Proper controls can deter employee theft
RICK Cooley spent two decades building his thriving Triton Chandelier Inc. manufacturing business.
But when a banker called about a suspicious looking check one day, he knew something was amiss.
Cooley’s sweat equity was evaporating because of the actions of an employee who was forging his signature, shifting funds between different accounts and falsifying bank statements to cover her tracks.
Carolyn Sommerfeld, a former accountant at the Santa Ana firm, last year was sentenced to eight years in prison for embezzling more than $1 million from Cooley’s business over four years to pay for such things as fancy cars and a Hawaiian vacation, prosecutors said.
Cooley has plenty of company in Southern California. Many small businesses in the region are victims of employee theft, though cases often go unreported or are settled out of court to avoid the bad publicity.
In fact, small companies are typically more vulnerable to embezzlement than Fortune 500 corporations.
“Small companies are more prone to becoming victims of embezzlement because they don’t have internal controls and they don’t have oversights by outside auditors,” said Gary Iskowitz, a Century City accountant and former Internal Revenue Service agent.
John Warren, general counsel for the Austin, Texas-based Assn. of Certified Fraud Examiners, says the trade group’s studies show fraud losses are disproportionately high among small businesses.
In a 2006 survey of more than 1,100 fraud cases in the U.S., the association found that the median loss among organizations with fewer than 100 employees was $190,000, compared with a median loss of $120,000 among those with 1,000 to 9,999 employees.
The study focused mainly on public and private companies but also included nonprofit organizations.
The most common method of fraud was check tampering, followed by skimming (the theft of unrecorded sales), billing manipulations and expense reimbursements.
One reason small companies take a bigger hit is because the occurrences of fraud are harder to detect and last longer, sometimes several years, experts say. Most of the perpetrators aren’t hardened criminals but rather longtime, often trusted workers who rise through the ranks and take on vast responsibilities.
“It’s startling how many times people will say, ‘I’ve known this person for 10 years -- they baby-sat my kids,’ ” Warren said. “ ‘Out of all of my employees I would have never guessed this.’ ”
Despite their vulnerability, many small businesses don’t take basic precautions to deter fraud, experts say.
“There’s a reluctance to think about this, compared to larger companies. The attitude is, ‘I’ve got too many other things to think about as a business owner,’ ” said Rich Simitian, the Southern California managing partner for accounting firm Grant Thornton.
Employee theft usually starts small, then escalates over time, often triggered by the worker’s personal financial problems.
Studio City accountant Al Hibdon recalled a case in which an office manager of a photo engraving business allegedly embezzled $30,000 from her employer to pay for medical bills. The employee was suspected of depositing checks in accounts of fictitious vendors, a common tactic.
To minimize suspicion, she allegedly wrote small check amounts -- about $200 each -- and deposited them over a 2 1/2 -year period. The suspected scheme was uncovered when the employee went on medical leave and the owner discovered several checks made out to bogus vendors.
“Any time you have an employee who has financial difficulties, you have the makings of an embezzlement problem,” Hibdon said.
Although employee thefts rarely make headlines, details of high-profile cases occasionally leak out.
One such instance involved the Chateau Marmont, the landmark Hollywood hotel owned by Andre Balazs of New York.
The hotel’s former accountant, Kelly Timothy Ebert, embezzled more than $10 million from the hotel over a six-year period. Ebert diverted funds from the hotel’s bank account to an account he established for a fake business. He then moved the funds into his personal accounts and falsified the hotel’s accounting records to conceal the theft, prosecutors said.
Ebert used the money to buy a $2-million home near Thousand Oaks’ Sherwood Country Club and to purchase expensive jewelry and collectibles.
The scheme unraveled when Ebert missed making a hotel mortgage payment. He was fired in 2002 and pleaded guilty to the theft in 2003.
The fraud lasted as long as it did because Ebert wore many hats: He had direct access to the hotel’s bank accounts and check signature cards. Ebert ordered an assistant to collect the mail to try to conceal the incriminating bank statements. And to further cover up his theft, he created a false set of books in an effort to keep auditors off his trail.
“For business owners, the lesson learned here is you should definitely be segregating the person who is writing the checks from the person who is reconciling the accounts,” said Steven Goldman, a supervisory special agent with the FBI, which probed the Chateau Marmont case.
The “separation of duties,” as accountants call it, is the most important fraud prevention measure, accountants and law enforcement investigators say.
“It’s Accounting 101, but many small-business owners don’t do this,” Warren said, noting that small companies have tight budgets and usually rely on employees to handle multiple tasks.
Experts also recommend having banks mail statements directly to the owner’s home and conducting criminal background and credit checks on all new hires, with their consent.
As a deterrence, business owners also should conduct surprise audits and establish third-party hotlines that employees can call to report suspicious activity.
Finally, experts say, it pays to make all of your workers take vacations. Scams often unravel when perpetrators aren’t around to cover up their crimes.
Hiring outside auditors and other measures can be costly but well worth the investment.
“Entrepreneurs really know their business,” said Simitian, the accountant. “They know what things should cost, and they have a pretty good handle on who’s working for them, but at some point that’s not good enough. They have to have more fundamental controls in place to safeguard their assets.”
As for Cooley, he weathered the losses thanks to a booming business in Las Vegas, where hotels and casinos buy his chandeliers and light fixtures.
He has also learned to be more vigilant. Cooley checks his account balances daily and closely tracks his inventory. He also opens his own mail and scrutinizes all bank deposits.
“My banks are on high alert,” Cooley said.
