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09/16/2010 Meeting - Emerging Sales Channel Investigations Issues
 

09/16/2010 Meeting - Emerging Sales Channel Investigations Issues

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    09/16/2010 Meeting - Emerging Sales Channel Investigations Issues 09/16/2010 Meeting - Emerging Sales Channel Investigations Issues Presentation Transcript

    • The Corporate Investigation series presents: Understanding Emerging The Corporate Investigation series presents: g g g Sales Channel Investigation IssuesIssues DRAFT
    • Discussion agenda 1. Environment level set 2. What is the “channel” 3 Ch l i d i k3. Channel issues and risks 4. Frequently seen issues 5. Increasing transparency into the channel – the BPS 6. BIS Copyright © 2010 Deloitte Development LLC. All rights reserved.
    • Global compliance related trends – level set • Corporate environments are changing - Shift from engineering to sales focus creating a different compliance awareness culture - Changing appetite for risk due to cost constraints • Increased attention by regulators continuing - Enforcement and regulatory oversight increasing and expected to increase further - Local country regulatory bodies are becoming more aggressive - Use of ‘same agent’ investigations by SEC and request letters - Parallel investigations across countries P t ti l li bilit f FCPA d l t d i il l t i f ti f h l t- Potential liability for FCPA and related similar regulatory issues for actions of channel may accrue to manufacturer or transaction initiating entity • Risk management is both an expected and a bigger priority for Boards of Directors - Recognize that emerging country business risks, particularly through the channel, have become more complex and have a larger impact on companies - Assessing new or emerging business risk, particularly channel, high on the agenda Copyright © 2010 Deloitte Development LLC. All rights reserved.
    • Indirect channels are key for technology companies reach and revenue expansion SMBs (2-999 employees) Enterprises (1,000 plus employees) Indirect Channel Direct ChannelBoth Channels ( p y ) ( , p p y ) • Technology companies align channels with targeted customer segments: Direct sales for large enterprise accounts Consumers - Direct sales for large enterprise accounts - Indirect channels for SMBs, consumers, and emerging markets • Indirect channels are growing across all technology sub-sectors • And the indirect channel is key to penetrating high growth• And, the indirect channel is key to penetrating high growth emerging markets Copyright © 2010 Deloitte Development LLC. All rights reserved.
    • The indirect channel is growing across all technology industry sub-sectors Software Semiconductor Consumer hardware Enterprise hardware and network equipment technology industry sub sectors equipment • Largely direct sales for enterprise software (e.g. Oracle and SAP) – 40% indirect for Oracle • Semiconductor companies sell through partnerships, and distributors • Strong growth of laptops sales are increasingly shifting toward indirect sales for consumer and SMB ( t il d VAR) • Major vendors target large enterprises through direct sales and indirect channels for SMB and i k t • Mostly indirect for packaged software (e.g., Microsoft and Adobe) 95% indirect for • In 2009, HP and Dell accounted for 39 % of Intel’s sales. SMB (retail and VAR) • HP is 80+% indirect • Dell has shifted from less emerging markets. • In 2009, 80% of Cisco’s revenue was through channel partners – 95% indirect for Microsoft • In FY10, Microsoft is increasing its investment in channel programs by • In 2009, AMD’s top 5 customers accounted for more than 50 % of its annual revenue than 5% indirect to nearly 25% indirect over the last 5 years • A global leader in communications is adopting a channel- centric go-to-market strategy targeting 90+%in channel programs by 14 % to $3.3 billion strategy, targeting 90+% indirect sales to drive reach and growth Copyright © 2010 Deloitte Development LLC. All rights reserved. * March 20010 Forrester survey of 93 North America based global high-tech products manufacturers
    • Emerging markets create opportunities and challenges with channel partners • Channel partners are the most effective way to serve the vast and fragmented nature of emerging markets • In most emerging countries direct coverage by vendors is limited to Tier 1 and• In most emerging countries, direct coverage by vendors is limited to Tier 1 and 2 cities • Vendors leverage channels in the consumer and SMB segments • SMB represents more than 75% of business in the BRIC countries• SMB represents more than 75% of business in the BRIC countries • However, emerging market indirect channels pose significant challenges with counterfeiting, limited sophistication, poor infrastructure, and regulatory matters • Also emerging market channels typically require OR expect significant “contra”• Also, emerging market channels typically require OR expect significant contra revenue investments (e.g., discounts, rebates, promotions, allowances) - Contra revenue can be as high as 50-75% in APJ - As much as 70-90% of contra revenue programs in emerging markets can be in higher risk “up front” investments Copyright © 2010 Deloitte Development LLC. All rights reserved.
