A

REPORT ON

Financial Scandal of Parmalat

COURSE NAME: Auditing
COURSE CODE: FIN-4209

Submitted To:
Farzana Nasreen
Lecturer
Department of Finance
Jagannath University

Submitted By: Group-10

NAME ID NO.
MD.ABUL KALAM AZAD B-120203023
MD. ABU SAYED B-120203026
MITHUN KUMER B-120203041
MOHAMMAD MEHADI HASAN B-120203097
MAHMUDUL HASSAN B-120203102

Dated: February 08, 2017.

Letter of Transmittal
February 8, 2017
Farzana Nasreen
Course instructor
Department of Finance
Jagannath University

Sub: Thanks, giving letter to the respective faculty member.

Dear Mam,

With due respect and humble submission, we are the student of Department of Finance (7th
batch) of Jagannath University, Dhaka. We are very much sedulous about our report. We
are really happy to have such a report of challenging and interesting like this report. Our
report topic is “Financial Scandal of Parmalat”. We have learned many things from this
topic which will help us in future to development of our career. There were some obstacles
we have faced at the time of collecting data about our topic. But we have overcome all the
obstacles by the endeavor effort by each member of our group and tried our best to give an
overview of our topic. We the group tried our best to make this report attractive,
impeccable, interesting, informative and enjoyable by the guideline of our course
instructor. There are some mistakes may occur in our demonstration of our report. We hope
that, you will exempt our mistakes.

Thanking in anticipation,
Yours most obedient,

Mahmudul Hassan
On behalf of the group-10
BBA 7th Batch
Department of Finance
Jagannath University, Dhaka

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Acknowledgement

First of all, we would like to thank the Almighty for giving us the strength, and the aptitude
to complete this report within due time. There are few people who really deserve to thank
for making this report a success. Without their support as well as help this report could
never have been completed. We remember all of them with gratitude, thought we cannot
mention all of their names individually for spatial limitation. We would like to express our
deepest gratitude and appreciation to our course teacher Farzana Nasreen. It would not
have been possible for us to complete this work without his help, Advice and overall
supervision. His constant encouragement and supervision throughout the period of our
report have been the greatest incentive for us and directly contributed to the
accomplishment of the task.

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Executive Summary

Parmalat, an Italian food giant started out as a family business specializing in dairy products. It
was founded in 1961 by 22-year-old Calisto Tanzi, who discontinued his studies to expand his
father's sausage and cheese shop. It began as a small pasteurization plant in Parma and further
expanded into cheese, yoghurt, cookies, fruit juice and ready-made sauce production that are under
different names in each country. They were the ones to produce the world's first shelf stable milk
(tetra pack) which became an instant success. The report deals with the financial scandal at
Parmalat. Towards the end of 2003, it was revealed that the company had been resorting to
fraudulent accounting practices from the late-1980s and had been in the habit of transferring large
amounts of money from the Parmalat group to several other overseas subsidiaries or companies
owned by the Tanzi family. The scandal came to light only in December 2003, when Parmalat was
not in a position to honor a bond payment that had become due, but analysts had been doubtful
about the company's accounting practices since 2002. Investigations revealed that Parmalat created
assets where none existed and transferred money to its various subsidiaries around the world in a
series of complicated derivative transactions. In late December 2003, Parmalat went into
controlled administration under the supervision of turnaround expert, Enrico Bondi, and analysts
were confident that, under Bondi, the company would manage to turnaround. The Parmalat case
was one of the biggest scandals to hit Europe and many analysts took to calling Parmalat 'Europe's
Enron'.

It’s been dubbed “Europe’s Enron” – the saga that has engulfed its senior executives, blue-chip
European and American banks, accountancy firms, politicians and 130,000 hapless small
shareholders following the discovery in 2003 of a $14bn black hole in its finances. The revelation
triggered an eight-year marathon of court cases in Europe and America, the disgrace of the Tanzi
family that controlled Parmalat, at least one death, the collapse into administration of one of
Europe’s most successful football clubs, and grave misgivings about the quality of governance in
Italy’s boardrooms. And it’s still going on. During the 80s and 90s, Parmalat is hailed as a jewel
in Italian commerce as entrepreneur Calisto Tanzi converts his father’s ham retailer in the city of
Parma into a global dairy and food giant largely on the basis of long-life milk. In 2003, bondholders
learn that nearly €4bn of funds in a Bank of America account are non-existent. The bank says the

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transfer document is a forgery. Trading in Parmalat shares are frozen. Tanzi, various family
members and several executives are arrested, including feared chief financial officer Fausto Tonna.
At the firm’s offices, investigators find smashed computers and thousands of shredded
documents.In 2004, Parmalat’s debts are fixed at €14.3bn, eight times what the firm had admitted.
After initial denials, Luca Sala, Bank of America’s former chief of corporate finances in Italy,
admits to participating in a kickback scheme. Furious US creditors file a $10bn class action suit
against Parmalat’s former auditors and bankers while Parmalat’s administrators under replacement
chief executive Enrico Bondi separately sue Bank of America, Citigroup, Deloitte & Touche and
Grant Thornton for $10bn each. The US SEC calls the affair a “brazen corporate financial fraud.”
In 2005, Bondi relists a reconstructed Parmalat on the Milan exchange while various trials are
going on in Milan. In 2008, Fausto Tonna is given a two-and-a-half-year jail sentence as the
mastermind of a complex web of offshore subsidiaries to disguise the company’s parlous position.
Five banks – Bank of America, Citigroup, Morgan Stanley, Deutsche Bank and UBS – stand trial
in Milan on charges of market-rigging. In December 2010, Calisto Tanzi, now 72, is given an 18-
year sentence and launches an appeal. Meanwhile the new-look Parmalat has recouped more than
€2bn in bank settlements. In April 2011 after a three-year trial, a Milan court acquits four banks –
Morgan Stanley, Bank of America, Deutsche Bank and Citigroup – of market-rigging. Prosecutors
had demanded that €120m of the banks’ profits be impounded. Describing it as “the death of
consumer rights,” a consumer watchdog promises to join shareholders in another case to challenge
the verdict. Meanwhile French firm Lactalis launches a takeover bid for Parmalat, which is blocked
by the Italian government. Probably. Like many companies in Europe, Parmalat is family-
controlled through a chain of holding companies, making corporate governance and supervision
by regulators more difficult.

