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Intellectual Capital Deflation

balloonBearingPoints Chapter 11 filing represents a watershed type event.

The filing by the global consulting firm BearingPoint puts it on life support or at the very least in an intensive care unit. BearingPoint the bulge bracket consulting firm that was spun off from KPMG due to regulatory mandates concerning the separation of accounting and advisory businesses is in serious trouble. It has been struggling under a mountain of debt and the bankruptcy filing will give the firm protection from creditors while it seeks to reorganize its business.

BearingPoint’s filing is an interesting metaphor about the deflation of intellectual capital.  Ideas, creativity, knowledge, productivity and innovation are some of the words that that we closely associate with intellectual capital.  Once we may have even thought this form of capital to be immune from the vicissitudes of the banality of markets.  I surmise that the recent business cycle exposes that idea as based more in our narcissistic prejudices then the cold objective realities of efficient markets.  As we witnessed radical capitalism’s continued drive of extreme rationalization through monetization we discovered the price of anything but seriously lost sight of the value of everything.

During the 1990’s I remember always being impressed and astonished by the reports of the rising productivity of the American workforce.  Year in year out the rising productivity was the proud boast and confirmation of American managerial brilliance.  But today that claim looks spurious at best.  Rethinking this proclamation may reveal this was accomplished not by brilliant management innovation but by outsourcing operational functions to subsistence based economies; and some artful balance sheet wizardry that aligned business performance ratios to maximize shareholder returns; particularly senior managers whose stock options were critical design considerations as to how those ratios were engineered.  Indeed if productivity is a proxy for innovation, the productivity of  American capitalism was outpacing the most aggressive predictions of Moore’s Law.  True technology contributed to massive gains in productivity but in many ways was an economic rent seeking agent that enabled a flawed economy to sustain itself through over leveraged economic and misdirected intellectual capital.

Today we are confronted with the evaporation of massive social wealth that the IMF estimates to be almost $4.1 trillion in the financial service sector.  I suspect a good portion of this value was carried on the balance sheet as good will.  And anyone that has been living close the plant earth the past couple of years can attest to how the good will of corporations has been severely discounted.  Perhaps this wealth never really existed and as the saying goes “you can’t lose what you never had”.  We can take comfort in that and perhaps we can look on the bemused folly of central governments eagerly trying to stimulate economic growth to levels of our recent unsustainable past.  I must admit that my sympathies and conviction stand with the Keynesian but I am beginning to wonder if they are chasing the long tails of ghostly economic shadows cast by AIG’s worthless CDS franchise.  Once considered a revolutionary innovation cooked up by the finest minds of the capital markets financial engineers are now perplexing conundrums wrapped in a riddle and remain valuation Level Three FAS 157 mysteries.

To be sure intellectual capital deflation is a huge subject.  I must also admit that this blogger lacks the time, skill and brain power to elucidate and articulate the numerous nuances and depth this assertion deserves and requires.  I guess we could sum it up in a sound bite like the “dumbing down of America” but I believe that merely addresses the race to the bottom marketers skillfully cultivated to gobble up a greater portion of that ever fickle and fluid market share pie.  In a way the deflation we speak of turns this dumbing down on its head and now claims the purveyors of fine ideas and clever tactics devised by the corporate marketing geniuses who were able to enrich themselves by conceiving the brilliant plans to convince us to buy so they can sell as much useless junk to as many people as possible.

The monetization of intellectual capital by incorporated consultants are increasingly becoming inefficient.  New technologies that are enablers of strategic thinking has large consultancies disappearing into the computing cloud.  Large bull pens of gray matter are inefficient as innovation in small firms are more efficient purveyors of thinking large to solve small problems or thinking small to solve larger problems. The large corporate dinosaurs that protected bloated bureaucracies enmeshed in group think stasis increasing showed an inability to be agents of innovation.  They boldly proclaimed best practices to justify and position themselves in the executive office but now that the large corporations have been decapitalized their value creation mantras dissipated as markets capitalization fell.

In appears that the bulge bracket firms viability were dependent on knowledge transfer initiatives to underdeveloped economies to support outsourcing; and rent seeking business models dependent on regulatory mandates of Sarbanes Oxley, GBLA, COBIT, EURO conversions, Basel II, Y2K, PATRIOT ACT, HIPAA, FISMA etc etc. Their business models profited from significant business drivers of the past two decades the reallocation of capital to emerging markets and the guarantee of market protection due to governmental regulatory mandates.  In both instances value creation from the deployment of intellectual capital proved to be unsustainable.

