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Investors must do more to protect themselves

Since the Sinovision Technology (華象科技) investment scam came to light, lawmakers have revealed many similar scandals. A major accounting firm has even run advertisements in newspapers stating that it abides by the law in its auditing and endorsement services, making people wonder all the more about the reality of the situation.

Investors, the media, government agencies and accountancy firms involved must of course take responsibility for such incidents. But who has the greater legal responsibility? Also, is it possible for investors to receive compensation? Some explanation of certain systemic issues would seem to be in order.

Getting listed on the stock market is not something that a company can achieve in one fell swoop. First, the company must make a public offering of its shares. In the past, companies with paid-in capital of NT$200 million or more were required to make public offerings. Later that figure was raised to NT$500 million. Now public offerings have become voluntary.

Only with guidance from securities houses can the publicly issued companies get listed on the TAIEX or the TAISDAQ. Some companies either do not receive guidance from securities houses or end up breaking off their cooperation with them halfway through. This is usually because some form of corporate mischief has occurred.

If a company meets the Securities and Future Commission's dispersed ownership standards, it can raise funds by means of private, undisclosed methods. (Nominally, they are raising funds from original shareholders, employees or other specific groups.) Most commonly it is vendors of unlisted shares who broker the sales. Investors can easily be swindled because they can't see the company information.

Government agencies and investigators once cracked down on such irregularities. The government even set up an Emerging Stock Market to regulate the unlisted shares trade, but some companies have continued to sell their stocks via illegal vendors.

This of course violates the Securities Exchange Law (證券交易法) and participants in such activities bear both criminal and civil liability. Apparently, however, the deterrence effect of the law has been far weaker than the powerful allure of illegal investments.

In addition, lawsuits are time-consuming and do not necessarily result in the victims being compensated. Such direct share sales, like the pyramid scams of the past, have become fashionable, in the same way as investment companies were more than a decade ago. I've even had students try to sell me shares during class.

The fundamental solution is to educate investors, but technical restrictions on unlisted, publicly issued companies could also be imposed. This would involve amending Article 267 of the Company Law (公司法), Article 28-1 of the Securities Exchange Law and other related administrative decrees. It would require determination on the part of the government to face up to the problem.

From next year, unlisted, publicly issued companies will be required by law to disclose half-yearly and quarterly financial reports, both of which will have to be audited. The companies will also be required to announce monthly reports on the status of their business operations.

Also, matters that could seriously affect the interests of shareholders will be required to be made public within two days. In other words, investors will be getting more information.

Given that these companies are not monitored by the Taiwan Stock Exchange or the over-the-counter exchange and given that the authorities are understaffed and overworked, investors should still watch out for the latest information and developments at all times.

On the other hand, accountants' workloads will increase. They won't be merely endorsing the annual financial statements of unlisted, publicly issued companies.

Looking at the recent corporate scandals in the US, I worry that Taiwan may end up following in that country's footsteps. An accountant's audit must be conducted free of influence from the company being audited, but it is the company that pays the auditing fees. There is a conflict of interest inherent in this situation.

The US has faced the following issues in recent years:

One, accounting firms offer services other than auditing or advice on taxation -- including legal and financial consultation, the outsourcing of internal control work and the design and set up of financial information systems. Such services generate revenues far greater than auditing does.

Two, accountants may use in-formation obtained from companies for their own private ends -- engaging in insider trading, for example -- and even when such actions are not illegal, they still amount to taking advantage of their clients. The conflict of interest is obvious.

Third, the independent US organizations that issue accounting statements and set accounting standards are to some extent influenced by the country's five biggest accounting firms. As a result, there is great flexibility in the application of such standards to companies. Enron was a classic example. Close cooperation between companies and accounting firms has rendered financial reports incapable of reflecting reality.

Such excesses and irregularities forced the US Congress to set up a semi-official organization to oversee accounting firms last month, when it was drafting the Sarbanes-Oxley Act of 2002. It imposed strict controls comparable to those on chartered companies and revoking the powers of independent accounting organizations to set accounting standards. The outcome was a major blow to the proud profession of accountancy.

The authorities should think about how to balance the powers and responsibilities of accountants. To oblige accountants to endorse a company's financial forecasts, for example, is a little hard on the accountants. Under Article 36 of the Securities Exchange Law, accountants bear no civil liability for defects in their audit of financial reports and the question of whether accountant's should be liable in tort law (civil law) under the Civil Code remains controversial and unresolved.

As a result, no court has either ordered any accountant in recent years to pay compensation or found any accountant liable under the criminal law for problems with corporate financial statements that they endorsed.

A law has been passed to protect securities investors and futures traders, but it has yet to take effect. The so-called safeguarding institutions are still under construction. Guarantees for lawsuits by people investing in unlisted shares have not yet taken shape. We can only depend on vigorous investigations by prosecutors.

Material evidence is very important in dealing with white-collar crime. We should never allow a repeat of what happened to Arthur Andersen, Enron's accounting firm, which managed to destroy documents related to the Enron case.

All told, investor ignorance is the main factor behind the many fraud cases coming to light, but these cases have also revealed systemic defects. Improvements depend on the government's strategies and determination.

Yie Ming-chiu is an assistant professor in the department of business administration at Shih Chien University.

Translated by Francis Huang
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