This is the fourth in a series of case studies of frauds/defalcations which I personally investigated. This month’s case study is entitled “Expense reports on steroids.” This fraud differs from most frauds as it was perpetrated concurrently by numerous people in the sales division. Also, it involved an area usually not considered to be high risk.
Remember our three items related to defalcations:
- A well-designed, well-executed fraud is a thing of beauty in a perverse sense. Properly executed, a fraud such as this one can go on for years without detection provided the fraudster doesn’t get too greedy, as they often do.
- The point of describing the case is not to poke fun at the targeted company, but rather to introspectively ask “Can this, or something similar, happen to my company?”
- A common thread of identified frauds is someone saying; “I never would have suspected him /her.” This has to be true – you’re watching the ones you might suspect!
Expense Reports – On Steroids!
Perpetrators:
- Male and female
- Virtually all sales department personnel in the Northeast region
- Ages and experience varied
Position:
- Outside salesforce
- Significant travel throughout each region
- Business entertainment with major customers was expected and encouraged
Length of defalcation: 5 years – more for the first perpetrators
Scheme:
A large, international, public company retained a significant number of traveling sales staff. The company utilized “cutting edge” expense reporting documentation – considering this fraud was perpetrated approximately 15 years ago. Expenses were submitted electronically to the regional sales manager. Documentation was to be retained by the sales staff and submitted only if requested by the manager. Approved reports were paid semi-monthly.
The northeast region had numerous very large customers. These customers and potential new customers were permitted, perhaps expected, to be “wined and dined” including shows and related entertainment where possible. Baseball, football, and The Foxboro Casino were favored locations.
Sales in the Northeast region were exceptional and the regional manager, as well as the sales force, were financially rewarded through bonuses and override commissions as a result. Early on the manager requested expense documentation which he liberally approved. Over time documentation was rarely requested although the staff was occasionally reminded of IRS documentation requirements.
The salesforce began creating expenses, either exaggerating costs of actual business meetings or making them up entirely. It started, of course, with one top salesperson who was successful in recruiting others to do the same, thus making his expense total appear more reasonable. The others were more than willing to comply.
What went wrong?
- Poorly designed expense report review
- Expense report reviewer was financially motivated essentially participate
- Lack of analytical review of expenses between regions
How was it detected?
As we have seen before, the perpetrators became greedy. If they had been pilfering a few thousand dollars per year they would likely not have been caught. A zealous clerk in the national accounting department noticed the Northeast Region expenses were inexplicitly materially higher than regions in the rest of the country. Even after identifying the problem she was stonewalled, being told not to rock the boat, but she persisted. We were retained to audit the expenses for several years. Relatively simple analytical procedures to monitor expenses (detective controls) were suggested by us and implemented by the company as part of our report
In this instance, expense reporting abuse was clearly egregious. I caution you, however, on the perils of overly aggressive expense report “policing”. Follow IRS guidelines of course, but try to avoid hard and fast “everything requires a receipt” for reimbursement rules.
I recall the case of the salesperson who, at the end of a long, difficult day, decided to get fast food at a drive-through and took it to the hotel room to eat while watching a movie. The expenses were disallowed due to no receipt and the company’s policy of not reimbursing for hotel movies. What do you suppose happened on the next trip? The angered salesperson ordered the most expensive meal from the most expensive restaurant in the city. Worse he was still angry. I know because he told me the story nearly two years after the incident occurred.
If you have questions or would like assistance, contact me or your HW & Co. account professional.
CPA, CGMA
Principal
olejarski@hwco.com
