Financial Information Systems

Chinese bankers are adapting to the new blockchain technology to help combat financial fraud in their country. The idea came from the non-transparent and non-automated process that Chinese banks use to verify documents and other statement that come through their doors. Demand for the recent bitcoin defined technology has been on the rise in China, having sharp increases in YoY growth and over $1.5 billion in total investments over the years. Transactions become more parallel and transparent by storing back data in crypto-encoded blocks away from corruption. Some of the fraudulent acts that occur include replacing real documents with newspapers to use the documents to increase margin or tampering with transaction detail that happens and cannot be traced. The conception of blockchain technology would eliminate the amount of fraud that occurs in a certain corporation but would many of the corrupt economies follow the same trend as technology? China, U.S and other developed nations that fight fraud within finance benefit from this technology but those who don’t prioritize countering fraud would actually benefit from not using blockchain technology. There is no doubt that more and more banks will adapt to blockchain only those who practice finance ethically will know to properly use it.

Edited 2/27/17 URL: http://venturebeat.com/2017/01/26/chinese-banks-are-using-blockchain-to-fight-fraud/

Despite Tyco being a security systems and services company, its CEO Dennis Kozlowski managed to embezzle over 100 million dollars from the company before finally being caught in 2012.  Kozlowski utilized commingling of assets to keep his fraudulent purchases hidden.  He would use Tyco as a secondary bank account in which he could spend at will.  These purchases including millions of dollars in artwork, all of which avoided sales tax in order to not raise any red flags.  Furthermore, Kozlowski spent a whopping 2 million dollars just on his second wife’s birthday party, and much more on various properties he purchased.

Kozlowski’s crime was not solely based around him, but also members of the companies Board of Directors.  By having higher ranking officials commingle funds at a lesser extent, he was able to make the practice a normal aspect of the company.  Furthermore the auditing firms lack of due diligence allowed this fraudulent activity to continue.  When it was all said and done, Tyco had to repay 2.92 billion dollars to investors and Kozlowski was sentenced to 8-25 years in prison.  What do you believe was the biggest financial weakness within Tyco and was there any singular way to prevent this fraud from happening?

 

Romero, Jonathan. “Tyco Corporate Scandal of 2002 (Ethics Case Analysis).” Panmore Institute. N.p., 09 Aug. 2015. Web. 26 Feb. 2017.

Website: http://panmore.com/tyco-corporate-scandal-2002-case-analysis

 

Ever since the tech boom, Silicon Valley has displaced a lot of industries with rapid growth of technology. After the financial crisis of 2008, many looked to Silicon Valley to take over Wall Street with all of the fintech start ups sprouting left and right. Wall Street proved to be a different animal to tackle because of the numerous restriction and lobbying efforts in place to protect the ancient financial service industry. The difficulty of denting the influence and power of the big banks was one of the main issues small fintech start ups have to overcome. There still has not been a single company to even come close to replacing even a small function of the big banks’ functions. Venmo and Bitcoin were seen to be the most promising companies but even they don’t even come close to reducing the influence of major financial institutions. Most new fintech startups aren’t really trying to challenge major financial institutions but instead are “add-ons” that build new services around the existing infrastructure like credit cards.

In my opinion, it will be a long while before fintech startups have the influence to upend Wall Street. There is too much influence and power within Wall Street and too much of our financial infrastructure has been built on services that they created.

 

Reference: http://www.seattletimes.com/business/silicon-valley-tried-to-upend-wall-street-now-it-works-with-the-financial-industry/

Organizations these days have a lot of data stored in the form of big data. One of the main problems organizations face is extracting knowledgeable information from such large amounts of data. Using the latest technologies such as machine learning, artificial intelligence and complex mathematical models they are able to glean information which can help to improve services, product quality and also efficiency.

Process mining is one of the approaches which allows organizations to make use of the data stored in their systems to identify trends, patterns, bottlenecks contained in event logs.

