Ethics Sage

Should Illegal Immigrants be Given Driver’s Licenses?

Rewarding Bad Behavior

Numerous states are considering issuing driver’s licenses to illegal immigrants while one state, New Mexico, is struggling to prevent out-of-staters from fraudulently obtaining them.

Until recently, undocumented immigrants were able to obtain driver's licenses or permits only from three states: New Mexico, Washington and Utah. But that number is expected to grow.

A utilitarian analysis of this issue would examine the harms and benefits of granting driver’s licenses to illegals. Those who favor granting driver’s licenses to illegals claim licenses will make streets safer, since the immigrants must take a driving test. Some police agencies say the licenses allow them to keep better track of this population. Immigrant advocates say the licenses give this group needed mobility.

First, there is no evidence to suggest that our streets will be safer by granting the licenses to illegals. Since it has only occurred in three states, the data is just not there to support this assertion. In fact, some might claim the streets will be less safe because illegals drive poorly [another unsubstantiated claim] and will add congestion to the already congested roadways, especially out here in California. Thus, by allowing illegals the privilege of driving with a license, current drivers may be inconvenienced.

It is a privilege to be given a driver’s license not a “right.” There is nothing in the Constitution that supports allowing anyone to drive without meeting certain standards. One reasonable standard is for the driver to be a legal resident if for no other reason than they have earned the privilege by going through the steps to become a legal citizen.

The police claim a benefit is being able to better track the illegal immigrant population. The scary thing about this is the admission illegals are not very well tracked. Who are they? What is their business in the U.S.? Where are they employed? It seems to me a robust E-verify system would accomplish the same end without rewarding illegal behavior.

Finally, immigrant groups claim the licenses give the group needed mobility. "Individuals have to get to jobs and schools," said Melissa Keaney, an attorney with the National Immigration Law Center, a Los Angeles-based advocacy group.

Once again this is rewarding bad behavior by granting a privilege that has not been earned the way legal citizens have earned it and further clog up our roadways.

The granting of driver’s licenses to illegals is likely to increase in the future. The governor of Illinois signed into law in January a bill that grants licenses to those who lack a Social Security number, while the governors of Maryland and Oregon approved such bills last month. Similar bills sit on the desks of the governors of Colorado, Vermont and Nevada, while a number of other legislatures are considering the move.

There are other potential harms of granting the licenses to illegals in addition to those already addressed.  New Mexico investigators recently busted a Mexican immigrant who tried to obtain a license with the help of a criminal ring. The ring, officials said, used fake New Mexico addresses to create fraudulent documents for out-of-state immigrants, charging $2,500 per license.

State police in April arrested the Mexican immigrant, who lived in Georgia. Authorities canceled 40 licenses the ring had helped secure for 40 other immigrants from Latin America.

In another case, two Central American immigrants were arrested in April for applying for licenses using fake residential leases provided by another criminal group. The immigrants, who had paid $1,500 each for help in securing the licenses, found out about the group's services through an ad in a New York newspaper, according to state investigators.

Demesia Padilla, the cabinet secretary at New Mexico's Taxation and Revenue Department, which oversees the state's Motor Vehicle Division, says it is costly and time-consuming to perform background checks to ensure applicants live in the state, and complains that the department lacks the resources to do the job.

Some New Mexico lawmakers have launched repeated efforts to repeal the license law, with the support of Republican Gov. Susana Martinez. But so far, they have failed.

Padilla said her agency had to open a fourth office in Albuquerque last year to deal with immigrant licenses. Earlier this year, the agency couldn't investigate a potentially fraudulent ring because it already was busy with two others, she said. "We're doing this full time," she said. "There's not ever a slowdown."

In conclusion, this blog is not about whether illegals are sent home because they came here illegally and broke the law. That is a matter for another blog. I am against granting them legal driving privileges because of the potential harms to society not the least of which is fraud in applying for and obtaining the licenses.

One suggestion is to link granting driver’s licenses to a commitment to become a U.S. citizen and follow-up on such requirements. The problem there is it would require an efficient government process of granting the licenses and follow-up to determine if illegals are meeting the requirements to become a legal citizen. Expecting our government to do anything in an efficient manner is a pipe dream that has been disproven over and over again, and that is why we are in the mess we are with illegals.

Blog posted by Steven Mintz, aka Ethics Sage, on June 5, 2013

Fraud in Awarding Government Contracts to Disadvantaged Small Business Owners

NASA Contractor Pleads Guilty To Faking Minority Status 

Just when I thought I had heard it all, along comes another example of greed in business. This time it is Michael Brian Dunkel of Merritt Island, Florida who pleaded guilty on May 24, 2013, to fraudulently obtaining more than $4.4 million in government contract payments that should have gone to what the U.S. government considers a disadvantaged small business.

Congress amended the Small Business Act in 1978 to require that agency heads, in consultation with the SBA, set goals for the percentage of federal contract and subcontract dollars awarded to small businesses each year. Congress further amended the act in 1988 to require the President to set government-wide goals for the percentage of federal contract and/or subcontract dollars awarded annually to various categories of small businesses. These goals must be equal to or exceed certain percentages specified in statute (i.e., 23% of federal contract dollars awarded to small businesses; 5% of federal contract and subcontract dollars awarded to women-owned small businesses; 5% to small disadvantaged businesses; 3% to HUBZone small businesses; and 3% to service-disabled veteran-owned small businesses).

According to the SBA website, the following individuals are presumed socially disadvantaged for purposes of the SBA Section 8(a) Business Development program: Blacks, Hispanics, Native Americans, Asian Pacific, or Subcontinent Asians.

Agency performance in meeting the small business contracting and subcontracting goals is of perennial interest to Congress because it is arguably the clearest indicator of whether the stated congressional “policy” of encouraging contracting with small businesses is being implemented. In particular, the government’s failure to meet either government-wide or agency-specific goals suggests that the current government-wide goals are too low and do not adequately reflect the availability of minority-, women-, and service-disabled veteran-owned small businesses in today’s marketplace.

Back to the Dunkel case who was charged with one count of major government fraud. He faces a maximum penalty of 10 years in prison when he is sentenced on October 4.  As part of his plea agreement, Dunkel has agreed to forfeit $2.9 million.

