By: Gregory J. Naclerio*
“There is a Chinese curse,” Senator Robert F. Kennedy told a Cape Town, South Africa audience, “which says ‘may he live in interesting times.’ Like it or not, we live in interesting times.” [i]
With the economic downturn, business owners are struggling to maintain flat growth market share and revenues. Employees have seen their 401(k) retirement accounts significantly reduced and many struggle with the fear that their jobs may be a week-to-week proposition. The uncertainty prevalent in the workplace and the financial pressure it has created will no doubt cause some employees to adopt a “me-first” attitude and then cross the line into criminal conduct – namely, the embezzlement of company monies.
Embezzlement is definitely on the upswing, with the number of employees arrested for embezzlement up a dramatic 70% since 1990.[ii] And that’s just arrests. How many other incidents are swept under the rug by employers trying to avoid “bad publicity”? A recent survey conducted by The Association of Certified Fraud Examiners echoes this trend, noting that businesses lose an estimated 7% of their revenues to fraud – and that the figure could approach $994 billion each year.[iii]
Why is the threat of embezzlement increasing and what types of embezzlement can strike a business? Finally, what can you, as a business owner or senior manager, do to deter, if not prevent, embezzlement? This article will seek to address these and related issues that business managers need to be cognizant of in order to make sure all the company’s dollars go to the bottom line and not to line the pockets of a renegade employee.
An old certified public accountant once told me, “You don’t get embezzled by someone you don’t trust.” Nearly all embezzlers are truly “double agents”: To the outside world, they appear to be more than hardworking – actually driven – to complete their assigned tasks. They may come in early; stay late; never seem to take a day off or a vacation. They love to assume “control” of situations presented and take the “boring” accounting work off their boss’s desk. As the boss becomes comfortable assigning this type of work to the employee, the less supervision occurs.
The double agent’s goal is to enrich him or herself at the expense of the company. Many embezzlers don’t really start out with the intent to steal, as a bank robber does. It just sort of happens. The double agent sees a flaw in the company’s internal controls and starts to take a “few dollars,” perhaps even with the intent to pay back the company for its “loan.” That thought soon vanishes as the “Greed Theorem” kicks in. The Greed Theorem can be best explained thusly: a person steals a little and gets away with it. Then, the person steals more and again gets away with it. Emboldened by previous success, he steals yet more. By now, the double agent is used to the success of his thefts and enjoys the ill-gotten gain by purchasing a vacation home, new car, expensive clothes, etc. Apparently, it’s difficult to stop indulging yourself with other people’s money.
THE OLD PARADIGM
Traditionally, law enforcement described “embezzlement” as a triangle with each point of the triangle depicting an element necessary for the crime to occur.
The key is opportunity. Opportunity is generally easy to achieve because companies believe the double agent is a dedicated company man. Clearly, if companies had concerns about the employee’s honesty and integrity, they would not have put the employee in a position of trust. It is the trust factor that will permit the double agent to operate. Opportunity – also called by some theologians “temptation” – was also created by you, the employer. You did so unknowing, of course, but you put the means of your own destruction in the hands of the double agent by having faulty internal controls. An employee may not start out to be a thief but when he sees stealing from the company is easier than taking candy from a one-year-old, he is off and running.
In today’s busy and hectic business climate, the boss is busy trying to get new business, keep old customers happy, collect outstanding A/R’s and continuing to ensure a quality product. This calls to mind the real world example of the bookkeeper who processed refunds and prepared credit balances for the boss to pay by check. The boss was too busy to write out the checks – so he had the bookkeeper perform both tasks. She performed both tasks – including diverting refund checks to her own account and later, when the “Greed Theorem” kicked in, she processed totally fictitious refunds that wound up in her bank account.