    • Managing a price waterfall is key to capturing the expected profitsp p Price Setting Adjustments (On-Invoice and( Off-Invoice) Cost-to-Serve • Adjustment COGS j off universal list to get to Region, Channel or Segment price • Channel Adjustment • Geographic Adjustment • Segment Discount • Negotiated Discount • Competitive Adjustment • Returns • Special Freight & Handling rice eGrossPrice tPrice Margin ce p j • Volume Discount • Promotion Discounts • Sample Discounts • Freight & Handling • Rebates • Order Quantity/Small Order Surcharges • Commodity/Energy Surcharge • Services (technical, customer, billing reconciliation) • Cost of Consignment • Variable Production Cost • Logistics — Plant to ListPr Invoice Pocket Pocket Gross Amount Charged Price “put in your pocket” Profit “put in your pocket” Value of Product Sold NetPric Net Amount Charged • Cost of Terms • Cost of Payments Cost of Consignment • Co-op Marketing Expense • Loss/Damage Credit Inventory Cost Copyright © 2010 Deloitte Development LLC. All rights reserved. Charged Charged
    • Business models may increase risk • Common channel models - Direct - Local country wholly owned subsidiary- Local country wholly owned subsidiary - Indirect - Joint venture/partnerships • Once out of direct sales mode, risk increases significantly due to decrease in, g y transparency • Emerging area of concern: investments in local companies - Recent Bourke case and liability for investees - based on “should have known” • Understand the three legs to FCPA risk - Nature of the scheme - Funding the activity - Cover-up • Off book compensation structures more commonly used to help move benefit off-book E l Copyright © 2010 Deloitte Development LLC. All rights reserved. - Employee - Channel
    • Common risk elements — pricing • Major uplifts and discounts are typical in the tech industry - How to monitor and manage the discounts - “Mega” deals- Mega deals - High discounts leaves room for potentially unseen or unmonitored activities • Markup and extreme discounting (see below) • ‘Mega ‘dealsMega deals - High discounts leaving room for other activities • Product bundling - Removes visibility to margins and flow through discountingRemoves visibility to margins and flow through discounting • Cross subsidization of products - Decreases transparency • Subsidizing efforts of the distribution channel in various ways — see belowSubsidizing efforts of the distribution channel in various ways see below • Channel using large deal discounts to fund off-the-radar activity in lower margin countries and deals • System integrators and risk of end user relationship maintenance Copyright © 2010 Deloitte Development LLC. All rights reserved. System integrators and risk of end user relationship maintenance • Complex end user agreements and pricing - i.e. offshore training built into delivery pricing
    • Common risk elements — visibility • Product spectrum and bundling may decease visibility - Leasing - Sales- Sales - Consulting - Service - Financing • Agent compensation issues - Issue: transparency into use of agent commission and activities - What is normal — 5%, 10%, more? - Dealing with visibility and control over use of commission proceeds • Market development funds and related programs such as rebates etc. - Funding distributor efforts/thin margins P li i l d i- Political donations - Gifts - Payments Copyright © 2010 Deloitte Development LLC. All rights reserved.
