Corporate fraud in the Vietnam upcom stock market: a case study of the central mining, mineral exporting and importing company

FULBRIGHT ECONOMICS TEACHING PROGRAM ANH NGUYEN NHAT CORPORATE FRAUD IN THE VIETNAM UPCOM STOCK MARKET: A CASE STUDY OF THE CENTRAL MINING, MINERAL EXPORTING AND IMPORTING COMPANY MAST

FULBRIGHT ECONOMICS TEACHING PROGRAM

ANH NGUYEN NHAT

CORPORATE FRAUD IN THE VIETNAM UPCOM STOCK MARKET: A CASE STUDY OF THE CENTRAL MINING, MINERAL EXPORTING AND IMPORTING COMPANY

MASTER IN PUBLIC POLICY THESIS

HO CHI MINH CITY - 2017

FULBRIGHT ECONOMICS TEACHING PROGRAM

ANH NGUYEN NHAT

CORPORATE FRAUD IN THE VIETNAM UPCOM STOCK MARKET: A CASE STUDY OF THE CENTRAL MINING, MINERAL EXPORTING AND IMPORTING COMPANY

MASTER THESIS

Major: Public Policy

Code: 06340402

THESIS ADVISORS

Prof David O Dapice

Thanh Nguyen Xuan

Ho Chi Minh City, 2017

CERTIFICATE OF ORIGINALITY

I hereby declare that the thesis entitled: "Corporate fraud in the Vietnam Upcom

stock market: A case study of the Central Mining, Mineral Exporting and Importing Company" is my own original work carried out as a Master's student at Fulbright

Economics Teaching Program (FETP) except to the extend that assistance from others in the thesis design and conception or in style, presentation and linguistic expression are duly acknowledged

All sources used for the thesis have been fully and properly cited It contains no material which to a substantial extent has been accepted for the award of any other degree

at FETP or any other educational institution in any language fully or partly except where due acknowledgement is made in the thesis

The thesis does not reflect the views of the University of Economics Ho Chi Minh City or FETP

Hanoi, 08/09/2017

Author

Nguyen Nhat Anh

ACKNOWLEDGEMENT

Studying in FETP seems to be the hardest way to get Master degree, however it is the fastest way that you can learn every things about how our society is going on I am not able to complete the coursework as well as the thesis without elegant supports by FETP staff, my classmates and family

I would first like to thank my thesis advisor Mr Thanh Nguyen Xuan of the Fulbright School of Public Policy and Management at Fulbright University Vietnam He consistently allowed this thesis is my own work and steered me in the right direction when

I lost my way Without his adjustments, I do not think that I can have my own perfect theoretical framework to solve a case study

I would also like to thank experts in the Committee of my thesis defense: Dr Khai Dinh Cong as Chairman, Dr Giang Tran Thi Que and Dr Du Huynh The as the second readers of my thesis, and I am deeply indebted to your valuable comments and corrections

on my thesis I very much want to thanks again Dr Du who is my second tutor in the finalize stage of my thesis His suggestion about the second framework is a brilliant idea to wake me up to see what happened in the real life

I do not know how to thank MPP7 members enough for your physical and mental backup Many challenges and accomplishments would not have been possible without our teamwork I also have a big thank to Mr An Bui Quoc in particular, who sat next to me in the 1st year and provide tremendous assistance to me in the finalize stage

Finally, I owe my wife a great debt of gratitude for unfailing support and continuous encouragement throughout my years of studying and researching

Hanoi, 08/09/2017

Author

Anh Nguyen Nhat

ABSTRACT

The Central Mining, Mineral Exporting and Importing Company (MTM) is the typical case that illustrates clearly the situation of agency cost and fraudulent behaviors in the Vietnam Upcom stock market The first part reveals the weaknesses of regulation and current policies in Vietnam by using the principal-principal agency perspective of Young (2008) particularly with regard to the mechanisms of stock scanning, no controlling the changes of regulated capital, the undemanding capital contribution and no legal responsibilities of former majority shareholders The second part of thesis uses the modified fraud of triangle of Soltani (2014) as a theoretical framework with several adjustments to adapt the current circumstance of MTM The case of MTM shows a number

of fraudulent behaviors by controlling shareholders including: (1) The reconstruction of human resource before listing; (2) Having no major shareholder - holding more than 5% of the chartered capital - but the power is concentrated; (3) Using the brand and pictures makes confusion with another company; (4) Increasing the regulated capital in the short term; (5) No core business or production, mainly the joint venture or capital contribution; (6) The external audit accepted despite of the fact that financial statements have the problems; (7) The business situation is not good but the price and volume of stock trading

is still high; (8) Tax obligation and social insurance are not completed In conclusion, the thesis strongly recommends the policies to reduce the likelihood of expropriation of minority shareholders due to the principal-principal agency conflicts and these fraudulent behaviors

Keywords: corporate fraud, fraud triangle, MTM, principal-principal agency conflicts