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Table of Contents

CHAPTER-1 ...................................................................................................................................... 1
1. INTRODUCTION ....................................................................................................................... 1
1.1 Background of the study .................................................................................................. 2
1.2 Objective of the study ...................................................................................................... 3
1.2.1 Broad Objective ........................................................................................................ 3
1.2.2 Specific Objective ...................................................................................................... 3
1.3 Methodology .................................................................................................................... 4
1.4 Limitations of the study ................................................................................................... 4
CHAPTER-2 ...................................................................................................................................... 5
2. Overview of Parmalat .............................................................................................................. 5
2.1 CEO ................................................................................................................................... 6
2.2 Board ................................................................................................................................ 7
2.3 Committees and the Other Senior Management ............................................................ 7
2.4 External Auditor ............................................................................................................... 7
2.5 Corporate structure.......................................................................................................... 8
2.6 Corporate Governance ..................................................................................................... 8
2.7 Hiding Losses .................................................................................................................... 8
2.8 Financing .......................................................................................................................... 9
CHAPTER-3 ...................................................................................................................................... 9
3. Financial Scandals of Parmalat ................................................................................................ 9
3.1 The events that led to the scandal ................................................................................... 9
3.2 What triggered the financial crisis? ............................................................................... 12
3.3 The means used to make the fraud ............................................................................... 12
3.4 Where did the money go?.............................................................................................. 13
3.5 Who was Involved? ........................................................................................................ 15
3.6 What role did derivatives and other financial instruments play? ................................. 16
3.7 Did auditing firms do their job? ..................................................................................... 17
3.8 Role of investment banks ............................................................................................... 17
3.9 Who are the biggest losers? ........................................................................................... 17
3.10 What had been impact to investors? ............................................................................. 18

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 3.11 Who is under investigation? .......................................................................................... 19
3.12 What happens now to Parmalat? .................................................................................. 19
3.13 Why is the Parmalat scandal important? ....................................................................... 20
CHAPTER-4 .................................................................................................................................... 21
4. Conclusion ............................................................................................................................. 21
REFERENCES .................................................................................................................................. 22

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 CHAPTER-1

1. INTRODUCTION

The Parmalat scandal has been described by the SEC as “one of largest and most brazen corporate
financial frauds in history.” Coming soon after the Enron and WordCom scams, it offers a good
opportunity to compare failures on both sides of the Atlantic. The Parmalat case epitomizes the
most important problem traditionally associated with Continental European governance
structures, namely a controlling shareholder that exploits the company rather than monitoring
its managers. Parmalat’s governance structure was openly deficient, unlike Enron’s, which
apparently was well-designed. In spite of this deficiency, Parmalat enjoyed an investment grade
credit rating and was able to borrow increasing amounts of capital from investors. With the
benefits of hindsight one could be tempted to argue that capital markets were inefficient because
they did not take into proper consideration Parmalat governance’s flaws. However, a more
plausible assertion would be that they discounted the perceived risk and heavily relied on
gatekeepers. Thus, once again, as in all sudden financial collapses of recent times, it is to
gatekeepers that attention is turned. Two large networks of auditors (Grant Thornton
International and Deloitte Touche Tohmatsu) failed to detect the frauds. Grant Thornton’s Italian
partners are also suspected of having orchestrated them. Some first-ranking international banks
allegedly assisted Parmalat senior managers in structuring and executing complex financial
transactions aimed at concealing Parmalat’s true situation. In the face of due diligence reviews
and top-firms’ legal opinions, the market was never openly warned. As Professor John Coffee
pointed out with reference to Enron, it seems clear that Parmalat is another tale of the corporate
governance deficiencies of undeterred gatekeepers.

As we show, Italian substantive rules cannot be blamed for what happened. If gatekeepers were
undeterred, do not blame Italian substantive rules, blame enforcement. When enforcement is
discussed in Continental Europe, this typically means public enforcement. Indeed, the scandal
affected a country that heavily relies on public enforcement and basically dislikes the whole
concept of private vindication of the public interest. Yet, the Italian capital markets watchdog

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(Consob) only started its investigations after the market had signalled, in late 2002-early 2003,
that something was wrong at Parmalat. The market knew something that Consob did not. Thus,
the Parmalat scandal should discourage any view that more regulation and public supervision of
markets can prevent major frauds. The reaction both at Italian and European levels, nevertheless,
is in the direction of more regulation and public enforcement, even though the idea of a European
public regulator equivalent to the SEC seems not to be a priority on the EU’s agenda.

However, the Italian public learned from the mass-media shortly after Parmalat’s collapse that
civil actions were being launched, at a speed unthinkable for Italy, by class-action lawyers in the
US, and that those actions could also involve unsuspecting Italian investors.

we briefly trace Parmalat’s history from its rise in the late sixties to its collapse in December 2003,
considering how the information concerning Parmalat’s problems surfaced in the market in the
period between December 2002 – February 2003, and how it was officially disclosed in the
following part of that year. We shortly describe the frauds, the criminal proceedings that followed
the collapse, and the civil actions that have been brought in the US by investors.

1.1 Background of the study

Parmalat Finanziaria SpA, an Italian food giant started out as a family business specializing in dairy
products. It was founded in 1961 by 22-year-old Calisto Tanzi, who discontinued his studies to
expand his father's sausage and cheese shop. It began as a small pasteurization plant in Parma
and further expanded into cheese, yoghurt, cookies, fruit juice and ready-made sauce production
that are under different names in each country. They were the ones to produce the world's first
shelf stable milk (tetra pack) which became an instant success.

This company, headquartered at Parma, Italy has expanded from 6 into 31 countries across six
continents in 1990 and so was listed on Milan Stock Exchange. It was the eighth largest industrial
group and contributed to 0.8% of the country's GDP. Around 36000 workers and 6000 dairy farms
depended on Parmalat.

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The company had to change its external auditor from Grant Thornton to DeLoitte and Touche in
1999 as Italian law states that changes in audit firms has to occur every nine years though the
previous auditor can be consulted for concerns related to the firm. This was the main reason the
scandal came to light.