Consider the financial services industry and hedge funds.  Hedge funds claim to offer uncorrelated investment products but most of the hedge funds performance fell in lock step with the market index averages.  Investors pay premiums to participate in absolute return strategies offered by hedge funds.  Fund managers make the claim of absolute returns based on their superior insights that their intellectual capital confers on their investment strategies.  Last year that claim was demolished to devastating effect.

Newspaper publishers are also experiencing a decline in the portfolio value of their intellectual capital.  But many believe that it is more of  a question of their antiquated business model and once they figure out how to Googlize their business model to sufficiently monetize its intellectual capital shareholders will once again be rewarded with an appreciation in its investment and the true value of their intellectual capital will be realized.

The markets are dramatically changing. Today the question is not so much about ideas and strategy its a question of execution. Just as in the recent past it was about raising capital and acquiring assets now its about making informed capital allocation decisions and liquidity. Its true you need the target to shoot at but you also need munitions, a good scope with adjusted cross hairs and a gun. The value proposition of consultants is quickly becoming marginalized.

Its a poor business model. It scales poorly, its racked with inefficiencies, its built on protected markets and knowledge segregation. Now that those barriers are falling and more and more MBAs are out of work the value of this form of intellectual capital continues to fall.

Consultants all to often are beholden to their process biases. They find it difficult to get out of the box and routinely ask their engagements to climb into the box with them. That said it is an absolute necessity that business redefines its business model to address current market realities. It needs to do so with dispassionate dispatch and it needs to create a unique value proposition that differentiates the brand and adds identifiable alpha in an expanded value delivery chain.

Its a big challenge that many professional services firms need to confront. Our firm went through that transition 6 years ago. We went from a strategic sound practices consulting firm to a product creation and marketing firm dedicated to the commercial application of sound practices. For Sum2 creating value was a very different value proposition then delivering value. The need to build equity in our business was our principal concern. Building and marketing tangible product value is how you create a sustainable business model.

Corporations are becoming disenthralled of their self perceived cleverness. Many believe that major investments in applied intelligence create a culture of insularity that hedges all risks and builds enterprise value. In the past it allowed executives to hide behind a wall of opaqueness. They bought the best and brightest minds from our esteemed business schools convinced that this treasure of intellectual capital would protect them. They believed the digital blips of risk models to be sparkling Rosetta Stones containing the secrets that unlock the mysteries of effective risk management, value creation and business sustainability. The codified results of these algorithmic exercises are revered as holy Dead Sea Scrolls that offers the protection of an supernatural mojo. This is the thinking of a bankrupt brain trust.

You Tube Video: Nena, 99 Luft Ballons

Risk: Group Think, sustainable business model, value creation

March 28, 2014 Posted by | Uncategorized | , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , | Leave a comment

Schulte Roth & Zabel Navigating A Brave New World

This years Schulte Roth & Zabel’s  (SRZ) 19th Annual Private Investment Funds Seminar stuck a very different pose from last years event.  One year on from the global meltdown of financial markets, languishing institutional certainty and the  pervading crisis of industry confidence has been replaced with a cautious optimism.  The bold swagger of the industry however is gone, in its place a more certain sense of direction and expectation is emerging.  Though managers continue to labor under unachievable  high water marks due to the 2008 market devastation, 2009 marked a year of exceptional performance.   Investment portfolios rebounded in line with the upturn in the equity and bond markets.  Liquidity improved and net inflows into the industry has turned positive during the last quarter as large institutional investors and sovereign wealth funds returned to the sector with generous allocations.  These are taken as clear signs that the industry has stabilized and the path to recovery and the healing of economic and psychological wounds are underway.  Yes the industry will survive and ultimately thrive again but it will do so under vastly different conditions.  The new business landscape will require an industry with a guarded culture of  opaqueness to provide much greater transparency while operating under a regimen of greater regulatory scrutiny.

The 1,900 registered attendees heard a message about an industry at a cross road  still coming to terms with the market cataclysm brought on by unfettered, unregulated markets and excessive risk taking.  SRZ offered an honest assessment in examining the industries role in the market turmoil.  Speakers alerted attendees to an industry at a tipping point.  To survive the industry must adapt to a converging world that believes that uniform market rules and regulations are the surest safeguards against catastrophic systemic risk events.  A global political consensus is emerging  that expresses  support for industry regulation as an effective tool to mitigate the pervasiveness of fraud and market manipulation that undermines investor confidence and ultimately the functioning of a fair and efficient open free market.

Paul Roth, Founding Partner of SRZ,  noted in the events opening remarks that the market is beginning to recover as evidenced by industry AUM once again exceeding the $2 trillion mark;  but  he warned  that any exuberance needs to be tempered with the understanding that the new normal would not resemble the pre-crash world.  The days of  cowboy capitalism and radical laissez-faire investing are clearly over.   Indeed Mr. Roth wryly observed “the industry must develop a maturity about the need for change.  He concluded “that the industry must respond by playing a constructive role in forming that change.”

