naughty. In each case, we can say that the companies
involved trusted their Japanese executives to the point
where they stopped checking what they were doing. That is
a mistake. Whether it's Japan, China, or another location,
every head office needs to have a protective regime in
place to reduce the likelihood of fraud.

The bigger the foreign company and the better known they
are, the more potential there is for them to become
involved in a fraud. This is because an enterprising but
dishonest employee can use the firm's reputation to get
the attention of lenders or suppliers at a level that a
smaller company would not, and in some cases effect the
delivery of actual cash and/or products without even
executing an proper contract. Once the executive has made
such a commitment in the company's name, generally in
Japan at least it's incumbent on the company to make
good for resulting payments.

So how does one structure to reduce the likelihood of fraud
in a foreign subsidiary? We're not lawyers and would be
happy to get feedback from any readers who are, but it
would seem to us that there needs to be the following
measures taken by ALL foreign companies with a reputation
and cash to protect in Japan:

1. A representative of the foreign head office should be
sitting on the local board of directors, and have the
authority to look at all levels and activities of the
company -- including (especially) actions by the CEO,
directors, and other senior managers. An ideal job title
would be CFO, Legal Counsel, or simply Head Office Liaison
Officer.

2. A properly thought out procedure for the retention of
any new vendors and employees -- including multiple reviews
by multiple managers of each, so as to prevent anyone
slipping in some unwanted baggage. Local offices should be
required to get at least 3 quotes on all new major
purchases and to go through a rigorous vendor selection
process (based on competitive bids and selection by
committee) once every 1-2 years. For all purchases, credit
limits should be imposed and amounts over a certain level
need multiple approvals to be actioned.

3. Once vendors are taken on, they need to be instructed in
the level of permissions and documentation that are
required from the company in order to authorize the
acceptance of products and services. If a contract is made
that doesn't follow the procedures, they need to be told
that there is a chance that they won't get paid.

4. Needless to say, the company hanko needs to be kept
under safe and key, and can only be released after multiple
permissions from the CFO and another senior manager,
preferrably the CEO -- although for a big company this may
be impractical. The purpose for using the hanko also needs
to be clearly stated in advance. Although this doesn't
prevent fraud, it does increase the chances of early
detection.

5. There need to be regular quarterly audits on cash flow
through the business, and yearly audits on business
processes and relationships with vendors. Vendors should be
graded according to size, frequency, and relevancy to the
business. We know of one case where a leading company's CEO
fed business to his girlfriend's company for a number of
years, and an audit would have quickly shown this up as
being strange because the payments were so large and the
vendor was always the same.

The common denominator here is that there are multiple
people involved in the controls, checks, and operations of
the business, and in involving them there is a much higher
chance that the element of discovery will put off an
otherwise opportunistic individual. In particular, the CEO
and directors are hard to control due to their superior
position over local staff and so a foreign staff member of
suitable seniority and empowerment needs to be on hand to
make sure that procedures and systems are not sidestepped
for convenience by these senior managers.

The Molex case reminds us a lot of the Lehman
Brothers-Marubeni fraud of April 2008, when it emerged that
two Marubeni employees on short-term contracts had
convinced Lehman Brothers to invest US$340m into a hospital
refurbishment project run by a company called Asclepius. As
it turns out, the duo and another individual were not
representing Marubeni at all but had forged documentation
to make it appear that they were. What convinced Lehman to
make the investment was the company hanko (or something
like it) on company documents, and the fact that some of
the meetings took place at Marubeni's offices and therefore
gave the impression of legitimacy.

After the scandal emerged, legal experts quoted in the
press said that a court decision would be based on
Marubeni's responsibilities as a company, where under
Japanese law firms are liable for the actions of their
staff. We don't know what the outcome of this court case
was, and given that Lehman Brothers since went bankrupt it
may well be that the case is still be stuck in the courts.

In any event, the implications for Molex are that they are
responsible for the actions of their employee. What might
help them wriggle out of those responsibilities is whether
they can prove whether the lender did its homework in
making the loan and whether it should have reasonably
foreseen the fraud. In this respect, we believe that a lot
will probably hinge on whether or not that employee had
access to the company hanko and whether he/she actually
used it to get the loans. If he/she did, then Molex has to
answer "how was it possible?"

