Triptomania Twee (Proprietary) Limited and Others v Sandra Connolly and Another (7075/2001) [2002] ZAWCHC 46; [2003] 1 All SA 374 (C) (29 August 2002)

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[2002] ZAWCHC 46
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Triptomania Twee (Proprietary) Limited and Others v Connolly and Another (7075/2001) [2002] ZAWCHC 46; [2003] 1 All SA 374 (C); 2003 (3) SA 558 (C) (29 August 2002)

IN THE HIGH COURT OF SOUTH AFRICA
(Cape of
Good Hope Provincial Division)
Case No. 7075/2001
In the matter
between:
TRIPTOMANIA
TWEE (PROPRIETARY) LIMITED First Applicant
NGT
NETWORKS (PROPRIETARY) LIMITED Second
Applicant
PETRUS
JOHANNES BESTBIER
Third Applicant
FRANCOIS
ALBERTUS MARITZ N.N.O.
(In their
capacities as Trustees for the time being of the
SourceCom
Technology Solutions Employee Share Incentive
Trust. Trust
No. IT 944/2001)
and
SANDRA
CONNOLLY
First Respondent
TIMOTHY
MARK CONNOLLY
Second Respondent
JUDGMENT
DAVIS J:
Introduction.
On 10
August 2001 applicants instituted proceedings against respondents in
which they sought relief in terms of section 424 of the
Companies Act
61 of 1973 (‘the Act’). Their claim arose as a result of a
value-added-tax (‘VAT’) fraud perpetrated at
SourceCom Technology
Solutions (Pty) Ltd (‘SourceCom’).
SourceCom is an information technology company
which provides large corporate customers, parastatal corporations and
government departments
with various products, including the
sourcing of hardware, the administration of software licences and the
provision of support
services. From its formation until November
2001 first respondent was a director of SourceCom. She occupied the
position of chief
executive officer. Second respondent was appointed
as SourceCom’s financial manager in June 1997 (or in 1998 ;there
are two versions
concerning the date of his appointment. To the
extent that he commenced service in 1997 , his appointment would
have been to
SourceCom’s predecessor ‘s company. This factual
issue is of no import to the resolution of this dispute).
He became the financial director in either July
or September of 1999 and at the end of November 2000 he left the
company’s employ
and ceased to be a director.
Applicants
contend that respondents, while involved in the management of
SourceCom, were knowingly parties to the conduct of the
business of
SourceCom as from, at least, November 1998 until their leaving
SourceCom, November 2000, for a fraudulent purpose. Alternatively,

applicants contend that respondents acted recklessly, alternatively
were grossly negligence in their conduct of the business.
Second
respondent admitted his involvement in the fraud. His admission was
contained in an affidavit; which formed part of applicants’
replying papers to this application. By contrast , first
respondent has denied any knowledge of or involvement in such a
fraud.
This
application initially came before
Blignault J,
who, on 21
November 2001, made an order referring the following questions for
the hearing of oral evidence:
Whether
Ms Thorne (first respondent) was knowingly a party to the VAT fraud
described in the applicants affidavit and
If
so, the dates from which and to which she was such a party.
The second
question is not an issue in this dispute. Applicants’ case is not
that first respondent became aware of the fraud after
its inception
and thereafter facilitated or ignored it. They allege that she
authorised the fraud from its inception in November
or December
1998. In accordance with the order of
Blignaut
J, witness
statements were filed on behalf of applicants by second respondent
and by Ms Linda May Honey , an employee of Source
Com, as well as
on behalf of first respondent. Oral evidence was heard over five
days . Evidence was given by second respondent
and by Ms Honey on
behalf of applicants. First respondent also testified.
The
Section 424 Claim.
Section
424(1) (a) of the Act provides as follows:
‘When it
appears, whether it be in a winding up, judicial management or
otherwise, that any business of the company was or is being
carried
on recklessly with intent to defraud creditors of the company or
creditors of any other person or for any fraudulent purpose,
the
Court may, on the application of … any creditor or member…of the
company, declare that any person who was knowingly a party
to the
carrying on of the business in the manner aforesaid, shall be
personally liable, without any limitation of liability, for
all or
any of the debts or other liabilities of the company as the Court may
direct.’
The onus is
upon the party alleging recklessness to so prove, and being civil
proceedings, to establish the necessary facts on a
balance of
probabilities.
Howard v Herrigel and Another NNO
[1991] ZASCA 7
;
1991 (2) SA
660
A at 672 E;
Philotex (Pty) Ltd and Others v Snyman and Others
[1997] ZASCA 92
;
1998 (2) SA 138
(SCA) at 142 I – J.
The two
phrases which are required to do the work if section 424 (1) is to
be applied are ‘knowingly a party to the carrying on
of the
business in the manner aforesaid’ and ‘carried on recklessly or
with intent to defraud creditors of the company or creditors
of any
other person or for any fraudulent purpose’
In
Philotex
,
supra
Howie JA
said of the phrase:
‘knowingly a party’
:
‘Knowingly
means having knowledge of the facts from which the conclusion is
properly to be drawn that the business of the company
was or has been
carried on recklessly; it does not entail knowledge of the legal
consequences of those facts….It follows that knowingly
does not
necessarily mean consciousness or recklessness. Being a party to the
conduct of the company’s business does not have
to involve the
taking of positive steps in the carrying on of the business; it may
be enough to support or concur in the conduct
of the business (at 143
B – C).
In dealing
with the concept of recklessness
Howie JA
cited with approval
the
dictum
in
Shawinigen v Vokins and Co. Ltd
[1961]
3 ALL ER 396(QB)
at 403 F in which the court defined recklessness as
‘gross carelessness – the doing of something which in fact
involves a risk,
whether the doer realises it or not; and the risk
being such, having regard to all the circumstances, that the taking
of that risk
would be described as “reckless”. (cited by
Howie
JA
at 143B).
Howie JA
held that the test for recklessness is objective as far as
respondents actions are measured against the standard of conduct of
the
notional reasonable person and subjective insofar as the court
has to postulate that notional being as belonging to the same group
or class as the respondent, moving in the same spheres and having the
same knowledge or means to acquire such knowledge. (at 143
G-H)
Recklessness
in this context is not limited to the more onerous test inherent in
the concept of
dolus eventualis.
Gross negligence without a
conscious or wilful regard of the consequences
will be
sufficient to bring a respondent within the scope of the section.
See in general
The Law of South Africa (volume 4 part 2(1
st
reissue)
by MS Blackman at para. 167. In determining the
concept of recklessness within the context of section 424, a court
must be careful
not to adjudicate the disputed conduct with the
benefit of the wisdom of hindsight.
Ozinsky v Lloyd
1992(3)
SA 396(C) at 414.
In
determining whether the respondent has behaved recklessly, the scope
of the operations of the company, the functions and powers
of the
director, the range of his or her responsibility, his or her
background and knowledge and expertise, are all relevant in
examining
the director’s conduct .Within the context of this test,. it is
well to remember having regard to the complexities of
a large
business organisation, that a director may properly leave certain
tasks to a competent official who , in the absence of
any reasonable
ground for suspicion, can be trusted to perform such a duty honestly
.
in Re City Equitable Fire Insurance Co
.
[1925] CH 407
429;
Norman v
Theodore Goddard
[1991] BCLC 1027:
Paul
Davies
Gower’s Principles of Modern
Company Law
(6
ed) at 644;
Fisheries Development Corporation v Jorgensen and
Another; Fisheries Development Corporation of SA Ltd v AWJ
Investments (Pty) Ltd
and Others
(1980)(4) SA 156(W) at
166 G-F; Lawsa para 167
‘Knowingly
being a party to the carrying on of the business’ does not mean
that knowledge of the facts is sufficient to bring
a respondent
within the scope of the section. The wording of section 424
indicates that the party must have taken part or
concurred in
such business practice. A director may well be a party to reckless
or fraudulent conduct of a company’s business
,even in the absence
of some positive steps taken in the in carrying on of the company’s
business provided that her attitude
to the impugned practice can,
on the facts, be interpreted as condonation of or concurrence in the
conduct which is the subject
of the section 424 dispute. Lawsa at
para 169.
The VAT
Scam.
Before
analyzing the nature of applicants’ case against first respondent,
it is important to examine that which is common cause,
namely the
nature of the VAT scam. SourceCom imported Microsoft licences for
resale in South Africa. In the ordinary course of
a taxable supply
as defined in the VAT Act, input VAT is payable to a supplier in
respect of any taxable supply made by a registered
VAT vendor.