The conference subject matter, speakers and materials were all top shelf.  Break out presentations on risk management, regulatory compliance, distressed debt deal structuring, tax strategies and compensation issues all reinforced the overriding theme of an industry in flux.  The presenters passionately advocated the need to intentionally engage the issues  to confront accelerated changes in market conditions.  By doing so, fund complexes will be in a position to better manage the profound impact these changes will have on their business and operating culture.  Subject issues like insider trading, tax efficient structuring, hedge fund registration,  preparing for SEC examinations and the thrust of DOJ litigation initiatives and how to respond to subpoenas were some of the topics explored.

To highlight the emerging regulatory environment confronting the industry, a  presenter pointed to the Southerization of the SEC.  This is an allusion to the hiring of former criminal prosecutors from the Department of Justice, Southern District of New York to go after wayward fund managers.  The SEC is ramping up its organizational capability to effectively prosecute any violations of the new regulatory codes.   The growing specter of criminal prosecutions and the growing web of indictments concerning the high profile case of Mr. Raj Rajaratnam of the Galleon Group was presented as evidence of an emerging aggressive enforcement posture being pursued by regulators.  Managers beware!

Presenters made some excellent points about how institutional investors are demanding greater levels of TLC from their hedge fund managers.  This TLC stands for transparency, liquidity and control.  Creating an operational infrastructure and business culture that can accommodate these demands by institutional investors will strengthen the fund complex and help it to attract capital during the difficult market cycle.

The evening concluded with an interesting and honest conversation between Paul Roth and Thomas Steyer,  the Senior Managing Partner of Farallon Capital Management.  The conversation included increased regulatory oversight, compensation issues, industry direction and matching investor liquidity with fund strategy, capacity, structure and scale.   Mr. Steyer manages a multi-strategy fund complex with $20 billion AUM,  his insights are borne from a rich industry experience.  He made the startling admission that Farallon has been a registered hedge fund for many years and he believes that the regulatory oversight and preparation for examiners reviews helped his fund management company to develop operational discipline informed by sound practices.

Mr. Steyer also spoke about scale and that additional regulatory oversight will add expense to the cost of doing business.  Mr. Steyer believes that it will become increasingly difficult for smaller hedge funds to operate and compete under these market conditions.

Another interesting topic Mr. Steyer addressed were issues surrounding investor redemption and fund liquidity.  During last years SRZ conference investor liquidity was the hot topic.  Fund preservation during a period of market illiquidity and a fair and orderly liquidation of an investment partnership were major themes that ran through  last years  presentations.  Mr. Steyer struck a more conciliatory tone of investor accommodation.  He confessed his dislike for the use of “gates” as a way to control the exit of capital from a fund.  In its place he offered a new fund structure he referred to as a “strip” to allocate portfolio positions to redeeming partners in proportion to the overall funds liquid and illiquid positions.  He stated he believed that strategy to be more investor friendly.

Schulte Roth & Zabel has once again demonstrated its market leadership and foresight to an industry clearly in flux, confronting multiple challenges.  These challenges will force fund managers to transform their operating culture in response to the sweeping demands of global market pressures, political impetus for regulatory reform and the heightened expectations of increasingly sophisticated investors.   The industry could not have a more capable hand at the helm to help it navigate through the jagged rocks and shifting shoals endemic to the alternative investment management marketplace.

You Tube Music Video: Beach Boys, Sail On Sailor

Risk: industry, market, regulatory, political

January 15, 2010 Posted by | hedge funds, institutional, investments, operations, politics, private equity, regulatory, reputational risk, risk management, SEC, sovereign wealth funds | , , , , , , , , , , , , , , , , , , , , , , , , | Leave a comment

Goldman Sachs as Social Entrepreneur

Goldman Sachs’ CEO Lloyd Blankfein and his largest investor, The Wizard of Omaha, Warren Buffett , descended from the mystical heights of Valhalla with some startling news.  They were bearing a new mythical golden ring.  As they held the ring aloft they made a bold proclamation.  They would embark on one of the grandest social entrepreneurial programs of all time by offering some of the rings precious power, about $500 million worth, to capital starved small and mid-size enterprises (SMEs).  The 10,000 Small Businesses Initiative will distribute $100 million per year over the next five years to SMEs through Community Development Financial Institutions.