According to court documents, Dunkel admitted that in 2005, he learned that Keith Hedman, an executive at an Arlington-based security service consulting company referred to as Company A in court records, illegally controlled Company B, another Arlington-based security service consulting company.

Company B was a participant in the SBA “Section 8(a)” program, which enables certain small businesses to receive sole-source and competitive-bid contracts set aside for minority-owned and disadvantaged small businesses. Although Hedman controlled Company B, Company B had obtained its 8(a) status based on the disadvantaged status of Dawn Hamilton, its nominal owner.

Dunkel admitted that he agreed to pay Hedman and Company B a fee in exchange for Company B allowing Dunkel to use its 8(a) status to obtain NASA and other U.S. government contracts.  In reality, Dunkel simply paid a kickback to the Arlington company so it would pass the work through to him.

Although Company B was required to perform at least 50% of the work on the contracts and had represented it would do so, no Company B employees actually performed any work. Instead, Dunkel and others did all of the work as independent contractors, but they concealed that fact from the government agencies. 

In addition, Dunkel submitted fraudulent proposals and invoices to hide their scheme, used a third-party company’s Federal Employer Identification Number to prevent reporting of his contractor income to the IRS, and did not pay any income taxes on the income he received from Company B.

The ethical shortcomings in this case are clear. Dunkel was greedy; acted from an egoistic point of view without regard for the interests of deserving minority/small business owners; and he took work away from those who depend on it for their livelihood and business success.

I also have accounting questions in this case not the least of which is: Where were the internal auditors in the various companies while the deception took place? Aren’t these contracts reviewed to determine they are awarded properly? And, what about government oversight; is this another case of the government lacking the resources to properly audit contracts?

Blog posted by Steven Mintz, aka Ethics Sage, on May 28, 2013

 

Wal-Mart and Violations of the Foreign Corrupt Practices Act

Bribery and lack of Full Disclosure Evidences Unethical Behavior at Wal-Mart

Wal-Mart said last week that it spent $73 million on compliance with the Foreign Corrupt Practices Act (FCPA) during the first quarter of 2013. It had budgeted $40 million to $45 million. During its prior fiscal year, it spent $157 million for FCPA matters. It expects to spend $65 million to $70 million in the second quarter of 2013. The disclosures came during a conference call from Wal-Mart CFO Charles Holley to reporters.

The company has said it can't tell when its internal investigation of fraudulent payments by a Mexican subsidiary might end or when it will resolve the Department of Justice and SEC investigations. Wal-Mart started its internal investigation in 2011.

Last year, the New York Times reported in a Pulitzer Prize-winning story that the company's Mexico unit paid $24 million in bribes to speed up licensing and permitting for new stores. The paper said top managers in the U.S. covered up the bribery after learning about it.

During last week’s conference call, Wal-Mart said it spent $44 million on the investigation during the first quarter of this year and $29 million for a global compliance review, program enhancements, and organizational changes.

The details surrounding the Wal-Mart de Mexico bribery scandal include the stuffing of envelopes with cash handed off to mayors, bureaucrats and other government officials who wield the power to stand in the way of business. Wal-Mart is accused of not only participating in such bribery at its Mexican subsidiary, but also of sweeping it under the rug once it came to light.

On April 21, The New York Times published a lengthy article alleging that Mexico-based Wal-Mart officials participated in an ongoing bribery scheme several years earlier to achieve market dominance in the country, and that top executives had covered it up. The allegations are corroborated by internal company documents, according to lawmakers investigating the conduct.

A whistleblower -- a former Wal-Mart de Mexico executive -- informed a company attorney of the widespread practice via email in 2005. According to Reps. Elijah Cummings (D-Md.) and Henry Waxman (D-Calif.), who are investigating the allegations, Wal-Mart former general counsel Maritza Munich pressed the company to establish a stricter anti-bribery policy after being informed of the bribes. Munich recommended that a follow-up investigation look into "other potentially suspect transactions not yet identified." Three months after Munich resigned on Feb. 1, 2006, however, the new general counsel ended the investigation.

In its 10-Q form filed with the SEC on December 4, 2012, Wal-Mart admitted that the Company could be exposed to a variety of negative consequences as a result of the investigation into FCPA violations. These include:

• There could be one or more enforcement actions in respect of the matters that are the subject of some or all of the ongoing government investigations, and such actions, if brought, may result in judgments, settlements, fines, penalties, injunctions, cease and desist orders, debarment or other relief, criminal convictions and/or penalties.
• The shareholder lawsuits may result in judgments against the Company and its current and former directors and officers named in those proceedings. The Company cannot predict at this time the outcome or impact of the government investigations, the shareholder lawsuits, or its own internal investigations and review.
• The Company expects to incur costs in responding to requests for information or subpoenas seeking documents, testimony and other information in connection with the government investigations, in defending the shareholder lawsuits, and in conducting the review and investigations. These costs will be expensed as incurred.
• The Company has incurred expenses of approximately $48 million and $99 million during the three and nine months ended October 31, 2012, respectively, related to these matters. These matters may require the involvement of certain members of the Company’s senior management that could impinge on the time they have available to devote to other matters relating to the business.
• The Company expects that there will be ongoing media and governmental interest, including additional news articles from media publications on these matters, which could impact the perception among certain audiences of the Company’s role as a corporate citizen.

As a professor of accounting ethics I was intrigued by this disclosure. It seems ironic that Wal-Mart cares about “the perception among certain audiences of the Company’s role as a corporate citizen.” This from a company that has been investigated for other bribery situations and the finding in 2006 that it violated the underage child-labor laws in its factories abroad.

I also found it curious that Wal-Mart decided not to record a contingent amount for possible loss from the lawsuits and other legal actions. In its disclosure, Wal-Mart said: “The Company’s process of assessing and responding to the governmental investigations and the shareholder lawsuits continues. The review, inquiries and investigations are ongoing; and the Company cannot reasonably estimate any possible loss or range of possible loss that may arise from these matters. Although the Company does not presently believe that these matters will have a material adverse effect on its business, given the inherent uncertainties in such situations, the Company can provide no assurance that these matters will not be material to its business in the future.”

This is a classic narrow-minded view of materiality. In accounting a material event is not only one with a significant monetary impact on earnings, but also those with a significant qualitative effect on a company. That is where Wal-Mart falls far short of making an ethical disclosure about its bribery activities at Wal-Mart de Mexico.

