Perils of over invoicing

If you walk through old industrial estates in Goa or elsewhere you’ll see many closed units. A newer estate like Verna has less of such closed units. What is the reason? Usually if one looks at the history of the closed unit you will notice a majority of them were born during the subsidy era when subsidy was paid almost as soon as you started. Subsequently as the governments became cash strapped they paid subsidy after many years. We got our subsidy after 10 years.

Is there a contradiction here, was subsidy not an incentive to help entrepreneurs?  If so, then how has it been responsible for at least some of the failures? The answer lies in an innocuous element, over invoicing. Simply put, over invoicing is when a supplier is asked to invoice a machine for say Rs.150 when the actual cost is Rs.75. Why would this be a reason for the downfall of a company?  The advantage of over invoicing is very apparent. The difference between the Rs.150 charged and the actual cost of Rs.75 will be returned to the entrepreneur in cash and he can claim a little more by way of subsidy.

Anyone who is not commercially sound will believe that there is nothing wrong or problematic in the transaction.  Nothing can be further from the truth. Over invoicing is like the proverbial iceberg, one sees only the tip, when the major danger lurks below. And like iceberg, it has the potential to sink your ship.

Let us examine the pitfalls. First, the perceived benefit. One actually never gets the full amount over invoiced back. The supplier will state that since he has to pay income tax on the additional amount he will try and keep atleast 30% back. Never mind the fact that to pay you cash he makes fake expense vouchers and thus reduces his tax liability. Despite you negotiation skills you will lose a minimum of 15%. The subsidy comes at a price as the officials claim their pound of flesh.

Then this money is refunded in cash and faster than you can say “Jack Robinson” the money will disappear into non asset expenses and be lost forever.

Having paid the supplier, the total appears on your balance sheet as an asset. The bank would have funded this amount to the tune of approx 75%. So the installments and interest will be higher than if one had not over invoiced. So there is a financial burden.

When you begin costing for your product, the extra depreciation, the extra interest has to be loaded. This makes the cost that much more expensive and therefore that mush more uncompetitive. In case you believe you can cost the product or for that matter sell the product at the market determined price and thus these simple aspects can be ignored, think again.

When you sell at a lower price which has not factored the extra interest or depreciation you will show a loss in your balance sheet. So you are damned if you factor in the extra costs because no one will buy your product and you are damned if you do not factor in the extra costs- you will be selling at a loss.

In a short while the company will begin to go under. The weight of over invoicing will begin to have its effect. Once under, the financial institution will try and sell the asset to recover the original loan. They will find that there are no takers as a new machine will cost less than your depreciated asset. The asset will lie idle, it has lost money and it cannot sell.

The simple act of over invoicing has led to the sinking of the company. So every over invoice situation is actually making a hole in your boat. With such a boat you will not get across a pond, leave alone an ocean called the “marketplace”.