LIST OF ABBREVIATIONS

MTM The Central Mining, mineral Exporting and Importing Joint

Stock Company

SFP Statement of Financial Position

SSC State Securities Commission of Vietnam

Upcom Unlisted Public company market

TABLE OF CONTENT

CERTIFICATE OF ORIGINALITY i

ACKNOWLEDGEMENT ii

ABSTRACT iii

LIST OF ABBREVIATIONS iv

LIST OF FIGURES viii

LIST OF APPENDICES viii

LIST OF TABLES ix

Chapter 1 Introduction 1

1.1 Background 1

1.2 Thesis motivation and contribution 3

1.3 Research questions 4

1.4 Research Methodology 4

1.5 The structure of thesis 5

Chapter 2 Theoretical frameworks 6

2.1 The Principal-Principal Agency Perspective 6

2.2 Fraud triangle 8

2.2.1 Incentives/pressures 9

2.2.2 Fraudulent Opportunity 10

2.2.3 Attitudes/Rationalization 10

2.2.4 Transformation of Fraud triangles 10

Chapter 3 The weaknesses of regulations in Upcom market 13

3.1 Overview of regulatory framework in the Vietnam stock markets 13

3.2 No scanning fraudulent companies in the Upcom market 15

3.2.1 The easy and quick process to be listed 16

3.2.2 Audit companies are not the market guardians 17

3.2.3 Ranking is not enough 17

3.3 The increase of the registered capital without controlling 19

3.4 The undemanding capital contribution 20

3.4.1 The capital contribution through investment 20

3.4.2 The capital contribution though invoices 21

3.5 The legal responsibilities of former majority shareholders 21

Chapter 4 The fraudulent behaviors that led to the collapse of MTM 23

4.1 Overview of MTM 23

4.1.1 Stealing the brand name of unlisted company 23

4.1.2 No tax payment 25

4.1.3 A ghost company and its address 25

4.1.4 Be a public company 26

4.2 Fraudulent opportunities 28

4.2.1 The capital contributions 29

4.2.2 Fake invoices and manipulating the financial statements 30

4.3 Incentives 34

4.3.1 The high profit in the harsh economic 35

4.3.2 Selling the stock of the valueless company 36

4.3.3 The collusion of the former BoD 37

4.4 Ethical problems 40

4.5 The fraudulent behaviors in the case of MTM: 42

Chapter 5 Conclusion, policy recommendation, limitation 43

5.1 Conclusion 43

5.2 Policy recommendations 43

5.3 Limitations 44

References 45Appendix 1 Market capitalization of the Upcom market since 2013 to 1st quarter 2017

47Appendix 2 The trading detail of MTM stock 47Appendix 3 The detail of Market Capitalization and trading value on the Upcom

Appendix 4 The reform of Vietnam in Business report over time 49Appendix 5 The highlighted fraudulent cases in the Vietnam stock market 49Appendix 6 The business license of MTM 52

LIST OF FIGURES

Figure 1 Market capitalization of the Upcom market since 2013 to 2rd quarter 2017 2

Figure 2.Trading value and volume of the Upcom market annually 2

Figure 3 Principal-agent conflicts versus Principal-principal conflicts (Young, Peng, Ahlstrom, Bruton, & Jiang, 2008) 8

Figure 4 Classification of incentives for fraud-committing 9

Figure 5 Fraud Triangle 11

Figure 6 Modified Fraud Triangle 11

Figure 7 The components of ethical problems 11

Figure 8 The modified fraud triangle with several adjustments 11

Figure 9 Legal Matrix System 14

Figure 10 The timeline of the MTM collapse 27

Figure 11 The continuous process of selling and issuing stocks of FID and MTM 34

Figure 12 Trading price and volume of MTM stock since 15/4 to 20/6/2016 37

LIST OF APPENDICES Appendix 1 Market capitalization of the Upcom market since 2013 to 1st quarter 2017 47 Appendix 2 The trading detail of MTM stock 47

Appendix 3 The detail of Market Capitalization and trading value on the Upcom market 48 Appendix 4 The reform of Vietnam in Business report over time 49

Appendix 5 The highlighted fraudulent cases in the Vietnam stock market 49

Appendix 6 The business license of MTM 52

LIST OF TABLES

Table 1.Comparison of traditional principal-agent model and principal-principal model 7

Table 2 The strength of minority investor protections in Vienam and some countries in 2017 13

Table 3.The market capitalization and the value matching monthly in Upcom 18

Table 4 The document of changing the regulated capital 19

Table 5 Some highlighted contents in Decree 71/2017/Dec-Gov 22

Table 6 The information of tax payer - MTM 25

Table 7 The submitting document of MTM to HNX to list 27

Table 8 The increase of regulated capital 29

Table 9 The fake invoices of MTM 31

Table 10 The first part of the note of the financial statement 32

Table 11 The short-term receivables in 2014 audited financial statement 33

Table 12 The capital construction in process 33

Table 13 The warning list in the Announcement of HNX 35

Table 14 The list of MTM members 37

Table 15 The money transactions to another companies/bank of the former MTM BoD 38

