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Theranos: The Tip of the Iceberg?

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As the Elizabeth Holmes trial continues, the topics of fraud and crime in business are once again back in vogue. Theranos was a well-funded Silicon Valley success story, headed an ambitious Stanford dropout who started the firm at just 19. Holmes promised to revolutionize healthcare by making blood testing painless and ubiquitous — a lofty goal, for sure.

The firm counted heavyweights like George Shultz and Henry Kissinger on its board, and its growth continued for 12 years. Unfortunately, the machines Theranos developed never really worked, and its top-secret laboratories were blood-spattered nightmares. Millions of blood tests were sold through pharmacies, some of them with shockingly false results for people who counted on their accuracy in screening for cancer or pregnancy. Holmes and her former boyfriend are now up on fraud charges in separate cases.

It’s tempting to look at this case and feel reassured: the fraud was (eventually) stopped, and the alleged perpetrators face justice. But dig a little deeper about how the case came to light, and matters appear less reassuring. The apparent crimes at Theranos only came to light when an anonymous employee tipped off a blogger — prompting a dogged investigation by John Carreyrou of the Wall Street Journal. Health regulators developed a serious interest in investigating those ghastly laboratories only after his reporting emerged.

Much the same applied to Enron. The infamous 2001 collapse that (at the time) marked the largest bankruptcy in American history. What brought the energy giant down? A young journalist, Bethany McLean, posed the emperor’s-new-clothes question in a piece for Fortune magazine: how does Enron make money? Nobody in the piece could answer the question. Within months, Enron had folded.

In the case of Bernie Madoff’s Ponzi scheme, the perpetrator turned himself in. But that was only after a whistleblower, Harry Markopolous, had twice approached the SEC and been ignored.

The list goes on: in the 2007-2008 subprime crisis, years-long frauds were only uncovered at the collapse of first some funds and then banks themselves. The problems at insurer AIG only emerged on the eve of its collapse. This year, 2021, it took a fired employee to reveal problems at DWS, the asset management arm of Deutsche Bank, prompting investigations by regulators on both sides of the Atlantic.

Anything disturbing here? I think so. There seems to be nothing systematic about how these giant cases were uncovered. That implies we could be living in a world where all big scams eventually come to light, perhaps falling apart under their weight. Or we may inhabit a different universe, with many more frauds, most of which we’ll never uncover. If the latter is true, it raises the question: how many more are lurking out there?

I was one of the first investigators hired after the collapse of the three Icelandic banks in four days in 2008 — each one in itself around the size of an Enron. It took this triple collapse and the gutting of the Icelandic economy — the loss of thousands of jobs, cars, and homes — before the market regulator bothered to dig around. What we found shocked us — the three banks had secretly been buying their shares for so many years that nearly the entire stock market was a fiction of their creation!

The experience prompted a radical reassessment of my concept of financial markets. What if they are all manipulated, and Theranos, Enron, and the others are not just rare one-offs? Even if the bad actors represent only a tiny percentage of all market participants, that would be enough to corrupt the entire system. And the incentives are off, too: very few market watchdogs are adequately compensated or staffed to dig as deeply as required — or as we were able to in Iceland in 2009. Houston: we have a problem.

Based on what I have seen, I feel we as societies haven’t yet proven that we have the tools and capability to police our own companies and financial markets. This should scare us. If we want to use these same rickety and unpoliced markets to do something about the biggest challenges to life as we know it — rapid global heating and biodiversity loss — then we may be in for a rude surprise when they fail to address these problems for us.

Markets are everywhere human creations. We would do well to remember this and think carefully about their structure and whom we allow to trade on them. These are the conversations we need to have, not just on the business pages.