These lords of commerce have heard the cries from endangered SMEs.  In their infinite wisdom Blankfein and Buffet understand that the real economy needs to resuscitate and incubate the critical SME segment as an absolute prerequisite to a vibrant economic recovery.    The buzz about this news in the marketplace ranged from cynical suspicion at one extreme to puzzled bemusement and  ecstatic aplomb at the other.

What motivated Goldman to announce this initiative is an interesting question.  Was it guilt, greed or a sense of corporate social responsibility?  Some suggest it is a master PR move to counter a growing public perception that Goldman Sachs,  the poster child of government favoritism and bailout largess,  has leveraged its unfair advantage to achieve historic levels of profitability.  Thus enabling management to pay obscene bonuses to company employees.  But capital has no psyche,  and half a billion dollars is a tall bill to underwrite absolution for some phantom form of guilt.  True to its nature, capital always  seeks a place where it will find its greatest return.  Goldman and Buffett are casting some major bread on the receding waters of a distressed economy.  As its foretold in the Good Book , doing God’s work will produce a tenfold return.  If the Bible’s math is correct, thats a lot of manna that will rain down from heaven for the shareholders of Goldman Sachs and Berkshire Hathaway.  Looks like our modern day version of Moses and Aaron have done it again.  Leading their investors across the dangerous waters of the global economy to live in the promised land of happy shareholders.

As one of the world’s preeminent investment banks and purveyor of capitalist virtues,  company shareholders must be questioning how Goldman’s managers will realize a return on this investment?  Has management examined the potential corporate and societal moral hazards surrounding the program?  Surely shareholders have asked when they expect to be compensated for this significant outlay of capital.   The desire to realize gain is a more plausible motivator and makes more sense for an enterprise like Goldman and the storied investment Wizard from Omaha.

Its wise to ascribe the best intentions and virtuous motivations to actions that we may not fully understand.  This program should be viewed as a seminal event in the history of corporate social responsibility and social entrepreneurship.  Its important to understand that institutions that practice corporate social responsibility do not engage it solely as a philanthropic  endeavor.  Indeed, the benefits of good corporate citizenship pays multidimensional dividends.  All ultimately accrue to the benefit of company shareholders and the larger community of corporate stakeholders.

Goldman’s  move to walk the point of a capital formation initiative for SMEs seeks to mitigate macroeconomic risk factors that are prolonging the recession and pressuring Goldman’s business.   Goldman needs a vibrant US economy if it is to sustain its profitability,  long term growth and global competitiveness.  Goldman needs a strong regional and local banking sector to support its securitization, investment banking and corporate finance business units.   Healthy SMEs are a critical component to a healthy commercial banking sector.  Goldman recent chartering as an FDIC bank holding company may also be a factor to consider.  This SME lending initiative will provide interesting insights into the dynamics of a market space and potential lines of business that are relatively new to Goldman Sachs.  This initiative might presage a community banking acquisition program by Goldman.  At the very least the community banking sector is plagued with over capacity is in dire need of rationalization.  Goldman’s crack team of corporate finance and M&A professionals expertise would be put to good use here.

Goldman’s action to finance SMEs will also serve to incubate a new class of High Net Worth (HNW) investors.  Flush with cash from successful entrepreneurial endeavors, the nouveau riche will be eager to deploy excess capital into equities and bonds, hedge funds and private equity partnerships.  Healthy equity markets and a growing Alternative Investment Management  market is key to a healthy Goldman business franchise.

Community banks, principal lenders to SMEs are  still reeling from the credit crisis are concerned about troubled assets on their balance sheets.  Bankers can’t afford more write downs on non-performing loans and remain highly risk adverse to credit default exposures.  Local banks have responded by drastically reducing credit risk to SMEs by curtailing new lending activity.  The strain of a two-year recession and limited credit access has taking its toll on SMEs.  The recession has hurt sales growth across all market segments causing SMEs to layoff employees or shut down driving unemployment rates ever higher.  Access to this sector would boost Goldman’s securitization and restructuring advisory businesses positioning it to deepen its participation in the PPIP and TALF programs.

The financial condition of commercial and regional banks are expected to remain stressed for the foreseeable future.  Community banks have large credit exposures to SME and local commercial real estate.  Consumer credit woes and high unemployment rates will generate continued losses from credit cards and auto loans.  Losses from commercial real estate loans due to high vacancy rates are expected to create significant losses for the sector.

Reduced revenue, protracted softness in the business cycle and closed credit channels are creating perfect storm conditions for SME’s. Bank’s reluctance to lend and the high cost of capital from other alternative credit channels coupled with weak cash flows from declining sales are creating liquidity problems for many SMEs.   Its a growing contagion of financial distress.  This contagion could infect Goldman and would have a profound impact on the company’s financial health.

