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edited by andi mcneal FRAU D FIN D IN GS

Whirlwind of Deception

obert Douglas, the chief finan­ so disorganized that Dillon’s invoices had
cial officer (CFO) of Wind Power Systems fallen through the cracks. She decided that
(WPS), was very worried. A meticulous neither answer was good for WPS. It was a
accountant, Douglas had built a long and bad sign when a company stopped paying
respected career as a financial executive. Now one of its primary vendors, so Zimmer put
he was breaking every rule in the book, and on her investigative hat and went to work.
he feared that a reckoning was imminent. By talking with accounts payable person­
When Douglas joined WPS less than five nel at WPS, Zimmer discovered that payment
years ago, he thought it was the perfect job. delays and cash flow issues were widespread.
As a fast-growing, publicly traded wind Two accounts payable clerks stated that they
turbine manufacturer, WPS offered Doug­ had been instructed specifically by Douglas
One CFO, presented las an opportunity to make a large amount on numerous occasions to delay payments to
of money in salary, incentives, and stock vendors. Additionally, they confirmed that
with pressure and options. But two years ago, as financial pres­ cash was very tight, which seemed to belie the
sures mounted and sales failed to material­ company’s recent record earnings — unless
opportunity, involves ize, Douglas started manipulating the books WPS wasn’t collecting all of the money from
so WPS could keep reaching its earnings esti­ those sales.
himself and others in a mates. His scheme started small but quickly Zimmer also interviewed an accounts
mushroomed into a significant financial receivable analyst, Jenny Clarkson. Dur­
financial statement fraud statement fraud. Douglas told himself that ing the interview, Clarkson was obviously
the company would take off soon — sell and stressed. She said she had been trying
that bankrupts a company. earn its way out of trouble — and then he to collect old receivables for the past few
would correct all of the accounting deceit. years, and the problem was getting worse.
By J ay da w dy He realized that his time ran out one morn­ Customer complaints had gone up signifi­
ing when he arrived at work early to find a cantly in the past year. They ranged from
trio of delivery trucks from Dillon’s, one of under-filled shipments, shipments received
WPS’ vendors, blocking the entrances to the that had never been ordered, and promised
company’s parking lot. discounts that were never applied. Because
Douglas wasn’t the only one who noticed of such problems, many of the customers
the delivery trucks that morning. Brenda simply refused to pay their bills. Clarkson
Zimmer, a newly hired internal auditor, had investigated many of these complaints
also arrived at work early and saw the con­ herself and found they were accurate. How­
frontation that ensued. Despite Douglas’ ever, when she brought her concerns to her
pleading and apologies, Buster Dillon, the supervisor, Clarkson was told not to worry
owner of Dillon’s, said he wasn’t moving his about it and to just do the best she could to
trucks until he received payment on very old collect the receivables. Clarkson also recom­
invoices. A crowd of curious WPS employ­ mended that several uncollectible accounts
ees was quickly forming, so Douglas hastily be written off, but was told that Douglas
cut Dillon a check and told everyone it was would never approve write-offs that would
a simple mix-up. But Zimmer’s skepticism decrease earnings.
grew. She had overheard the argument Zimmer realized she was dealing with
between Douglas and Dillon, and it didn’t significant accounting issues. The earnings
sound like a misunderstanding to her. increases that WPS had been reporting
Zimmer wondered if WPS could be that didn’t match the incoming cash flow. And
tight on cash or if the company was simply many receivables appeared to be bogus or
april 2009 Internal Auditor