Wal-Mart says it “can provide no assurance that these matters will not be material to its business in the future.” I never like negative statements of no assurance. Wal-Mart is looking at its own self-interest from an egoistic point of view and not the interests of its stakeholders – shareholders, creditors, employees, and so on. The Company’s statement includes no information on why the internal controls did not prevent or detect the illegal payments sooner. Major questions exist about corporate governance at Wal-Mart.

The Company needs to step up to the plate and be transparent about the bribery, violation of the FCPA, and possible long-term damage to the Wal-Mart brand. Some indication that the Company knows what happened was wrong would be nice rather than a ‘CYA’ approach. However, given my skepticism about corporate ethics, I never expect companies to act in an ethical mannerand once the cover-up is disclosed most companies rarely decide to fully disclose the details. History has taught us otherwise.

Blog posted by Steven Mintz, aka Ethics Sage, on May 21, 2013

Should Casey Anthony be allowed to Profit from a Book on Her Life?

Is it Wrong to Sell a Book and Profit after a not-guilty Verdict?

Perhaps you’ve heard that the trustee overseeing Casey Anthony's bankruptcy case has filed a motion to sell the rights to her story so she can pay her debts. In a motion filed last Friday in federal court in Tampa, trustee Stephen Meininger asked Judge K. Rodney May for permission to sell the "exclusive worldwide rights" of Anthony's life story.

Casey Anthony, who is now 26, was acquitted of murder in 2011 in the death her 2-year-old daughter, Caylee. Anthony has never told her side of the story, despite intense media scrutiny of the case.

During a meeting with creditors in her bankruptcy case in Tampa, Anthony said she was unemployed and hasn't received any money to tell her story. She said that she is living with friends and that those friends -- and strangers who send her gift cards and cash -- help her survive.

But Meininger, through his attorney, said he thinks that her story has value and should be auctioned off to the highest bidder.

So, the question I raise is whether it is ethically appropriate to allow Anthony to sell the rights to her story under any conditions.

First, let’s look at the basic issue of whether a criminal can profit from a crime, bearing in mind that Anthony was not convicted of murdering her daughter. If a criminal writes a book about his crimes, who gets the money? What if he sells his personal items, which may have increased in value due to his notoriety? What if he writes a book, does a TV appearance, or is interviewed for a newspaper or magazine story many years after he is released from prison? And what about O.J.? Since he wasn't convicted of any crime, could he keep the profits if he wrote a book about how he killed Nicole?

The rule isn't universal, but judges generally do try to prevent people from profiting from their own wrongs. A classic case in this respect is Riggs v. Palmer, that dates back to 1889. Palmer had poisoned his grandfather because his grandfather intended to disinherit him. Under New York inheritance statutes, Palmer was entitled to inherit all but a small portion of his grandfather's estate. The statutes required valid wills to be enforced, and provided no exception that would prevent a killer from inheriting from his victim. The validity of a will is determined at the time it is executed. When the will was executed, Palmer had done nothing wrong.

The court looked to the maxims of equity (fairness) and decided that Palmer should not be allowed to profit by his own fraud or to take advantage of his own wrong because it would be against public policy.

The Riggs court didn't come up with this idea on its own. The principle is much older and is still around today, although most states have codified it in statutes. For instance, Scott Peterson, a convicted killer, was prevented from receiving benefits under his wife's life insurance policy by California Probate Code.

Of course, earning money and keeping it are two different things. Courts have held that criminals remain liable to victims and their heirs. The cases of O.J. and Robert Blake show that a person can be acquitted of a crime but still be held civilly liable. If the victims fear that the killer will dissipate assets before they can get a judgment, they can try to get an order freezing those assets. So even in cases where criminals elude statutes meant to keep them from profiting, their victims and the victims' families can still see to it that they don't.

As for Casey Anthony, the rationale provided to allow her to sell the rights to her story is to repay huge amounts of debt. Anthony filed for bankruptcy in Florida in late January, claiming about $1,000 in assets and $792,000 in liabilities. Court papers list Anthony as unemployed, with no recent income.

Her listed debts include $500,000 for attorney fees and costs for Jose Baez, her criminal defense lawyer during the trial; $145,660 for the Orange County Sheriff's office for investigative fees and costs; $68,540 for the IRS for taxes, interest and penalties; and $61,505 for the Florida Department of Law Enforcement for court costs.

It seems to me Anthony should be allowed to sell the rights to her story so long as the proceeds are used to compensate others who have sacrificed a great deal as a result of her “crime.” A good analogy is the Ron Goldman case. OJ wrote a book based on his warped perspective called "If I Did It," which has sold more than 100,000 copies. A federal bankruptcy judge awarded rights to the book to the family of murder victim Ronald Goldman to help satisfy a $38 million wrongful death judgment against Simpson.

Just about everyone is profiting from the Casey Anthony case starting with Jose Baez, the attorney for Anthony. Baez’s book, Presumed Guilty: Casey Anthony: The Inside Story has sold over 1 million copies. By the way, Amazon reviewers give it 3 stars out of 5.

Then there is the prosecutor in the case, Jeff Ashton. His book, Imperfect Justice: Prosecuting Casey Anthony, tells the “behind-the-scenes story of the investigation, the trial, and the now-infamous verdict.” It must be well written since his book received 4 ½ stars.

Then there are those looking to profit by their "expert" insights such as Keith Ablow, a forensic psychiatrist. His book, Inside the Mind of Casey Anthony: A Psychological Portrait, aims to explain to people “as much as possible about how this little girl disappeared from the face of the earth by using psychological reasoning as a lens to explore the death of Caylee Anthony.” Sorry, Keith, but you only received 2 stars from Amazon readers and your book sounds boring, like the trial.

Finally, there is Wendy Murphy, a frequent guest on talk shows that dissect legal verdicts, who wrote Casey Anthony What REALLY Happened to Caylee and Why Truth Matters.  In this book Murphy and her co-authors answer a variety of questions about the trial and verdict including the one that all inquiring minds want to know: Is there a real "Zanny the Nanny"? This book must be a disappointment given such a compelling question because it received only 2 ½ out of 5 stars.