However VAT on imported goods is normally computed by the Department
of Customs and Excise on goods entering South
Africa and would be
payable by the importer. Input VAT cannot normally be claimed
without a tax invoice. It is common cause that
the Department of
Customs and Excise did not issue Source Com with any tax invoices in
respect of imported Microsoft licences
.Thus SourceCom was not
entitled to claim any input VAT in respect of purchases from
Microsoft Ireland Operations Limited (‘Microsoft
IE’) as it did
not pay VAT to Customs and Excise, the South African Revenue Services
(‘SARS’) or Microsoft IE. According
to SourceCom’s accounting
records, invoices to Microsoft IE were first processed in September
1998 as a result of the award
to SourceCom of a SARS’ tender to
manage its Microsoft software licences in terms of a ‘Microsoft
Enterprise Agreement’ .The
tender was for specified software
licences of 9000 computers over a period of three years. The total
contract value over three
years was R4 845 055.60 including VAT and a
markup of 4% on SourceCom’s cost. In terms of this tender
SourceCom purchased the
requisite licences from Microsoft IE and sold
these to SARS.
On the order
date, employees of SourceCom performed the following processes:
A
purchase order was generated which did not cause any accounting
entry but created a system generated order number which was used
to
place the order with Microsoft IE.
All
Microsoft IE orders were executed by SourceCom over the internet.
After
the order was placed with Microsoft IE a Goods Receiving Note (GRN)
was processed by the receiving clerk at SourceCom.
The
GRN caused the following accounting entry:
Dr: Inventory Account (excluding VAT)
Cr: purchase
accrual account (excluding VAT).
This
entry raised the accrual for the purchase in the accounting records.
No VAT was raised by this entry.
VAT
appeared on both the SourceCom generated purchasing order and the
GRN but this was a notional VAT number.
On
receipt of the supply invoice the creditor clerk processed the
invoice in the creditors’ ledger which caused the following
accounting entry:
Dr: VAT
Dr. purchase
accrual account.
Cr.
Creditors’ account (including VAT).
According
to the Pastel accounting system which SourceCom employed, when an
invoice in the creditors’ ledger was processed , an
adjustment
could be made in respect of the VAT amount or the purchase amount.
Therefore the VAT that appeared on the GRN or the
purchasing order
was not necessarily the VAT ultimately processed to the VAT account
in the general ledger and hence not necessarily
the amount claimed on
the VAT return.
In summary ,
the VAT fraud involved two basic components:
The
raising of fictitious input VAT on goods supplied by Microsoft to
SourceCom in circumstances where the latter did not in fact
owe or
pay the VAT to Microsoft or to SARS .
The
subsequent (or sometimes simultaneous) elimination of the fictitious
liability or input VAT by journal entries affecting the
income
statement.
The raising of fictitious input VAT occurred in
one of two ways:
by
adding VAT when processing the purchase order and GRN or
by
subsequent journal entries .
The first
method was carried out as follows: The Microsoft invoice would be in
dollars, (say $150.) The Microsoft invoice would not
reflect VAT
since Microsoft was an Irish incorporated company. A SourceCom
employee would process an internal purchase order and
the GRN. These
documents would reflect the rand equivalent of the Microsoft dollar
amount at the processing date (say R1000) and
the Pastel system would
automatically add and reflect 14% (R140) as an additional amount
owing to Microsoft as input VAT.
The
accounting entries would appear as follows:
Dr: Stock R1
000
Dr: VAT R
140
Cr:
MS(Microsoft) R1 140
The effect of these entries would be to understate SourceCom’s
liability to SARS for VAT by R140 (since the debit of R140 reduces
its net liability to SARS for output VAT) and to overstate its
liability of Microsoft by R140. At this stage the effect on the
balance sheet is neutral, and the entries have no bearing on the
income statement.
As regards
the second method:
No VAT is added when the purchase order and the GRN is processed, so
that at this stage (correctly) the account entries are:
Dr: Stock R1
000
Cr:
MS R1 000
Subsequently
a journal entry is made manually. Generally when this was done, the
price of R1 000 was treated as notionally being
inclusive of VAT, so
that the fictitious VAT should not be R140 but R122,81 (14/114 x
R1000). This fictitious input VAT (R122,81)
would be debited to the
VAT account and credited to the MS account or to the sundry creditors
account.
If due to
depreciation in the rand, the amount ultimately paid to Microsoft was
not R1 000 but (say) R1 150, a further GRN would be
processed for the
difference (R150), and sometimes fictitious input VAT was also raised
on this further amount.
The writing
off of this fictitious VAT to the income statement was achieved by
journal entries.
The bulk of
the fictitious VAT was written off against cost of sales, though
other income and expense accounts were also utilised.
Illustrative
journal entries would be:
Dr: Microsoft R140
Cr: Cost of
sales R140
OR
Dr: Sundry
creditors R122,81
Cr: Cost of
sales R122,81
The effect of
these entries would be to eliminate the fictitious liability to
Microsoft (or to sundry creditors) for the bogus input
VAT by
reducing cost of sales.
There were
instances where the first and second components of the fraud were
combined, the fictitious input VAT being raised directly
against cost
of sales, for example:
Dr: VAT R122,81
Cr: Cost of
sales R122,81
The effect of
such entries was twofold:
Balance
sheet
: Instead of a fictitious liability to Microsoft (or sundry
creditors) for input VAT, the accounts should have reflected a true
liability
in the same amount to SARS. By writing off the fictitious
liability to Microsoft (or sundry creditors) without raising the true
liability to SARS, Sourcecoms’ liabilities were understated and
its NAV overstated.
Income
statement
The crediting of cost of sales (or any other expense or
revenue account) would falsely reduce expenses (or increase income),
thereby
falsely overstating gross profit.
According to a report prepared by auditors KPMG
on behalf of applicants, Source Com wrongly claimed R12 378 662 of
input VAT from
SARS for the period 1 October 1998 to 30 June 2001.
The yearly amounts can be reflected thus:
Year End
Rand
30 June 1999
3 122 595
30 June 2000
4 482 917
30 June 2001
4 773 150
Total
12 378 662
The
mechanism and the nature of this scam is not in dispute. Ms Honey
and second respondent confirmed the fraud and their involvement
in
it. The dispute does not concern the question as to whether the VAT
was wrongly raised by way of negligent oversight or by fraud.
The
fraud occurred. As Mr Rogers, who appeared together with Mr Goodman
on behalf of applicants, correctly submitted the key question
was
whether first respondent was informed of the VAT scam and gave her
approval. The basis of applicants’ case is that the inherent
probabilities were that the fraud would not have occurred without her
knowledge and approval.
In order to
prove that first respondent’s conduct falls within the scope of
section 424 ,applicants sought to rely upon the direct
evidence of
second respondent who claimed that first respondent was party to the
scam and secondly on inferential reasoning based
upon the financial
position and records of SourceCom which, in applicants’
submission, admitted of but one conclusion on the
probabilities,
that she must have known about the fraud and was a party thereto.
Applicants’
case.
Applicants relied upon two witnesses, being
second respondent and Ms Honey. Second respondent's evidence
concerning the VAT scam
emanated from an affidavit to which he
deposed on 25 September 2001 and which was annexed to applicants
replying papers (‘the
replying affidavit’) , a statement made in
terms of
section 112
of the
Criminal Procedure Act 51 of 1977
on 16
November 2001 for the purposes of a criminal case against him, a
witness statement prepared for the purposes of the oral evidence
in
the present dispute and oral evidence which he gave before this
court. As Mr Burger, who appeared together with Mr Fagan on behalf
of first respondent, made much of the contradictions between the
four sources of second respondent’s evidence, it is necessary
to
examines separately each of these sources of evidence.
In the replying affidavit second respondent said
that during November 1998 Ms Honey had come to see him. She was
concerned about
the prospect that SourceCom would shortly have to
pay an amount of some $2.5 m to Microsoft (IE) in respect of the
first of the
large Microsoft invoices which , in September 1998, had
been submitted to SARS ,in its capacity as customer of SourceCom.
According
to second respondent Ms Honey explained that, in addition
to the amount payable to Microsoft , there was a sum in excess of R2
due
to SARS in respect of VAT. In the context of discussing
SourceCom’s cash flow problems, Ms Honey suggested that SourceCom
could
claim the input VAT on the Microsoft (IE) (supplier) invoices
by converting the dollar amount reflected in such invoices to rands,
adding on the VAT and submitting the adjusted invoices to SARS.
Second respondent advised Ms Honey that he would
have to discuss the matter with first respondent which he then did.
He and first
respondent devised a strategy in the event of a query
from SARS. SourceCom would claim that its bookkeeper had made a
mistake
and thereafter would pay over the moneys due to SARS. It
was decided that the VAT scheme would be limited to large annual and
bi-annual invoices furnished to SARS, the Provincial Administration
of the Western Cape and the Gauteng Provincial Government.
Respondent confirmed that he had conveyed first respondent’s
approval to Honey.
