Big Easy Business Patrick W. Malik and Jeffrey R. Sebree Shortly after Herb Loft man sat down in his office chair, his wife called, again complaining about some of their daughters wedding plans. This time it was about the deposit needed to book BJ the DJ. Herb just couldnt get ahead. Only during the last two years of his marriage did he and his wife begin having problems. Perhaps their daughters impending wedding was at the root of it. After all, it was crunch time for the plans, the commitments, and the costs. When things were tight in the past, Herb had experienced strings of luck to tide him over. He began making frequent trips to the local casinos, or the boats, as they were known locally. Herb recently found himself in the hole again, but it appeared that no matter what he tried, he just kept digging. It was not long before his latest attempts to bring home some extra cash turned into overdrafts and credit card debt. Ultimately, he filed for Chapter 13 bankruptcy. Herb was a manager responsible for the administration of various items at South Bay Component Systems, Inc. Several years ago, when he awarded a deal to Heckler Contracting, a small company that maintained facilities for South Bay, he found a friend in Woody Heckler, the owner. Though they lived in different states, they became close and offered each other emotional support from time to time. During one of many telephone conversations, Herb confided in Woody: I just cant keep living like this; my wife is about to leave me, Im on the outs with my daughter, and Im flat broke. Woody consoled him. Youll make it through this tough time. As a matter of fact, my contract is up for renewal. Ill be in town in the next few weeks to speak with your superiors about my contract renewal, so lets go hit the boats, have a few beers, and talk about it. When Woody made the trip and met with Herb, they talked about many avenues to get ahead: penny stock, college football wagers, even the ponies. Herb talked more about his woes: how his daughter, who also worked at South Bay, was going to be married soon. Woody, I am so proud that my daughter has done well with the company and is getting married, but I have no idea how Im going to pay for all this. I need to save face. With the threat of divorce and after filing for bankruptcy, I feel like I have really let my family down, especially my daughter. I need to come through for all of them. I think I know how we can ensure that your daughter will have a great weeding. said Woody. Lets have another round. TIP OF THE ICEBERG After dusting a few snowflakes out of my hair and making it to the coffeepot, I heard Raymond, my longtime cohort and coworker, approaching. We have worked together at South Bay for several years in construction and contract auditing. Ive been here since the companys inception. Raymond was excited about a fax that he received from our hotline. It was a tip about a scheme that may have taken place recently. As we examined the document and traced the telephone numbers, we determined that it had initially been sent to a machine in our Purchasing Department, which was located in an unsecured area. Subsequently, it had been faxed to our hotline by an unidentified individual from the same fax machine. The fax was very precise when it came to the alleged fraud that had taken place. It was signed by George Harbour, who indicated that he was a former business partner of Woody Heckler. George and Woody were most recently involved in the profession of storm chasing---brokering roofing and tree removal services. The tip outlined a scheme whereby Woody, who owned a separate enity that subcontracts with South Bay, supposedly conspired with a company employee in our Purchasing Department to process fraudulent invoices exceeding $200,000. We though this possible since we had discovered frauds in that area of the company before. SUSPICIONS CONFIRMED Raymond initially focused on the assertion that fraudulent invoices had been paid. He first obtained a list of all contracts and related payments made to Woody Heckler. In recent years, South Bay had taken advantage of every opportunity to streamline accounts payable routines. Contractors could receive payments in three different ways: the contract management system, which electronically processes payments; procurement credit card transactions; and the traditional check requests. Due to its enhanced control features, the contract management system was the preferred method. It automatically compared line items on the invoice prior to payment. Procurement card transactions and check requests left the door open to potentially overlook the existence of a contract. In focusing on payments made to Woody, Raymond ran several queries against account payable date tables. In an effort to refine his search, he sorted the information in several ways: to identify payments that were not in his search, he sorted the information in several ways: to identify payments that were not in accordance with agreements in effect at the time of payment; to evaluate accounting information to identify specific cost centers, cost codes, and whether the amounts were charged to a capitalized work order or to operating expense cost center; and to look for irregularities in invoice numbers, dates, amounts billed, and the usual payment processors. Suddenly I heard Raymond call out, Weve got a bingo! Simply put, he identified two distinct abnormalities associated with six payments. Raymond noted that all of them had invoice numbers that were not comparable to others. They totaled $202,500. These findings prompted Raymond to locate the invoices and to examine the circumstances under which they were paid. South Bays electronic filing system is a great tool for auditors and investigators because all invoicing documentation is scanned after being paid. The images are readily available for review on demand, and hard copies can be