Now that you are up to date on the profiteers from the Anthony trial, we must ask from an ethical perspective what are the motives of those who wrote books? Was it a way to vent frustration with the trial and verdict? Or, is it a way to share one’s insights on one of the most watched criminal trials since OJ? Or, was it an attempt to profit from the misery of an innocent little girl and so many like her whose lives are taken suddenly and inexplicably? Perhaps I should write a book to explain my perspective on this issue. 

Blog posted by Steven Mintz, aka Ethics Sage, on March 22, 2013

Accounting for Nuts

Diamond Foods Fraud Illustrates the Danger of overly-optimistic Earnings Projections

Management does it all the time – set overly optimistic earnings and earnings per share projections to motivate financial analysts to give positive recommendations to current and potential investors with respect to stock holdings. It was the fuel that engineered the accounting frauds at Enron, WorldCom, et al. A recent example is Diamond Foods.

On November 14, 2012, Diamond Foods Inc. disclosed restated financial statements tied to an accounting scandal that reduced its earnings during the first three quarters of 2012 as it took significant charges related to improper accounting for payments to walnut growers. The restatements cut Diamond’s earnings by 57 percent for fiscal 2011 to $29.7 million and by 46 percent for fiscal 2010 to $23.2 million. By December 7, 2012, Diamond’s share price had declined 54 percent during 2012.

Diamond Foods, long-time maker of Emerald nuts, and subsequent purchaser of Pop Secret popcorn (2008) and Kettle potato chips (2010), became the focus of a SEC investigation after The Wall Street Journal raised questions about the timing and accounting of Diamond’s payments to walnut growers. The case focuses on the matching of costs and revenues. At the heart of the investigation was the question of whether Diamond senior management adjusted the accounting for the grower payments on purpose to increase profits for a given period.

The case arose in September 2011, when Douglas Barnhill, an accountant who is also a farmer of 75 acres of California walnut groves, got a mysterious check for nearly $46,000 from Diamond. Barnhill contacted Eric Heidman, the company’s director of field operations, on whether the check was a final payment for his 2010 crop or pre-payment for the 2011 harvest. Diamond growers are paid in installments, with the final payment for the prior fall’s crops coming late the following year. Though it was September 2011, Barnhill was still waiting for full payment for the walnuts he had sent Diamond in 2010. Heidman told Barnhill that the payment was for the 2010 crop, part of fiscal 2011, but that it would be “budgeted into the next year.” The problem is under accounting rules you cannot legitimately record in a future fiscal year an amount for a prior year’s crop. That amount should have been estimated during 2010 and recorded as an expense against revenue from sale of walnuts.

An investigation by the audit committee in February 2012, found payments of $20 million to walnut growers in August 2010 and $60 million in September 2011 that were not recorded in the correct periods. The $20 million payments to growers in 2010 caught the eye of Diamond’s auditors, Deloitte & Touche. However, it does not seem that the auditors lived up to their professional responsibilities in detecting and/or reporting the fraud.

The disclosure of financial restatements in November 2012 and audit committee investigation led to the resignation of former CEO Michael Mendes who agreed to pay a $2.74 million cash clawback and return 6,665 shares to the company. Mendes’ cash clawback was deducted from his retirement payout of $5.4 million. Former chief financial officer Steven Neil was fired on November 19, 2012 and did not receive any severance.

An interesting aspect of the case is the red flags including unusual timing of payments to growers, a leap in profit margins, and volatile inventories and cash flows. Moreover, the company seemed to push hard on every lever to meet increasingly ambitious earnings targets and allowed top executives to pull in big bonuses, according to interviews with former Diamond employees and board members, rivals, suppliers and consultants, in addition to reviews of public and nonpublic Diamond records.

Nick Feakins, a forensic accountant, noted the relentless climb in Diamond’s profit margins including an increase in net income as a percent of sales from 1.5 percent in fiscal 2006 to more than 5 percent in fiscal 2011. According to Feakins, “no competitors were improving like that; even with rising Asian demand…it just doesn’t make sense.” Reuters did a review of 11 companies listed as comparable organizations in Diamond’s regulatory filings and found that only one, B&G Foods, which made multiple acquisitions, added earnings during the period.

Another red flag was that while net income growth is generally reflected in operating cash flow increases, at Diamond the cash generation was sluggish in fiscal 2010 when earnings were strong. This raises questions about the quality of earnings. Also, in September 2010 Mendes had promised earnings per share growth of 15 percent to 20 percent per year for the next five years. In fiscal 2009, 2010, and 2011, $2.6 million of Mendes’ $4.1 million in annual bonus was paid because Diamond beat its EPS goal, according to regulatory filings.

The ethical issues in this case are fairly obvious: misleading financial results; improper accounting; and a corporate governance system that did not work. The earnings projections raise questions whether auditors should include these projections in their audit work. In accounting, they are referred to as “forward-looking” statements and cautionary language is assigned to the amounts. However, this is insufficient to protect the public in an environment of capitalism run amok.

Blog posted by Steven Mintz, aka Ethics Sage, on February 18, 2013

Groupon Reports Troubling Financial Results

Problems for the Company and Stock Price Declines Continue

Groupon just released its 3^rd quarter 2012 earnings report, marking its first full-year cycle of earnings reports since its initial public offering (IPO) in November 2011. While the net operating results show improvement year-to-year, the company still shows a net loss for the quarter. Moreover, while its revenue has been increasing in fiscal 2012, its operating profit has declined over sixty percent. This means its operating expenses are growing faster than its revenues, a sign of impending disaster. The company’s stock price on Nasdaq has gone from $26.11 per share on November 5, 2011, the end of the IPO day, to $4.14 a share on November 30, 2012, a decline of more than 80 percent in one year. The company did not meet financial analysts’ expectations for the 3^rd quarter of 2012.

Groupon blamed the disappointing results on its European operations. Some analysts took solace in the fact that Groupon reported it has 39.5 million active customers, an increase of 37 percent from the previous year. But, what good does it do to have a larger customer base if it also leads to larger-than-expected operating costs? This is the question Groupon needs to answer.

I want to go back awhile to the day of the IPO to show how Groupon’s problems first started. On November 5, 2011, Groupon took its company public with a buy-in price set at $20 per share.  Groupon shares rose from their IPO price of $20 by 40% in early trading on Nasdaq, and ended at the 4 p.m. market close at $26.11, up 31%. The closing price valued Groupon at $16.6 billion, making it more valuable than companies such as Adobe Systems and nearly the size of Yahoo.

