Danarose T.

Lanto
BSA32

THE WIRECARD SCANDAL

The Wirecard Scandal is one of the latest examples of extreme corporate fraud
and is even considered the “Germany’s Enron”. The dramatic and high-speed fall of
Wirecard puts the corporate governance and industry regulation in Germany into the
spotlight. Its case prompted the German parliament to organize an inquiry in order to fully
investigate the reason why the government failed to prevent corporate fraud. Just like the
Enron, it is a lesson learned for everyone.

Wirecard operated in the digital payment segment of the FinTech sector. It was a
fast-growing company and was once a shining star in the FinTech industry in Europe. Its
shares were listed in DAX, the blue-chip index of German, and had a market capitalization
of E24 billion in September 2018. The beginning of its demise started in February 2019
when Financial Times revealed Wirecard’s widespread accounting fraud and accounting
irregularities in its Asian operations after being tipped off by a whistleblower.(Treanor,
2020) Wirecard disputed the reports and said it was the victim of speculators. On June
25, 2020, the company filed for insolvency after determining that €1.9 billion was missing
and it postponed its annual report. Thereafter, CEO Markus Braun resigned and was
replaced by James Freis. Two Philippine banks that were said to hold the money in
escrow accounts said that they had no dealings with Wirecard. The unraveling of the
scandal continued as the company said the €1.9 billion in cash it claimed to have likely
never existed. German prosecutors arrested its CEO, and the company's shares
plummeted.(Wiwanto, 2020)

The Wirecard scandal is not a simple one. It is a series of accounting frauds. It

could have been prevented if the red flags were not ignored. The scandal’s first red flag
are the repeating accounting irregularities allegations. This is not the first time that the
company’s accounting practices have been called into question. Accusations of suspect
accounting were levelled in 2008, 2015 and 2016. Each time Wirecard has alleged market
manipulation, the investigations were done by the German market regulator, BaFin.
(McCrum, 2019) As far back as 2008, questions were being asked about Wirecard’s
alleged balance sheet ‘irregularities’ by the head of a German shareholder association,
however nothing significant transpired. (Veazey, 2020) This continued for several years.
If only these allegations were investigated thoroughly, and fraud was discovered early,
maybe it would not be a huge scandal and the effect on stakeholders would be reduced.
The second red flag is Wirecard’s way to enter the stock exchange. The company started
its core business on managing payments in the high-risk areas of online gambling and
adult entertainment. Subsequently, it joined the Frankfurt stock exchange by taking over
the listing of a defunct organization. This route ensured the company avoided the scrutiny
of an initial public offering. (Wiwanto, 2020) The third red flag is that there were at least
two instances where its auditors have given a qualified opinion on the audited financial
statements of a Wirecard subsidiary in Singapore. Having a qualified opinion on audited
books is rare, and therefore, it should be treated as a major red flag. If a company receives
a qualified opinion, its management should immediately follow up with an independent
internal review to determine the veracity of the qualified opinion. In the case of Wirecard,
there was no evidence that was done earlier. (Wiwanto, 2020) The fourth red flag is
Wirecard’s incapability to provide comprehensive documentation. There were series of
unrecorded minutes at its executive meetings. These were found in the independent
investigation report published by KPMG in April 2020. The fifth red flag is Wirecard’s
highly unusual purchases. Wirecard raises €500m from shareholders and goes on a
shopping spree. It buys up companies across Asia in a series of oddly structured deals,
starting in Singapore. (McCrum, 2020) Also in 2015, Financial Times noted a corporate
filing in Singapore which revealed that its assumption of 12 million euros in liabilities was
really an opaque loan it made to an unspecified recipient after the deal’s completion “for
the acquisition of intangible assets from a third party.” (Boyd, 2018) The sixth red flag is
the disclosure of its financial statements. Wirecard’s management discloses its financial
results using custom, or “adjusted,” metrics rather than following applicable International
Financial Reporting Standards. While this practice is completely legal, it can inflate the
appearance of earnings and cash flow figures. (Boyd, 2018) Lastly, the behavior of the
CEO himself is a red flag. The arrest in relation to the 1.9 billion accounting scandal is not
the first time that Braun is arrested. Braun was first arrested in relation to market
manipulation and false accounting. (Nagarahan, 2020) As a CEO, he works on a floor
only accessible to senior members only. He also mandated the company to operate in
English even if only half of the staff could speak and understand the language. These
things show his lack of integrity and transparency.

As a recent scandal, Wirecard’s case revealed the weakness of the corporate

governance and the ineffectiveness of the current German laws. Even though the US
Sarbanes-Oxley Act or SOX was subsequently enacted by EU countries like Germany,
this scandal was a proof that there is a need for broader reform in Germany and in Europe
at large. When Germany adapted the US SOX, they have made modifications. For
instance, US SOX’s audit regulator is the PCAOB while in Germany, it is the Auditor
Oversight Body. Germany also has an idiosyncratic “two-stage” accounting enforcement
framework, with two entities in charge: the Financial Reporting Enforcement Panel as a
“first stage” and BaFin, as a “second stage,” stepping in when the DPR’s first stage is
viewed as having failed to resolve a problem. These are great framework; however, they
were not able to prevent the scandal because they were not implemented well. BaFin’s
record looks especially poor. Even with the multiyear accounting allegations, it did not
bother to investigate thoroughly on the past years. Many hedge funds have criticized
BaFin for temporarily banning short selling in Wirecard stock and for filing a criminal
complaint against two Financial Times journalists who reported the whistleblower
allegations about the company. (Browne, 2020) It is among institutions responsible for
the “complete disaster” because it didn’t do a good enough job supervising. (Nicola, 2020)