In 2003, the firm tried to raise 300 Million in the form of bonds and was severely penalized. Hence
it was under increased scrutiny of the investors as it was heavily indebted and capitalized. This
was one of the very first indications of the crisis situation that was prevalent. Also, doubts were
raised by the Deloitte & Touche accountant regarding the 478 Million investment made in a
Cayman Islands-based mutual fund, Epicurum (represented by a law firm, Zini & Associates).

The departure of two Chief Financial Officers in a span of six months and the increasing debt level
created major concern amongst the investors and analysts. Analysts were puzzled that Parmalat
was sinking in its core business inspite of having liquid assets of 4.2 billion.

1.2 Objective of the study

1.2.1 Broad Objective

The primary objective of this report is to gain knowledge about the overall scandal process in
Parmalat and also identify some questions like who did, how did, Government position on scandal
and other regulatory bodies position regarding scandal.

1.2.2 Specific Objective

 Parmalat’s history and describe the frauds.

 The criminal proceedings and civil actions that followed the company.
 To identify the major roles of Parmalat’s governance and gatekeepers.
 To compare and analyze the contribution of Corporate governance in protesting fraud.
 To recommend some necessary steps for protesting this types scandal.

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1.3 Methodology

Methodology is defined as a particular procedure or set of procedures, refers to the rationale

and the philosophical assumptions that underlie a particular study. In order to collect relevant
and adequate data it is necessary to follow proper Methodology. No one can collect relevant
information without maintaining a proper Methodology.

 Type of data

The report is prepared based on the secondary data.

 Sources of data

There are various types of data sources, from which an adequate and accurate data are collected
and analyzed in the report. The sources are:

1. Wall street journal, Huffington posts.

2. Different books, research papers, documents, manuals etc. related to
the topic.
3. Websites of Parmalat and its subsidiaries.
4. Italy government webpages regarding fraud and scandal.

First of all, every type of data related to scandal of Parmalat is collected from different sources
mentioned above. Then all the data are analyzed and chosen the most accurate data to explain
the report.

1.4 Limitations of the study

The study is not free from some practical limitations. Following limitations have faced during the
study and the time of working & data collection. These were:

 We had faced many complications to gather information because the enough

information was not available in the internet.

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  We have faced insufficient online data base sources.
 Due to the confidentiality concern, much detailed information could not retrieve.
 Due to lack of practical experience, some errors might be occurred during the
study. Therefore, maximum efforts have given to avoid mistakes.

Lack of Records, Sufficient books, unavailable information in website. These constraints

narrowed the scope of accurate analysis.

CHAPTER-2

2. Overview of Parmalat

Parmalat SpA is a multinational Italian dairy and food corporation. Having become the leading
global company in the production of long-life milk using the ultra-high-temperature (UHT)
process, the company collapsed in 2003 with a €14 billion ($20bn; £13bn) hole in its accounts in
what remains Europe's biggest bankruptcy. Since 2011, it is a subsidiary of French group Lactalis.
Today, Parmalat is a company with a global presence, having operations in Europe, the United
States, Canada, Australia, China, and South Africa.

Still specializing in UHT milk and milk derivatives (varieties of yogurt, cheese, butter, ice cream,
etc.), the group also has an interest in fruit juices. These products are distributed under brand
names such as Lactis, Santal, Malù, and Kyr. Its worldwide operations include almost 140
production centres and some 16,000 employees, while 5,000 Italian dairy farms are dependent
on the company for the bulk of their business. Its shares are listed on the Borsa Italiana.

In 1961, Calisto Tanzi, a 22-year-old college dropout, opened a small pasteurisation plant in
Parma. Two decades later, the company had grown into a multinational corporation diversifying
into milk, dairy, beverage, bakery, and other product lines in the 1980s, becoming listed on the
Milan stock exchange in 1990, and expanding further in the 1990s. By 22 April 2002, Parmalat's
share price had reached a record and the company was valued at €3.7bn, employing over 30,000
people in 30 countries. The company began to expand and had listed in its portfolio amongst
other things: an expansion in the space of a decade from six countries into ownership of

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ParmaTour (a travel group) and Odeon TV, Parma F.C., Paulista Futebol Clube and S.E. Palmeiras
and sponsorship of S.L. Benfica, Boca Juniors, C.A. Peñarol, and Brazilian Formula One racing
driver Pedro Diniz.

Parmalat's appeared for years in Formula One. Its name was emblazoned on the cap of Niki
Lauda, which he always wore following his 1976 German Grand Prix accident. The Brabham
Formula One team was sponsored by Parmalat through some of its most successful years in the
late 1970s and early 1980s. Owned by Bernie Ecclestone, the Brabham team and Nelson Piquet
won two World Drivers Championships while sponsored by Parmalat. It also sponsored Pedro
Diniz throughout his Formula One career; its logo appeared on Forti, Arrows, Ligier, and Sauber
cars from 1995 to 2000, and also on the Prost team's cars when Diniz bought a stake in the team
in 2001.

Parmalat was Italy’s largest food company at that time. Its core business was in dairy products
but it expanded in to TV business, football business and tourism business. Parmalat’s biggest
innovation was that it was the first company to produce milk through ultra-heat treatment
process, which allowed Parmalat’s milk to be stored without refrigeration for a long time. This
was such a mega hit, that by early 2000s, Parmalat had asset of around €10 billion with over
36,000 employees in 139 plants. However, it went bankrupt in December 2003. Suddenly, it was
discovered that its claimed liquidity of €4 billion cash did not exist and that €8 million in bonds of
investors’ money had disappeared. Being the largest bankruptcy in European history, the
Parmalat case is often considered as the “Enron of Europe” because of its impact to the country,
representing 1.5% of Italian GNP.

2.1 CEO

Tanzi was a 22 year-old college dropout when he founded the company. He was CEO from the
inception of the business until the collapse. He was the dominant figure, the driving force
exercising almost complete control over the company, inserting his own people in every position
of power and in positions to oversee those who held power.