At a size of up to $805 million, Groupon ranked as the third-largest Internet IPO sold in the U.S.in 2011, after a $1.4 billion issue by Russian search-engine operator Yandex NV in May and a $855 million issue by China social networking platform Renren, according to Dealogic. It was the ninth-largest ever on a list topped by the $1.9 billion sale by Google in 2004.

Less than five months later on March 30, 2012, Groupon announced that it had revised its financial results, an unexpected restatement that deepened losses and raised questions about its accounting practices. As part of the revision, Groupon disclosed a “material weakness” in its internal controls (accounting speak for we blew it, were caught, and now admit it), saying that it had failed to set aside enough money to cover customer refunds. The accounting issue increased the company’s losses in the fourth quarter to $64.9 million from $42.3 million. The news that day sent shares of Groupon tumbling 6% to $17.29. Shares of Groupon had fallen by 30 percent since it went public and the downward trend continues.

In its announcement of the restatement, Groupon explained that it had encountered problems related to certain assumptions and forecasts the company used to calculate its results. In particular, the company said it underestimated customer refunds for higher-priced offers such as laser eye surgery.

Groupon collects more revenue on such deals, but also carry a higher rate of refunds. The company honors customer refunds for the life of its coupons, so these payments can affect its financials at various times. Groupon deducts refunds within 60 days from revenue; after that, the company has to take an additional accounting charge related to the payments.

As Groupon prepared its financial statements for 2011, its independent auditor, Ernst & Young, determined that the company did not accurately account for the possibility of higher refunds. By the firm’s assessment, that constituted a “material weakness.” We did not maintain effective controls to provide reasonable assurance that accounts were complete and accurate,” Groupon said in its annual report.

In an interesting twist, in response to the conclusion that the company’s internal controls contained a material weakness, Groupon said it’s been working for several months with an accounting firm, not Ernst & Young, and will report on the effectiveness of those controls by the end of 2012. This could be because the company blames Ernst & Young for not finding the problem earlier. In fact, it was management’s own report on internal controls over financial reporting that first disclosed at the problem.  

In a related issue, on April 3, 2012, a shareholder lawsuit was brought against Groupon accusing the company of misleading investors about its financial prospects in its IPO and concealing weak internal controls. According to the complaint, the company overstated revenue, issued materially false and misleading financial results, and concealed how its business was not growing as fast and was not nearly as resistant to competition as it had suggested.

These claims bring up a gap in the sections of the Sarbanes-Oxley Act that deal with companies’ internal controls. There is no requirement to disclose a control weakness in a company’s IPO prospectus. Groupon would have no obligation to disclose the problem until it filed its first quarterly or annual report as a public company – which is what it did.

What should we make of the financial results at Groupon? I see a company that hasn’t reigned in its operating costs while it expands into new markets. This may be a disaster ready to happen if Groupon doesn’t get a handle on these costs and soon. One area to look at is executive compensation. Groupon wouldn’t be the first company to overpay its top executives while it struggles to develop a sustainable market. I can just see LivingSocial and Amazon chomping at the bit as it reads about the continuing problems at Groupon.

Blog posted by Steven Mintz, aka Ethics Sage, on December 3, 2012

SEC Receives 3,000 tips from Whistle-blower Program

Is the Dodd-Frank Whistle-blower Program Successful?

As someone who follows whistle-blowing in business and accounting carefully, because of the obvious implications for ethical behavior, I was drawn to the Securities and Exchange Commission’s Annual Report on the Dodd-Frank Whistleblower Program for Fiscal Year 2012.

The “Report” was released on November 15 and reveals a number of interesting data.  The SEC has received a lot of tips, complaints, and referrals:  A total of 3,001 in fiscal year 2012 with the lowest number (166) in November 2011 and the highest number (313) in May 2012.  Those tips, complaints, and referrals came from all 50 states, the District of Columbia, Puerto Rico and 49 countries, primarily from tipsters located in states with proximity to major markets.

Just over 10% of the tips were received from individuals outside of the U.S.  And, the 3,001 tips primarily were concentrated in three areas:  Corporate Disclosure and Financials (18.20%); Offering (IPO) Fraud (15.50%); and Manipulation (15.20%). 

What the Report does not tell us, except in the most general terms, is what the SEC is doing with the tips. I mean, isn’t that the more important piece of information? I can just imagine how many employees send in tips to get back at the company for some perceived bad treatment or “discriminatory” behavior.  For example, how many of the 3,001 tips actually identified fraud or wrongdoing?  How many were duplicative?  How many were referred to the Division of Enforcement?  How many resulted in the initiation of investigations by the Division of Enforcement?  How many related to investigations that already were ongoing? 

The Report does describe the first, and only, award under the program made in August 2012 to a whistleblower that reportedly helped the SEC stop an ongoing multi-million dollar fraud.  The whistleblower will receive nearly $50,000 for evidence of securities fraud. I have previously blogged about this incident.

According to the SEC, judgments and orders issued during fiscal year 2012 have exceeded the statutory threshold of $1 million in 143 cases, for which Notices of Covered Action have been posted so that individuals may apply for whistleblower awards.  The Report notes, however, that the posting of such notices does not indicate that a whistleblower tip, complaint, or referral led to the SEC initiating an investigation or filing an action or that an award to a whistleblower will be paid in connection with the case.  Thus, the Report does not reveal whether the SEC utilized a whistleblower’s assistance in any of the 143 cases; nor, does it disclose whether whistleblowers have brought compelling cases to the SEC that have resulted in judgments and orders below the statutory threshold.

One startling bit of information revealed in the Annual Report is that there are only 14 total employees working for the Office of the Whistleblower.  Although the Report suggests that these employees are receiving assistance from the Division of Enforcement’s Office of Market Intelligence, it is unclear how the Whistleblower Office or the SEC as a whole can effectively administer a program that generated 3,001 tips and, according to the Report, required the staff to return over 3,050 phone calls from members of the public in its first full year.  The Annual Report does not answer this question, nor reveal the average length of time between the filing of a tip and review of the information of purported wrongdoing.  Congress included an enhanced whistleblower program in Dodd-Frank not only to help the government root out fraud but also to encourage corporations to better police themselves and address illegal conduct head on.

