OSAKA -- Inadequate governance at Sharp was revealed in connection with improper accounting practices by its subsidiary Kantatsu, according to a committee formed by the Osaka-based electronics maker to investigate fraud at the subsidiary.
Hon Hai Precision Industry, Sharp's Taiwanese parent, hopes to generate synergy between its contract production of smartphones and Kantatsu's business of manufacturing smartphone camera lenses. But Hon Hai -- better known as Foxconn -- now has to deal with Sharp's Inadequate subsidiary management that was exposed by the fraud.
The committee of outside lawyers and accountants announced the results of its investigation on March 12, finding that Kantatsu improperly recorded 9.2 billion yen ($84.4 million) in sales in the two years through March 2020, accounting for about 40% of reported sales.
"The subsidiary's governance system has been inadequate," the committees noted in the report.
Sharp made Kantatsu into a subsidiary in March 2018 and appointed its president. It currently holds 53% of Kantatsu shares. As of the end of March 2020, Sharp had dispatched 11 workers to Kantatsu to procure smartphone lenses.
Kantatsu booked sales before the conclusion of deals or without purchase orders, the committee said. There also were deals to buy back goods in stock. The committee stressed that Kantatsu had "repeated inexcusable and fraudulent accounting practices without any careful consideration."
Kantatsu committed the fraud because management was under pressure to achieve its business plans, the committee said. While Kantatsu was planning an initial public offering, Sharp made the plan public. To meet the earnings forecast before the IPO, Kantatsu resorted to the improper accounting treatment to cover shortfalls in earnings, according to the committee. Weakened demand as a result of trade sanctions slapped on China by the U.S. also prompted Kantatsu to commit the fraud.
In addition, the committee found the Sharp-appointed president lacking awareness of complying with the law and accounting regulations. The president's weak guidance over Kantatsu was a "major governance defect," it said.
The committee also referred to Sharp's inadequate system of governance. The discovery of fraudulent accounting practices "may have been delayed" because Sharp was not fully aware of the need for governance and so lacked a system to give guidance to subsidiaries by grasping and analyzing management information, it said.
Sharp should in future establish a better auditing system by increasing staff in its internal audit department, the committee added.
"We will strengthen the management and supervision of our subsidiaries as well as our governance," Sharp President Katsuaki Nomura said at a news conference.
The accounting fraud was detected through an internal audit of Kantatsu by Sharp in November 2020, prompting the parent to establish the committee for fact-finding investigations. Following the committee report, Sharp revised its profit/loss statements, consolidated balance sheets and other financial statements of Kantatsu as a subsidiary.
On March 12, Sharp also said it had canceled a plan to sell shares in Sakai Display Products. The manufacturer of liquid crystal display panels in Osaka Prefecture will remain in the Sharp group as an equity-method affiliate, it said.
Sharp is promoting the spinoff of some of its businesses, including LCD panels, to acquire outside capital. But if there are doubts about its management and audit, Sharp may hit a snag.
Sharp also released its consolidated results for the April-December period of 2020 after delaying the announcement because of the Kantatsu investigation. In the first three quarters of the current business year, Sharp logged a net profit of 41.1 billion yen -- down 11% from a year earlier -- on a 4% rise in sales to 1.82 trillion yen.
Shares in Sharp were down for the second straight day through midday Tuesday, by about 8.5% from last weekend, and trading at around the same low level as in the middle of January.