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2.2 Board

Members of Parmalat's board and senior management team owned many related organisations,
outside directorships, management responsibilities and conflicts of interest involving a host of
other firms. The board was composed of 13 members of whom 5 were non-executive directors.
It is rather unusual, (at least from an Italian business practice perspective,) that the non-executive
directors are fewer than the executive directors. Tanzi was the Chairman of the Board. The other
board members included his brother Giovanni, his son Stefano and his niece Paola Visconti. It
also included the company's CFO Fausto Tonna, who was deeply involved in the fraud and three
other firm managers, Luciano Del Soldato, Alberto Ferraris and Francesco Giuffredi, all hired by
Tanzi. The outside directors were Tanzi's attorney and two of Tanzi’s close friends.

2.3 Committees and the Other Senior Management

The Executive Committee (EC) was composed of 7 directors including 3 Tanzi family members.
The Internal Control Committee (ICC) was composed of 3 members. Italy’s report & code of
conduct, Preda Code recommends that the majority of the ICC be independent directors.
However, 2 members out of 3 were not. Even that one independent director was Tanzi’s attorney.
Tanzi’s son Stefano was the president of the Parmalat-owned football team. Tanzi’s daughter
Francesca apparently ran Parmatours, one of the family-owned tourism businesses.

Due to such board, committees and senior management structure, Parmalat’s stakeholders
suffered a lack of transparency on many important issues, including executive and director
compensation and directors’ and officers’ stock ownership. The board failed to set and disclose
adequate board guidelines for evaluations, term limits, and retirement age.

2.4 External Auditor

Italian law requires the external auditor to be changed after s nine years term. While Parmalat's
auditor Grant Thornton was replaced by Deloitte after nine years, they continued to audit
Parmalat's offshore companies, the primary dumping grounds for Parmalat's losses, debts and
non-performing assets. Esteban Pedro Villar, an accountant in Deloitte was sceptical about

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Parmalat’s accounting and peppered Parmalat’s senior management with questions. Parmalat
CFO Tonna lost his temper and complained to Adolf Mamoli, the main contact to Parmalat in
Deloitte. Thereafter, Mamoli required Villar to report to him before contacting Parmalat.

2.5 Corporate structure

Parmalat was at the top of a complicated pyramid ownership structure controlled by Coloniale
S.p.A, the Tanzi holding firm that owned 51 percent of Parmalat (Parmalat Finanziaria S.p.A)
equity. This complicated structure made it easy to do related-party transactions and commit
fraud without being discovered for 13 years. The Parmalat corporate structure is attached in
annex.

2.6 Corporate Governance

For all of the reasons above, Parmalat was rated worst of the 69 Italian companies in the rating
on the Institutional Sharholder Service’s Global Corporate Governance Quotient.

2.7 Hiding Losses

Parmalat hid losses, overstated assets or recorded non-existent assets, understated its debt, and
diverted company cash to Tanzi family members. In order to hide losses, Parmalat had used
various wholly-owned entities, amongst which the most significant was Bonlat, the Cayman
Island waste basket of the Parmalat in its final 5 years, and the holder of the Bank of America’s
false account. Uncollectible receivables were transferred from the operating companies to these
nominee entities, where their real value was hidden. Fictitious trades and financial transactions
were organised to offset losses of operating subsidiaries and to inflate assets and incomes.
Securitisation schemes based on false trade receivables and duplicate invoices were recurrently
used to finance the group. Parmalat understated its debt through different fraudulent schemes.
It recorded non-existent repurchases of bonds. It sold receivables falsely described as non-
recourse, in order to remove the liabilities from the records. It mischaracterised debt or, simply,
did not record it. Later, it was determined that the debts amounted to €14 billion, which were
almost 8 times the sum originally stated.

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2.8 Financing

Because Parmalat continued its acquisition strategy and many of Parmalat’s non-core businesses
were generating loss, it had to continuously issue bonds in order to hold cash. In November 2000,
S&P downgraded Parmlat with BBB- grade. In 2002, though Parmalat had recorded €3.3 billion
of cash in the book, it issued bonds of €150 million in October and €200 in December. Some
investment banking firms raised concern with these issuances stating that “the reason is not clear
why Parmalat continues to tap the market for relatively small, yet often quite complexed debt
issues, when its cash pile continues to rise” and “these need for re-financing raises questions as
to the underlying cash generation of Parmalat”.

CHAPTER-3

3. Financial Scandals of Parmalat

3.1 The events that led to the scandal

The story began in 1997, when Parmalat decided to become a "global player" and started a
campaign of international acquisitions, especially in North and South America, financed through
debt. Soon, Parmalat became the third largest cookie-maker in the United States. But such
acquisitions, instead of bringing in profits, started, no later than 2001, to bring in red figures.
Losing money on its productive activities, the company shifted more and more to the high-flying
world of derivatives and other speculative enterprises.

Parmalat's founder and now former CEO Calisto Tanzi engaged the firm in several exotic
enterprises, such as a tourism agency called Parmatour, and the purchase of the local soccer club
Parma. Huge sums were poured into these two enterprises, which have been a loss from the very
beginning. It has been reported that Parmatour, now closed, has a loss of at least EU 2 billion, an
incredibly high figure for a tourist agency.

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The losses of the Parma soccer club are not yet fully known. Here, Parma insiders are pointing at
what they call the "Medellín Cartel" connection—i.e., the purchase of overpriced Colombian
soccer players, and other extravagances. While accumulating losses, and with debts to the banks,
Parmalat started to built a network of offshore mail-box companies, which were used to conceal
losses, through a mirror-game which made them appear as assets or liquidity, while the company
started to issue bonds in order to collect money. The security for such bonds was provided by the
alleged liquidity represented by the offshore schemes.

The largest bond placers have been Bank of America, Citicorp, and J.P. Morgan. These banks, like
their European and Italian partners, rated Parmalat bonds as sound financial paper, when they
knew, or should have known, that they were worth nothing. While Bank of America has
participated as a partner in some of Parmalat's acquisitions, Citicorp is alleged to have built up
the fraudulent accounting system.