Table 16 The structure of the shareholders in MTM 41

Table 17 The characteristics of new leaders of MTM 41

Table 18 The fraudulent behaviors in the case of MTM 42

Chapter 1 Introduction

1.1 Background

The collapse of the Central Mining, Mineral Exporting and Importing Company (MTM) raised the concern of corporate deviances in Vietnam Known as the frontier market, minority investors have suffered from series of frauds, scams, fraudulent financial statements and failure of the external audits Although the number of scandals in the stock market is still small compared the huge number of listed companies (see Appendix 5), but

it should be considered the warning signal for the financial consequences that has direct impact on the economic progress and dampen a confidence of investors According to Giannertti and Wang, if the corporate frauds are revealed in a state, the household decreases the holdings in both the fraudulent and non-fraudulent firms (Giannetti & Wang, 2016) It means that investors intend to reduce their saving on stocks of both good and bad companies as a way to have negative impacts to the capital market In case of MTM, hundred billions VND were gone with the scammers while thousands of investors had to rebuild this valueless company1 with the hope that the regulatory bodies can bring their valuable investment back

Upcom market, the abbreviations of a stock exchange that "is the stock market of public unlisted or delisted companies" (Ministry of Finance, 01/2015) The Upcom Market was permitted by HNX to operate officially on 24/06/2006 with 10 registered firms and the market capitalization was 1231.4 billion VND2 As shown in figure 1 below, the market capitalization has increased dramatically around 400 times with 600 registered firms (at 31/07/2017) With the high volume and value in trading (Figure 2), Upcom has become an active market for investors The Upcom stock used to attract the money flows such as WSB, GEX, etc HNX has increased the transparency, attracted the capital flows, extended the trading time up to 03:00 pm and to ease the reference price up to ±15% To reduce the gap between the free and listed markets, HNX has operated the Upcom premium ranking3

to direct the investors

Figure 1 Market capitalization of the Upcom

market since 2013 to 2 rd quarter 2017

Source: Upcom data on website

Figure 2.Trading value and volume of the Upcom market annually

Trading Volume -

5,000,000,000 10,000,000,000 15,000,000,000 20,000,000,000 25,000,000,000 30,000,000,000 35,000,000,000

2013 2014

2015 20162017

Trading Volume Trading Value

Apart from the active efforts to protect the minority investors, the stock market still has a series of firms that register to trade with the purpose of appropriating the property of the dispersed investors The most typical case is in the beginning of July - 2016, Phuong Chu Danh filed a lawsuit against HNX because HNX made the damage to the investors who bought the share of MTM In detail, HNX issued Decision 201/QD-HNX4 based on the inadequate documents It is an opportunity for the top of MTM and founding shareholders to appropriate 70 billion VND5 of the investors With the evidences of fraud,

on 19/09/2016, Bureau of Security and Investigation (A92) initiated the indictment and temporarily detained Tiep Tran Huu, the current Chairman of MTM The fraudulent process of MTM prolonged since its establishment, becoming a public company, trading

on Upcom and suspension of trading Each ladder is not in compliance with the law and regulation After the suspension, the minority investors are the most vulnerable parties while the entire investment would not be recovered

In the process of reclaiming the amount of investment, the shareholder, Phuong Chu Danh, joined the MTM as the role of the Chief accountant He has attempted to organize the extraordinary shareholder meeting to find out a remedial solution Simultaneously, he has cooperated with the police offices and regulatory bodies to provide evidences of fraud activities Even he had been threatened with death by the anonymous people who claimed

4

to allow MTM to trade in the Upcom stock market

5 The estimation of author

themselves as the representatives of A92, HNX and another mining companies6 Thus, the case of MTM is the pioneer which the minority investors sued and took a part in the company instead of being disadvantaged so far Additionally, this case scandalized due to the prolonged fraudulent process and massive damage to related parties The lax management of HNX leaves the doors open for fraudulent behaviors and raises the confusion in the investing communities With all points above, the thesis is going to analyze the case of MTM in order to recommend a policy to strengthen the weaknesses of regulation in Upcom market as well as avoiding the fraudulent firms.

1.2 Thesis motivation and contribution

The thesis explores the case of corporate fraud by using the principal-principal agency perspective and fraud triangle with the broader context The first motivation of research is to describe the weaknesses of regulation in the Upcom market and fraudulent behaviors that caused the MTM collapse Although the research only focuses on one fraudulent company but the analysis is set up in the legal environment of the frontier financial market Corporate fraud is a topic that mentioned in the larger number of published paper and professional journals However, most of cases happened in the United States and Europe and a small number of cases happened in China and other countries In Vietnam, the research could not find any case related to corporate fraud, to my best knowledge A single featured case with the broader framework, the anatomy of MTM reveals the weaknesses and fraudulent behaviors of a collapse in the Vietnam Upcom stock market