Clearly, there must be a degree of trust in the workplace, but the admonition given by President Reagan to the Soviets also applies in the business world:
It’s still trust…but verify
It’s still play…but cut the cards
It’s still watch closely…and don’t be afraid
to see what you see[iv]
Pressure – the second leg of the triangle – can come from far too many sources to catalogue. In the reported cases, it does not appear the need to feed an alcohol or drug addiction plays a substantial role in embezzlement (surely, if the double agent displayed this type of behavior, the person would not be put in a position of trust). However, it was noteworthy in a study by Marquet International that a “gambling problem” appeared to be a key factor in an embezzler’s personality.[v] Accordingly, supervisors should be alert if a person is in a position to access corporate funds and appears to be involved in gambling activities. Also, it does not appear that people embezzled to put daily bread on the table. Fraudsters in white-collar settings generally steal to keep up with the Jones or have the luxuries that a $50,000/year clerk sees the rich and famous enjoy. While pressure is not objective, it is subjective in the mind of the fraudster and in reported cases starts to equate with simple greed for the good life.
Rationalization is the triangle’s third leg and, simply put, is the employee saying: “I need the money more than the company” or, “What will a few hundred thousand mean to the company, while it means a lot to me” or, “I deserve it for all the work I do. I am underpaid.” People can talk themselves into believing almost anything: that black is white and that embezzling is not stealing. Also, many double agents convince themselves they will pay the company back for the money they “borrowed”… unfortunately, that day never comes.
THE 2008 PARADIGM SHIFT
Due to the economic tumult of the last year, the embezzlement paradigm has shifted to a new shape… interestingly enough the shape is a diamond.
The original points of the old triangle are now joined by Insecurity/Fear. While some agree that Insecurity/Fear is just part of rationalization, I believe it goes deeper. Today’s employee is bombarded with the world’s economic woes every day on the six o’clock news. Older workers who planned on retiring in a year or two on their 401(k)’s, now have to put off those plans as their 401(k)’s have shrunk to “201(k)’s.” Younger employees see that first house dream fade. And the outlook for the foreseeable future (and possibly all of 2009) does not look any better. In this regard, the U.S. Bureau of Labor statistics, on March 27, 2009, reported:
Regional and state unemployment rates were nearly all higher in February. Forty-nine states and the District of Columbia recorded over-the-month unemployment rate increases, while all 50 states and the District of Columbia had higher rates than a year earlier, the Bureau of Labor Statistics of the U.S. Department of Labor reported today. The national unemployment rate rose from 7.6 percent in January to 8.1 percent in February, which was 3.3 percentage points higher than a year earlier.
Moreover, states like Michigan, North Carolina, California and Oregon have unemployment over 10%.[vi]
The uncertainty over whether an employee will have a job next month heightens the Insecurity/Fear of some who have the opportunity to steal. This pressure now becomes a justification, not a rationalization, to embezzle. Justification makes stealing easier; as economic woes continue, the possibility of being a victim of embezzlement increases.
KNOW YOUR “DOUBLE AGENTS”
The Marquet International analysis also provides a profile of major embezzlers who stole in excess of $100,000. Some of those traits are set forth below:
· More females committed major embezzlements (58.7%) than males.
· Males, however, stole more money (75.6% of the total).
· The average age of the thief was 48.2 years with 62.4% of the criminals between the ages of 40 and 59.
· Industries most susceptible to be victimized were financial services, government agencies, education, manufacturing and non-profit secular agencies.
· Finance and accounting positions (including, bookkeepers) not surprisingly accounted for nearly 50% of the embezzlements and 40% of the total losses.
· Those holding executive positions were responsible for 18% of the losses.
· States with the highest fraud losses were California, Florida, New York and Massachusetts.
· The average embezzlement lasted 53.5 months or 4.5 before discovery.
· Nearly 6% of the cases involved perpetrators who experienced gambling problems.
· Other motivating factors included divorce and financial strains.[vii]
Perhaps, the most interesting motivation for embezzling involved one Cassandra Ryder who stole $134,000 from her employer – a Tennessee bank – claiming an addiction to the QVC shopping network.[viii]
While this Profile cannot identify a double agent in your midst, it can give you an insight into the personality of the potential embezzler. Clearly, the employees you place in a position of trust should be vetted before that assignment is given. The vetting process for these key employees needs more than a cursory verification of prior employment and you should also consider getting such employees bonded.
Additional insight into the embezzler’s mind can be gleaned from details of actual embezzlement cases, which follow:
1. The United States Department of State charged a former contractor with creating “travel profiles for a non-existent employee.” The contractor billed the government $54,000 for the fictitious employee’s travel expenses and diverted the check to her own account.