What strikes one is not only the dimension of the scheme, but the arrogance of its authors. For
instance, one of the offshore mail-box firms used to channel the liquidity coming from the bond
sales was called Buconero, which means "black hole"! Appropriately, the first class-action suit in
the United States on the Parmalat case, filed by the South Alaskan Miners' Pension Fund, is
against Parmalat, its auditors, Bank of America, and Citicorp—and focusses on Buconero. "The
Parmalat fraud has been mainly implemented in New York, with the active role of the Zini legal
firm and of Citibank," said San Diego lawyer Darren Robbins, a partner in the firm Milberg Weiss
Bershad Hynes & Lerach, which is leading the class-action suit. "We believe that Citigroup, by
creating instruments like the sadly famous 'Buconero,' has played a fundamental role in helping
Parmalat to fake their balance sheets and hide their real financial situation."

The New York-based Zini lawfirm named by Robbins, has played a role which seems to have come
out of the movie The Godfather. Through Zini, firms owned by Parmalat have been sold to certain
American citizens with Italian surnames, only to be purchased again by Parmalat later. The whole
operation was fake: The money for the sale in the first place came from other entities owned by
Parmalat, and it served only to create "liquidity" in the books. Thanks to that liquidity, Parmalat
could keep issuing bonds. Mafia? Former CEO Tanzi declared to prosecutors in Parma that the

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fraudulent bonds system "was fully the banks' idea." Parmalat's former financial manager, Fausto
Tonna, counterfeited Parmalat's balance sheets in order to provide security for the bonds, but "it
was the banks which proposed it to Tonna," Tanzi declared.

Tanzi's version has been so far confirmed by Luciano Spilingardi, head of Cassa di Risparmio di
Parma and member of the Parmalat board. Bond issues were ordered by the banks, Spilingardi
said to prosecutors, according to leaks published in the daily La Repubblica. "I remember,"
Spilingardi says, "that one of the last issues, of 150 million euros, was presented to the board
meeting as an explicit request by a foreign bank, which was ready to subscribe the entire bond.
If I remember correctly, it was Deutsche Bank." Spilingardi says that he expressed "perplexity"
about the proposal, because a previous bond issue of EU 600 million had failed, in the Spring of
2003, causing a 10% fall of Parmalat stocks in one day. But the request was accepted, and the
last Parmalat bond, issued in Summer 2003, made its way to the Cayman Islands black hole. At
the moment of Parmalat's default, in December 2003, the financial manager of Parmalat was no
longer Tonna, who had left after the failed bond issue in the Spring. He has been replaced by
Alberto Ferraris, who comes from ... Citibank. In June 2003, before the last bond issue "ordered"
by Deutsche Bank, Parmalat's board gained a new member: Luca Sala, a top manager coming
from ... Bank of America.

The Parmalat crisis finally broke out on Dec. 8, when the company Parmalat defaulted on a EU
150 million bond. The management claims that this was because a customer, a speculative fund
named Epicurum, did not pay its bills. Allegedly, Parmalat has won a derivatives contract with
Epicurum, betting against the dollar. But it was soon discovered that Epicurum is owned by firms
whose address is the same as some of Parmalat's own offshore entities. In other words, Epicurum
is owned by Parmalat.

On Dec. 9, as rumors spread that Parmalat's claimed liquidity was not there, Standard & Poor's
finally downgraded Parmalat bonds to junk status, and in the next few days, Parmalat stocks fell
40%. On Dec. 12, the Parmalat management somehow found the money to pay the bond, but on
Dec. 19 came the end: Bank of America announced that an account with allegedly $3.9 billion in
liquidity, claimed by Parmalat at BoA, did not exist. In one shot, the bankruptcy was revealed,

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and Parmalat stocks fell an additional 66%. Later, Tonna would confess that he had faked BoA
documents, using a scanner, scissors, and glue, to "invent" such a $3.9 billion account, a version
which is still the official one.

3.2 What triggered the financial crisis?

Parmalat defaulted on a $185 million bond payment in mid-November. That prompted auditors
and banks to scrutinize company accounts. Some 38% of Parmalat's assets were supposedly held
in a $4.9 billion Bank of America (BAC ) account of a Parmalat subsidiary in the Cayman Islands.
But on Dec. 19, Bank of America reported that no such account existed. In the ensuing
investigation, Italian prosecutors say they've discovered that managers simply invented assets to
offset as much as $16.2 billion in liabilities and falsified accounts over a 15-year period, forcing
the $9.2 billion company into bankruptcy on Dec. 27. Trading in Parmalat shares was suspended
the same day.

3.3 The means used to make the fraud

No one knows for certain whether missing funds were used to plug operating losses, pay
creditors, or illegally enrich management. Tanzi admitted to prosecutors on Dec. 30 that he knew
the company's accounts were being falsified to hide losses of as much as $10 billion, mainly in
Parmalat's Latin American subsidiaries. The fake balance sheet figures allowed Parmalat to
continue borrowing. Tanzi also confessed to misappropriating some $620 million (prosecutors
believe the sum to be as much as $1 billion), to cover losses in other family-owned companies. A
company computer and floppy disks turned over to investigators by a Parmalat employee who
disobeyed orders to destroy corporate documents may help prosecutors. Financial statement
fraud of Parlamat had been identified as a securities fraud and including following methods:

 manipulation of Parmalat’s balance sheet; income statement through fictitious

investment assets and sham transactions,

 falsifying Parmalat’s financial statements and portraying the Company as strong and
profitable,

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  raised capital on both sides of the Atlantic, including billions of dollars of stocks and bonds
sold to American investors.

 The Epicurum limited investment fund

 Fictitious bond repurchases

 Double Billing

 Reclassification of debt as intercompany debt

 overstating assets

 understating debts

 losses were hidden

In details, balance sheet was incorrect because the company had not repurchased €2.9 billion of
Parmalat bonds. So it means that the balance sheet falsely reflected that the bonds had been
repurchased. Viewed in this light, is not a surprise that Parmalat's financial statements showed a
large amount of cash. On the other hand, cash was not there, Parmalat really had only €500
million in cash. Later, Parmalat's CFO presented data of debt €10 billion, much higher than the
balance sheet showed.

3.4 Where did the money go?

Most of the Anglophone media world has been labeling the Parmalat mess a “European Enron.”
Sounds reasonable: Billions of dollars may have gone missing from the company’s accounts.

But the truth is that the Enron pattern–off-balance-sheet investing in glamorous Caribbean tax
havens, private deals involving management–is an old Italian custom. Parmalat is reminiscent of
several other florid Italian scandals, especially the Banco Ambrosiano affair.