According to second respondent, prior to his
leaving SourceCom in November 2000 , he had a discussion with Honey
to the effect that
the new shareholders were taking over control of
SourceCom and that the VAT scam should come to an end.
In his
section 112
statement, second respondent
said that during November 1998 SourceCom paid an amount of
approximately R14 m to Microsoft (IE). VAT
had incorrectly been added
to SourceCom’s purchase notes as the accounting system
automatically calculated VAT on all suppliers
invoices. Second
respondent discussed the situation with first respondent and it was
decided not to correct the artificial credits
or the accounting
system. At the time SourceCom was in a poor financial position
owing to the loss of the Telkom contract during
mid-1998.
In his witness statement second respondent
suggested that Ms Honey did not speak to him in November but probably
in the first half
of December 1998. By this time VAT on the three
Microsoft invoices had already been raised automatically by the
accounting system
when the purchase notes were generated. The
incorrect VAT, totaling R2.323.953,42 had then been reversed by Mary
Percent ,a SourceCom
employee , on the instructions of Honey. When
Honey and second respondent spoke, the main focus of their
discussion concerned
the large VAT payment which would be due to
SARS. This large payment had arisen from the fact that the notional
input VAT which
was incorrectly raised by the system had been
reversed on Honey’s instructions. According to first respondent,
‘I cannot
now recall whether, at the time Honey spoke to me,
SourceCom had already paid Microsoft although the currency had
apparently been
purchased on 12 November 1998. I very much doubt that
SourceCom would have paid Microsoft on that date, as I would have
ensured that
he paid Microsoft on the last possible date (which would
have been 30 November 1998). Either way, the fact that he had paid
Microsoft
or would shortly have to pay Microsoft would have placed
strain on SourceCom’s cash position.’
Second respondent then referred to the manner by
which the subsequent journal entries were inserted to ensure that
the VAT credit
was eliminated in the accounting system. He
confirmed that procedures were not ‘generally discussed with the
First Respondent
in advance, though the fact that they had been made
came up from time to time in discussions between the First
Respondent and
me .in the context of the management accounts. For
example, she might enquire why the gross profit in a particular month
was so
high and I would then explain (for example) that some of the
fictitious Microsoft VAT had been written off against cost of sales’.
When he gave oral evidence , second respondent’s
version of the conversation which took place between Honey and
himself was carefully
probed by Mr Burger on behalf of first
respondent. The following extracts reflect the version which he now
offered to the Court.
‘….and as we read on you say in November 1998
Honey came to see me and we discussed the fact that SourceCom would
shortly have
to pay an amount of some $2 ½ million over to
Microsoft. We know that is wrong. Your latest version is that what
she came to
discuss with you was the R2 m VAT? It would have been
the same conversation.
No, it is not the same conversation because we
know by the beginning of December Microsoft would have been paid? Yes
this is just a lie, Mr Connolly , it could not
have been the discussion of $2 ½ m to be paid to Microsoft?….I was
obviously confused.
It was a lie at this time and I will tell you
why. On your version the foreign exchange was bought on 12 November
1998 to pay Microsoft,
is that correct? That is right, yes. As you
buy the foreign exchange it goes out of your bank, you pay for it,
correct? Not necessarily
In this case it did? I see, it appears to have
been done, yes.
Yes it is just nonsensical to suggest that the
lady would in November….in November 1998 have come to discuss with
you the payment
of $2 ½ m to Microsoft..It just could not be?……
You take some time to answer that ?. There could
be two different meetings which were confusing.
Well, that is the third version we have.
Let me give you the second version. Go to your
latest statement that you have just read to the court in your
evidence in chief,
that is exhibit D (the witness statement)….read
us the second sentence please? The main focus for the discussion
concerned the
large VAT payment which was – which would be due to
SARS. We have got three versions. You have either discussed the
Microsoft
payment or you have discussed the SARS payment or you have
had two meetings which one do we accept now? – No there have been
several
meetings all the time during November, every day, you know
the exact date and time of meeting I would not be able to record to
know
exactly what was said in those meetings….
R8,2 m in the bank, I put it to you there is no
cash flow problem in this company in this time frame ? It does not
look like it.
…
Yes, there is no cash flow problem but you
discussed the cash flow problem with her? Yes I could have but that
is nonsense we know
there is no problem. What are you discussing
with her? Problems is probably the wrong word to be used, cash flow
issues maybe.
What cash flow issues? There are always cash flow
issues, monthly, yearly always cash flow issues when to pay
creditors, when to
collect money or not to collect money….
You suggest that the lady who has just been
appointed on probation in a new company suggests to you a VAT fraud
against the backdrop
of the cash flow problems debate we have just
listened to? .? I here two different issues.
Why is it a different issue? One is the claiming
of the VAT from Microsoft invoices and we should not have on the
fraud side, and
one is the cash flow implications of it.
No I do not think you follow my question. I am
probing you with something much more basic. What would Ms Honey’s
motive have been
for making this suggestion to commit a fraud to
you. What is in it for her? I do not know I’ve never asked her….
This lady says to me why do we not commit a
massive VAT fraud. I say to you, you are an intelligent person. You
say to her are you
actually out of your mind. What does she want to
do this for. You ask her, or you do not ask her? In the context the
way it was
said, it was not to commit a massive VAT fraud, let us
claim the VAT off the Microsoft invoices.
You just steal R2 m from the fiscus? Ja
Why did you not terminate her services on this –
this suggestion of fraud? No reason to….I do not know why.
In fact you appointed her permanently thereafter?
Ja’
When he was cross-examined about first
respondent’s knowledge of the scam, the following aspects of second
respondent’s
evidence are pertinent:
‘You see I do not understand the statement in
your latest document which is exhibit D in paragraph 6 (the witness
statement)….you
say for example she, might enquire why the gross
profit for a particular month was so high, and I would then explain
for example
that some of the fictitious VAT has been written off
against cost of sales. Strangely she says to you, why are our
profits so high,
and you say to her, well you remember we have this
VAT fraud going and that is the VAT fraud kicking
in… Its an unreal discussion between the two of you. Can you
explain to me
how this discussion would take place? Well Sandy would
obviously know and look at every single sales figure weekly and she
will
know exactly the GP had been made in the company.
Yes? And when it comes to the end of the month GP
will be slightly higher than she anticipated. Yes? And I’ll
explain to her
that was released with some of the visions(?)
we had and…..were phased into the profits.
But I thought she knew that you were releasing
fraudulent figures into the sales figures? Ja.
Well then why ask about it if she is the…..- a
confirmation – a confirmation of exactly what happened.
What does she confirm?. She says I know the
profits must be higher I ask you why – why they are higher. Will
you please confirm
are they higher because of our fraud?…Ja, but
some months we did not release anything into the income statements.
Sometimes we
kept it back. It was not a case of taking it the month
it happened and reversing all the profits. Can you remember a
particular
month when this enquiry was raised because from reading
your statement….I cannot recall.
Its seems to me that your memory again is leaving
you in the lurch…..I could not recall the exact month and year.’
Second respondent was also asked a series of
questions about any attempt which first respondent might have
initiated to cover up on
the VAT fraud when she left Sourcecom . The
following passage reflects second respondent’s response:
But she made no effort on your evidence to cover
up or to defuse the discovery of this VAT fraud….I don’t
understand the question.
She made no effort as far as you know to cover her
tracks on the VAT fraud when she left by the end of 2000 –no’.
Second respondent testified that he had
instructed Ms Honey to stop the VAT scam upon his resignation from
the company and that
further he was a very concerned person as to the
possibility of the scam being discovered. He confirmed that he made
no effort
to check that his instruction to stop the VAT fraud had
been implemented.
Ms Honey also testified before the court. She
confirmed the contents of an earlier affidavit to which she had
deposed. She testified
that Jessica Augustus who was the bookkeeper
responsible for completing the VAT 201 forms had approached her
during December 1998
when she was in the process of completing the
VAT 201 return. Augustus told Honey that ,according to her
calculations, SourceCom
had to pay an amount in excess of R2 m to
SARS. As this was an unusually large VAT liability Honey discussed
the matter with second
respondent. Honey explained to second
respondent that the credit clerk, Mary Percent, had approached her
regarding the problem
of the Microsoft account reflecting an
unexplained large credit balance. According to Honey she found that
VAT had erroneously been
added to the purchase notes of Microsoft.
The system had automatically calculated VAT on suppliers invoices but
as Microsoft was
an overseas supplier VAT should not have been so
calculated. Honey instructed Percent to rectify this situation.
Second respondent then suggested to Honey that he
would discuss the matter with first respondent on return to her. On
the same day
he returned and instructed Honey that the journal entry
should be reversed. Honey did not accept this instruction and told
him
that she disagreed. In her affidavit she said ‘I also told
him that we were not entitled to claim these amounts as input because
of the fact that it was purchases from an overseas supplier which
had no VAT implication. He persisted with the decision the journal
entry be reversed as well as that we must claim the calculated
amounts as input VAT. I knew that my argument was correct but had
to
carry out the instruction as he was “the boss’.