retrieved from the offsite warehouse. Raymond continued his examination and confirmed his suspicions. The numbers were out of sequence, and more important, the format was different from other previously paid invoices. In addition, below Heckler Contracting in the header, the city name was misspelled. The final red flag was that the invoices were charged to a capitalized work order. This was strange as the description on the invoices showed it took place in Texas, but the capitalized work order claimed it was done in California. Work in that state would not have involved Heckler Contracting. To confirm our suspicions, we took the next step in the investigationcontacting our source, George Harbour, to arrange to meet. Prior to calling, we performed a background check on him, but we could not find any public records linking him to Woody Heckler. We were not sure where George was located because the phone number on the boarder of the faxed tip had a Louisiana area code while the return number handwritten on the fax was a Texas area code. We determined that the phone number was a cellular. We called the Texas number and found George in Louisiana, somewhere near Lake Pontchartrain. He sounded surprisingly calm, almost relieved that we had called. It did not take us long to get a read on why George was ratting out his business partner: revenge. Apparently, Woody had disappeared with some recent profits they had earned. Woody and George brokered jobs in a business called French Sky Roofing. George lived in St. Tammany on the north side of the lake and recommended we meet him at a hotel. We moved quickly to ensure that he did not get cold feet. Initially, we were curious as to how George knew about Heckler Contracting and how he knew to send that fax to South Bays Purchasing Department. He said he had found a letter from South Bay to Heckler Contracting in Woodys truck one day that contained the fax number. He had put the document in his pocket at the time, but could not explain why. After Woody ran off with some of Georgs part of the payment from the roofing business, he remembered Woody boasting about having a friend at South Bay and how they stole over $200,000 some time ago. He thought ratting him out might be a way to get some of his money back and seek revenge in the process. White reviewing the information George provided, I asked him why he thought Woody may have a conspirator at South Bay. Without hesitation, he replied, Woody made phone calls to someone at the company frequently. He was always telling this person what to do and not to worry about the consequences. I remember him saying something about how the money was going to a good cause. I think it was a wedding, but I cant remember exactly. Incredibly, Woodys calls to South Bay were made on French Sky Roofings cellular phone. George had access to the invoices and brought copies for the past six months. Thanks, George. I said. Investigations arent supposed to be this easy, are they? As it turned out, Georges information was right on the mark. We confirmed that the cell phone bills listed calls to a man named Herb Loftman. The case was coming together. At this point we decided to involve the regional postal inspector, Abigail Horn, since some of the evidence was processed through the mail. Abigail wanted to interview Herb as soon as possible. We informed Herbs superiors of our suspicions about his involvement in the fraud and advised that they should be prepared to relieve him of his duties. We summoned Herb to the office under the guise of other business that I had recently discussed with him. Abigail did not waste any time. She rolled up her sleeves and immediately told him that he was suspected of conspiring with Woody Heckler to have multiple fraudulent invoices paid. She told him that the penalties for his involvement could be quite stiff, but if he cooperated she would make sure prosecutors knew of his willingness to help with the case. Initially Herb denied the accusations. He was clearly weighing his options. For about an hour Abigail consoled him in a manner that soundled like she was his best friend. She impacted him with sound reasoning and conveyed an understanding of how good Herb will feel to get this off his conscience. After she went outside with him to get some fresh air, he confessed to his part in the fraud. ABOUT THE AUTHORS Patrick W. Malik, CIA, CCSA, is the director of construction and contract audit with one of Americas leading transportation companies. Mr. Malik is a graduate of the University of Texas at Arlington and has more than 20 years of corporate audit experience. Jeffrey R. Sebree, CFE, CIA, is managerCFO of joint ventures with one of Americas leading transportation companies. Prior to his current position, he was an audit supervisor. Mr. Sebree received his BSBA, cum laude, and MBA degrees from Creighton University. He has over seven years of professional experience. Works Cited Malik, Patrick W., CIA, CCSA, Fraud Casebook Lessons from the Bad Side of Business, edited by Joseph T. Wells, 2007 Sebree, Jeffrey R., CFE, CIA, Fraud Casebook Lessons from the Bad Side of Business, edited by Joseph T. Wells, 2007 QUESTIONS TO ANSWER Please type each question or requirement and then your response to it. Be sure to substantiate your answer. 1. Assess how the individual(s) committing this fraud fit the typical profile of who commits fraud (i.e. gender, age, length of service with company, etc) 2. Evaluate the red flags or symptoms that would lead to a potential fraud. 3. State the three elements of the fraud triangle and explain how each one applies to this case. 4. Identify internal controls or methods that could have been put in place that would have prevented this type of fraud. 5. Do you feel the method of interrogation followed the protocol for interviewing a suspect? If yes, give examples of how or if not, explain what should have been done.