The most controversial provision of Dodd-Frank is the whistle-blowing award that some believe is akin to a “bounty hunter” fee. I believe the potential is there for unsubstantiated claims as a result of the award. My fear is that a disgruntled employee will report alleged fraud and hope the SEC will uncover enough details in its investigation to justify receiving the award. On the other hand, if it helps to stem the tide of financial fraud, then the program will serve as a valuable deterrent to crime in business and financial operations. Somehow I doubt that will be the case given the long history of financial fraud in the U.S.

My favorite fraud, and on that set the tone for many years to come, occurred in 1963. Anthony “Tino” De Angelis was a commodities broker who had run into trouble with the law for supplying improperly prepared meat to the federal school-lunch program. In the early sixties, he finagled an initial ­contract with the U.S. government’s Food for Peace program, which sold excess foodstuffs to poor countries. And on the basis of his stunningly large, almost totally fake inventory—De Angelis claimed 1.8 ­billion pounds of soybean oil, but had only 110 ­million—the swindle raised at least $180 million from investors.

De Angelis filled some of his tanks with water, leaving only a thin film of oil on top in case of inspection—­perhaps the most literal Wall Street slickster of them all, at least in the day. The problem was the soybean prices tumbled when the Soviet market didn’t open up as De Angelis had expected, and when panicked investors came knocking to collect on their investments.

Sometimes I’m amazed the lengths to which some people will go to pull the wool over the eyes of others and commit financial fraud. Bernie Madoff comes to mind as the biggest fraudster so far in  the 21^st century.

Blog posted by Steven Mintz, aka Ethics Sage, on November 30, 2012

Accounting Fraud at Autonomy Perplexing to H-P and Me

Where were the auditors?

Lily Tomlin once famously said: No matter how cynical I get, I can’t keep up. I was reminded of how true this is on November 20 when I read about Hewlett-Packards’ disclosure that it had discovered an accounting fraud and has written down $8.8 billion of the value of Autonomy, the British software company it bought last year, after discovering that Autonomy misrepresented its finances. H-P said it has asked U.S. and U.K. regulators to launch criminal and civil investigations into the alleged fraud. The developments drove H-P’s already beaten-down stock because of disappointing earnings reports down another 12% to 10-year lows.

What I find amazing is no one seemed to know about the fraud – not H-P, not the external auditors, and certainly not the regulators. How is it that a major accounting fraud could occur and the auditors were kept in the dark? Didn’t audit firms learn their lesson after the frauds at Enron, WorldCom, Tyco and a multitude of other financial frauds? Apparently not. One again the refrain should be: Where were the auditors?

Now for the unbelievable details. H-P said its internal probe and forensic review had uncovered “accounting improprieties, misrepresentations and disclosure failures” in the financial statements of Autonomy, the U.K. and San Francisco-based enterprise software company H-P acquired in August 2011 for a final price of $11.1 billion.

HP’s earnings for the quarter ending on October 3, 2012, showed troubling results. Revenue is down 7 percent to $30 billion compared to the same quarter in 2011. But the real problem comes from so-called GAAP net income [Income based on Generally Accepted Accounting Principles], with a net loss of $6.9 billion, or $3.49 per share, compared to a slim net profit of $0.2 billion for the fourth quarter of 2011. Non-GAAP diluted earnings per share is at $1.16 compared to $1.17 year-over-year. Most of the bad news comes from a huge $8.8 billion write-down related to the Autonomy accounting fraud.

The Autonomy disclosures are the latest efforts by CEO Meg Whitman to clean up the mess she inherited from former CEO Leo Apotheker, who H-P reminded shareholders presided over the disastrous Autonomy deal.

In a statement, Apotheker said he is both "stunned and disappointed to learn" of the alleged accounting improprieties and the developments "are a shock to the many who believed in the company, myself included." 

Apotheker said the due diligence process was "meticulous and thorough" and "it's apparent that Autonomy's alleged accounting misrepresentations misled a number of people over time -- not just HP's leadership team, auditors and directors."

Once again, how can this happen and top management was unawares? Where was the controller and CFO while the fraud was occurring? I can’t believe lower level accountants cooked up the fraud without the knowledge of higher-ups in H-P.

The Autonomy investigation began after an unnamed “senior member” of Autonomy’s leadership alleged there had been a “series of questionable accounting and business practices” prior to the acquisition. H-P said the whistleblower gave “numerous details” that H-P previously had no “knowledge or visibility” of.

In response, H-P tapped PricewaterhouseCoopers to do a forensic review of Autonomy’s historical financial results and put John Schultz, the company’s general counsel, in charge of the investigation.

The probe determined that Autonomy was “substantially overvalued at the time of its acquisition” due to misstatements of financial performance, including revenue, core growth rate and gross margins.

A spokeswoman for Mike Lynch, the former CEO and co-founder of Autonomy, told Reuters that the H-P allegations are "false" and Autonomy's management was "shocked to see" the fraud charges. Lynch said H-P's due diligence was intensive and the larger company's senior management was "closely involved with running Autonomy for the past year," Reuters reported. 

Lynch further commented that:

• HP is using this as a ruse to distract investors from its bigger problems: "People certainly realize I'm not going to be used as Hewlett-Packard's scapegoat when it's got itself in a mess."

• HP's numbers don't add up. It's questioning about $100 million in revenues, yet blaming $5 billion of the write-off on fishy accounting.

• He wants HP to explain in detail how it came up with the $5 billion in write-offs from alleged fraud.

• He not only denies all wrongdoing but says he has backup because Autonomy was audited quarterly and every invoice over 100,000 euros ($129,000) was approved by auditors.

He says some of the accusations are misleading because Autonomy was following International Financial Reporting Standards, as British companies do, not the GAAP standard used by HP, which means it recognizes revenue differently in certain situations from U.S. practices. I doubt that claim because IFRS is not that different from U.S.-GAAP although the devil may be in the details.

H-P said it has alerted the Securities and Exchange Commission’s Enforcement Division in the U.S. and the U.K.’s Serious Fraud Office. Further, H-P said it is preparing to aggressively “seek redress against various parties” in civil courts to recoup what it can for shareholders.