Ms Honey also confirmed that ,contrary to the
evidence deposed to in an affidavit by Ms Carol Hendricks, a forensic
accountant instructed
by first respondent to investigate the VAT
transactions, the new Pastel system also needed a manual intervention
to add 14% VAT to
the purchase note of Microsoft IE .
Ms Honey was not able to confirm that she had any
recollection of a conversation which took place between herself and
second respondent
to stop the fraudulent VAT scheme upon the latter’s
resignation from SourceCom. She also confirmed that the VAT fraud
continued
after the resignation of second respondent from SourceCom,
that is during the early period of Mr Maritz’s term of office.
Mr
Maritz replaced Mr Connolly as the financial officer from December
2000. Ms Honey confirmed that the auditors performed an analytical
review of the business of SourceCom and its accounts, that, in her
view, they would have examined turnover, profit history, gross
net
profit as well as the ratio engaged in a ratio analysis to test the
veracity of the accounts.
Apart from the evidence of Honey and second
respondent, Mr Rogers relied heavily on a process of inferential
reasoning sourced in
the financial statements of SourceCom and which
justified, in his view, a conclusion that, on the basis of these
accounts ,first
respondent must have known and indeed did know of the
fraud which had been perpetrated. It thus becomes necessary to
examine the
impact that the VAT fraud on the business by way of an
analysis of key financial entries.
Distortion in the accounts caused by the VAT
scam.
Mr Rogers developed a careful analysis of
distortions in the reported profits caused by the Vat scam from
September/November
1998. For the purposes of understanding the
process of reasoning employed by Mr Rogers, the most significant
distortions to be
examined are those which began in September 1999.
In September 1999 a fictitious VAT input on
Microsoft purchases was raised in the amount of R1,580,355. This
amount was immediately
written off against various accounts
including a credit of R823,294,13 to cost of sales.
The consolidated income statement as at 30
September 1999 reflected a gross margin of R1,560,423 of which the
bogus reduction in
cost of sales constituted about 53%; a very
significant figure in the context of the September 1999 accounts.
An examination of the accounts revealed a series
of different indications as to the nature of the distortion:
The gross margin percentage in the
consolidated income statement was 9,96% as against the budgeted
figure of 6,7%.
The figures for the Cape Town branch
contained a curious credit provision of R807,519 under the cost of
sales and against the
narration ‘
Other’
This entry had
the effect of yielding a gross profit percentage for the Cape Town
operation of SourceCom of 73,9% as against the
budgeted figure of
14,4%. The credit entry of R807,519 was primarily attributable to
the bogus journal entry of R823,294,13.
The Johannesburg branch figures reflected
software sales of R11,911,467 and software cost of sales of
R11,528,166 which figures
reflected a gross profit margin of
software sales as 3,86%.
The sales of software by the Johannesburg branch
derived almost entirely from the sale of Microsoft licences to SARS,
at a gross
profit percentage to 3,85%. According to Mr Rogers,
first respondent would have clearly been aware of this large
transaction and
of the low margin at which it was concluded. If the
Johannesburg software sales and the related cost of sales were
eliminated from
the figures contained in the consolidated income
statement, the remaining sales of R3,674,024 were generated at a cost
of sales of
R2576,902 yielding a gross margin of R1,097,122,
representing a gross margin percentage of approximately 30% gross
margin in a period
where professional services and technical support
,which may well have been marked up considerably, contributed little
to the business.
A gross margin of percentage of 30% on the
business transacted during the period was thus inexplicable.
Mr Rogers also referred in this connection to
first respondent’s testimony, the following extract of which is
of particular relevance:
‘The big picture in shortly after September 1999
was that you had done a contract at just under R12 m with SARS at a
known margin
of 3.85%. That was a September transaction? Yes. You
now get an income statement which you look at which has total sales
of R15,6
m. You now know that just under R12m went to SARS at 3,85%
but you see that you are achieving a margin on the whole lot at
9.96%.
Does that fit the big picture? When you break it down like
that, no. When you look at the figures as a whole it once again is
not something that jumped out at me but I….in the previous month
the margin was 11%. I know when you isolate and say I should
have
known that September was SARS and at this percentage and therefore I
should have checked this and said, hang on this does not
make sense,
I do not do that Mr Rogers that is why I had a financial director.’
In her answering affidavit first respondent had
contested the conclusion drawn by applicant that the sale of software
licences to
SARS had been accepted at a gross profit margin of
approximately 4%. She said ‘the fundamental premise of the
theory’ advanced
by applicant was that the margin on the SARS
contract was 4% whereas in fact it was 7,85% and that therefore
applicants’ submissions
had no merit. However under
cross-examination she was forced to accept that the transaction in
September 1999 had indeed been done
at 3,85% and that it was only in
December 1999 and January 2000 that subsequent exchange variations
resulted in the ultimate margin
increase to 7,8%,. changes which had
not impacted on the September 1999 accounts.
In attempting to explain the inaccuracy contained
in her answering affidavit, first respondent referred to the
supporting affidavit
of Ms Hendricks, the forensic accountant who had
calculated a margin of 7,85%.
The relevant cross-examination reads as follows:
But it is something more than agreeing with her,
because of course Ms Hendricks was not the lady who was there at the
time. She
can perhaps look at historical documents and do
calculations and eventually when she looks at cost reports that go
into the next
year, she finds that this is that eventually after
currency fluctuations were taken into account it ended up eventually
at 7.85%
but you were there at the time in September 1999, she was
not. Correct? Yes.
And you knew that the September 1999 management
accounts would have reflected the deal at the price it was done, that
is 3.85%? At
the time that I did this affidavit ? Yes – No at the
time I did this affidavit which was a good eighteen months or two
years later
I was relying on the documentation I had and that she
worked on and as it turns out this particular deal was done at 7.8%
overall.
The fact that that does not apply to September I agree with
you but I was not aware of that at this time. I had not applied my
mind
to it’.
When first respondent was then probed as to
whether these figures would not have created some need for further
enquiry when they were
first presented to her the relevant passage in
her cross-examination reads as follows:
‘And the only explanation you can offer for not
having said when you had the first opportunity to refute this case
that the reason
why you did not, the alarm bills did not go off
because you had never looked at the Cape Town figure. The only
explanation for that
is you obviously did not apply your mind
carefully enough in doing your own study? Yes, in terms of checking
what Ms Hendricks had
done, and that the information given to me is
correct. Yes I had not.
The consolidated income statement reflected the
Cape Town sales in the amount of R1,325,851 , effected at a cost
of only R346,679.
This produced an enormous gross margin which
would have been completely out of kilter with the profit margins
reasonably expected
in the SourceCom business.
Mr Rogers referred to evidence given by first
respondent in re-examination which indicated that she did in fact,
at other times,
look carefully at branch figures. When Mr Burger
referred first respondent to management accounts as at 28 February
1999 where
there were gross margins of just under 40% compared to the
budget figure of 10,42% she admitted that these figures caught her
attention
and that ‘the explanation was that there was again
substantial professional services in that month, it came to R230 odd
thousand
and if I excluded VAT then the margin became like 21% of
the hardware sales.’ According to Mr Rogers these figures for
professional
services could only have been gleaned by first
respondent after she had examined the branch reports.
The relevance of this evidence was that, when
profit margins were significantly higher then the norm , first
respondent was able
to explain these figures by reference to the
contribution of the technical and professional services which she
could only have
done by looking at the branch reports. According to
Mr Rogers , her explanation that she only looked at the ‘big
picture’
and not at the details contained in branch accounts was,
at best ,a selective reflection of her conduct.
In April 2000 a fictitious VAT entry of R1, 649
349,91 was raised on a Microsoft order and simultaneously written off
against cost
of sales. Total sales for the month were R18,706, 849
the total cost of sales of R16,677,780 yielding a gross profit margin
of R2,029,069
(10,85%). The bulk of these sales comprised software
sales of R15,740,186 at a supposed cost of R13,923,840.
Included in the April 2000 figures was a sale of
Microsoft licences to the Gauteng Provincial Government. The tender
was in the
amount of R15,458,970. According to Ms Van Wyngardt ,who
prepared the tender, she was instructed by Mark Carrick ,the
national
sales manager at SourceCom , to submit the tender on the
basis of a 2,5% markup. This was confirmed by Carrick in an
affidavit
to which he deposed. According to the KPMG report
Microsoft licences were acquired at a cost of R13,430,380 on which
figure a fictitious
input VAT of R1,649,345 was claimed.
When the Johannesburg branch accounts were
examined a software sales figure of R15,657,579 was included in the
accounts at a cost
of R13,794,249 which yielded a gross margin on
the sales of 11,9%.