Contribution of the thesis is to understand the fraudulent behaviors and weaknesses

of regulation that led to the collapse of MTM in the context of Vietnam Upcom stock market With broader view, these evidences will have practical implications for regulatory bodies and policy makers to reduce the likelihood of expropriation of dispersed minority shareholders due to agency cost and fraudulent firms

6 The petition of Phuong Chu Danh was sent to A92 and A84

1.3 Research questions

Because the prosecution against the former BoD members and CEO of MTM is in process, the thesis is not able to declare that MTM is the case of fraud without the conclusion of regulatory agencies Therefore, the lesser extent focuses on current evidences to identify the fraudulent behaviors and the weaknesses of regulation The thesis will attempt to answer the following research question:

(1) What were the weaknesses in the Upcom stock market regulation that led to the collapse of MTM?

(2) What were the fraudulent behaviors of controlling shareholders in the collapse of MTM?

1.4 Research Methodology

The thesis will apply the case-study methodology and the single-case design with multiple units of analysis to describe and analyze the MTM company The case study is

defined as "explore and investigate contemporary real-life phenomenon through the detail

contextual analysis of a limited number of events or conditions, and their relationships" (Zainal, 2007) MTM is considered the phenomenon in the Upcom market due to the active

role of minority shareholders and show the groups of fraudulent behaviors Instead of waiting for the response from the regulatory bodies after submitting their petitions, the group of investors take part in the BoD to provide the evidences and to reborn the MTM

The case study is selected due to the advantages of data collecting and analysis MTM is rewritten based on the stories, the history of company collected in the annual financial statements, the official documents, research and press information As the author

Yin mentioned that "when the boundaries between phenomenon and context are not

clearly evident; and in which multiple sources of evidence are used" (Yin, 2013) All

fraudulent behaviors had done due to a weakness of regulation or a mechanism of investor protection These interactions of MTM and the legal environment were strong and complicated As the result, the case study seems to be the most suitable method in this circumstance

1.5 The structure of thesis

The thesis consists of five chapters After the introduction in the first chapter, the second chapter describes two theoretical frameworks The third chapter presents the weaknesses of regulation in the Upcom market The fourth chapter intends to describe the fraudulent behaviors that caused the collapse of MTM The final chapter concludes all points above and suggests policy recommendations

Chapter 2 Theoretical frameworks

To analyze the case study of fraudulent behaviors in the Upcom stock market, the thesis uses frameworks including the principal-principal agent perspective and Fraud triangle The principal-principal agent theory applies to show the relations between majority and minority shareholders in the Upcom market as well as the case of MTM

In emerging economies, the controlling shareholders thus have the motive and means to exploit their positions Therefore, fraud triangle is a framework that uses to analyze the case of MTM and determine the fraudulent behaviors that dominate the regulatory weaknesses

2.1 The Principal-Principal Agency Perspective

The separation of ownership and control in joint stock companies had mentioned by Adam Smith since 1776 He had raised concerns about related organizational and public policy consequences (Smith, 1827) After 150 years later, Berle and Means had conceptualized the concern of Adam Smith in terms of a theory of governance in the modern corporation in the United States that have dispersed ownership and separation of ownership and control (Adolf A Berle & Means, 1932) As the result, the divergence of interests led to the phenomenon that often called "agency cost" by Jensen and Meckling (Jensen & Meckling, 1976) Although principal-agent relations have been published widely

in a developed economy context, and agency theory becomes one of the most influential perspectives that explained the relationship in modern joint stock company and corporate governance (Awasthi, 2017), but in the emerging context, a different kind of interest conflict between majority shareholders (control) and minority shareholders, known as principal-principal relations, has not been covered However, it was the groundbreaking work of Young et al (2008), providing a first major conceptual view of principal-principal research in emerging and transitional economies (Young et al., 2008)

Both of agency models show the relations that involve the principal, the agent, and the contractual relationship between them The huge differences between them are institutional and national contexts The traditional model, known as the principal-agent model, is applicable in the developed countries where have the powerful enforcement of property rights In contrast, the emerging-market institutional contexts have concentrated

ownership, weak enforcement of agency contracts and legal protection of minority shareholders, full of business group structures As the result, there are more frequently conflicts of interests between controlling shareholders and minority shareholders The additional differences are shown the Table 1 and Figure 3 below

Table 1.Comparison of traditional principal-agent model and principal-principal model

Corporate

governance

Principal-agent agency

model

Principal-principal agency model

Agency cost Due to divergence of

interests between shareholders (principal) and managers(agent)

Due to possibility of expropriation of minority shareholders by the controlling shareholder group

Institutional

context

Majorly developed countries Majorly emerging/transition economies

Assumptions Bounded rationality,

opportunism and interest, maximizing agents

self-Controlling shareholders maximizing wealth even at the cost of minority shareholders, managers follow majority owners' objectives

Reasons for

conflict

Opportunism and interest behavior by managers in dispersed ownership

self-Expropriation of minority shareholders

by large shareholders and their appointed managers due to weak minority shareholder protection