On a conference call, Whitman said the board, which approved the Autonomy transaction, relied on audited information from Deloitte & Touche and additional auditing from KPMG, though she said she’s not blaming the accountants.

"Neither of them saw what we now see after someone came forward to point us in the right direction," Whitman said. 

Deloitte, which was the auditor for Autonomy in the U.K., said in a statement that it "notes the allegations" made by H-P and that the charges have been referred to regulators. We cannot comment further on this matter due to client confidentiality. We will cooperate with the relevant authorities with any investigations into these allegations.”

In my experience as an accounting professor and ethicist I have found all too many audit firms cut corners in the audit and even send out less-than-qualified auditors in order to keep audit costs at a minimum and match the sometimes “low-ball” bid to gain the client. Independence problems abound and it appears the audit firms were guilty of it in their examination of the financial results of Autonomy. When will the accounting profession learn the public expects them to find fraud?

Blog posted by Steven Mintz, aka Ethics Sage, on November 26, 2012

Are Banks Finally Being Held Accountable for their Lax Mortgage Lending Practices?

Wells Fargo and Bank of America Sued for Faulty Mortgages

Have you lost thousands of dollars in retirement money due to stock market declines since the financial meltdown started in 2007? Is your mortgage underwater because lenders made ill-advised loans only to find risky homeowners defaulting on their mortgages? Well, you are not alone in your misery. The recent recession wiped out nearly two decades of Americans’ wealth, according to government data released in June, with ­middle-class families bearing the brunt of the decline.

The  Federal Reserve Bank said the median net worth of families plunged by 39 percent in just three years, from $126,400 in 2007 to $77,300 in 2010. That puts Americans roughly on par with where they were in 1992.

I have previously blogged about the failure of the U.S. government to hold mortgage companies accountable for their lax and even fraudulent mortgage-lending activities in the early part of the 2000s that ushered in a period of financial distress from which we still haven’t recovered. If you are looking for institutions to blame for our financial meltdown, look no further than the mega-financial institutions such as Banks of America and Wells Fargo.

On October 9 the government sued San Francisco-based Wells Fargo accusing the biggest U.S. mortgage lender of "reckless" lending and leaving a federal insurance program to pick up the pieces. The action, filed in federal court in Manhattan, is the latest use of the Federal False Claims Act against a lender accused of fraud against the government-backed mortgage insurer, Federal Housing Administration, which has historically backed loans to first-time buyers and those with low incomes.

The Federal False Claims Act has often been used as an effective legal tool because the government can collect treble damages if violations are proven. Back in February, Bank of America agreed to a $1 billion settlement of False Claims Act fraud allegations involving FHA-backed loans without admitting wrongdoing, and three other large banks have agreed to pay more than $490 million total in similar cases, each accepting responsibility for "certain conduct."

Wells Fargo's internal reviews identified more than 6,500 deficient loans it was required to report from 2002 to 2010, including more than 3,000 that were 60 days into default within the first six months, yet only reported about 300 of them to the department, allowing it to avoid repayment on about $190 million in benefits, according to the complaint.

Prosecutors are seeking "hundreds of millions of dollars" in damages on behalf of the FHA. The complaint alleges nearly a decade of misconduct dating back to May 2001. The lawsuit contends that Wells Fargo engaged in "regular practice of reckless origination and underwriting" of government-backed loans. The company said that more than 100,000 FHA loans met federal guidelines when more than half of them didn't, according to complaint.

The U.S. is also seeking compensatory damages for claims including breach of fiduciary duty, gross negligence and unjust enrichment for the insurance claims that the department has paid and expects to pay for mortgages wrongfully certified by Wells Fargo.

The lawsuit is the third federal mortgage-related case this year for Wells Fargo. The current complaint alleges that the bank knew that in at least half the cases those loans didn't meet federal requirements that would allow them to be insured by the government.

Wells Fargo denied the allegations in the complaint. In a statement in response to the charges, a company spokesperson said it acted in "good faith and in compliance" with federal rules. Many of the issues in the lawsuit had been previously addressed with federal agencies, the company also said. "The bank will present facts to vigorously defend itself against this action."

Wells Fargo is not alone in being sued by the government.  In February, the Bank of America  settled a $1 billion action brought by the U.S. attorney in Brooklyn that sought penalties over loans sold to the FHA. More recently, on October 24, federal prosecutors in New York filed a lawsuit against Bank of America, seeking at least $1 billion in damages for mortgage fraud.

According to the suit, after acquiring Countrywide Financial in 2008, Bank of America continued that firm's practice of rapidly issuing mortgages without safeguards that could have weeded out unqualified applicants, then sold the bad mortgages to the federal agencies Fannie Mae and Freddie Mac, sticking them -- and in turn U.S. taxpayers -- with heavy losses and foreclosed properties.

The collapse of the housing market goes far beyond just the people who lost houses and the federal agencies that ended up stuck with the tab for the bad loans.The results include steep decreases in home prices, underwater mortgages, a slim market for home sales, and fewer people now qualifying for loans. Nevertheless, I have to wonder whether banks truly have learned their lessons or will another catastrophe occur sometime in the future after the mortgage-meltdown-dust has settled.

I raise these questions because of the following story. Annette Alejandro  emerged from bankruptcy in April; she doesn’t have a job; and her car was repossessed in 2011. Still, after spending her days job hunting, she returned to her apartment in Brooklyn where, in disbelief, she sorted through the piles of credit card and auto loan offers that have come in the mail. “Even I wouldn’t make a loan to me at this point,” Ms. Alejandro said.

In the depths of the financial crisis, borrowers with tarnished credit like Ms. Alejandro were almost entirely shut out by traditional lenders. It was hard enough for people with stellar credit to get loans.

But as financial institutions recover from the losses on loans made to troubled borrowers, some of the largest lenders to the less than creditworthy, including Capital One and GM Financial, are trying to woo them back, while HSBC and JPMorgan Chase are among those tiptoeing again into subprime lending.

Albert Einstein’s immortal words sum up the recent trend of banks getting back into the risky mortgage-lending business. Einstein defined insanity as doing the same thing over and over again and expecting different results.

Blog posted by Steven Mintz, aka Ethics Sage, on October 29, 2012

Are Ethics Courses Failing to Produce Ethical Business People?