Uses cases for process mining
Discovery: in this use case it is possible to determine the structure of a process, the path taken by the process and determining what are the frequent and infrequent paths
Conformance Checking: In this use case, deviations from standard processes are detected. Anomalies or outliers can be determined by conformance checking
Enhancement: enhancement can be time perspective or organizational perspective. When time perspective, it is possible to determine cases which are the most time consuming, future problems which may make the process more time consuming and the time taken for completion of a process. When organizational perspective, it is mainly resource oriented which includes how resources are allocated and what processes require similar resources.

Conclusion: Process mining is going to be increasingly used by organizations in future because it opens up new ways of analyzing cases and event logs. With the advent of IoT, there is a definite need for mining IoT devices and process mining can help achieve it. Also, with machine learning and AI which can predict future performance, process mining tools are going to be widespread.

References:

http://wwwis.win.tue.nl/~wvdaalst/publications/p660.pdf

http://www.fit.vutbr.cz/study/courses/TJD/public/1415TJD-Rudnickaia.pdf

Start-up companies have been a major player in delivering innovative and revolutionary fintech solutions. However, it is still not common to see these start-up companies work with traditional banks.  One start-up Creamfinance, has stood out from the group recently, and demonstrated success in collaborating with big banks. Creamfinance specializes in using machine learning and data analysis to evaluate credit score. They give banks a solution to quickly identify loan recipients, and facilitate in the loan application process for the customers. Since its start in 2012, Creamfinance has established services in more than 6 countries across Europe and America, and has raised over $7.3 million in funding.

In my opinion, the success of Creamfiance company is very inspiring for other start-up fintech companies. Traditional banks usually face heavy regulations, which makes it hard for them to offer customers with innovative financial services. Also, newer banks would want to use disruptive technologies to compete with big banks. On the other hand, start-up fintech companies do not have the long history and credibility that banks have, which puts them in a disadvantage when dealing with customers. The need for collaboration is definitely out there, but there are also challenges for the start-up companies.  Many banks may not see some fintech solutions as promising or needed. Therefore, both being innovative and addressing the real needs of banks is critical for the success of any collaboration.

Source: https://www.forbes.com/sites/julianmitchell/2017/02/20/meet-the-fintech-ceo-making-money-easily-available-anywhere-in-the-world/#683fbfdff724

Blockchain is “a distributed database, meaning that the storage devices for the database are not all connected to a common processor,” according to Bernard Marr, a writer at Forbes magazine. This database contains a list of transactions, called blocks, that are timestamped and linked to previous blocks, and ensures bitcoins maintain their integrity as a unit of currency. Also, through cryptography, users are only allowed to edit and change their portion of the blockchain. (For more details about blockchain please see my previous post:  https://blogs.scu.edu/finis/2017/02/12/blockchain-and-the-many-uses-of-smart-contracts/)

We all knew blockchain would move into new industries, and this has started in private equity. IBM and Northern Trust’s implementation of block chain is the first commercial deployment of the system. They decided to set up the blockchain to add transparency to the private equity market and to allow auditors and investors to perform due diligence tests more easily.

I think this is a great idea because it protects investors in the private equity market without unnecessary regulations. Those who issue equity can track who is currently holding specific shares. Also, it will be easy to when private equity transactions occur. Overall I think this is a great use of blockchain in a commercial market.

http://www.bankingtech.com/742612/ibm-and-northern-trust-debut-blockchain-for-private-equity/

A major upside and positive characteristic of Fintech is it’s ability to create degrees of financial inclusion in countries and regions where financial infrastructure is a major weakness. Like other countries, Indonesia recognizes the value of the Fintech industry and has seen a 78% increase in the number of financial technology companies it hosts. However, the hope of financial inclusion is being hindered by factors of financial fragmentation. A combination of too many new consumer Fintech products and poor rhetorical standings between regulatory bodies has caused issues for the country’s government. In Indonesia, cooperation between the Financial Services Association and the Communications and Information Ministry has been troublesome. Indonesia’s lack of ability to set forth effective regulation for the Fintech industry sprouts from the lack synergy between the regulators. The Financial Information Service System is in development and hopes to solve some of these issues. The regulatory settings need to promote inclusion for non-bank Fintechs which will allow for further financial consumer inclusion across the country as well.

http://www.thejakartapost.com/news/2017/02/07/fintech-talk-fintech-in-indonesia-between-fragmentation-and-financial-inclusion.html

There is a fundamental strategic contradiction between technology and finance.

