photo credit: brew127

Recent business history has shown that any corporation accused of committing fraud invariably invokes the “we knew nothing” response from senior management.  Pleading incompetence in place of malicious intent is hardly comforting in my opinion.  We have yet to see how Goldman Sachs will respond to the allegations levered by the SEC but I will not be surprised if it follows this well-worn script.

I’ve already written that I believe bad management is at the heart of deliberately fraudulent data.  But what can an organization do to prevent rogue employees or poor quality suppliers from ruining their data quality?  Put simply, due diligence.  Without due diligence, you have corporations that don’t know what’s going on.  Limited or poor due diligence may give senior executives probable deniability, but it also comes across as bad management.

A number of years ago, there was a major fraud in Canada’s mining sector known as the Bre-X scandal.  On the face of it, Bre-X appeared to have discovered a mammoth gold find in Indonesia.  Their stock went up exponentially and then collapsed when it was a proven fraud.  Although it passed the stock market listing requirements in Canada and the United States, there were early indications of problems that were ignored, including:

1. No independent testing or drilling for gold was conducted for more than 2 years.  Drilling from Freeport McMoran eventually proved the claim false.
2. Standard industry procedures were ignored.  Core samples were crushed entirely instead of being split for independent analysis by partners.
3. An Australian company that had previously held the claim and had tested the site was always sceptical of the Bre-X’s find.
4. The gold flakes extracted from the core fell easily from the sample and were more like river-extracted gold than mined gold.
5. A fire at Bre-X’s field office destroyed many sampling records.

Bre-X management always denied knowledge of the fraud, but they ought to have been in tune with these issues.  That they were not suggests either complicity or gross incompetence.  I suspect that the legal odyssey now unfolding with Goldman Sachs will be another lesson in due diligence gone wrong.