The overall figures of SourceCom for the relevant
period as reflected in the consolidated income statement , ( period
ending 30April
2000) reports the gross margin percentage on
software sales as being 11,54%, most of which was derived from the
sales in the
Johannesburg branch. According to Mr Rogers these
figures did not make sense to a person who knew (as ,in his view
,did first respondent)
that the vast bulk of the software sales
derived from a contract where the markup had only been 2,5%. If it
assumed that the Gauteng
government sale had been in the amount of
R15,458,970 as per the tender and if this represented a price
inclusive of a 2,5% markup,
it would have been expected that the
related cost of sales would have been R15,081,922 with a profit of
R377,048.
On further examination of the statement if the
Gauteng sale , if R15,458,970 is deducted from the total software
sale for the period
reflected of R15,740,186 and the related cost of
sales of R15,081,922 is deducted from the supposed software sales of
R13,923,840
the remaining sales of R281,216 were generated at a
negative cost of R1,158,082, a patently impossible situation.
Mr Rogers offered an alternative explanation. He
contended that the Gauteng sale could be divided into two
components .On the
assumption that the software component was R13
430,380 plus the markup of 2,5% (yielding R13,766,139) , the balance
of the Gauteng
sale (as a 3,5% markup) would amount to R1,692,831
made up of the cost of R1,635,585 plus the markup of R57,246. On
this basis the
total cost of sale for the Gauteng contract would be
R15,065,965 which would mean that the remaining sales of R281,216 was
produced
at a negative cost of sales of R1.142,125 which again would
be nonsensical.
Mr Rogers submitted that ,although these
calculations demonstrated the distortions in precise numerical
terms, it was not necessary
to know the precise details nor to do
the calculations in order to realise that ,on the basis of the
tendered amounts, something
was seriously amiss with the figures
reported in the income statements. First respondent should have
known that the vast bulk
of the software sales disclosed in the
consolidated income statement were done at the markup of between 2,5
and 3,5% ; hence the
cost of sale figure reflected in the
consolidated income statement would have made no sense.
Mr Rogers attacked first respondent’s
explanation in her answering affidavit that ‘she did not analyze
each line item on the pages
behind the management account summary
page but simply checked to see if the numbers were consistent with
budget and that the revenue
from the new deals done.’
This explanation according to Mr Rogers was
seriously flawed for a number of reasons
inter alia
, that the
budgeted gross margin on all sales was 10,5% against an actual figure
of 10,85%. Whilst this discrepancy might be considered
to be
extremely modest , the budgeted gross margin of 10,5% assumed very
significant hardware sales where higher margins were generally
gained
than would be the case with software. as well as very large sales of
professional services and technical support which yielded
substantial
margins. Bearing in mind that sales in these categories were way
below budget and that the primary contributor to sales
was software,
a gross margin of 10,85% ,essentially sourced in sales which could
not have expected to earn a significant margin,
would have been
inexplicable to a person with the knowledge of the business as could
reasonably be expected to have been the case
with first respondent.
In the management accounts for June 2000 the
consolidated income statement reflected total sales of R19,400,812,
total cost of sales
of R17,061,280 yielding a gross margin of
R2339532 at a gross margin percentage of 12,06%. With the addition
of ‘other income’
of R829,065 , the accounts reflected a gross
profit for the month of June 2000 of R3,168,597. After deduction of
the overheads,
operating income was R1,627,255 for the month. Mainly
, as a result of this significant amount of operating income for the
month
of June 2000 , the full year reflected an increase in operating
income from R633,778 at the end of May 2000 to R2,448,360 at the
end
of June 2000. According to notes which were found in first
respondent’s diary and confirmed in her evidence, she targeted
operating income for the year ending 30 June 2000 as being
approximately R2,5 with the targeted gross profit for the month of
June
2000 being R3,25 m. Management accounts for June 2000 reflected
that these targets were almost reached.
During the month of June 2000 fictitious VAT of
R529,579,94 was raised on Microsoft orders on the 26 June 2000 and 30
June 2000, respectively,
which amount was immediately written off
against Cape Town hardware cost of sales. In addition , an amount of
R470 000 in respect
of fictitious VAT previously raised was released
into the income statement during June 2000 by crediting R370,000 to
Cape Town hardware
cost of sales and R100,000 to Johannesburg
hardware cost of sales. The effect of these figures is reflected
in an examination
of the relevant Cape Town accounts. Cape Town
hardware sales of R6,019,209 were ostensibly achieved at a cost of
R4,503,263 , giving
a gross margin of R1 515,946 at a gross profit
margin percentage of 25,18% compared to budgeted figures which
reflected a gross
margin of R584,000 at a gross margin percentage of
8%. Given that the standard margin of hardware sales was between
8-10% a margin
of 25,18% certainly should have raised queries in
the mind of a knowledgeable reader of these accounts.
Employing these discrepancies in the accounts, Mr
Rogers sought to make out the following case.
First respondent was a highly qualified and
experienced business woman. She had obtained a B.Bus Sci degree
from the University
of Cape Town with honours in finance. She was
awarded a higher diploma in tax law from the University of the
Witwatersrand. Between
1983 and 1986 she was a part-time lecturer
at the University of the Witwatersrand’s Business School where
she lectured in tax
law. She worked as a tax consultant for
accountants Arthur Young and Company during 1983 .Between 1984 and
1988 she worked for
accountants Fisher Hoffman Stride where she was
appointed as a tax director during which period she was involved in
the development
of various aggressive tax saving schemes on
behalf of clients. From October 1988 to October 1992 she was an
owner and managing
director of a project finance company and then an
owner and the managing director of an information technology company
before joining
SourceCom as chief executive officer and a
significant shareholder to July 1996. In short , Mr Rogers suggested
that she was an
extremely financially literate .
According to second respondent she was a
formidable ‘boss’, a micro-manager who carefully monitored the
entire progress of SourceCom.
Between the period September 1998 to November
2000 more than R10 m was fraudulently gained by SourceCom as a
result of the VAT scam.
She was a significant beneficiary of the VAT
fraud, given her share holding in SourceCom. The company which she
controlled ,
Elect Props (Pty) Ltd initially owned 49% of the old
SourceCom company. Old SourceCom sold its business to the new and
current
SourceCom, where her shareholding was reduced to 20,9%.
Elect Props also had a loan account with SourceCom in the amount of
R10,676,393.
Thus , the value of her investment depended to a large
extent on SourceCom’s profitability.
When the business was sold to the new
SourceCom she gave certain warranties during March 1998 before the
loss of the critical Telkom
contract which she conceded was a
material blow to the company.
Therefore she had very significant motives
for promoting the VAT fraud
Given her expertise , experience and
knowledge of the company’s operations it was inherently
improbable that she would not have
detected the very significant
distortions in the monthly accounts to which reference has already
been made. Given SourceCom’s
sales , she must have realised that
very large VAT payments between the period October to December 1998
would have had to be
made and accordingly she would not have failed
to realise that such payment had not been made.
It was inherently improbable that a junior
employee ,Honey, and second respondent on their own would have
considered that they
could perpetrate a fraud of this magnitude
without her detecting it and hence without her co-operation.
The inherent probabilities were against a
conclusion that, for over two years, a person with such expertise
and skill would not
have picked up the VAT scam.
In any event the contrary conclusion is
supported by the evidence of second respondent and Honey.
First respondent comes across as a manifestly
intelligent, quick witted and slick witness who sought to
portray herself as a
person of great integrity. However the evidence
indicates to the contrary. Mr Rogers referred in particular to an
application
which she had made to the Department of Home Affairs
for a temporary passport in which she had submitted a letter to the
Department
from her former husband on the letterhead of his
company, Regis SA (Pty) Ltd, in which it was stated that she was an
employee
of that company and needed the passport to travel on
urgent business for the company. This was a blatant untruth.
Furthermore
she did not declare a bonus of R250,000 in an income tax
return which she had received in the tax year ending February 1999.
12. On the basis of this holistic approach to the
oral testimony and to the clear inferences that could be drawn from
the anomalies
in the accounts, the only reasonable conclusion, on a
balance of probabilities, that could be drawn was that first
respondent
, at the very least, had known and acquiesced in the VAT
scam from the moment that it had been initiated. Whatever the
criticism
of second respondent’s performance in the witness box
might be (and applicants did not suggest that he was a good witness)
his
version, namely that the scam had been discussed between himself
and first respondent was a far more probable explanation than the
alternative, namely that a junior employee and the financial
director had done this all on their own for the benefit only of the
financial director and Sourcecom .