Parmalat’s deceptions in part involve a phony letter, purportedly from Bank of America , that
alleges the existence of a fictitious $3.9 billion account. Banco Ambrosiano’s chairman, Roberto

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Calvi Roberto Calvi (he’s the chap who wound up hanging under Blackfriar’s Bridge), was in the
same spot as was Parmalat’s Callisto Tanzi Callisto Tanzi . Both were trying to keep creditors away
from a fraudulent balance sheet.

In Calvi’s case, the bank’s money had been invested in a series of offshore New World companies
and funds. That money had disappeared into a global black hole. This is, of course, exactly the
Enron-Parmalat pattern: receivables from subsidiaries, offshore businesses and funds are carried
as assets on the balance sheet, thus quieting the fears of the markets. No worries if a cash crunch
develops; there’s money in the Caymans, Panama or wherever.

But the money ain’t there, and when a real cash crunch develops, inevitably some of the story,
but never the whole story, comes out.

Calvi kept pressure away when he induced the Vatican Bank to write “letters of guarantee,”
legally meaningless but impressive in terms of investor confidence, asserting that the
investments were real and the funds could be retrieved. His technique was perhaps a bit more
sophisticated than that of Tanzi and his Parmalat managers–at least the Vatican Bank letters
weren’t forgeries. But the fraudulent effect was the same.

Tanzi’s Parmalat empire has been wobbly for years. The business got its first real expansion break
when Italy, where the visible economy was about 75% state-owned until the early 1980s, began
to privatize public companies. There began a process that bears some resemblance to the recent
Russian experience in privatization, meaning that shadowy but mysteriously well-funded
entrepreneurs were able to buy good businesses in a less-than-open process.

In the 1980s, Tanzi transformed Parmalat from a local milk processor and dairy food producer
into a national power when Italian local governments privatized their local dairies. Tanzi bought
them up, one after another, and many who watched the process wondered about the sources of
his financing.

Now, Italian investigators allege that fraud may have characterized Parmalat’s financial
statements since 1989. Anyone who wonders how such maneuvers have gone undetected for so

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long just doesn’t know the Italian regulatory thicket. CONSOB, the securities exchange regulatory
agency, is a toothless tiger–underfinanced, powerless and in a continual war with the Bank of
Italy. Milan Borsa regulation is perfunctory. Local accounting rules and practices, which look
strong on paper, are weakly enforced. And, alas, official corruption is endemic.

To look back at Tanzi, as well as several other major Italian success stories, the question has to
arise: From whence did the original funding arise? How did Tanzi buy seven or eight municipal
dairies in the 1980s? And did the then-expanded business throw off enough money to finance a
global expansion that took in big holdings in ten countries in the Americas?

Given that situation, it is not unreasonable to speculate that some of Tanzi’s funding may have
come from dubious sources–and that such sources, which presumably are not charitable
organizations, wanted their investment back whether Parmalat was profitable or not. Perhaps
they made Tanzi an offer he could not refuse. Meaning he had to pay back when he could not
afford to do so. The Parmalat story simply does not fit into a global corporate-governance
argument. It’s beyond the pale; it’s very Italian.

3.5 Who was Involved?

Key players in the Parmalat scandal:

1. Calisto Tanzi Founder of Parmalat. Mr Tanzi, 65, transformed a family business - Calisto
Tanzi & Sons - selling prosciutto in the northern Italian town of Parma into one of Italy's
biggest companies. Even when Parmalat became a global dairy empire, the 65-year-old
ran the company like a family concern. It was Mr Tanzi who saw the potential of long-life
milk stored in cartons as the basis for global expansion. Mr Tanzi also seized the marketing
opportunities provided by sporting activities such as football, skiing and motor racing to
make Parmalat a top brand in Italy.

2. Fausto Tonna Parmalat's former finance director. His first public utterance after his arrest
was to wish journalists and their families a "slow and painful death". Described by one
American banker who met him as having the "manners of a peasant" but a "sharp mind

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 for figures", Mr Tonna served as finance director for 16 years until he resigned in February
2003. The 52-year-old, considered the financial brains behind Parmalat, worked his way
up from a clerk's job after joining the company in the early 1970s. Stefano Tanzi The son
of Calisto Tanzi and a former chief executive of Parmalat. He is also chairman of the Parma
football team, which the Tanzi family took over in 1990. He has been questioned by Italian
magistrates in Parma in connection with the investigation.

3. 3Gian Paolo Zini Outside counsel for Parmalat. Mr Zini, who divides his time between
Milan and New York, is listed as a partner in the law firm Zini & Associates. Italian and US
prosecutors have been investigating whether Mr Zini helped Parmalat circumvent Italian
antitrust laws.

4. 4Lorenza Penca Chairman of the Italian unit of the auditing firm Grant Thornton
International, which was Parmalat's chief auditor from 1990 to 1999. Became the first
defendant, along with another former Grant Thornton employee Maurizio Bianchi, to be
sent for trial in the scandal, having elected to forgo the preliminary hearings which began
on October 5.

5. Deloitte & Touche eventually replaced Grant Thornton because of an Italian law requiring
companies to rotate auditors. But Grant Thornton remained auditor of Bonlat, Parmalat's
secretive Cayman Islands subsidiary.

6. Luciano Del Soldato Served briefly as the company's chief financial officer in November
2003 after Alberto Ferraris resigned as finance chief. Mr Ferraris had replaced Mr Tonna
as finance director in early 2003, but resigned on November 12 after questions surfaced
about Parmalat's investment in Epicurum, a Cayman-based company.

3.6 What role did derivatives and other financial instruments play?

In the past several years, Parmalat used derivatives and other complex financial transactions to
shore up its balance sheet. The company did these through investment banks like Citigroup (C )
and Merrill Lynch (MER ). In one 1999 deal with Citi -- done via a subsidiary of the bank called

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Buconero LLC, which means "black hole" in Italian -- the bank made a 117 million euro ($146
million) "investment" in return for a chunk of the company's net profit. By setting up the
transaction as an investment and not a loan -- a perfectly legal maneuver -- Parmalat made its
borrowing costs appear smaller than they actually were. A Citigroup spokesman says it regrets
using the name Buconero but that the financing was "relatively small and appropriate."