Hardly visible, no too strong State-owned enterprises, family

ownership, pyramid ownership Role of boards Monitor agents Negligible, facilitating majority

shareholder's interest Forms of

expropriation

Managerial entrenchment, empire building, private benefit to managers

Below market value asset transfers to controlling owner, personal/private benefits of large controlling shareholders Liquid of stock Usually high Generally low

Source: Taking Stock of the Principal–Principal Agency Perspective: A Review and the Way Ahead (p 21)

As shown in Figure 3, the dashed arrow depicts the relationships between the controlling shareholders and their affiliated managers The solid arrow is drawn the conflicts of the minority shareholders and the affiliated managers, who are representing the majority shareholders

In the case of MTM, the thesis goes through the lens of principal- principal agency model of Young (2008) showed the relationships that facilitate fraudulent behaviors in the frontier market like the stock market in Vietnam To examine the agency cost, the thesis use the conceptualization of Jensen and Meckling (Jensen & Meckling, 1976): (1) monitoring costs – costs incurred by principals including measuring or observing the behaviour of agents; and (2) bonding costs – costs incurred by agents to guarantee they will not take actions to harm the principal

2.2 Fraud triangle

The corporate scandals are so diverse that many different methods and levels mentioned in the literature Even the small acts of employee as thieve, improper uses of

Professional managers (Agents)

Figure 3 Principal-agent conflicts versus Principal-principal conflicts (Young, Peng, Ahlstrom,

Bruton, & Jiang, 2008)

company assets to the fraudulent behaviors of directors, BoD member such as misappropriating funds and fraudulent financial statement, are affecting directly the interests of investors All fraudulent behaviors are discussed extensively in the literature but the major of analyses used the fraud triangle of SAS No 997 (AICPA, 2002): "Fraud is

an intentional act that results in a material misstatement in financial statements that are the subject of an audit"

The fraud triangle involves three conditions which are enable to be fraud in company: (1) Incentives/pressures, (2) Opportunities, (3) Attitudes/Rationalizations (Wilks

& Zimbelman, 2004) These components are defined by Sutherland (Sutherland & Geis, 1949) and developed by Cressey (Cressey, 1953) and Albrecht et al (Albrecht, Albrecht, Albrecht, & Zimbelman, 2011) while applied this framework to the fraud accounting, then reinforced three components by assessing 1500 fraud cases, as shown in figure 4 below

2.2.1 Incentives/pressures

Despite many practical approaches toward the components of Fraud triangle by different researchers, three fundamental components seem to be unchanged for 70 years Cressey suggested that pressure to commit fraud could be identified with a personal incentive As shown in Figure 3 below, these pressures are caused by personal problems like a pressure from employers or external forces such as fear of loose job, low wage In addition, all these variables are considered as the incentives to commit fraud

Personal (e.g, debts)

External (e.g, fierce business competition, economic stability of the country)

Personal (e.g, inner dissatisfaction with work, greed)

Company’s (e.g, fear of loose job, low wage)

Figure 4 Classification of incentives for fraud-committing

Source: (Mackevičius & Giriūnas, 2013)

These pressures have formulated before the fraudulent plan Hence, it is very difficult to identify the pressures without doing an in-depth interview with the former BoD members and CEO of MTM However, their missing is the biggest challenge to reveal these pressures In addition, the purpose of thesis evaluates the fraudulent aspects rather than personal problems Therefore, the pressure should be out the extent of discussion

2.2.2 Fraudulent Opportunity

The comparative lack of the suitable management, control and administration into

the stock market could create a chance for a scammer Dormine et al said: "the triangle

alone is an adequate tool for deterring, preventing, and detecting fraud because two of the characteristics of pressure and rationalization-cannot be observed" and "All the predator seeks is an opportunity The predator requires no pressure and needs no rationalization"

(Dorminey, Fleming, Kranacher, & Riley, 2010) Any shortage of control, inefficient management and overlapping is creating opportunities for fraud Or lacking of efficient control for the tone of top in this company would produce the vulnerability (Soltani, 2014)

In the case of MTM, it is too many gaps for the plunders to fraud

2.2.3 Attitudes/Rationalization

Some individuals have attitudes/rationalization, characteristics or unethical values

so that they can rationalize their frauds to be acceptable norms The bigger incentives or pressures, the more possibility these people rationalize their fraud or scam Cressey

suggested that "Perepetrator must formulate some type of morally acceptable

rationalization that the unethical behaviors is something other than criminal activity If an individual cannot justify unethical actions, it is unlikely that he or she engage in fraud"

Therefore, unethical behaviors are a top of an iceberg that the thesis can observe as well as collecting information It is very difficult, even impossible to read the perpetrator's mind (Mansor, 2015) As a result, the thesis should focus on the ethical problems of MTM and the parts that related to attitudes/rationalization require an independent research (Figure 7)