...The information janitors/

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+++ NEWS

- Companies tax take lowest in 32 years
- Population will now fall consistently
- Number of Japanese students studying in USA falls
- Vitamin B may reduce heart disease
- High-speed book scanner

-> Companies tax take lowest in 32 years

The Finance Ministry estimates that company taxes around
the nation will total just JPY9.7trn, about half of the
JPY18.4trn taxed in FY2008 and the lowest tax income since
1977. Experts say that the precipitous drop comes from the
FY2008 recession and tax refunds stemming from that period.
The Nikkei says that even if corporate earnings do recover,
tax receipts will stay low for a while because companies
around the nation collectively hold tax credits (good for
7 years after a loss is incurred) of JPY90.8trn. ***Ed:
Corporate taxes usually account for about half of all
government tax income and since worker income is also well
down, it is doubtful whether the nation's tax take can
cover even a quarter of the national budget committed to
earlier this year. You really do have to wonder where all
the money is going to come from... More government bonds?**
(Source: TT commentary from nikkei.co.jp, Apr 13, 2010)

http://e.nikkei.com/e/ac/tnks/Nni20100412D12JFF04.htm

-> Population will now fall consistently

The Internal Affairs Ministry has released data showing
that Japan's population is entering a permanent state of
decline, dropping last year by 183,000 people. The
population as of October 1st 2009 was 127.51m. Of these
people, the net outflow of foreign residents was 47,000,
comprising a good chunk of Brazilian auto workers and
foreign bankers leaving Japan for good. Apart from the
departing foreigners, the Ministry reckons that 2009's
decline marks the start of an accelerating decline in the
general population. ***Ed: Yep, it's started folks -- now
how long will it take to get rid of Kamei and his cronies
so that immigration can make its rightful contribution to
restoring the population balance?** (Source: TT commentary
from nikkei.co.jp, Apr 17, 2010)

http://e.nikkei.com/e/ac/tnks/Nni20100416D16JFN01.htm

-> Number of Japanese students studying in USA falls

A Washington Post article confirms what many of us have
suspected for some time, that the enrollment of Japanese
undergraduates in the U.S. has plummeted by 52% in the last
10 years, and for graduate enrollment 27%. This is in stark
contrast to students from China, who are up 164% during the
same period and India which is up by 190%. The situation is
now so bad that even South Korea with a population of just
48.5m people (compared to Japan's 127.5m) has 2.5 times
more students attending U.S. colleges. Experts say the
problem is partly economic, partly a perception in Japan
that an international degree doesn't have any value in the
job market, and partly because kids simply prefer to stay
at home near their friends. ***Ed: Hmmm, "Apathy" would be
a good description for this state of affairs. Is it a case
of today's kids being too comfortable, or are they just too
disillusioned by their prospects to make an effort?**
(Source: TT commentary from seattletimes.nwsource.com, Apr
17, 2010)

http://tinyurl.com/y7zgj9p

-> Vitamin B may reduce heart disease

A study sponsored by the Ministry of Health and performed
by the Japan Collaborative Cohort (JACC) has found that
eating foods rich in vitamin B, and particularly those rich
in folate and Vitamin B6, could reduce the incidence of
heart disease. The study found that both folate (Vitamin
B9) and Vitamin B6 appear to reduce the incidence of
Homocysteine, which has been connected to the occurrence
of atherosclerosis and the blockage of arteries. The study
found a significantly reduced death rate from stroke, heart
disease, and cardiovascular disease subjects who ingested
higher levels of B9 and B6. (Source: TT commentary from
examhealth.com, Apr 16, 2010)

http://tinyurl.com/y7q9839

-> High-speed book scanner

A new scanning system developed by researchers at Tokyo
University allows users to scan a book simply by flicking
through the pages. The software automatically adjusts the
images for page distortion, correcting them so that they
can be processed by character recognition software. Versus
the laborious and potentially damaging (for the book spine)
act of placing a book on a scanner, the new system can
read up to 500 images per second. That is enough to read a
250-page book in just over 60 seconds on a standard desktop
PC. ***Ed: Cool -- although maybe not for publishers...!**
(Source: TT commentary from reuters.com, Apr 16, 2010)

http://tinyurl.com/yym9wqk

NOTE: Broken links
Many online news sources remove their articles after just a
few days of posting them, thus breaking our links -- we
apologize for the inconvenience.

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+++ CORRECTIONS/FEEDBACK

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