The 10,000 Businesses  initiative will strengthen the free flow of investment capital to finance national economic development and empower SMEs.  It strengthens free market capitalism and has the potential to pool, unleash and focus investment capital into a strategic market segment that has no access to public equity and curtailed lines of traditional bank credit. The 10,000 Businesses initiative  will encourage wider participation by banking and private equity funds.  In the aggregate, this will help to achieve strategic objectives, build wealth and realize broader goals to assure sustainable growth and global competitiveness.  All to the benefit of Goldman Sachs’ shareholders and it global investment banking franchise.

Goldman Sach’s has always been a market leader.  We salute Goldman Sachs’ initiative and welcome its success.

In  September of 2008,  Sum2 announced The Hamilton Plan calling for the founding of an SME Development Bank (SDB).  The SDB would serve as an aggregator of capital from numerous stakeholders to focus capital investment for SME manufactures.   More on the Hamilton Plan can be read here: SME Development Bank.

Risk:  SME, bank, recession, unemployment, credit, private equity

You Tube Music: 10,000 Manaics, Natalie Merchant: Dust Bowl

November 19, 2009 Posted by | banking, credit, economics, FDIC, private equity | , , , , , , , , , , , , , , , , , , , , , , , , , , | 2 Comments

G-20 Stamps Out Tax Havens

OECDThe fallout from the recent tax evasion settlement with UBS is reverberating throughout the G-20 community.  As we reported back in October,  the French Governments action directing banks to close branches and subsidiaries in non-OEDC compliant jurisdictions will pressure all G-20 participants to adopt a more uniform tax code and enforcement practice.  The drive to strengthen the respect of tax treaties and the closure of havens to custody assets beyond the reach of national tax authorities signals a new era in multinational cooperation and the eclipse of radical free market tax practices.

The principal drivers for this unprecedented level of cooperation and standardization is the dire need for national tax authorities to recognize and tax revenue streams to help address the burgeoning budget deficits the global economic crisis has has wrought.

Clearly the crackdown on tax evasion is gaining momentum since the global financial crisis has devastated national treasuries.  Enormous expenditures on stimulus programs and dramatically falling tax receipts has created a perfect storm and has created an enormous threat to the fiscal soundness of national treasuries.

Forbes reports that Singapore has become the latest in a flurry of jurisdictions complying with Office of Economic Cooperation and Development standards on transparency and exchange of information for tax purposes.  Fifteen jurisdictions have come into compliance since April 2009.  In addition to Singapore and the sea change occurring in the Suisse banking industry; other  governments that have lost revenue to tax havens are individually taking tough action:

–The U.K. government has informed the Isle of Man that it will reduce revenue transfers of value-added tax receipts to the island by 50 million pounds next year, 9% of the island’s revenue.

–French banks are starting to close down their operations in tax havens.

–In Germany, the hiding of funds in Liechtenstein bank accounts has prompted a backlash against tax havens.

–In the United States, White House advisor Paul Volcker in December is due to report on ways of eliminating revenue losses to tax havens.

This heightened regulation and standardization amongst  G-20 tax authorities is quickly closing any regulatory tax arbitrage opportunities for global investors.  The closure of preferential tax domiciles will heighten the power and reach of national tax agencies enforcement capabilities and the scope of their examination reach.  The IRS is stepping up its enforcement and institutional assets to assure that private equity and hedge fund industries comply with all the anti-money laundering laws and stringent tax codes.

Sum2’s IARP helps investment managers assess and manage the growing threat of audit and tax enforcement risk.  Sum2’s CARP helps large and mid-size corporations assess compliance and manage  IFI audit risk.

Risk: audit, enforcement, regulatory, tax, reputational, litigation

November 16, 2009 Posted by | AML, CARP, corruption, IARP, IRS, legal, OECD, private equity, regulatory, reputational risk, risk management, Tax | , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , | Leave a comment

G-20 Fallout: French Banks Exit Tax Havens

french bank tokenAn official at the French Banking Federation announced that French banks plan to close shut branches and subsidiaries in countries considered tax havens. France’s banks intend to halt business activities in countries that remain on the OECD’s so-called “gray list” at the end of March 2010.

The Organization for Economic Cooperation and Development advocates regulatory standards for global banking industry. It tracks countries that do not comply with the basic regulatory guidelines and publishes a “gray list” of countries that do not comply with international tax information exchange rules.

All French Banks will comply with this action. BNP Paribas earlier announced it will stop operating in countries considered tax havens after the bank indicated that it would close branches in Panama and the Bahamas.

