Fraud: Buying into Trouble

Millbrook, a manufacturer of midgrade tools at moderate prices, was a growing company. Owner Jonas Johnson had jumped at the chance to purchase Bench, a producer of specialized wrenches. Bench owner, Paul Lacey, was looking to retire and had quickly agreed to Johnson’s market-friendly offer.

Upon her arrival at Bench, Ludgate found the parking lot empty and the doors locked. She had just taken a sip of her coffee when a car pulled up. A woman emerged from the car and apologized profusely before introducing herself as the accounting manager, Nellie Orson. While unlocking the doors, Orson admitted she was late because she had overslept. She said she had been working late hours because all of Bench’s staff had abruptly quit the previous week after learning Lacey had sold the company.

Orson showed Ludgate around the company’s offices and shared some of its history. Lacey started the company over 25 years ago, and it had grown steadily over the years. She added Bench’s staff had always been a close-knit group. Orson directed Ludgate to an office she could use during the audit and provided a computer, both of which had been previously used by Orson’s assistant, Kyla Corri.

Ludgate’s plan was to review vendor-submitted invoices and the accounts receivable and verify that the accounts reflected what the financials stated. She knew the potential for manipulation in those accounts and wanted to make sure Johnson hadn’t overpaid for Bench.

Looking around the office, Ludgate had a feeling something was amiss. The room was disorganized, with papers everywhere. The nearest filing cabinet was stuffed with documents, mixing receivables paperwork, bills, bank statements, and tax notices. She tried to track down the master vendor file using Corri’s​ computer and easily found a copy of it without having to enter a password.

The vendor master file had never been updated and included thousands of names; every vendor who had ever submitted an invoice was still listed. The file was several pages long and there were numerous blanks where information was missing.

Ludgate sighed and chose 55 names to inspect that were missing information such as phone numbers and addresses. As she looked over her pages, one name stood out: Super Supply. The company was listed with many spellings, including Super Supply, Super Supply Co., and Supper Supply. It might have been sloppy typing, but it seemed suspicious.

Next, she began her search for supporting documentation. The company was billed at least once a week, and even with the support documents, Ludgate wasn’t sure what it supplied. Additionally, the invoice amounts were all just under $5,000. She recalled Orson sharing that invoices over $5,000 required two signatures.

When Ludgate found the hard-copy invoices, she knew she had a problem. She had never seen such a mess. They looked like copies of copies, and as if someone had manually covered fields with liquid corrector and handwritten in new information. The wrinkled lines in the original version copied through to the photocopy, adding to the disheveled presentation.

The combination of printed text, handwritten text, and other seemingly random areas whited out made Ludgate suspicious. The areas that someone had attempted to cover made her think it was an attempt to hide a processing stamp. Even the invoice numbers stood out. They were consecutively numbered, as if Bench was Super Supply’s only customer.

Ludgate sighed. Fake invoices were not what she was hoping to find at Bench. She would have to tell Johnson immediately. The counterfeiting was further confirmed when Ludgate went to send a message to Johnson on Corri’s computer and found an account for Super Supply still in the web browser email.

When Ludgate asked Orson if she knew anything about Super Supply, Orson explained that the accounts payable department would issue checks the same day it received invoices from Corri. Super Supply always included a request-for-funds form, and Corri told accounts payable that she would happily pick up the checks and deliver them because the company was on her way home. Ludgate had Orson find the copies of the bank checks, and she saw that someone named Katie Smith cashed them at a few different money service stores.

After talking further with Orson, Ludgate realized Orson did not know about the fake invoices. In fact, when Ludgate revealed what Corri had been up to, she was genuinely upset and concerned.

Orson explained that Corri had been her assistant for over five years and was the first to arrive every morning and even brought Orson a special coffee every day. She had no idea about the billing scheme or that it had cost Bench more than $75,000.

After a few moments of silence, Orson hung her head. She told Ludgate how, a few years ago, Corri had been stressed because her mother was ill. She had offered to work more hours and even clean the office to earn extra money. She did this for only a few months before her mother died.

Not long after, Corri’s demeanor improved. She began taking more care in how she dressed, and she even bought a new car. She explained that her mother had left her some money in her will. Although it made sense at the time, now Orson couldn’t reconcile the disparity between the desperation for money one month and the overabundance of it the next. Insurance or inheritance seemed like an easy answer, and Orson recalled not wanting to pry during such a difficult time. Even worse, Corri’s mom turned out to be Katie Smith.

When Ludgate and Orson presented Corri with the evidence of the fraud, she confessed. She explained that when she was left alone in the office at night, she saw the opportunity to commit fraud and couldn’t say no for the sake of her dying mother. She said she figured it would not hurt a successful business to lose a little money. With so many documents kept around the office, she didn’t think anyone would notice the scheme.

Corri said she had not meant for the fraud to continue after her mother’s death, but the money was too tempting. When she learned Lacey had sold the business, she promptly left, hoping the new owner would not find out about her scheme. Corri eventually agreed to a deal with prosecutors that included paying restitution to the company.

Lessons Learned 

• Due diligence is important before buying a business and should include an audit of operations. If Johnson had sent Ludgate to audit the books before finalizing the deal, she would have discovered the problems and alerted Lacey to the fraud that was taking place.
• Accounts payable personnel and internal auditors should be trained to analyze invoices for signs of fraud. The invoices submitted for Super Supply had several red flags that should have been noticed. Additionally, storage of records should be well-organized so auditors, regulators, and others can understand the organization’s accounting process.
• Businesses should establish appropriate segregation of duties. Employees should not be authorized to pick up or deliver payments or refunds to vendors. Super Supply used only a post office box, but the address was fake. Post office boxes have numerical addresses, but Super Supply’s contained a letter. As a result, any payments Bench attempted to send to Super Supply through the mail would have been undeliverable and may have alerted the accounting manager to the scheme much sooner.
• Fraud often isn’t a one-time occurrence. Once scammers learn they can get away with their scheme, they will continue to do so. Often, the fear of being found out decreases with each successful theft.
• Changes in behavior and lifestyle can be a red flag for fraud. While sometimes people buy a new car with inheritances, explanations about a sudden windfall of money often aren’t true. Especially when an employee has been known to be under financial pressure, a change in circumstance might warrant a closer look at the individual’s business actions.