    • Common risk elements — 3rd parties • Multiple touch points in the channel prior to end user - Lose control and visibility - Gray market I l i th “ l dd” ti f h d fi d b th t- Involving other “value add” parties, some of whom are defined by the customer - Lack of visibility into real end customer transactions • Size of distribution system Smaller channel partners are prone to bend the rules to get business- Smaller channel partners are prone to bend the rules to get business - Both large and small could be likely to be dependent on business in differing ways therefore may make “accommodations”, such as maintaining off-book funds • Language, culture and local subsidiary issues — does CHO really understand what is happening locally - Amount of real influence by CHO over visibility into the local distribution channel? • Differing appreciation for corporate governance - Lack of corporate governance understanding in many countries - Local culture overrides - Dependency on family members or relationships locally - Limited transparency — do what CHO wants Copyright © 2010 Deloitte Development LLC. All rights reserved. - Limited transparency — do what CHO wants - Distributor or partner ownership — unclear ownership in some countries
    • Common risk elements — relationships • Local on-the-ground sales employees are generally aware of what is happening in the local channel - Possible inappropriate payments indirectly sponsored by on-the-ground sales employeesPossible inappropriate payments indirectly sponsored by on the ground sales employees - Collusion by local sales people and channel to meet goals - Promises to cover losses in one area through unrelated transactions or programs • Marketingg - “Soft” rebate, support and promotion programs used to fund inappropriate activity Copyright © 2010 Deloitte Development LLC. All rights reserved.
    • Other risks • Tech/knowledge transfer/theft of IP - Information value is often traded as a benefit • Advertising/Marketing outsourcing• Advertising/Marketing outsourcing • Licensing - Speeding the process Obtaining exclusivity (temporary or otherwise)- Obtaining exclusivity (temporary or otherwise) • Product development, patents and registration - Fast tracking approvals - Getting local technical experts with relationshipsGetting local technical experts with relationships - Licensing approvals • Product imports and exports - Expediting through customs - Use of freight forwarders - Preferential duty assessments - OFAC/ITAR Copyright © 2010 Deloitte Development LLC. All rights reserved.
    • Channel reporting — common issues • Complexity in managing the relationships - Number of business partners can exceed 100,000 - Volume of transactions- Volume of transactions - Contractual and cultural differences • Accuracy, content and form of reporting/information sharing - Revenue recognitiong - Forecasting - Pricing, discounting - Programs — MDF, co-op and rebates, price protection and stock rotation - Warranty and service issues - Product Sourcing - Product allocation Synchronization of data transmissions reporting sell through- Synchronization of data transmissions — reporting sell through • Behavioral adherence to internal and external expectations - Codes of conduct of your entity - Gray market Copyright © 2010 Deloitte Development LLC. All rights reserved. Gray market • Old habits, new technology
    • Common causes • Transparency - Inconsistent and/or complex contract terms - Lack of visibility into Channel Partner operations- Lack of visibility into Channel Partner operations - Inadequate systems — either Company or Business Partner - Lack of confirmed mutual understanding • Fraud vs. error - Fraud - Side letters - Limited or inadequate training • Operating - Roles and responsibilities not well defined - Poor internal controls — systemic issues Cl i l i k- Clerical mistakes - Intentional actions/misreporting - Speed to deal (get the deal done) • Limited or no risk identification or monitoring processes re: Channel Partners Copyright © 2010 Deloitte Development LLC. All rights reserved. • Limited or no risk identification or monitoring processes re: Channel Partners
    • Reasons good companies get in trouble • Violations are difficult to trace/discover due to violators becoming more sophisticated in hiding their crimes: - Technology makes it easier to create genuine looking fake documentationTechnology makes it easier to create genuine looking fake documentation - Slicing-and-dicing transactions to confuse paper trail - Misclassify transactions or imbed them within apparently legitimate expenditures - Existing controls will not necessarily catch today’s schemes - Lack of paper trail due to the use of text messages, communications via phone rather than email, etc) - Failure to continually monitor processes and controls - Failure to understand how issues arise and map them to related processes and controlsFailure to understand how issues arise and map them to related processes and controls - Large costs – i.e.: FCPA violations do not require bribery— internal controls, bookkeeping or accounting procedures the SEC decides should have been taken can result in huge penalties, regardless of intent - Companies can innocently miss red flags- Companies can innocently miss red flags Copyright © 2010 Deloitte Development LLC. All rights reserved.
    • Channel schemes — frequent elements • 3rd parties are normally used; often multiple layers - Hidden 3rd party ownership - Silent partner- Silent partner - Shell companies - Joint ventures - Distributors, agents and lobbyists • Run through 2 countries to reduce governmental investigation risk • Muddy the financial trail by transaction slice and dice • Change nature of transaction as it moves through the payment chaing g p y • Transactions are misclassified or imbedded within apparently legitimate expenditures • Keeping poor records in subsidiary/partnerp g p y p • Lack of documentation around transaction Copyright © 2010 Deloitte Development LLC. All rights reserved.
