Artfully dodgy

Where to look for the next scandal

Mon Nov 02 2015

Finance

The global financial crisis gave followers of financial scams plenty to chew on, as has its long, messy aftermath. The manipulation of LIBOR and other amateurishly calculated interest-rate benchmarks by pumped-up traders is a contender for biggest financial conspiracy in history. It is a fairly safe bet that the continuing probes into other benchmarks (in foreign exchange, metals and other markets) will generate further embarrassment for financial firms and their regulators. Now the car industry’s equivalent of the LIBOR lies—Volkswagen’s use of secret software to cheat on emissions tests for diesel vehicles—is sure to produce nasty aftershocks in 2016, possibly opening cracks in other carmakers, too.

Where else to look for scandals-to-come? Here are some suggestions for areas of business and finance that might generate negative headlines over the coming year:

The art market is one of the last to resemble the wild west, light on regulation and riddled with dodgy practices that have been stamped out in other markets. The bit that receives the most policing is the auctioning of works by famous artists. But even here, surreptitious price support is thought to be common: for example, straw bidding (with no intention of actually winning) by collectors fearful that a poor auction will affect the value of works by artists they hold.

The role of middlemen in the private-sales part of the market—in which the rich trade paintings and sculptures with help from expert advisers, who arrange the deals and take a cut—will attract a lot more scrutiny. These transactions are often light on paperwork, with buyers and sellers trusting brokers to act honestly, which provides the less scrupulous with ample opportunities to gouge their clients. Investigations in France and Monaco into a broker who allegedly inflated his fee by hoodwinking a billionaire selling Picassos (and who denies wrongdoing) is lifting the lid on an area of the art world that has been especially murky. Expect other super-rich collectors to look more closely at their deals.

Shillable hours

A backlash is overdue against the fees charged by law firms. Recent disputes in America have raised concerns about the potential for fraudulent billing. But it doesn’t have to be illegal to be scandalous.

Traditional law firms continue clinging for dear life to the “billable hour”, a system that sets targets for the minimum number of hours that their associates must charge to clients over the year—typically at least 1,500 and preferably 2,000-plus. This is used to judge their performance and eligibility for bonuses. Some firms have also been caught over-billing for junior associates.

A pushback has begun, with a growing (though still small) number of clients suing over fees they consider exorbitant, and a faster-increasing number making use of the cottage industry of invoice-auditors that has sprung up as anger over fees has grown. The billable-hour model is deeply entrenched, to be sure, with courts often requiring its use in fee petitions, and clients lacking a forum to lobby for alternative fee arrangements. But the legal business might be just one scandal away from a full-blown billing crisis.

Smaller law firms face heightened scrutiny, too, for the role they play as gatekeepers for transactions by shell companies, including all manner of offshore financial shenanigans. It is only a matter of time before the burgeoning army of offshore investigators uncovers a scandal big enough to usher in the tougher rules for incorporation lawyers that have long been threatened but failed to reach the top of politicians’ agendas.

After a year in which several big brands, including Tesco and Toshiba, got into trouble over accounting practices designed to help them meet short-term financial targets, 2016 will bring a fresh batch of corporate-accounting scandals. Keep an eye on the technology industry, which can be as creative with financial statements as it is with computer code. One area to watch: app providers which pile much of their venture-capital funding into ads that, when clicked on, automatically install their wares on mobile devices, thus artificially lifting the number of users they can lay claim to.

A country to watch on the accounting front will be China, home to plenty of corporate hucksters in recent years. Temptation to cook the books will spread to more legitimate companies, too, as managers desperately seek ways of booking revenues in order to counter the effects of economic slowdown. To paraphrase Warren Buffett, when the tide turns, some firms will do whatever it takes not to be seen swimming naked.

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