2.2.4 Transformation of Fraud triangles

Many researches adjusted the fraud triangle framework because of disadvantages

in analyzing a fraud company, especially the research of Soltani (Soltani, 2014), he said that this framework has several critical gaps: Firstly, the framework should be placed in the control environment Secondly, all listed companies tightly control by government and

regulatory agencies In this way, it is essential to put the framework in the context of regulation Thirdly, the framework should be examined in the ethical climate/business ethics Therefore, the environmental factors in this triangle are regulatory framework, control environment and ethical climate/business ethics, as shown in Figure 5 below

According to the modified fraud triangle of Soltani, a control environment and is considered as the tone at the top However, the fraud firm like MTM is a small company with the small number of staff The tone at the top is suitable to analyze the big companies like Enron, Worldcom, HealthSouth, etc In addition, the thesis does not expand our analysis to the ethical climate/ business ethics because the period of MTM that is trading in

Source: author's construction

the Upcom market is just two months In addition, the initial purposes of MTM is try to fraud the minority investors, so that the impacts of the ethical climate/ business ethics to MTM is trivial As a result, this thesis mainly focuses on the regulatory framework The interaction of MTM with regulatory bodies and another partners are the extent of the environment parts For a comprehensive analysis, the thesis will use the modified fraud triangle with these adjustments, as shown in Figure 8 above

The strength of each component would reinforce the others People who have more the number of ethical problems would have greater incentives when they saw the opportunities to fraud Or Howe and Malgwi agreed that a bridge between incentives and opportunity is created when an individual is able to rationalize the fraudulent behavior (Howe & Malgwi, 2006)

Chapter 3 The weaknesses of regulations in Upcom market

3.1 Overview of regulatory framework in the Vietnam stock markets

The stock market of Vietnam ranked in the lowest group as the frontier market8 The sustainability of institutional framework is modest These weaknesses are the chances for the firm to fraud the minority investors in Vietnam The stock market is operating as the market mechanism under the control of the regulatory bodies If not work efficiently, the market failures should be detected and intervened by public policies

Law foster economic activities (exclusively) by protecting property rights (a rule of law) (Milhaupt & Pistor, 2008) "Properties are protected by law" that is the precondition

to develope the economic The simple equation could interpret the relationship between law and economic development by two authors Milhaupt and Pistor In the stock market, the following equation shows the future work for policy markers to strengthen investor protection as well as developing the share market as the main funding channel (Nguyen, Oates, & Dunkley, 2014)

The first content is how to build a good law The legal system of the stock market in Vietnam is strengthened to adapt the new challenge of the economic development Especially, the strength of minority shareholder investor protection index of Vietnam has improved over time The rank in 2016 was 118th and then moved to 87th in 2017 (see details in Appendix 4)

Table 2 The strength of minority investor protections in Vienam and some countries in 2017

Hong

Strength of minority investor protection index 4.5 5.3 5.2 6.5 6.3 8.0 8.3

Extend of conflict of interest regulation (0-10) 3.7 4.3 5.6 6.3 8.3 9.0 9.3

Extend of shareholder governance (0-10) 5.3 6.3 4.8 6.6 4.3 7.0 7.3

Source: http://www.doingbusiness.org/Reforms/Overview/Topic/protecting-minority-investors#vietnam accessed on 25/03/2017

8 ec3886ab8cc8 accessed on 23/03/2017

https://www.msci.com/documents/1296102/1330218/MSCI_Market_Classification_Framework.pdf/d93e536f-cee1-4e12-9b69-good law + https://www.msci.com/documents/1296102/1330218/MSCI_Market_Classification_Framework.pdf/d93e536f-cee1-4e12-9b69-good enforcement = https://www.msci.com/documents/1296102/1330218/MSCI_Market_Classification_Framework.pdf/d93e536f-cee1-4e12-9b69-good economic outcomes

Despite the fact that system is improved with the changing of market, series of scandals happened to the outside investors before MTM The stories of DVD9, BBT10, KSS rise the warning of how good law we have Two major concerns about the system that are a civil law and a centralized and signaling legal system

One of disadvantage for investors in Vietnam is a civil law, especially a French civil law The extent of protection in the common law market is greater than the civil one With the better law equipment, their rights are protected from the dominant groups or majority shareholders and they comfortably to diversify their portfolios (La Porta, Lopez-de-Silanes, Shleifer, & Vishny, 2001) As shown in Table 2, Hong Kong and Singapore are leading the world in the indicator of minority shareholder protections Two countries have common law systems instead of a civil law

The protective and decentralized system gives the individual investors (and their lawyers) more weapon rather government agencies to against the fraud firms (Figure 12) However, in the context of Vietnam, the system considers as the centralized and signaling11 With these characteristics, the minority shareholders are less protective and passive The case of MTM reinforces the point that the shareholder protection in Vietnam just stops at the signaling level