Some investors point out that the financial industry is two industries move at different paces.  Rohit Arora believes that Fintech is going to be around for a long time.  He argues that large banks are investing in technology to allow for digital loan applications, which demonstrates that fintech is becoming more mainstream.

Market realities encourage short-term thinking.

Arora argues against the connotation that the grow at all costs mentality of fintech firms will kill it.   The nature of capitalism is that innovators enter the marketplace and others follow.  The well run companies will survive while others will die.  The fintech industry is similar to other industries the nature of survival.

Incumbents in the market are powerful and resistant to change.

Big banks have no choice but to change the way they do business.  The marketplace demands it through the use of smartphones and going online for everything one needs.  Large banks are and will continue to invest in fintech companies.

 

With everything moving online and mobile, their is a high demand to enable online applications for small business loans.  Fintech is not going anywhere.

https://www.forbes.com/sites/rohitarora/2017/02/22/3-reasons-fintech-is-thriving/2/#6af355d3552d

 

In this article, the author Rohi Arora actually responds to a previous Forbes article which argued that fintech is failing, an article that was also covered on our own blog. As my response to that article began to touch on (https://blogs.scu.edu/finis/2017/02/13/three-reasons-fintech-is-failing/), while some fintech companies may be failing, as a whole, fintech is undoubtably part of the future of finance. The most significant reason fintech is thriving and will like continue to is that it as allowed access to capital to small to midsize business owners, who were previously a highly under-served market for investment. What technologies integration with finance has done is removed entry barriers and hurdles to receive capital that were previously in place and prevented small business owners from receiving capital. Technology has undoubtedly disrupted the status quo in an old industry and while many will try to hold off the fintech influence, as we have seen in countless other industries, the power of technology to shift how an industry operates is very strong.

Link to article: https://www.forbes.com/sites/rohitarora/2017/02/22/3-reasons-fintech-is-thriving/#59723c5c1017

The audit is simply a process by which auditors check the company’s math and application of accounting rules. Most of the investors take audited financial statements as major consideration to invest in a company. But by doing so it leads them to false sense of security when examining the audited frauds. Following are some of the common issues to say why a audited financial statement could not be true.

1. Auditors only examine small samples of transaction
   The heart of an audit is testing transactions. The auditors select a sample and test those transactions to ensure that they were properly recorded in the accounting system. The inherent limitation in sampling is that all transactions are not tested. And of course, it would not be possible for the auditors to examine all transactions a company enters into in a year.

There is always a good chance that a key transaction will not be part of the auditors’ sample, and therefore will not be examined. So many transactions are untested by the auditors, and that means there is a very good chance that a fraudulent item will not be part of the testing.

2. Auditors may be inexperienced
The current business model for audit firms (and the one that has been in place for decades) relies on relatively inexperienced auditors to do the bulk of the field work. While this may make economic sense in terms of controlling the costs of audits, it is a terrible practice from a quality control standpoint.

Most of the inexperienced auditors tend to not ask difficult questions because of their lack of experience. Those who have the knowledge to identify problems and ask difficult questions spend very little time in the field. They are best equipped to zero in on fraud, yet they provide little hands-on supervision of the inexperienced auditors.

3. Audit process are lagging with the dynamic nature of business
Given the dynamic nature of a business through mergers and acquisitions, development of new products and services, and constant strategic planning all mean that business is changing faster than ever. Comparing the financials of a company from year to year becomes nearly impossible because of all the changes. Therefore audit process has to catch up with the dynamic nature of frauds risks.

We can point out many of such similar issues surrounding why a audited financial should not be a major consideration in investing on a company, but what we need to understand is that traditional financial statement audits were never designed to detect fraud. However, sometimes fraud is detected by auditors, and they can increase their chances of finding fraud if they are so inclined and diligent.

Source: http://www.sequenceinc.com/fraudfiles/2013/06/escaping-detection-why-auditors-do-not-find-fraud/