Global hedge funds that operate in OECD non-compliant jurisdictions have an increased tax risk profile.  Tax professionals need to assess the potential benefits derived from continued operations in these high risk domiciles with the rising compliance and tax risk factors these jurisdictions pose.

Sum2’s IRS Audit Risk Program (IARP)  helps tax professionals and compliance managers determine and score risk exposures of investment partnerships IRS Industry Focus Issues.

Click for more information on IARP.

Risk: compliance, regulatory, tax audit, reputation

October 1, 2009 Posted by | associations, banking, hedge funds, IARP, OECD, off shore, private equity, reputational risk, risk management, Tax, Treasury | , , , , , , , , , , , , , , , , , , , | 2 Comments

UBS to Clients, “You’re on the List!”

 

tax evasionSwiss banking giant UBS, announced that it will inform American clients whether information about their bank accounts will be turned over to the US Justice Department in a tax evasion investigation.  UBS is required to disclose information on over 4,300 American citizens who are clients of the firms private banking division.  The US Justice Department believes that wealthy Americans are using these accounts to conceal assets and are using the bank to hide money under the protection of Switzerland’s storied bank secrecy laws.

UBS has so far refused to name the individuals in public. U.S. authorities, meanwhile, have hoped that the identities of the individuals on the list would be kept secret for longer so that more Americans with undeclared assets abroad might come forward under a recently extended tax amnesty program.

According to a bank  spokesperson,  “UBS is currently examining which client relationships fulfill the government’s criteria of ‘tax fraud.”  The review may take some months but UBS is committed to informing clients that they are affected by the tax evasion investigation.  UBS has already informed 500 clients that they are the subject of an investigation by the US Justice Department.

The IRS on Monday said it would extend its deadline for an amnesty program that has been flooded with applications from people who hid assets overseas. The program promises no jail time and reduced penalties for tax dodgers who come forward.

The financial services industry can expect these types of investigations to become more commonplace.  Institutions that offer hedge funds and investment products that cater to High Net Worth investors will increasingly become  subject to greater scrutiny as the US Treasury Department and its enforcement arm the IRS moves to insure that compliance with tax laws and statutes are adhered too.

This resolution signifies that the IRS is serious about its intention to ramp up enforcement of the tax code.  The IRS has enhanced its focus on US citizens and corporations utilizing foreign banks and offshore investment vehicles.  The agency is concerned that investment products and financial services offered by foreign banks have enabled US citizens and corporations to avoid tax liabilities.  Products such as credit cards, hedge funds and other investment partnerships are coming under the exacting microscope of the IRS.

The IRS is under pressure to enforce compliance with federal tax statutes.  The US Treasury coffers are seriously depleted  and the IRS is is looking to assure all taxable revenue streams are identified and taxpayers pay taxes on all capital gains and income.  The IRS has developed an Industry Focus Issue, (IFI) audit strategy.  IFI’s provides IRS field auditors tax risk profiles of investment partnerships and other corporate entities that use offshore domiciles to harbor assets.  IFI guides field audit personnel through a risk based assessment of investment partnerships.  The IFI aggregates and ranks  Three Tiers of high risk tax compliance issues.  Examiners will conduct rigorous reviews of these issue sensitive factors.  Many of the factors concern the recognition of income and assets in custody outside of the US and repatriation of revenue derived in foreign domiciles.

Sum2 has published a product, IRS Audit Risk Program (IARP) that guides corporate tax managers and tax professionals through a risk assessment of their exposure to IFI risk factors.  The IARP is a strategic tool that corporate tax professionals utilize to score risk exposures, determine mitigation actions, estimate remediation expenses and manage tax controversy defense strategies.  The IARP is available for purchase on Amazon.com.

You Tube Video: O’Jays, For the Love of Money

Risk: tax evasion, compliance, reputation, prison

September 22, 2009 Posted by | Uncategorized | , , , , , , , , , , , , , , , , , , , , , , , , , | 4 Comments

IRS Extends Amnesty Program

auditThe IRS is extending the deadline for international tax dodgers to apply for an amnesty program.  To date more than 3,000 Americans hiding assets overseas have applied for the program.  The program offers no jail time and reduced penalties for tax cheats who come forward.

The Internal Revenue Service is expected to announce that the program will be extended until Oct. 15.  The IRS has a long standing policy that permits tax evaders who come forward before they are contacted by the agency will usually avoid jail time.  Provided that they agree to pay back taxes, interest and hefty penalties.  Drug dealers and money launderers are exempted from this policy but if the money was earned legally, tax evaders can avoid criminal prosecution.  Approximately 100 people apply for the program in a typical year because the penalties can far exceed the value of the hidden account.