Source: Milhaupt and Pistor, 2008

Suspecting the operation of MTM, the group of investors comes to the head office of MTM With the address on the 2016 prospectus, all of them are shocked because there is the cheap restaurant instead of the mining company The news is spread widely and HNX know they had a big mistake They rush to do the quick investigation and recognize that it

9 Vien Dong Pharmacy JSC

10 Snow white Cotton JSC

11 Signaling is a middle point in the horizontal scale (from coordinative to protective) (Figure 12)

is the ghost company HNX quickly enacts the decision to stop trading for the MTM stock The reason briefly is to protect the investors and wait the results of the police investigation The signal that HNX send to investors is that investors are protected, but how can they protect This is very complicated and no answers yet

Without the protection from law, investors can rely on the liquidity by a stock market Liquidity is a natural exit for disappointed investors However, HNX closes this door for all MTM investors with the band "For your protection" The former leaders of MTM take advantage of this situation and approach all MTM investors by private talks, financial forums, phone calls to buy MTM at around 100 dong per share Happy ending for both sides, investors take money back and the scammers have enough stock to do the shareholder meeting and announce the bankruptcy

Like the argument of Sheifer & Vishny, dispersed shareholders rely heavily on legal of protection because they lack of other means of ensuring a return on their investment (Shleifer & Vishny, 1997) On the same point of view, Berle & Means stated that the separation of ownership and control required legal interventions to ensure that shareholders are not misled or abused by distant managers (Adolf Augustus Berle & Means, 1991) Law is the most important part for minority investors to have safe investment In the absence of significant reforms of the Italian private enforcement system, corporate governance abuses and the potential for accounting scandals may still be persistent (Sorensen & Miller, 2017)

The current regulatory system shows several weaknesses As the result, public policies can intervene in some contents to reduce the principal-principal conflicts The most important point here is to explore the weaknesses of the current regulation Although the policies in the area has implemented more than before, however in the Upcom market, these conflicts still exist If the regulatory bodies enhance public governance, firms are less likely to commit fraud (Zhang, 2016)

3.2 No scanning fraudulent companies in the Upcom market

The dominance of majority shareholders is one of the disadvantages for minority shareholders in the Upcom market Because of the asymmetric information, the controlling shareholders are able to fraud all investments of other investors by colluding with authority agencies, audit companies, especially the immature regulation The weaknesses of the

regulation increase the agency cost of the principal-principal agency relations as well as increasing the possibility of fraudulent behaviors Although HNX announced polices including ranking the stocks, the list of the approved audit companies, but the fraudulent companies overcome these barriers by selling all their shares in the short period, under a year They do not have to produce an audited report anymore or be ranked in the warning list of HNX

3.2.1 The easy and quick process to be listed

Upcom is known as the transaction of OTC and the listed market As the result, the procedure to be listed in this market is simple, quick According to the Circular 180/2015/MoF below, all documents had been prepared by this company The unique external agency that rechecks all information in these documents is the external audit company The authenticity of these documents is depended mainly on a firm's self-awareness

Circular 180/2015/MoF:

Article 4 The procedure and document for trading registration:

1 For the Public Company which has the stock registration at the Vietnam VSD:

1.1 The document for stock trading including:

a) The registration form to stock trading in the form prescribed in the 1st Appendix attached

If this company colludes with the audit company to cook the financial statements, they can list their stocks and sell to minority investors in the Upcom market easily

3.2.2 Audit companies are not the market guardians

Nowadays, finalizing the procedure to be listed in Upcom stock market is quickly simple and mainly based on the conscious sense of firm Only the financial statements of the last year are audited by the external party The remaining of the Upcom-listing procedure is the responsibility of firm without the checking or controlling of the external agencies In addition, the price for the first trading day is the suggestion by the firm Therefore, the audited financial statement, especially the real capital contribution is the prime gatekeepers to prevent the fraud company to be listed

However, if the audit company and the firm have the collusion, this technical barrier is easily fallen Annually, SSC regularly reviews and provides the approved audit company In addition, each audit company has many branches so the quality and ethical climate are inconsistent Some arguments stated that the low-quality audit companies that collude with the firms are the small number However, one scabbed sheep is enough to spoil the whole flock There is no report that investigates the fraudulent financial statement yet The detection and dealing with the violation is the small number of cases In China, the report of National Audit Office has investigated 32 financial statements audited by 16 different audit companies in 2001 The result shows that 14 audit companies with 23 financial statements have the serious inconsistent opinion and the total amount of fabricated figures up to RMB 7.1 billion But there is the tip of the iceberg (Bai, Yen, & Yang, 2008)

To sum up, the policies to control the quality and the collusive behaviors between the audit companies and firms in Vietnam are missing Instead of considering the approves

by the audit companies as the gold standard, the regulatory bodies need more aggressive policies to punish the law violations, recovery the damages for the investors, etc

3.2.3 Ranking is not enough

According to the Decision No 282 at 09/05/2016 of HNX, the Upcom Premium ranking and the investor alert are officially valid on 24/06/2016 Companies which qualify the financial criteria and comply with the regulation of the corporate disclosure would be selected to the Upcom premium list In the other hand, companies would be considered to rank in the warning list by HNX if they violate the Article 9, point 3 of the Decision No

