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Crime of embezzlement comes in many forms

Denver Business JournalOn the Money
From the October 13, 2006 print edition

Financial crimes have become so commonplace these days that The Wall Street Journal now has a dedicated section titled, “Executives on Trial.”

Bernie Ebbers, behind the wheel of a Mercedes he had driven from Mississippi, drove into the Oakdale Correctional Complex in Louisiana on Sept. 27. Andrew Fastow, Enron Corp.’s former chief financial officer, was sentenced to six years in prison followed by two years of community service.

Both are examples of crimes arising from very complex and sophisticated legal and financial structures. They involve multiple business entities, simultaneous market trading, and interpretation of accounting rules so that true operating results were obscured and hidden.

However, the core of any financial crime is theft — taking what rightfully belongs to someone else. In the case where the thief has the right to use or hold the property of someone else, it’s called embezzlement — the seed from which springs all other forms of financial transgressions.

In other words, embezzlement is the fraudulent appropriation by a person for his own use of property or money entrusted to their care but owned by someone else. For example, a clerk or cashier can embezzle money from his employer; a public officer can embezzle funds from the treasury.

Embezzlement has ranked as America’s No. 1 financial crime for more than 30 years, and likely will hold that distinction for years to come.

Most embezzlement cases begin with an employee covering a small, short-term financial need with the intention to give the money back.

Basic internal financial controls can prevent or substantially reduce the opportunity for this to occur.

There are dozens of embezzlement schemes.

“Lapping” is one classic embezzlement scheme. It involves stealing a customer’s payment on an account and concealing the theft by applying subsequent payments from other customers to the first customer’s account.

Another classic scheme is through fabricated vendors or consultants. Any employee with authority to approve the payment of invoices can perpetrate this method.

In larger organizations, a midlevel employee may be able to approve invoices. The thief creates imaginary vendors and deposits checks written to pay the false invoices into his or her personal bank account.

In a recent case involving a large trade association, the CFO is alleged to have embezzled $2.5 million from the organization during a 13-year period through recurring payments to phony consultants.

Theft of cash receipts is the simplest form of embezzlement, usually perpetrated by insiders, simply by pinching incoming cash or highly negotiable instruments. This is particularly true in organizations that deal with a large number of relatively small transactions, such as utility payment processing centers and collection agencies.

Payroll fraud and embezzlement is where the embezzler adds the names of relatives or fictitious people to the company payroll, thus enjoying several salary checks each week instead of one.

Some other examples, and things to look out for, include:

  • Pocketing cash payments from customers and not posting the charge or payment.
  • Opening a checking account under a false name, then writing a “customer refund check” to that name.
  • Handing the busy executive a stack of checks to sign, including an extra one.
  • Falsely recording past-due accounts as written off or settled, then collecting from the customer.
  • Purposely paying a bill twice, then intercepting and pilfering the resulting refund.
  • Manipulating account balances through online computers, making “adjustments” to accounts, particularly dormant accounts.
  • Hiding merchandise, cash, computer data and account information in the trash for later retrieval by an accomplice.
  • Always making a copy of the bank statement first, and then using white-out to change the balance to cover what was taken.

Jarmila Pencikova with Osler, Hoskin & Harcourt LLP of Toronto, and Doug Miller with Kahn Kleinman, LPA in Cleveland, presented the following profile of an embezzler:

  1. Completely trusted and never checked.
  2. Several years service with firm.
  3. Rarely takes vacation/holidays.
  4. Secretive and rarely delegates to others.
  5. Personal/family health or financial problems.
  6. Lifestyle inconsistent with income.
  7. Rumors of affair or drug/alcohol abuse.
  8. Unusually close relationship with vendor.

Generally, these embezzlers are motivated by greed, fear, denial and revenge. Many thieves steal from their employers as a way of getting revenge for actions the employer has taken that the employee believes to be unjust, discriminatory or corrupt.

A KPMG survey in 2002 reported that the average incident goes on for 18 months before detection.

More than half the time, the crime is exposed only through a tip or by accident. Furthermore, less than 11 percent of embezzlers are caught as a result of external audits.

As business owners, individual investors, and customers of potential embezzlers, it behooves us to pay attention to the basics. Offshore bank accounts, special-purpose corporations and off-balance sheet accounting make for interesting reading.

But they’re all just a form of stealing called embezzlement.

© C. Stephen Guyer for American City Business Journals Inc. All rights reserved.