In March, the IRS began a six-month amnesty program that sweetened the offer with reduced penalties for people with undeclared assets.  The amnesty program is part of a larger effort by federal authorities to crack down on international tax evaders.  In August, the U.S. and Switzerland resolved a court case in which Swiss banking giant UBS agreed to turn over details on 4,450 accounts suspected of holding undeclared assets from American customers.

The process of turning over that information is expected to take several months. But once the IRS obtains information about international tax dodgers, they will be ineligible for the amnesty program.  Publicity from the UBS case, even before the agreement was announced, had many wealthy Americans with offshore accounts nervously running to their tax advisers.   Lawyers and advisers from several firms have said they were swamped with calls from people hiding assets overseas.  attorneys are advising their clients to take advantage of the IRS Amnesty program and to contact the IRS before they contact you.

Hedge funds and other investment partnerships need to enhance risk management practices to mitigate rising tax risk.  Sum2 publishes the IRS Audit Risk Program  (IARP) to assist investment partnerships and corporate entities  that utilize offshore SIVs to assess audit tax risk factors and take steps to manage this significant business threat.  The IRS has developed an audit risk profile that guides field examiners through an assessment of an investment partnerships tax audit risk factors.  The IARP helps tax managers assess threats and more effectively prepare and manage tax  audit risk exposures within the focus of IRS examiners.

Risk: audit, tax, regulatory, compliance, reputation

September 21, 2009 Posted by | CPA, hedge funds, IARP, private equity, Sum2, Uncategorized | , , , , , , , | Leave a comment

The Tax Man Cometh

taxmanThe IRS has reached agreement with UBS over disclosure of the identity of US citizens holding private bank accounts with the firm in Switzerland.  The agreement calls for UBS to release the names of 4,450 clients who are suspected of using the bank to hide assets and avoid taxation.   UBS has private banking relationships with with over 52,000 US citizens with assets approximating $15 billion.

Private banking is an important pillar of the Suisse economy.  This action may pose a significant threat to the Suisee banking industry.   Compliance with the IRS request for the names of private bank account holders  damages the venerated wall of secrecy Suisse banks employ to attract assets and clientele.  Other EU banking centers like Luxembourg and Liechtenstein may also feel pressure to comply with news standards of transparency and disclosure.  This may have the effect of driving investors to seek more exotic havens to park assets.  Offshore domiciles in the  Indian Ocean, Southeast Asia and Latin America may benefit from this action.  It may also add to the risk of investors seeking safe havens for their assets.

For US taxpayers, the resolution signifies that the IRS is serious about its intention to ramp up enforcement of the tax code.  The IRS has enhanced its focus on US citizens and corporations utilizing foreign banks and offshore investment vehicles.  The agency is concerned that investment products and financial services offered by foreign banks have enabled US citizens and corporations to avoid tax liabilities.  Products such as credit cards, hedge funds and other investment partnerships are coming under the exacting microscope of the IRS.

The IRS is under pressure to enforce compliance with federal tax statutes.  The US Treasury coffers are seriously depleted given all the stimulus and economic recovery expenditures.  The IRS is mandated to assure that compliance is adhered to so taxpayers pay taxes on all legal capital gains and income.  As this blog reported, the IRS has developed an Industry Focus Issue, (IFI) audit strategy that  profiles investment partnerships and other corporations that use offshore domiciles to harbor assets.  IFI guides field audit personnel through a risk based assessment of investment partnerships.  The IFI aggregates and ranks  Three Tiers of high risk tax compliance issues.  Examiners will conduct rigorous reviews of these issue sensitive factors.  Many of the factors concern the recognition of income and assets in custody outside of the US and repatriation of revenue derived in foreign domiciles.

Sum2 has published a product, IRS Audit Risk Program (IARP) that guides corporate tax managers and tax professionals through a risk assessment of their exposure to IFI risk factors.  The IARP is a strategic tool that corporate tax professionals utilize to score risk exposures, determine mitigation actions, estimate remediation expenses and manage tax controversy defense strategies.  The IARP is available for purchase on Amazon.com.

The IRS action against UBS is the opening salvo in the new era of enhanced compliance.  UBS is a marquee brand that indicates that the IRS is serious about compliance. As a result of the UBS settlement other Suisse banks are coming forward to make voluntary disclosures about US citizens suspected of tax-evasion.  Those bank  include, Credit Suisse, Julius Baer Holding, Zurcher Kantonalbank and Union Bancaire Privee.  UBS has  previously turned over approximately 250 names to the IRS.  It is believed that the IRS has issued indictments to 150 people from that list of names.