Mr Burger sought to counter applicant’s case by
attacking the value of the evidence given by second respondent, and
secondly by
criticizing the process of inferential reasoning
relied upon by Mr Rogers in constructing applicants’ case. Mr
Burger submitted
that by the time second respondent came to give oral
evidence before the court, he had contradicted himself in material
aspects as
a result of the evidence provided in his affidavit to
which he deposed on 25 September 2001 and which was annexed to the
applicants
replying papers, his
section 112
statement and the witness
statement to which he deposed prior to giving oral evidence. These
various statements threw up different
versions of the following:
The time of the discussion which second
respondent had with Ms Honey regarding the VAT scam in late 1998.
The question as to whether, at the time
when Honey and second respondent discussed the VAT scam, SourceCom
had already made a
significant payment in late 1998 to Microsoft or
whether it still required the cash in order to discharge its
obligation.
Whether there was a discussion between second
respondent and Ms Honey concerning a previously incorrect VAT add
on to Microsoft’s
(IE) purchase notes.
Whether on each and every occasion that a
fraudulent journal entry was to be made or had been made, second
respondent advised first
respondent accordingly or whether such
fraudulent journal entries were not generally discussed in advance
with first respondent.
Second respondent had advanced a different
version on each of these issues in the three written documents to
which he deposed.
To the extent that there were contradictions
between the versions of Ms Honey and second respondent the former was
to be preferred
because she was by far the more consistent and
believable witness.
Mr Burger focussed his analysis on a number of
aspects of second respondent’s oral testimony, in particular:
1. Ms Honey confirmed she had discussed the
erroneous calculation of VAT with second respondent and that he had
ordered her to reverse
the instruction which she had given to Mary
Percent to correct the situation whereby incorrect VAT input credits
were claimed. Second
respondent was extremely vague , indeed
incoherent with regard to the contents of the meeting which took
place between himself
and Honey. At one point he suggested that
there had been three meetings between himself and Honey and that
serious cash flow issues
had been discussed between the two of them ,
notwithstanding that he later accepted that the foreign exchange
necessary to discharge
the Microsoft debt had already been paid by
the time the meeting took place. He also sought to place the blame
on Honey for the
VAT fraud.
The following extract ( part of which has already
been cited above ) from second respondent’s oral evidence
reflects the manner
in which he was asked about this version.
‘This lady says to me why do we not commit a
massive VAT fraud, I say to you, you are an intelligent person you
say to her are you
actually out of your mind. What does she want to
do this for. You ask her, or do you not ask her?…..In the context
of the way
it was said it was not to commit a massive VAT fraud, let
us claim the VAT off the Microsoft invoices.
You just steal R2m from the fiscus? ….Ja, that
is not serious in your eyes? Of course it is just the way it was
said. It was not
said in a serious fashion? No of course it was
said in a serious fashion.
I am asking you….not the way you are putting it.
I am asking you, the lady suggests to you that you
steal R2 m from the fiscus? No she did not say that we must steal R2
m from the
fiscus.
OK….she says we must claim VAT on these
invoices.
Yes, and that is a fraud, you know that? Yes I
know before. You have pleaded guilty to that? Correct. Yes what
is the motive
you see, I want to argue at the end of the day that she
had no motive, I am giving you an opportunity to suggest a motive? I
do
not know what her motive was. You did not ask her? No not that I
can recall.
What I also did not understand is this, true? Why
do you not terminate her services, she is on probation you look her
over the first
meaningful discussion you have with her, she suggests
you steal R2 m from the fiscus?…..It was not.
What did you do – you appoint her
permanently?…It was my first meaningful discussion with her.
Why did you not terminate her services on this –
this suggestion of fraud by her? No reason to, no I do not know why.
In fact
you appointed her permanently hereafter, correct ? Ja’
2. In his evidence, second respondent classified
first respondent ‘as a formidable boss and one who is obsessed with
control’.
Mr Burger submitted that it was critical to applicants’
case that first respondent be described as a ‘micro manager’
because
that supported the argument that she must have known about
the variations in the accounts caused by the VAT scam.
When he gave oral evidence, an affidavit deposed
to by Ms Mandy Daddy, at one time the national sales manager of
SourceCom, was
put to second respondent; in particular Ms Daddy’s
description of the management style of first respondent as being to
afford
considerable scope and autonomy to departmental heads so that
she(Daddy) was merely required to report on a weekly basis as to
whether there was any problem in her department.
The following extract from the evidence reflects
his response : ‘Do you have any reason to challenge this as being
true for Ms
Daddy that this was her experience of Ms Thorne (first
respondent)? Second respondent replied – no, not the way the sales
people
operated. ‘
Second respondent conceded that Ms Daddy
occupied a post in the organisation at the same level as that
occupied by second respondent.
Given the description of first respondent as a
micro manager, Mr Burger submitted that he expected that first
respondent would have
been very careful regarding the termination of
the VAT scam upon her resignation. But the following passage in
second respondent’s
evidence under cross-examination appears to
suggest otherwise:
‘What did she (first respondent) do about this
VAT fraud on which she was sitting? R8 m or R9 m having been stolen,
running in
false journals in the company , she now rides off into the
sunset and she knows that there will be a disaster within weeks, the
company
is going to be liquidated, what does she do now to cover her
tracks? I don’t know you would have to ask her that I don’t
know.
She leaves the company and waits for the trouble
to start coming – the only discussion we had was the question was
asked to me
by her that would anyone discover that fraud when we
left. Oh and what did you answer? No I don’t think so.
You think you can both leave and nothing would
be discovered? Well that was the opinion, Ja
And she accepted that and left…Ja.
Is she financially naïve – no.
She is not stupid? Absolutely not
But she made no effort on your evidence to cover
up or to diffuse the discovery of this VAT fraud – I don’t
understand the question.
She made no effort as far as you know to cover
her tracks on the VAT fraud when she left by the end of 2000 – no.
While she believed that the company would have a
liquidator by December of that year I won’t say liquidator,
there will be
in very dire straits.
Yes, and while the company is to be controlled by
two innocent new purchasers, the manager of the company Dr Koornhof
and Mr Harlem
Correct? They manage the company, Yes.
Did you tell as you left, did you tell Ms Honey
to stop the VAT fraud ? Yes I did’
Mr Burger emphasised the significance of the
omission in any of the written versions put up by second respondent
of any discussion
which had taken place with first respondent
regarding the termination of the fraud following upon their
respective resignations.
3. Mr Burger also referred to second respondent’
s oral testimony regarding the manner in which he informed Ms Honey
to terminate
the VAT scheme: ‘And what did you tell her? That the
VAT – the VAT scam that was happening in the company must stop
immediately,
because of the new shareholders involved. And what was
he reaction, I can’t recall, it should be yes OK.
You can’t recall her reaction ?You either have
a particularly bad memory or your answer is untruthful. You have a
very bad memory?
I don’t have a good memory, no.
So you have a bad memory, possibly that’s the
answer but you don’t remember what her reaction was? Exactly no it
would have
been okay we must stop this.
Did you then ensure that it had been stopped from
the time that you gave the instruction? I don’t know, I wouldn’t
have – I
would have assumed that she had stopped those were my
instruction’
By contrast Ms Honey could not recall any
conversation with regard to the cessation of the VAT scam. It
appeared, on the basis of
the written evidence and confirmed by Ms
Honey , that the VAT scam continued after the resignation of both
respondents.
4. Mr Burger also referred to the reason why
second respondent might well have committed the fraud for his own
benefit. In June 1998
he received a salary from SourceCom of
between R15,000 – R18,000 per month. According to his oral
testimony, at the beginning
of 2000 he was required to pay R9,600
per month in respect of the bond on his house, R3,900 in respect of
financial charges on the
Combi and R3,000 in respect of finance
charges on a BMW. His children were at an expensive school. In
March 2000 the bank called
up an overdraft of R240,000 . He was in
serious financial difficulty.
Significantly, second respondent appeared to
obtain very little advantage from the VAT fraud which he alleged he
had initiated with
the co-operation of first respondent. Whereas he
had received a bonus of R126,000 for the 1998 financial year that is
before the
VAT fraud commenced his bonus for the 1999 financial year
was substantially reduced to R30,000 and no bonus was paid to him
for
the 2000 year.
Mr Burger contended however that it could not be
concluded that there were no potential financial benefits which might
have accrued
to second respondent as a result of the VAT scam. At
one point he received a bonus of R126,000 and ,with an improved
profit record
,SourceCom could award him again with a similar bonus.
Secondly it was common cause that he sought a further reward
through a
shareholding in SourceCom and payment of R300,000 in
consideration for concluding a covenant in restraint of trade..
Second respondent’s desperation for money went
to even greater lengths. His ex wife Ms Adrienne Connolly, with whom
second respondent
was still living at the time, sought to extort
payment of R1 m from first respondent and thereafter decided to
expose the VAT scam
to the authorities with a view to obtaining a 10%
commission from SARS. Significantly first respondent made mention of
this in her
answering affidavit in which she stated ‘I understand
that Adrienne Connolly alleged that she had a file in her possession
evidencing
a fraud on SARS and that she required payment of R1 m or
she would report the matter to SARS and claim the reward. I
immediately
conveyed to Philip Connolly (my former husband and the
brother of second respondent) that Adrienne Connolly should do as she
pleased
.as I was not susceptible to extortion’.