2. The office manager of a New Jersey construction company wrote company loans to herself and then doctored the company records to conceal her theft. In total, the manager stole $407,000 before she was caught. The stolen monies were used by the embezzler to buy a new home and plan a wedding and honeymoon in Fiji. After interviewing the thief, police concluded she was motivated by “greed” and “squandered the money.”
3. A bookkeeper at a not-for-profit agency was the only employee permitted to transmit payroll information to ADP. The bookkeeper used his unique position to call in numerous extra payroll checks for himself. In a 3 ½ year period, he stole $331,376.42.
4. Some professional, such as doctors and lawyers, are “so busy practicing” that they delegate payment of their office (and even at times their personal) expenses to a trusted employee, usually a secretary or outside bookkeeper. In one such case, the bookkeeper spent four years writing checks on the account of an emergency physician group to fictitious companies she created – and stole $137,100 before being caught.
5. The managing partner for a group of wealthy venture capitalists had sole authority to manage the partnership’s finances, as his partners were “too busy.” The managing partner proceeded to use partnership funds for personal expenses as well as having his out-of-state mistress placed on the books of the partnership as an employee. A serendipitous event exposed the theft after $250,000 had been misappropriated.
Several lessons can be learned from these cases: 1) a lack of checks and balances allows the crime to happen, with total control over the payable function delegated to one person without any supervision or review; 2) taking the position that management is “too busy” to double-check the payment of expenses is not acceptable. As an owner or a fiduciary of stockholders, you have the obligation to make sure company assets are not stolen. You cannot delegate that responsibility; 3) what were your outside auditors doing when it came to evaluating your internal controls? Did they report lack of internal controls in their management letter and if so, did you ignore it – or did they just miss it?
Another case study illustrates an old embezzlement method that seems to be making a come back because “nobody is looking.”
An ex-Staples vice president was accused of stealing $584,826 from the company via the company credit card, which was designed solely to pay business-related expenses. It took Staples over two years to catch this vice president who billed personal shopping and “adult entertainment” to the company. Here, as usual, since nobody looked at the V.P.’s credit card bills, he was able to steal half a million dollars in just two years. Many fraudsters realize that the receipts they turn into support their credit card expenses are rarely looked at. Alternatively, because of their position in the company, the rule concerning receipts is ignored because “Mr. Vice President is too busy to keep receipts.” Also, the staff that pays credit card expenses should know the entity that the company funds go to and inquire as necessary. “Why is Mr. Vice President charging at Tiffany’s” or for “rooms at the Ritz Carlton in the same city where he works.” “What is TPKL, LLP charge.” Here, as always, vigilance with a healthy does of skepticism is the appropriate antidote for embezzlers.
A BATTLE PLAN TO DEFEAT EMBEZZLERS.
As the method used by fraudsters to steal from their employers is only limited by the human imagination, employers should adopt countermeasures to deter, if not stop, embezzlers. One such countermeasure is an Ethics Compliance Program. From a cost/benefit analysis, the money the corporation spends in creating an Ethics Compliance Program (ECP) is more than offset if it stops just one embezzler. Moreover, the ECP will also go a long way in deterring others in the company who may be taking kickbacks for inflated or non-existent goods, or are signing contracts not as favorable to the company because they have their own deals at the expense of the company. In short, the deterrent effect of an ECP communicates to the staff: “Our company has a zero tolerance for fraud.” It is well worth the investment.
THE ETHICS COMPLIANCE PROGRAM (ECP)
An ECP is not an off – the – rack program that companies adopt and then gets placed on a shelf to collect dust and cobwebs. Rather, it’s a living document that permeates the entire company from the top down. As a Certified Fraud Examiner, I know that “one size does not fit all” but I would like to share with you some of the building blocks I believe an ECP needs to flourish.
1. The tone for honesty in business is set at the top. If employers see senior management helping themselves to corporate assets the attitude of “… if he can do it, so can I” will permeate the business. Senior management must be reminded that the example they set will be emulated by their subordinates. Therefore, senior management must buy into and adhere to the company’s policy on Ethics.
2. The company should adopt and publish a formal “Code of Conduct”. This document must be tailored to the company’s culture and business but need not be a 20-page dissertation (arguably, the best code of conduct was written on Mt. Sinai on two stone tablets).
