Wirecard: When the Watchdogs Chase the Critics

*The journalists and short sellers who identified the fraud were investigated. The company was not. It remained in Germany's premier index until the money admitted to being missing.*

In June 2020, the German payments company Wirecard acknowledged that some one point nine billion euros, which its accounts recorded as sitting in trust accounts in Asia, did not exist. It filed for insolvency days later. At the time of the admission it was a constituent of the DAX, alongside Germany's largest enterprises, and its shares had at their peak valued it more highly than Deutsche Bank.

What distinguishes this episode from an ordinary fraud is not the deception but what happened to those who identified it. Journalists at a major financial newspaper had published detailed and specific allegations about the company's accounting over a period of years. Short sellers, who had studied the company and concluded that its reported business did not exist in the volumes claimed, had made their reasoning public. The evidence was, in substantial part, in the open.

The response of the German financial regulator was not to investigate the company. In early 2019, the regulator instead banned the taking of new short positions in the company's shares, an extraordinary measure, and filed a criminal complaint against journalists who had reported on the allegations, on the theory that they might have been engaged in market manipulation. The institution charged with protecting investors had, in effect, taken the side of the enterprise against those attempting to expose it.

The reasoning behind this is not difficult to reconstruct, and it is more instructive than a simple story of incompetence. The company was a national success story, a technology enterprise of genuine international standing in a country that had produced few of them. Its critics were foreign journalists and speculators who stood to profit if the shares fell. In that framing, the allegations looked like an attack on a German champion by parties with an obvious financial interest in its decline, and the regulator responded to the framing rather than to the evidence.

The auditors, meanwhile, had signed off on the company's accounts for years, including the accounts recording money that did not exist. Confirmation of the balances had been sought and obtained through arrangements that, in retrospect, permitted the company substantial influence over what the auditors saw. The failure was not a matter of missing a subtle irregularity. The money was not there, and the audit did not establish that it was there, over a period of years.

For an investor, the central lesson concerns the weight that ought to be placed on institutional endorsement, and it is a lesson that should be uncomfortable. The company was in the DAX. It was audited by a major firm. It was covered by analysts at substantial institutions, many of whom recommended the shares. It was defended by the national regulator. Every institutional signal available to an ordinary investor was positive, and every one of them was worthless.

This does not mean an investor should reject institutional signals entirely, which would be its own error. It means those signals are not evidence about the underlying business. Membership of an index reflects a company's market value and certain mechanical criteria; it is not a certification of honesty. An audit is an opinion rendered under constraints, by a firm that is paid by the company it audits. Analyst coverage frequently reflects access and relationships as much as independent assessment. None of these institutions is examining the question the investor actually cares about.

The episode is also instructive about how scepticism is received. The people who were right were treated as adversaries, and their financial interest in the company's decline was used as grounds to dismiss their arguments without engaging them. This is a persistent pattern and it is worth naming, because the argument from motive is nearly always available and nearly always beside the point. A short seller who publishes a detailed account of why a company's numbers do not add up may indeed profit if they are correct. The relevant question is whether the numbers add up, and that question can be examined directly.

There was, in this instance, a signal available to an ordinary investor who was willing to look, and it did not require forensic accounting. It was simply that serious, specific, documented allegations had been made and had not been answered. The company's responses to the reporting consisted largely of attacks on the reporters and denials in general terms, rather than an explanation of the specific discrepancies raised. An investor who noticed that the substantive questions were not being addressed had all the information they needed to decline to own the shares.

The defence available to an ordinary investor is therefore not the ability to detect fraud, which few possess. It is the willingness to treat unanswered questions as reasons to stay away, and to recognise that no quantity of institutional approval substitutes for an explanation. Declining to own something is always available, costs nothing, and requires no certainty about whether the allegations are true.

The episode also carries a lesson about the particular danger of a national champion, and it generalises well beyond Germany. When an enterprise comes to represent something beyond itself, a country's technological ambitions, a region's economic revival, a sector's promise, the scrutiny it receives changes character. Criticism of the company becomes, in the minds of those who ought to be examining it, criticism of the thing it represents, and defending it becomes a matter of loyalty rather than of evidence. This is not a peculiarly German failing and it has appeared wherever such symbols exist. An investor who notices that a company is being discussed in terms of national pride rather than in terms of its cash flows has learned something useful about the quality of scrutiny it is likely to be receiving, and about how much weight the resulting institutional endorsements deserve.

At VESTFY™ the Wirecard episode is presented as a demonstration that the institutions an investor instinctively trusts are not, in fact, examining what the investor cares about. Recognising this is not cynicism. It is an accurate understanding of what each institution actually does, and it places the responsibility for the decision precisely where it has always been.