78/Decision-HNX12 With the size of 577 registered firmed13, the stock ranking system based on the financial indicators and the information disclosure would contribute significantly to enhance the transparency and the property right of the investors

The benefits of the ranking seem to be perfect in theory After 6-month implementation, this system does not increase the liquidity in spite of the fact that the Upcom capitalization is over HNX up to 12/2016 Even the stock which are on the Premium list are allowed to margin but the liquidity stays lower than the expectations That

is the risk avoidance of the investors to the Upcom market

Table 3.The market capitalization and the value matching monthly in Upcom

0 500,000,000 1,000,000,000 1,500,000,000 2,000,000,000 2,500,000,000 3,000,000,000

0 100,000,000,000

Source: data of HNX and author's construction

The imbalance of the stock supply and demand on the Upcom market is showed in the market capitalization and the trading value (Table 15) Although the market capitalization has increased steadily but the trading volume has decreased continuously and just rose in the end-year months If the liquidity cannot be improved, the encouragement for the public companies looks like filling the name rather than to achieving the target of the stock market development and being the stepping stone for listing on HNX or HOSE

12 Article 9 To stop trading for the registered firm

1 HNX should consider to stop trading the register stock if one of below scenarios happen:

a) The volatility of price and volume are unusal

b) The serious violation of regulation in the information disclosure

c) Performing the split, be splited and merge of share

d) In case of protecting the rights of investors with the approve of SSC

13 On 10/07/2017

Another consequence of the ranking policy that effects seriously to the minority investor is the price making and creating the false liquidity Taking advantage of the immature disclosure enforcement, controlling shareholders makes collusion with the BoD and broker to make the price of stock to fraud the investors, especially in the marginable stock The more resource supporting for BB, the loss the investors would get Detecting and penalizing is the complicated and time-consuming process while the property rights of investor are dampened

3.3 The increase of the registered capital without controlling

To increase the amount of fraudulent money, the number of trading stocks would issue as much as possible Therefore, fraudulent firms have to expand their regulated capitals The process in the rise of the regulated capital had been split into few sections to avoid the regulatory agencies and minority investors The rise of the regulated capital often stops when the size of capital is big enough to afford the attractive projects in the financial statements According to Enterprise Law in 2014, Decree 78/2015/Gov, the lone administrative processes are the documents related to the business license, as shown in Table 4 below

Table 4 The document of changing the regulated capital

1 Announcement about the adjusted content in the business license x

2 The meeting report of changing the regulated capital

3 The Decision of changing the regulated capital

4 The list of shareholders

5 Request for changing information in the business license x

Source: Enterprise Law in 2014, Decree 78/2015/Gov

Fraudulent companies intend to finish all the process of the rise of the regulated capital before becoming a public company According to the Circular 180/2015/MoF, they would have to submit the equity report if they changed the regulated capital in the same year that submitting documents to list Once again, the role of external audit company is to recheck the authenticity of the regulated capitals If the collusion happened between the controlling shareholders and this audit company, the interests of minority shareholders would be expropriated

3.4 The undemanding capital contribution

The capital contribution is common investing activities of fraudulent companies

To reduce the risk and the cost of buying the invoices in operating activities, these firms often signs contracts with other companies to invest The total value of these investments often accounts for high percentage of the regulated capital In the China context, author C.Fei suggested that one kind of the fraudulent firms is a company with frequent capital operations and related-party transactions and most of these operations were fabricated (C.Fei, 2001) As the result, only the controlling shareholders know the authenticity of these investing activities Without supports from the external and internal audit committee, minority shareholders cannot have the truth except the fabricated information in the financial statements

3.4.1 The capital contribution through investment

Investing to the other projects of partners is one of activities to gain profits for both controlling and minority shareholders However, the controlling shareholders and these partners work as business groups A business group is " a collection of legally independent firms that are bound by economic (such as ownership, financial and commercial) and social (such as family, kinship, and friendship) ties" (Yiu, Bruton, & Lu, 2005) In addition, there are cross-holding, board interlocks, and coordinated actions in informal ties

of business groups (Chung, 2006; Dieleman & Sachs, 2006) When the controlling rights

of majority shareholders overcome ownership (cash-flow) rights, minority shareholders are more likely to experience expropriations, which cause the principal-principal conflicts In extreme case, "the controlling shareholders can extract high returns from projects that [actual yield] negative returns to the corporation" (Faccio, Lang, & Young, 2001)

The problems in coordinating and allocating resources between affiliated members

of business groups lead to the poor performance of this business groups Minority shareholders are hard to identify the unfair intra-group transactions due to the low transparency of sprawling, loosely-affiliated business groups This kind of network creates significant opportunities for collusion and unethical transactions However, the regulation

in the frontier stock market like Vietnam is lacking of efficient policies to prevent the