This high profiled action against UBS has helped to publicize the IRS amnesty program that expires September 23rd.  In an effort to encourage Americans to voluntarily disclose information about  accounts they illegally withheld, the IRS created an amnesty program. Under the amnesty program, any taxpayer who successfully completes the requirements will not be criminally prosecuted for their acts.  More details on the IRS amnesty program can be found here on the FIND LAW website.

Risk: tax, reputation, compliance,


August 21, 2009 Posted by | compliance, CTA, hedge funds, IARP, IRS, regulatory, reputational risk, Tax, Uncategorized | , , , , , , , , , , , , , , , , , , , , , , , , , | Leave a comment

A Taxing Situation

irs-and-capitol1President Obama announced his intention to curb the use of offshore tax havens for multinational corporations.  The Treasury Department is looking to raise tax revenues and believes that by closing the use of offshore tax shelters it will be able to raise over $200 bn over the next ten years.  According to the New York Times,  firms like Citibank, Morgan Stanley, GE and Proctor and Gamble utilize hundreds of these type structures to shelter revenue from being taxed by the IRS.  It has effectively driven down the tax rates these companies pay and has been a key driver in maintaining corporate profitability.

This move should come as a surprise to no one.  The Treasury Department needs to find sources of tax revenues to cover the massive spending programs necessitated by the credit crisis and the global economic meltdown.  The TARP program designed to revitalize banks has  expenditures that amounted to $700 bn.  Amounts pledged for economic recovery through EESA, PPIP and ARRA will push Treasury Department expenditures targeting economic stimulus projects and programs to approximately $2 tn.  These amounts are over and above routine federal budget expenditures that is running significant deficits as well.

The planned move by the Treasury Department to rewrite the tax code may be an intentional effort to close budget deficits but it also represents a significant rise in tax audit risk.   For the past two years the IRS has been developing a practice strategy and organizational assets to more effectively enforce existing tax laws.  Private sector expertise, practices and resource has significantly out gunned the IRS’s ability to detect and develop a regulatory comprehension of the tax implications of the sophisticated multidomiciled structured transactions flowing through highly stratified and dispersed corporate structures.  The IRS is looking to level the playing field by adding to its arsenal of resources required to engage the high powered legal and accounting expertise that corporate entities employ.

The IRS has hired hundreds of new agents  and has developed risk based audit assessment guidelines for field agents when examining corporations with sophisticated structures and business models.  As such investment partnerships, global multinational corporations and companies utilizing offshore structures can expect to receive more attention from IRS examiners.

The IRS had developed Industry Focus Issues (IFI) to be used as an examination framework to guide audit engagements for sophisticated investment partnerships and  Large and Mid-size Businesses (LSMB).  The IFI for LSMB has developed three tiers of examination risk.  Each tier has comprises about 12 examination issues that will help examiners focus attention of audit resource on areas the agency considers as high probability for non-compliance.  Clearly the audit risk factors risk

To respond to this challenge, Sum2 developed an audit risk assessment program to assist CFO’s, tax managers, accountants and attorneys conduct a through IFI risk assessment.  The IRS Audit Risk Program (IARP) is a mitigation and management tool designed to temper the threat of tax audit risk.   A recent survey commissioned by Sum2 to measure industry awareness of IFI risk awareness indicated extremely low awareness of tax audit risk factors.

Sum2’s IARP helps corporate management and tax planners score exposure to each IFI risk factor.  It allows risk managers to score the severity of each exposure, mitigation capabilities, mitigation initiatives required to address risk factor, responsible parties and mitigation expenses. The IARP allows corporate boards and company management to make informed decisions on tax exposure risk, audit remediation strategies, arbitration preparation and tax controversy defense preparation.

The IARP links to all pertinent IRS documentation and information on each tax statute and IFI audit tier.  The IARP links to pertinent forms and allows for easy information retrieval and search capabilities of the vast IRS document libraries.  The IARP also has links to FASB to have instant access to latest information on accounting and valuation treatments for structured instruments.

The IARP is the newest risk application in the Profit|Optimizer product series.  The Profit|Optimizer is a enterprise risk management tool used by SME’s and industry service providers.

The IARP is available in two versions.

The IRS Audit Risk Program for investment partnerships (IARP)

Buy it on Amazon here: IARP

The Corporate Audit Risk Program (CARP)

Buy it on Amazon here: CARP

Sum2’s Audit Risk Survey results are here: IFI Audit Risk Survey

You Tube Video: Chairman of the Board, Pay to the Piper

May 6, 2009 Posted by | business, CPA, EESA, FASB, hedge funds, IARP, IRS, NP, private equity, risk management, Sum2, Tax, Treasury | , , , , , , , , , , , , , , , , , , , , , , , , , , , , , , | Leave a comment