3.7 Did auditing firms do their job?

The Economist published an article on August19th 2004 that describes how Enrico Bondi, the
turnaround specialist who took over after Parmalat’s bankruptcy, is trying to sue the two auditors
that had Parmalat as a client, Grant and Thornton and Deloitte. This article highlights the
accusation that the auditors did not do their job of ensuring that users of financial statements
were getting materially accurate information. However, the situation was somewhat similar to
how Enron was to Arthur Anderson, which the author also stated in the article.

3.8 Role of investment banks

The Economist pointed out that " what becomes abundantly clear as more becomes known about
this latest scandal is that banks will always succumb to the temptation of fat fees today, and leave
the awkward questions for later." In essence what was mentioned above, investment banks on
the one hand really liked making the fees off of Parmalat’s transactions and on other hand
financial instruments that they were blinded. It means they did not want to see the sinister
implications of what they were helping the food company do. Notwithstanding, after the scandal,
they, like investors are paying the price when all the fraud emerged.

3.9 Who are the biggest losers?

However, the biggest losers from the Parmalat fraud has been bondholders, who have seven
times more debt than the banks. Due to this fact, Italian politicians and banks, bondholders fret
that local outfits will get preferential treatment in the restructuring, such as a consortium of
banks led by Citigroup.

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If we look at Italian banks' lending exposure to Parmalat has been estimated €2.3 billion. First,
little systemic risk for Italy's banks as a whole, second the loans are spread among many
institutions, third there has been a shake-up of the industry especially increasing pressure on
Capitalia and Banca Nazionale del Lavoro.

3.10 What had been impact to investors?

Mainly investors who bet against distressed bonds could have made a bundle as the Parmalat SA
debacle unfolded. Due to following reasons: First, bond investors, like stock investors, can sell
short, betting that the price will drop. Second, Parmalat bonds fell to as low as 17 cents on the
dollar in December 2003 month from nearly 100 cents on the dollar less than two months earlier
according to data from Wall Street Journal. On the other hand, Parmalat shares rose on April 10,
2003, by 3.85% to €2.02. On April 15, 2003, the share price rose an additional 2.59% to €2.175.

One of the impacts this scandal created was a slump in the firm's stock market (1.8 billion before
the scandal) - shares became almost worthless and a face value of just 20% was allotted for its
bonds. This sharp drop and the failure of the company in repayments led to a lower rating by S&P
(Standard & Poor). Various parties were affected -the employees across various countries who
lost their jobs, Brazilian and Australian dairy farmers not paid for the delivered milk and investors.
In 2005, Parmalat was restructured and relisted under Milan Stock Exchange after its various
businesses was valued at 2.95 billion and market capitalization at 5 billion.

To determine the flourishing companies, the foremost change was restructuring the
governmental oversights of corporations to promote corporate transparency. Further a bureau
was created to monitor the Italian financial markets. Italy formed watchdog groups which were
earlier formed by the US Public Company Accounting Oversight Board after scandals like Enron,
WorldCom etc. Some other practices introduced is the pronouncements made by auditors on the
internal accounting practises of their respective firms named Basle II and a capital adequacy rule
that determines capital adequacy that shifts to credit risk keeping in mind the numerous financial
disasters in the last 15 years.

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The fact that Parmalat is a global consumer brand is one of the reasons for the scandal being
dramatic and labelled Europe's Enron. This scandal has also been labelled as one of the most
corporate financial frauds in history. Further it wiped out 135,000 people's savings making it one
of the largest financial frauds in history. For a period of time the firm's financial systems totally
eluded the analysts' understanding as the company's results weren't very transparent and the
true extent of its liabilities were difficult to calculate.

3.11 Who is under investigation?

Parmalat founder and former Chief Executive Calisto Tanzi; his son Stefano and brother Giovanni;
former Chief Financial Officer Fausto Tonna; and some 16 other individuals, including former
board members, and even the company's lawyers. Tanzi, whose family controls 51% of Parmalat,
was arrested Dec. 27 on suspicion of fraud, embezzlement, false accounting, and misleading
investors. Prosecutors say they suspect Tanzi diverted as much as $990 million in company funds
to his own use. Tanzi's lawyer insisted to reporters that "no money disappeared," adding that it
was just a case of "nonexistent assets." Prosecutors also allege Tanzi ordered the destruction of
company documents; his lawyers say any destruction was done without Tanzi's knowledge.

3.12 What happens now to Parmalat?

With payments on its old debt suspended by a government bankruptcy decree, the company will
continue operations as new management determines the true condition of its balance sheet and
restructures operations. Accountants and banks will pursue their forensic analysis. Parmalat's
new CEO, Enrico Bondi, has 180 days to present a financial and industrial plan to authorities. If
Parmalat cannot be restructured, it will be liquidated.

On the judicial front, formal charges will probably be filed in coming weeks against Tanzi and
others. Thanks to the size of the scandal, justice officials will probably be allowed to put trials on
a fast track, circumventing chronic delays in the Italian courts. Parliament, meanwhile, is
expected to propose a new financial-market watchdog modeled on Britain's Financial Services
Authority, pooling powers now held by stock market regulator CONSOB and the Bank of Italy.

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The ultimate effectiveness of such an institution, however, will depend upon its insulation from
the kind of chronic political meddling that undercuts many of Italy's regulatory bodies -- the very
interference that has resulted in a series of financial scandals in Italy going back many years.

3.13 Why is the Parmalat scandal important?

It reveals an alarming lack of transparency at one of Europe's largest and most global companies.
Parmalat has 36,000 employees in 30 countries, and it does $3.3 billion in business in North
America, where it not only sells its trademark milk-in-a-box but also owns Black Diamond Cheese,
Archway Cookies LLC, and Sunnydale Farms dairy. Parmalat's shares traded in New York and it
sold more than $1.5 billion in bonds to U.S. investors. The U.S. Securities & Exchange Commission
has sued Parmalat for misleading investors in a "brazen fraud." The scandal is also a fresh blow
to the international accounting industry. Parmalat's auditor from 1990-99 was the Italian branch
of Grant Thornton International, one of the largest of the so-called second-tier U.S. accounting
firms. In 1999, Parmalat was forced to change its auditor under Italian law, and it replaced Grant
Thornton with the Italian unit of Deloitte Touche Tohmatsu. However, Grant Thornton continued
to audit Parmalat's offshore entities -- a web of financial companies that were closed down in the
Dutch Antilles in 1999 and reestablished in the Cayman Islands. Neither firm uncovered what
investigators say was years of blatant accounting fraud. Grant Thornton has issued a statement
calling itself a "victim" of the deceit. Deloitte points out that it first raised questions about
Parmalat's accounts on Oct. 31.