3. The company should also adopt and publish its “Ethics Company Plan.” The Plan should have certain key provisions, such as:
a. The appointment of a company “Ethics Officer” or “Compliance Officer”.
b. Training on the Ethics Compliance Plan to all current and new employees with a follow-up review at least once a year.
c. The development of an “Ethics Hotline” so employees and other individuals who deal with the company can report ethics breaches.
d. Notice that those who violate the Code of Conduct will be disciplined as well as those who are aware of the breach but fail to report it.
The creation of an “Ethics Hotline” is critical to the success of the Compliance Program, as a recent survey found 41% of fraud cases involving small business came from hotline tips. This method of fraud detection uncovered almost four times the results when compared to internal audit programs and was almost 2.5 more times effective than external audits.[ix]
4. Institute workable and effective internal accounting controls. Over the years, business practices can get sloppy. A system of checks and balances can remove the temptation to steal. Such controls would include:
a. separating the cash disbursement and accounts payable functions.
b. separating the preparation of payroll and the actual paying of employees.
c. personally approving all bad debt write-offs.
d. not signing blank checks to be used while you’re away.
5. Conducting a baseline forensic audit. This is not a “tick and tie” traditional audit. It’s conducted by individuals, such as Certified Fraud Examiners, who are looking for aberrational transactions that may be the telltale signs of fraud. Some examples are:
a. Review vendor and payroll checks with suspicious endorsements.
b. Verify wire transfers going to a vendor’s account rather than an employee’s “dummy account.”
c. Review credit card payments and receipts used to justify expenses.
d. Interview key bookkeeping personnel.
e. Examine the cash receipt system for weaknesses and for possible cash diversion.
The forensic audit should include the random selection of one month’s vendor and payroll checks plus credit card records for a three-year period. (i.e. one month for each of the three years). The months before and after the Christmas holiday are good choices, as the temptation to get cash before the holiday or pay holiday bills post holiday are strong. Remember, as embezzlers get greedier they become sloppier.
6. Making sure all your employees take at least one-week consecutive vacation each year while someone else performs their job functions. It will not be the first time a scam is found while a “trusted employee” is on vacation. This was a practice for some time in the banking industry, particularly with respect to tellers.
7. Rotate employees through areas that address customer billing complaints.
8. Generate computer runs at least quarterly, which will show your list of vendors and payments. Look for new vendors and vendors whose payments “spike.” Check these aberrations out to assure they are proper expenditures.
9. Establish a company policy that states that those caught embezzling – no matter what their position – will be fired and law enforcement will be notified. To be effective, the company’s ECP must be strong and evenly administered. The fear of “bad publicity” being generated as a result of a firing and criminal prosecution is erroneous. Rather, such action enhances the reputation of a company as one that will do “the right thing”.
It is difficult to detect a double agent. Most assume the cover of hard-working, diligent employees. The problem is their part-time job may be stealing from you. While you may fail to detect current double agents, you can seek to deter others who would do likewise. The old cop adage of “The crap game stops when the cop is on the corner” is appropriate here. Deterrence is a major weapon is stopping thefts. With the initiation of the steps discussed above, your company’s assets will be protected and your corporate culture of honesty will grow.
* Gregory J. Naclerio is a partner at Ruskin Moscou Faltischek, where he is Chair of the Health Law Regulatory Department and co-chair of the White Collar Crime & Investigations Group. He is also a member of the Corporate Governance Practice Group
[i] Robert F. Kennedy, Cape Town South Africa Speech, June 6, 1966.
[ii] Number of Embezzlement Cases Increasing, West Virginia Herald Dispatch Curtis Johnson, August 3,
[iii] Report to the Nation 2008, Association of Certified Fraud Examiners, Executive Summary, p. 4.
[iv] President Ronald Regan, Farewell address to the Nation, January 11, 1989
[v] A White-Collar Crime Analysis of Major Embezzlement Cases Active in 2008, Marquet International,
Ltd. January 2009 p. 9 (www.marquetinternational.com).
[vi] U.S. Department of Labor, Bureau of Labor Statistics, Economic News Release, March 27, 2009.
[vii] Op. Cit. White Collar Crime Analysis of major embezzlement cases.
[viii] ID. p. 9.
[ix] Report t the Nation, 2008; at p. 21.