Apart from the criticism of second respondent’s
evidence , Mr Burger suggested that there was no basis on which the
applicant’s
reliance on inferential reasoning could overturn the
overwhelming probabilities in favour of first respondent based on
the competing
versions of the parties in their testimony to the
Court.
Mr Burger submitted that a number of other people
received the management accounts but did not discover the VAT fraud
including the
following:
(i) Fisher Hoffman Sithole who audited the books
for SourceCom for the 1999 and 2000 financial year. (ii) Mr Crispin
Sonn ,the chairperson
of SourceCom and an executive director during
part of the period in which the VAT fraud was being committed (June
1999 to 1 May
2000); (iii) Mr Peter Volkwyn, an executive director;
(iv) Mr Peter Baird, a non executive director a chartered accountant
, described
in evidence as ‘a very competent business man’; (v)
Mr Phares Mkwanazi, a non executive director and similarly decribed
as
a highly competent chartered accountant; (vi) Mr C Boorany an
executive director; (vii) Mr C Millward a non executive director;
(viii) Mr Neill Davies a chartered accountant and the chairman of
Brait Turnarounds who in April 1999 required insight into the
latest
management accounts of SourceCom as well as certain other information
regarding the company; (ix) A team who performed a
due diligence in
SourceCom in July 1999 in the text of a potential Notae Mediae
transaction; (x) Loubser Du Plessis which performed
due diligence in
SourceCom at the insistence of Dr Koornhof and Mr Harlow in July
2000; (xi) Mr Maritz, who replaced Mr Connolly
after he left the
company in November 2000 and who signed the VAT cheques up until May
2001 without ever discovering that there were
incorrect VAT returns.
5.Mr Burger also referred to the monthly
management accounts which were clearly distorted as a result of the
VAT scam but which contained
other distortions which were not
influenced by the VAT fraud. Under cross-examination from Mr Rogers,
first respondent referred
to management accounts for February 1999.
In that month SourceCom achieved a margin of 40% against a budgeted
margin of 10% .As
first respondent told the court, ‘that really
concerned me and I looked into that because the figures were there
and there is no
VAT contribution in that month’.
Similarly in the January 1999 accounts the
removal of the VAT fraud from the accounts gives rise to some
unexplained consequences.
For the month ending 31 January 1999 the
cost of sales was reduced by a bogus credit of R660,000. In that
month total sales were
reflected as being in the amount of R4,051,933
and total cost of sales were reflected as R3,281,030. Total sales
figure for the
month reflected professional services R114,177 and
what was ..referred to as ‘technical’ in the amount of
R217,853.( there was
an amount of R 5690 which no one appeared to
include in these calculations and which was derived from technical
services from
the Johannesburg branch but the amount does not appear
to be to disturb the point of this calculation) As there was no
cost of
sales in respect of these amounts it would be legitimate to
deduct approximately R335,000 from the figure of total sales in order
to ascertain the margin in respect of goods sold. If the amount of
R660,000 is added back to the total cost of sales, SourceCom
would
have had an effective margin of minus 6% on its sales. As first
respondent testified ‘Nowhere in a business would you sell
goods
for less than what you buy them for’.
Mr Rogers submitted that applicants’ case
depended to a large extent on showing by way of inferential reasoning
that the mistakes
in the accounts were so obvious that a person of Ms
Thorne’s ability and knowledge must have been able to ascertain a
distortion.
Some of the distortions were indeed extremely
crude. In the accounts for September 1999 Cape Town sales are
reflected in the amount
of R1,327,851 , the total cost of sales being
R346 679 , giving a gross profit percentage of 73,9% as compared to
the budgeted figure
of 14.4%. In the same amount an amount of
R807,519 was described as ‘other’. This amount clearly was
added back in order
to obtain a gross profit amount of R981,172,
which in turn produced the gross profit percentage of 73,9% .First
respondent was
asked about this by Mr Rogers under
cross-examination. ‘So you do not ask his Lordship to find that you
looked at this and thought
it was genuine. You asked his Lordship to
find that the only reason why he did not pick up the problem was
because you never looked
at this page.? Mr Rogers what I am saying
is that again with hind sight and KPMG you have traced this amount
back to a particular
journal entry…
..Well this particular amount just for to remind
his Lordship is in the cost of sales as a bracketed figure R807,000
other.
Now cost of sales is a true expense of
–represented without bracket so that R800 – that negative
R807,000 is at it were a
credit cost of sales? Yes.
Reducing cost of sales ? H’m, H’m
And that is primary made up by a figure of
R823,000 which I think you now know to be a bogus reduction…yes.
In cost of sales plus some other number ? Yes what
I can say to you is, if I were a party to this fraud that your client
wants me
to believe there is no way I would have gone into a board
meeting with figures like this. How would I explain to anybody, I
would
simply not have done that. It is so obvious now when one looks
at it and points it out?’
6. Mr Burger submitted that, crude as these
figures might have been , they were not discovered by first
respondent or other board
members or any other person involved in
examining the accounts of SourceCom. Mr Burger submitted that,
if it was argued that
the scam was not so crude, then there would be
no basis upon which the employment of inferential reasoning
could justify
the conclusion that first respondent must have known
about the fraud.
EVALUATION.
As Mr Rogers submitted in his reply , applicants’
case is that first respondent’s silence in the fact of patent and
obvious distortions
in the management accounts showed that she was
clearly aware of the VAT fraud from the outset. Whatever the finding
of the credibility
of second respondent , Mr Rogers submitted that
the credibility of first respondent’s version had to be tested
within the context
of the wider probabilities of the case. He
submitted that the court was required to consider the credibility of
witnesses in conjunction
with the probabilities .It was only where
the probabilities failed to indicate where the truth probably lay ,
that the court should
have recourse to an evaluation of the
credibility of the applicants’ witnesses on the one hand and
respondent’s witnesses
on the other.
National Employers
General Insurance Company Ltd v Gagers
1984(4) SA 437 (A) at 441
A. According to Mr Rogers an assessment of the inherent
probabilities of the case becomes critical. If
the probabilities
favour first respondent ,applicants’ would only be entitled to
succeed if the court was satisfied that first
respondent was lying
while second respondent told the truth. Conversely if the
probabilities favoured applicants’ they were entitled
to succeed
unless the court was satisfied that first respondent was telling the
truth while second respondent was lying. If the court
could not say
with confidence which of first or second respondent was telling the
truth but the inherent probabilities favoured applicants’
they
would also be entitled to succeed.
In my view, second respondent was a completely
unreliable witness. His various versions of the events which led to
the conceptualization
and implementation of the VAT fraud were all
designed to reduce his own culpability. Whereas Ms Honey’s
version that a genuine
mistake had been made(caused by a software
programme) which was then exploited by second respondent is a
creditable explanation,
second respondent’s testimony that a newly
appointed person (who was later considered to have sufficient
integrity to have been
employed by the new shareholders) proposed a
fraudulent scheme in the first few weeks of her employment is so far
fetched as to
raise serious questions about the balance of second
respondent’s testimony.
Given that second respondent was adamant about the
involvement of first respondent in the VAT scam , his testimony as to
the conversation
that took place between the two of them in November
(or December) 1998 regarding the implementation of the scam is
surprisingly
vague. Similarly, a version of his testimony that
first respondent would ‘enquire why the gross profit in a
particular month
was so high and I would then explain for example
that some of the fictitious Microsoft VAT had been written off
against cost of
sales’ did not accord with his description of
first respondent as the formidable boss, the ‘micro-manager’,
who informed
herself of each and every detail of the business. Had
first respondent been aware of the VAT fraud she would, she may not
have
required second respondent’s explanation as to how the gross
profit had been high for a particular month .The ‘micro manager’
would have in all likelihood been a participant in the manner in
which the ill gotten gains form the VAT scam were inserted
into the
profits.
Second respondent’s version as to how first
respondent sought to cover her tracks upon resignation is equally
implausible testimony.
He simply could not recall in any detail as
to how he or she had covered their tracks and to what precise
instructions had been
given to Ms Honey in this regard. Whatever his
version, it was contradicted by Ms Honey who seemed to have no
recollection of any
conversation with regard to the cessation of a
fraudulent scheme.
When second respondent’s testimony is evaluated
holistically, it consists of a number different versions which
cannot ,on any
reasonable basis , be considered to be probable. A
junior employee, recently appointed to the organisation proposes a
VAT scheme.