    • Common vehicles • Extra remuneration into the channel • Credits • Returns• Returns • Discount rate • Replacing current deal with future deal at higher margin • Referral fees • Bonus and special commission rates • MDF related funds • Add-on services and subcontractors f• Managing the product flow • Bundling • Anti-competitive arrangements • End user misstatement• End user misstatement • Logistics agents • Making the numbers • Gray market Copyright © 2010 Deloitte Development LLC. All rights reserved. Gray market • EOQ sales • Channel stuffing/buy and hold and shadow inventory
    • What you will likely encounter • Access • No contract provisions for 3rd party access • They want lots of time to let you in• They want lots of time to let you in • They refuse to let you in • Data and information • They make the books and transactions palatable for reviewy p • Restrict access to data , people, facilities • Thin file syndrome • No background information available • Conduct • Space • Legal supervision on site B i d d• Being recorded • We are a victim complex • Too much business with client to take action – leverage • Legal Copyright © 2010 Deloitte Development LLC. All rights reserved. • Legal • Asking for NDAs re client disclosure
    • The business partner challenge • Issues dealing with business partners - How do I deal with my emerging market partners? - With whom am I really doing business?- With whom am I really doing business? - Could they potentially endanger my company brand or operations? - Can I make the interaction with my partners more effective and transparent? - How do I measure and focus my individual and regional business partner risk? • Reliance on a high volume of business partners • Increasing regulatory attention to business partner activity • Do I have enough insight into their operations to protect the Company?g g p p p y • Are traditional methods of entering into and maintaining a relationship effective, or even adequate in today’s environment? • Are my information needs and goals of various Company departments beingy g p y p g met? Copyright © 2010 Deloitte Development LLC. All rights reserved.
    • Addressing the challenge • Framework – a customizable cloud-hosted application based on a self disclosure and representation survey, directed at the Company's entire business partner communitypartner community • Gain access to global business partners’ detailed information in critical areas • Focused on Company’s areas of most significant concern • Detailed response risk ranking to provide surgical insight into potential high risk• Detailed response risk ranking to provide surgical insight into potential high risk business partners, as well as areas of operational improvement • Self representation/certification by partner CXO • Minimal resource allocation by the Company• Minimal resource allocation by the Company - Application and risk assessment fully managed by Deloitte - Free, or cash flow positive for the Company Copyright © 2010 Deloitte Development LLC. All rights reserved.
    • Benefits to Company • Enhanced, low effort and cost protection against “second guess” scrutiny - Enhanced risk assessment and mitigation vehicle - Addresses growing concern about potential brand and liability impact which may arise from business- Addresses growing concern about potential brand and liability impact which may arise from business partner activity - Demonstrates to regulatory bodies and Boards of Directors that an active risk management system is in place addressing the business partner community Targeted rationale for audit or oversight attention- Targeted rationale for audit or oversight attention • Useful outputs - Database of information available to Company in one place - Detailed risk assessment of business partnersDetailed risk assessment of business partners - Positive attestation by partner on information provided and compliance with Company policies • No interruption in managing the business – we make it easy for you - Nominal Company personnel and resource allocation requiredp y p q - Fully managed by Deloitte for the Company - Recommendations for potential actions or enhancing Company processes, controls or operations - Minimal or no cost to the Company Copyright © 2010 Deloitte Development LLC. All rights reserved.
    • Mitigating your partner selection risk • PEP/other sanction lists • Number of business partners Data sources Considerations /o e sa c o s s • Adverse media p • Common patterns between partners • Business partner activity Level 1 • Includes Level 1 research • Identify website/media profile • Business partner contact with government officials • Known or prior allegations Level 2 • Identify website/media profile • D&B or similar profiles • Corporate registry check • Identify shareholders and directors C dit h k • Jurisdictional risk (CPI score) • Industry risk • Country specific common • Credit check • Bankruptcy/civil litigation • Criminal record check (to extent available) Country specific common schemes • Local experience Level 3 • Includes Level 1 and 2 research • Discreet local source inquiries Copyright © 2010 Deloitte Development LLC. All rights reserved.
    • Questions? Copyright © 2010 Deloitte Development LLC. All rights reserved.