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 CHAPTER-4

4. Conclusion

In sum, 15 people have been jailed and 4 put under house when began a criminal investigation
into Parmalat, due to which imploded under $18 billion in debt. As a consequence, if we look at
USA, this scandal has damaged U.S. pension funds, insurance groups and individual investors who
owned Parmalat bonds directly or through mutual funds. In details, the Parma, Italy-based
company owns Sunnydale Farms, Farmland and Welsh Farms dairies, along with other dairy,
yogurt and cookie brands. On the other hand, hundreds of U.S. dairy farmers and cooperatives
did not receive their payments on time as suppliers of milk for Parmalat. If focus on implications
for auditing firms is necessary to point out that, Deloitte had the threat as what Enron was to
Arthur Andersen, it means a body-blow from which its reputation never recovers. On the other
hand, for Grant Thornton, a tried its non-Italian operations to distance themselves from the arm
that drew up the accounts for key Parmalat subsidiaries. The Parmalat scandal raises the well-
known gatekeepers’ problem with respect to auditors, lawyers and financial intermediaries. It
also confirms the low level of law enforcement in Italy, which might typify Continental Europe as
a whole. Yet, the problem does not lie with the substantive rules concerning corporate
governance and gatekeepers’ standards of behaviour. The Italian system has been influenced by
corporate governance debates and has sought to respond to the demands of modernization by
acting on substantive rules. The problem is that there was no serious effort to reshape the
enforcement system. The result is under-enforcement.

Europe’s unfriendly approach to private enforcement of collective interests has to be

reconsidered. An astonished Italian public learned from the mass-media shortly after Parmalat’s
collapse that civil actions were being launched, at a speed unthinkable for Italy, and in the United
States, by a public agency (SEC) and by class-action lawyers. Similarly, Parmalat’s reorganization
procedure brought its three main legal suits in the US, one against Citigroup, the other against
Grant Thornton and Deloitte, the third against Bank of America, claiming large amounts of
money. On the 166 In a newspaper article, Professor Federico Stella has pointed out that criminal

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prosecutions are a weak instrument for the vindication of widespread economic interests, since
the burden of proof in criminal proceedings has to be beyond any reasonable doubt; accordingly,
the author has pointed out that, in order to be effective in the vindication of the public interest,
civil procedure has to rely on a standard of preponderance of evidence: Federico Stella, Quando
l’azione civile tutela più del processo penale, Corriere della Sera, 6 February 2004. contrary, in
Italy the vindication of the public interest, driven by a liquidator with the highest reputation who
is doing an excellent job, is currently in the hands of criminal and civil courts which are ill-
equipped to deal with complex litigation concerning capital market frauds and masses of
claimants seeking to recover damages. As a result, global issuers and gatekeepers are mainly
exposed to the US private enforcement system with its plaintiff-friendly weaponry: class actions
and entrepreneurial lawyers, notice pleading rules and aggressive discovery. The efficient US
private enforcement system (as well as “intra-brand” competition in the form of the SEC v Eliot
Spitzer rivalry), forces public enforcers to be faster and more reactive than their European
counterparts. We conclude that Italy (Europe) has to upgrade and re-balance its public and
private enforcement mechanisms in order to increase deterrence and weaken the role of
secretive practices, political accountability, and social networks. It is clear that private
enforcement cannot be improved without revolutionary changes to the whole civil procedure
system, since the present system is ill-suited for disputes concerning the protection of diffuse
interests. Moreover, formal and effective mechanisms for coordinating the roles of the two
institutional frameworks (litigation and regulation) have to be created. In the meantime, the US
will exercise an increasing role in the public and private enforcement of securities laws also with
respect to foreign global issuers.

REFERENCES

Cox, J. Son, daughter arrested in Parmalat scandal, USA Today, released on 2/17/2004, available
at: http://www.usatoday.com/money/world/2004-02-17-parmalat_x.htm, Aug 1, 2012

Key Audit Observations Related to the Alleged Parmalat Fraud, PriceWaterhouseCoopers, Alert
Number: 04/15, released 01/29/2004, available at:
http://www.sba.pdx.edu/faculty/erikal/.../ParmalotRQ.d, Aug 1, 2012, 9p.
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Sender, H. et al.: Many Distressed-Debt Players Avoided Bonds From Parmalat, published on
January 8, 2004, available at: http://online.wsj.com/article/SB107351888478662100.html, 1 Aug
2012

Sender, H., Reilly, D., Schroeder, M.: Parmalat Investors Missed Red Flags, The Wall Street
Journal, published on January 7, 2004, available at:

http://online.wsj.com/article/SB107348886029654700.html#articleTabs%3Darticle, Aug 1, 2012

Skimming off the cream: To their embarrassment, some of the world's biggest banks made plenty
of profits from Parmalat, The Economist, published on Jan 22nd 2004, available at
http://www.economist.com/node/2374354, Aug 1, 2012

The auditors' turn: The bankrupt group's auditors are now in the firing line, The Economist,
published on Aug 19th 2004, available at:
http://www.economist.com/node/3113149?zid=293&ah=e50f636873b42369614615ba3c16df4
a, Aug 1, 2012

U.S. District court Southern District of New York: Parmalat securities litigation, 2005, 04 Civ. 0030
(LAK) ECF Case, available at: http://securities.stanford.edu/1029/PARAF-
01/2005822_r01c_0430.pdf, 397p., Aug 1, 2012

U.S. Securities and Exchange Commission Washington, D.C.: SEC Charges Parmalat with Financial
Fraud, Litigation Release No. 18527, December 30, 2003, available at:
http://www.sec.gov/litigation/litreleases/lr18527.htm, Aug 1, 2012

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