A formidable chief executive officer described as a
‘micro manager’ (in contrast to the description of Mandy Daddy)
agrees
to the initiation of the scheme but never has any conversation
with the junior employee ,Ms Honey ,as to its initiation or
implementation.
A chief executive officer who is presumed to be a
careful analyst of the company accounts requires periodic reminders
from second
respondent as to effect of the VAT scam on the gross
profit. A highly qualified chief executive officer who once taught
tax at a
university and was a director of a very reputable
accountancy firm and was engaged in aggressive tax savings schemes
makes no attempt
to hide this nefarious activity upon her
resignation.
First respondent was described by Mr Rogers as a
slick witness. She tended to be argumentative and tried to preempt
a line of questioning.
In part there can be no quibble with this
description. However in comparison with the pathetic, mendacious
figure which second
respondent cut in the court ,first respondent
was prepared to concede her negligence on more than one occasion,
albeit with the
benefit of hind sight. At times her conduct could
also be explained as a display of moral indignation under intense
and most skilful
cross-examination by Mr Rogers.
Absent the process of inferential reasoning in
which Mr Rogers engaged, the remaining evidence particularly the key
testimony of second
respondent is not sufficient to support the
conclusion that second respondent’s version regarding the
involvement of first respondent
stands to be believed.
Much of Mr Burger’s attack on applicant’s
attempt to invoke a process of inferential reasoning was based on
the failure of others
to discover the distortions in the accounts.
Mr Rogers countered this argument by suggesting that none of these
individuals mentioned
possessed first respondent’s overall
knowledge of the business in all its facets and details. The
auditors, for example, would
not have received regular monthly
accounts in that their function was to audit the books after
year-end. They were not involved
in the running of the business
and would not have had first respondent’s knowledge of particular
sales and the margins at which
they were being concluded.
In essence , applicants imply that the emphasis
placed upon the importance of the board of directors in general and
non executive
directors in particular to enforce a more rigorous
approach of corporate governance is somewhat misplaced .(see the King
Report
on Corporate Governance(2002) and Wixley and Everingham
Corporate Governance
(2002)).
Non executive directors may act diligently and
carefully but, to a large extent ,they are beholden to executive
directors in general
and the chief executive officer in particular
for the information on which they can render management accountable
to shareholders
employees, customers, investors and other interested
parties in the affairs of the company.
In the present case , the implication of
applicants’ response to the argument about the performance of the
board is that manipulation
by the chief executive officer aided by
the financial director prevented discovery of mismanagement or
fraud. But that is not
what the applicant sought to argue expressly.
Applicants contended that the scheme was so crude and the
manipulation of figures
so obvious, that it was inherently
improbable that first respondent could not have known of the effect
of the VAT scam on such figures
and hence on the overall performance
of Sourcecom . Assuming that this description of the scam to be
correct, the fact that an
entire group of interested parties did not
raise any questions with regard thereto is an important
consideration to be taken
into account in the evaluation of any
conclusion that might be reached from the process of reasoning
employed by applicants. If
the scheme was not crude but had been
conceived and implemented with a great measure of sophistication,
this may help explain
why first respondent did nothing to cover her
tracks upon resignation ;she being confident that the sophistication
of the scheme
would endure without being discovered. On this basis,
it is then equally probable that she did not know about the scam
which had
been hatched by second respondent for whatever motive with
the connivance of Ms Honey. There is some support for this later
conclusion
in the evidence given by Ms Honey when she testified as
to how she had prepared Excel spread sheets on the instruction of
second
respondent in which certain figures were hidden from view
and required special knowledge in order to gain access thereto.
Applicant can therefore not have it both ways.
Either the scheme was so crude that the distortions must have been
apparent to first
respondent in which case they should have been
apparent to some or all of the other parties to the organization ;
that is to those
persons who were possessed of business expertise
and accounting knowledge. If the scam was of a sophisticated
nature , it
may well have prevented a business person even as
knowledgeable as first respondent in matters of tax and accounting
from discovering
the true position of SourceCom.
Much was made by applicants of the benefits which
would accrue to first respondent by virtue of the VAT fraud as well
as her lack
of integrity . Mr Rogers referred to the inaccurate
submission of a passport application to the Department of Home
Affairs, a
non disclosure of a bonus which first respondent received
for tax purposes in order to justify the conclusion that first
respondent
was a person lacking in integrity.
Unquestionably first respondent did stand to
benefit from increased profits in the organisation but the
alternative submission that
second respondent also stood to gain by
way of an award of shares and a further payment pursuant to the
conclusion of a restraint
agreement and further bonuses cannot be
discounted. That first respondent may not have always performed to
a standard of integrity
to be expected of a citizen in this
country, does not mean that her evidence per se in this dispute
should be discounted. Furthermore
there is uncontested evidence that
she refused to pay respondent’s ex wife in circumstances where such
a payment may well have
been to her advantage, assuming applicants’
version to be correct.
Applicant must show in a case such as the present
that the inference sought to be drawn is consistent with all the
proved facts.
See Cooper and Another NNO v Merchant Trade Finance
Limited
2000(3) SA 1009(SCA) at 1027-1028 where
Zulman J A
accepted that the first part of the test for inferential
reasoning as laid out in
R v Blom
1939 AD 188
at 202 is
applicable to civil cases; that is the inference to be preferred
must be the most appropriate ,and plausible one to
be drawn from
all the proved facts.
See Ocean Accident and Guarantee
Corporation Ltd v Koch
1963(4) SA 147(A) at 159 C-D. This
dispute concerns the plausibility of the competing versions. Even
if there are competing reasonable
interpretations, the question
arises as to which of the two test in a versions admits of the most
plausible conclusion to be
drawn from the facts presented to the
court.
In this dispute, the account put up by first
respondent is ,at the very least sufficiently plausible, to prevent
the conclusion that
, on a balance of probabilities, applicants
argument justifies the finding of fraudulent conduct on her part. The
oral testimony
of second respondent must be discounted .Here is a
case of a crook( who admitted that he had a serious drug problem at
the time)
upon whose competing versions and desire to shift blame
on to other persons no reliance can be placed. His performance as a
witness
leads to but one conclusion ; that he lied as a matter
of course on every conceivably relevant subject .His demeanor ,
evasiveness
and preposterous explanations together with internal
and external inconsistency in his testimony may be the stuff of a
novelist
but most certainly not of credible witness. First
respondent proved to be a far more reliable witness.
So the applicants were driven back to the
exclusive employment of inferential reasoning to bolster second
respondents’ version
. When these two competing versions are
compared, it is difficult ,on the reliable evidence to conclude
with any confidence that
the applicants version is the more
plausible. .
RECKLESSNESS
.
The principle case which applicant sought to make
against first respondent was one of fraudulent dealing. Mr Rogers
submitted however
that the incorrect deductions of input VAT
constituted a reckless manner of conducting SourceCom’s business.
In relation to those
persons who actually knew that bogus VAT was
being deducted and had the intention to defraud SARS there was
fraud. However this
did not preclude the possibility that other
persons , who were not party to the scheme, may have been parties to
the reckless deduction
of input VAT.
Mr Rogers submitted that first respondent was such
a person. She signed the first VAT cheque involved in the fraud and
as chief executive
officer she knew that large local sales of
microsoft licences were concluded which were not matched by any
input VAT payable to
Microsoft. The amounts by which VAT was
underpaid was very large. First respondent as chief executive
officer was very much a party
to the reckless underpayment of VAT.
Any reasonable business person in her position would have realised
that the VAT payment simply
could not be correct and would have done
something about it.
The alternative case of recklessness proceeds on
the basis that the evidence of second respondent concerning first
respondent’s
intention to defraud stands to be discounted. Mr
Burger submitted that ,if the evidence placed before the court by
applicant to
establish fraud is not accepted , then it could not be
accepted for an alternative purpose, namely that of reckless
conduct. If
it cannot be shown that first respondent was aware of the
fraud being perpetrated by second respondent, it is difficult to
see
how she could be regarded as having adopted so supine an
attitude towards it which would amount to the kind of passive
concurrence
envisaged in
Howard v Herrigel and Another NNO
1991(2)SA 660(A) at 674 H.
Furthermore the recklessness required by
s 424
cannot amount to negligence. As chief executive officer first
respondent might well have been negligent in not ascertaining the
nature of the fraud. Certainly, this is a plausible conclusion upon
which to arrive on the basis of the evidence presented to
the court.
It may have been the case that she relied upon second respondent
to prepare the accounts and generally assumed them
to be an accurate
reflection of the company’s business performance.
For these reasons, I am of the view that
applicants have not discharged the onus which rests upon them in
terms of section 424 of
the Act . Accordingly the application is
dismissed with costs including the cost of two counsel, such to
include the costs of
the initial application brought by applicants
and which resulted in the judgment of
Blignault J
on 21
November 2001.
DAVIS J
.
.