The impact of SOX on this scandal is not much because there is conflict between
it and the German Corporate Law. Under German corporate law, companies are required
to have both a supervisory board and a management board. This two-tiered corporate
governance structure causes compliance problems with Section 301 of SOX in numerous
respects. SOX requires that members of the audit committee-which for German issuers
would be the Supervisory Board-be independent. This requirement is problematic for
German issuers because German law requires that, in addition to containing at least one
labor representative, one-third of the Supervisory Board must consist of employee
representatives. (Schaffer, 2006) Another conflict is the whistleblower protection. One of
the major elements of SOX is the Corporate and Criminal Fraud Accountability. It
describes criminal penalties for the wrongdoers while providing certain protections for
whistle-blowers. The German legal system, however, does not provide proper and
comprehensive protection. Not even large companies are forced to establish a
whistleblower hotline or to appoint an ombudsman. (Reuker, 2019)

The case of Wirecard is, indeed, a wide-scale one. It pointed out the things that
could have been done not just by the company but the authorities of Germany and other
EU countries. It could’ve been avoided if the red flags were not overlooked. For instance,
first, the repeating accounting fraud allegations should’ve not been ignored. If the
allegations are recurring, maybe there is really something wrong in the company.
Thorough investigation should be done in order to detect the fraud early. Second, the
action of Wirecard to do a backdoor listing should’ve alerted the authorities. This is
because it implies that there is a question of whether a company could have withstood
the scrutiny of an initial public offering. Why didn’t the company just directly do the normal
procedure of entering the stock exchange? Third, small things like lack of documentation
or minutes of meeting should’ve been a red flag for authorities. Fundamental governance
principles require that discussions and actions of executive meetings be minuted for
various reasons. Minutes not only promote accountability and transparency; they also
facilitate effective audit and regulatory reviews. Fourth, highly unusual purchases
should’ve been given more attention during the audit. Fifth, this scandal could’ve been
avoided if BaFin was strict is terms of financial disclosures and if the German Corporate
Law adapted the Enhanced Financial Disclosures of SOX. In the case of Wirecard, they
have been presenting adjusted disclosure which may have been subject to manipulation.
Sixth, if the whistle-blowers were heard and taken seriously on the earlier years, a huge
scandal like this can be avoided. Providing substantial financial incentives and protection
for whistleblowers just like in SOX would be great strategy to prevent this from happening
again. Seventh, it could’ve been detected early if the regulating body noticed them early.
One way to prevent it from happening again is through making BaFin the only competent
authority just like PCAOB. A Germany-specific two-step enforcement structure has made
the system prone to latency and created unclear responsibilities and accountability in
cases of accounting fraud. Lastly, the scandal could’ve been prevented if Markus Braun
was not the CEO. Ethical leadership has an impact on corporate governance.
 REFERENCES

Schaffer, I. (2006) An International T An International Train Wreck Caused in P eck

Caused in Part by a Def y a Defective Whistle: When the Extraterritorial Application of
SOX Conflicts with Foreign Laws. Retrieved from
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Browne, R. (2020) ‘The Enron of Germany’: Wirecard scandal casts a shadow on

corporate governance. Retrieved from https://www.cnbc.com/2020/06/29/enron-of-
germany-wirecard-scandal-casts-a-shadow-on-governance.html

Reuker, U. (2019) Whistleblowing in Germany. Retrieved from

https://www.lexology.com/library/detail.aspx?g=9a8a20f8-02c7-467a-bc68-
84acb47298bb.

Nagarajan, S. (2020) Former Wirecard CEO Markus Braun was arrested for a 2nd time
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BBC. (2020) Wirecard: Scandal-hit firm files for insolvency. Retrieved from
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Wiwanto, F. (2020) Three Early Lessons From The Wirecard Scandal. Retrieved from
https://www.forbes.com/sites/forbesfinancecouncil/2020/07/27/three-early-lessons-from-
the-wirecard-scandal/?sh=25c9ca0f6bee

Treanor, M. (2020) Wirecard: A Scandal. Retrieved from

https://www.jdsupra.com/legalnews/wirecard-a-scandal-23872/

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https://www.ft.com/content/d51a012e-1d6f-11e9-b126-46fc3ad87c65

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https://rdc.com/financial-institutions/blog/wirecard-scandal-a-string-of-red-flags/

Boyd, R. (2018) Wirecard AG: The Great Indian Shareholder Robbery. Retrieved from
https://ffj-online.org/2018/01/23/wirecard-ag-the-great-indian-shareholder-robbery/

Colon, D. (2005) "The Foreign Bank Exemption to the Sarbanes-Oxley Prohibition on

Loans to Directors and Officers,"Journal of International Business and Law: Vol. 4: Iss. 1,
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Nicola, S. (2020) How German Fintech Darling Wirecard Fell From Grace . Retrieved from
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