What Fintech can learn from Wirecard and Banking scandals
“Wirecard says €1.9bn of cash is missing”, Financial Times, 18th June 2020[1]
“Prosecutors suspect Wirecard was looted before collapse”, Financial Times, 7th August 2020[2]
Despite the recent collapse of Wirecard, I am optimistic that Fintech can reduce risks in the financial system and develop a reputation as an ethical industry. After over 15 years working in Investment Banking, last year I left my role to pursue a career in Fintech. I am proud of the projects I previously worked on and I also enjoyed working with many very smart and talented people. However, the scandals in Investment Banking over the past decade have damaged the reputation of organisations, harmed employee morale and undermined trust in the industry. I believe that these scandals occurred due to two key reasons: leverage and the complexity. The Fintech industry faces similar exposures to these risks and needs to take steps now to prevent financial scandals from occurring.
Leverage
Leverage in financial services is the investment strategy of using borrowed capital or financial products such as options in order to increase the rate of return on an investment. Banking is an industry where the decisions and actions of just a few people can lead large gains and also large losses. In 2012, traders at member banks who submitted rates to calculate Libor (the London Inter-bank Offered Rate), were discovered colluding to falsely inflate and deflate the official Libor rate to profit from positions they held. Libor is used to value a wide range of financial products such as derivatives, mortgages and student loans. Fixing these rates led to the incorrect valuation of countless financial products around the world. Since this scandal was discovered, billions of dollars of fines have been paid and the financial system’s reputation has been severely damaged.
Complexity
The complexity of many financial products and businesses is another cause of scandals. Often, highly trained and experienced financial professionals are unable to fully grasp many financial products and business models. Behind this complexity, insiders are able to act without proper scrutiny. Barings Bank collapsed in 1995 due to poor risk management and controls, where senior management did not understand the risks of the trading strategies taking place in Singapore. The manager of trading in Singapore, Nick Leeson, was also the manager of settlements (controlling the division’s cash payments and receivables) and he was able to hide his trading losses without being detected before his fraud and losses were discovered.
The 2007–2008 Global Financial Crisis was caused by a wide range of factors. At the centre of the crisis were highly complicated and leveraged financial products with risks which few people (both inside and outside of Investment Banks) properly understood. Participants in these markets overlooked (or did not comprehend) the risks. Their actions severely damaged their clients, their organisations, financial markets and society.
At Wirecard, the highly opaque and international business structure, made it difficult for regulators, auditors and the media (despite brave reporting from the ‘Financial Times’) to understand the business model of the company. Behind this complexity, a range of illegal actions took place, such as inflating reported earnings and cash flow, which led to the firm’s insolvency this year.
Values and Ethics
Due to the leverage and complexity of their products, markets and technology, Fintech firms are exposed to similar risks of scandals as banks. Fintech firms need to take steps to prevent financial scandals in the future.
Start-ups have an advantage over established companies because they can embed values and ethics from the outset. The values of a Fintech, whether a start-up or more established firm, are its unique set of beliefs and ideals, reflecting what is important to that particular firm. Ethics is a guideline of conduct that is common across firms and society. While values must be clear, actionable and relatable to day-to-day activities and provide a foundation for the culture and decision-making of a company, ethics set out a commitment to high standards. Both values and ethics must be implemented, monitored and governed to have a positive impact. Ethics need to focus on protecting the interests of stakeholders such as employees, customers and society and they need to be deeply imbedded in the culture of the company so that everyone is thinking, “is this right” rather than just “is this legal”.
Legal and regulatory guidance lags well behind the technical innovation and organisational practices in Fintech. Start-ups should establish Ethics and Governance committees with diverse views, perspectives and a range of both technical and non-technical backgrounds. These Committees need to focus on protecting the interests of stakeholders and their findings should be communicated across the firm. Setting up an Ethics and Governance Committee is a challenge for early-stage start-ups, but even a small committee can review outcomes and provide guidance.
How governments and consumers view the Fintech industry over the coming years will depend on the impact of its technology and the trust it can build in society. To achieve this, a body of case studies, standards, precedents and a shared knowledge base needs to be developed. Fintech firms need to collaborate and share their experiences with ethical issues and regulators and industry associations need to provide support to build an industry-wide ethics knowledge base.
The culture of companies is set from the top. Leaders need to be careful about the intention of their actions and also how their actions will be interpreted. They must highlight positive examples to reinforce the correct things people are doing in the firm and embed values and ethics in interviews and performance evaluations.
For anyone working in Fintech, high uncertainty, stressful workplaces, long working hours, temptations and rationalisations can lead to unethical behaviour. As per the article, ‘Building an Ethical Career’ (HBR), developing ‘if-then’ planning an help when difficult situations arise[3]. Contemplating decisions, keeping a perspective and reflecting on decisions can help to improve everyone’s decision-making process.
I am confident that the Fintech industry can positively impact lives and develop a reputation as an ethical industry. To create long-term sustainable value, there is no trade-off between acting ethically and successfully scaling Fintech start-ups. Let’s start by making values and ethics a priority and debate how Wirecard-like scandals can be prevented from happening.
[1] McCrum, D and Storbeck, O (2020), ‘Wirecard says €1.9bn of cash is missing’, Financial Times, 18th June 2020, Available at: https://www.ft.com/content/1e753e2b-f576-4f32-aa19-d240be26e773, (Accessed: August 2020)
[2] Storbeck et al. (2020), ‘Prosecutors suspect Wirecard was looted before collapse’, Financial Times, 7th August 2020, Available at: https://www.ft.com/content/c8acf321-7bc7-4348-99f6-b17e01085238 , (Accessed: August 2020)
[3] Kouchaki et al. (2020), ‘Building an Ethical Career’, Harvard Business Review’, January-February 2020, Available at: https://hbr.org/2020/01/building-an-ethical-career , (Accessed: August 2020)