problematic — either due to mistakes or had earned WPS praise on Wall Street bogus shipments, channel stuffing, and over­
something more dishonest. and contributed to a soaring stock price. stated sales and receivables, James said WPS
After the initial interviews, Zimmer However, when she examined records was “capitalizing everything under the sun.”
reviewed the company’s financial state­ from the subsequent periods, Zimmer saw James also shared that WPS had not written
ments closely and noticed that WPS had not a disproportionate number of returns at off obsolete inventory in several years. Every
written off any receivables in the past few the beginning of each quarter and realized time he had brought up the bad receivables
years, despite having significant uncollect­ WPS had been channel stuffing to meet and inventory write-offs, Douglas told him
ible accounts. She wondered if some of the quarterly results. The only questions now to forget about it. James confirmed the
related sales were falsified and sought to con­ were how bad the damage was and how involvement of senior management in the
firm her suspicions by putting her forensic high up the chain the fraud extended — fraud and produced e-mails and other docu­
accounting skills to work. She started with who knew what when? mentation to back up his story.
a review of customer files and found that, in As Zimmer attempted to interview Douglas finally cooperated when con­
many cases, there were no signed contracts high-level accounting and finance person­ fronted with the overwhelming evidence.
or purchase orders on file for shipments. She nel, she was met with resistance and delays. He outlined exactly what had occurred
also found discrepancies in the quantities of She suspected Douglas was hindering her at WPS over the past few years: Under
product ordered and the amounts shipped investigation by telling employees not to pressure from the chief executive officer
and billed. In some cases, WPS shipped more speak with her. Zimmer then discovered (CEO), Douglas, along with a group of
product than was ordered and billed for the that WPS’ long-time controller, Stewart sales, manufacturing, and shipping exec­
full shipment. In other cases, the amounts James, had left the company a few months utives, had engaged in several accounting
billed exceeded the number of items shipped. before. She figured that a former employee improprieties to meet earnings expecta­
Both scenarios resulted in bogus sales, which, like James might be more willing to discuss tions and keep the company’s stock price
as Clarkson indicated, led to customer com­ the accounting issues at WPS — and she high. Douglas said he had planned to
plaints and refusals to pay. was right. correct the bogus accounting, but he was
Zimmer also discovered huge increases James explained in detail much of the ordered to make the numbers work, and
in items shipped at the end of each quar­ story that Zimmer had suspected. He told the accounting problems multiplied.
ter, often propelling the company to sales Zimmer that he left WPS because he didn’t After completing her investigation, Zim­
and earnings figures that slightly exceeded want to be a part of management’s account­ mer determined that the fraud had been
analysts’ forecasts. Meeting these targets ing charade. In addition to confirming the ongoing for at least the past two years and

april 2009 Internal Auditor

had grown considerably in scope in the past problems much earlier. The company’s a culture of ethics, an environment will
year as earnings pressures mounted. WPS internal audit function was weak for exist where fraud can flourish. At WPS,
had to restate two years’ worth of financial many years, and Zimmer was only the tone at the top was clearly lacking.
statements, triggering U.S. Department of hired due to pressure from the outside The CEO aggressively pushed earnings
Justice and Securities and Exchange Com­ auditors to improve the internal audit targets, and other members of man­
mission investigations as well as shareholder function. Although the U.S. Sarbanes- agement resorted to financial manipu­
lawsuits. As a result of the investigation and Oxley Act of 2002 has strengthened lation to meet these goals. Studies have
the restatements, Douglas, the CEO, and internal audit functions and increased shown that when senior management
executives in both sales and manufacturing audit committees’ responsibility and is involved in financial statement fraud,
were terminated by the company. Several independence, these functions must the fraud tends to go on longer and
of the officers were indicted and prosecuted have the appropriate authority and be more significant. This was certainly
for their involvement in the fraud, includ­ funding to be effective within any the case at WPS, and the company suf­
ing Douglas and the CEO. The share price company. The members of both func­ fered disastrous consequences.
of WPS plummeted, and shortly thereafter tions must have the courage to step
the company declared bankruptcy. forward, investigate, and take action
when they see management is on the Jay Dawdy, CFE, CMA, is partner and
Le ssons Learned wrong track. senior managing director for Gryphon
n A single red flag, explored more n A fraud hotline would have allowed Investigations in White Plains, N.Y.
fully, can lead to the discovery of James and Clarkson to blow the
much bigger issues. An inquiry into whistle, triggering an investiga­ To comment on this article, e-mail the author
delayed vendor payments resulted in tion. Had an anonymous reporting at jay.dawdy@theiia.org.
the detection of a massive account­ mechanism been in place, employees
ing fraud. Internal auditors, external who had knowledge of the financial WANTED: Your fraud finding stories. If you have a
auditors, and investigators must pay manipulations could have reported fraud finding you’d like to share, send it to:
attention to all red flags and investi­ the scheme without fear of recrimina­ Andi McNeal, CFE, CPA
ACFE World Headquarters
gate accordingly. tion or retaliation. E-mail: amcneal@ACFE.com
n A stronger internal audit function n Tone at the top is very important. If Fax: +1-512-478-1444
may have led to the discovery of WPS’ company executives don’t incorporate

april 2009 Internal Auditor