What is the Goal of Business Ethics Education?

As a professor who teaches ethics routinely in my Accounting classes, I was intrigued to read an article by Ray Fisman, a professor at Columbia Business School, and Adam Galinsky, a professor at Northwestern University, about why ethics courses fall short in business schools. My first reaction was it is no surprise to me. The purpose of teaching ethics to college students is not to make it less likely they will commit fraud or go along with it during their business careers. There is no way to guarantee that will happen or even expect the goal to be achieved. A more realistic purpose is to get students to develop and act on a set of values that enable them to speak out when wrongdoing exists so it doesn't go that far. There is a college curriculum that approaches the teaching of ethics in that way. It’s called Giving Voice to Values. The approach was developed by Mary Gentile.

Gentile is a Babson College educator and consultant who draws on her business experiences to challenge the conventional notion of business ethics at companies and as taught in business schools. Dr. Gentile uses stories about the actions of exemplars to illustrate the kinds of values that enhance ethical behavior. Her goal is to help young people who want to stand up for their values when confronted with pressure imposed by a boss, customers, peers or shareholders to do the opposite.

I have found in my own teaching that students and young employees need a frame of reference to help make ethical decisions when faced with pressures to do otherwise. I emphasize that once you deviate from your values, it's just a small step down the proverbially ethical slippery slope and it becomes very difficult to regain the high ground later on if (and when) you realize your mistake of going along with or sanctioning wrongdoing in the first place.

Gentile’s approach is a good one because most college students know the right thing to do but have a difficult time doing it – expressing their thoughts and feelings -- because of their personal and organizational purposes are not aligned and pressures exist to deviate from ethical decision-making. Gentile starts with the premise that students do know the right thing to do but have trouble voicing their values. It’s one thing to say “I can’t go along with financial fraud”. It’s another to do something positive to prevent it from happening when your boss is pressuring you to do otherwise. In other words, to do something to voice your values in a way that changes behavior.

A useful approach to teaching business ethics is to help students identify the enablers and disablers of action. I ask students to think about the factors that would encourage them to take action on their values as well as those that discourage them. The goal is to develop a strategy to strengthen the enablers and counteract the disablers. Pressures such as a threatened job loss might lead to silence whereas a strong set of core values (i.e. integrity) should motivate students to speak up and use the enablers by taking the matter to higher-ups in the organization, assuming the CFO persists.

I have found that a useful perspective is to ask students to think about what might happen in the future if they go along with the CFO; use a long-term perspective in voicing values rather than focus on short-term gains. Some understand right away that they might be expected to go along with financial wrongdoing again in the future. Some realize top management can play the “gotcha” game down the road if, all of a sudden, they decide to act on their values but management reminds them of their past acceptance.

The bottom line is there is no way of knowing whether business ethics education has made a difference. A graduate of a prestigious school might commit fraud in the future, but it doesn’t mean business ethics has failed them or even all students. Organizational pressures and the culture of a firm can create barriers to ethical behavior. The key is to find a way to work through the obstacles and voice your values.

I’m asked all the time why I teach ethics and am challenged whether it is even possible to change one’s ethics by a college course. After all, some argue, ethics is formed at a very early age. I don’t dispute that but do point out that my goal is to get students to reflect on their actions in a safe setting so they can better develop the tools to deal with ethical challenges in the workplace. I am not a guarantor of ethical action.

Teaching ethics should not rely on having one college course in business ethics and that is it. I see the failure of business ethics education to be one of not integrating ethics into each course and each decision in business. When colleges rely on one course to teach ethics, they are not sending the message that ethics counts.  If they cover it in all courses and in the context of functional courses, then they send a completely opposite signal that it is an important part of every business decision.

I can teach business ethics – I know it from past experiences including grading papers, exams, and student presentations and papers on the topics. What I don’t know is whether students will really learn the lesson. Similarly, I can teach Intermediate Accounting to my students but I don’t know if they have truly learned the material and will be successful on the CPA Exam or in their accounting careers.

There is old African proverb: “It takes a village to raise a child”. It is quite appropriate to say that it takes an organization to raise an ethical employee.

Blog posted by Steven Mintz, aka Ethics Sage, on September 21, 2012

UBS $104 Million Whistle-blower Award Raises Ethical Issues

Motivation and Role in the Wrongdoing are Key to the Ethics of Whistle-blowing

Whistle-blowing creates ethical issues because the motivation and intention of blowing the whistle is the key to whether it is a courageous act or one undertaken for self-enrichment purposes. The case of Bradley Birkenfeld is a case in point. I’ve read several articles about the former UBS employee’s whistle-blower’s award and in none did I see a purpose for blowing the whistle. Compare that to the case of Cheryl Eckard, a quality-assurance manager at Glaxo, who had blown the whistle on the safety of products made in its Puerto Rico plant. As I have previously blogged, Eckard had a real concern about public health and safety and was willing to risk her job to live up to her ideals.

I have several concerns from an ethical perspective with respect to the UBS case. Motive is one and another is the process followed to gather and report the wrongdoing.

Birkenfeld was a former UBS banker who provided information on the firm's vast business of helping wealthy Americans hide their assets from the Internal Revenue Service. He has received a $104 million whistleblower reward, which his lawyers said was the largest in U.S. history.

Birkenfeld, began cooperating with U.S. authorities in 2007, while still at UBS. He provided prosecutors with detailed descriptions of the bank's efforts to promote tax evasion and confessed to running errands for rich clients, including one instance when he sneaked diamonds into the U.S. in a toothpaste tube. He wasn’t exactly an innocent ‘dupe’ in the fraud.

My guess is Birkenfeld started to cooperate in return for leniency for his role in the fraud. Not a very ethical position; more of a pursuit of self-interests approach to whistle-blowing. I am concerned that whistle-blowers implicated in the wrongdoing get away with a slap on the wrist while, at the same time, become millionaires for their whistle-blowing efforts.

There have been positive effects of Birkenfeld’s whistle-blowing. The case lifted the veil of Swiss bank secrecy that for decades had allowed wealthy people world-wide to evade taxes. UBS in 2009 agreed to turn over the names of more than 4,000 account holders who were U.S. taxpayers and pay $780 million to resolve a criminal case involving secret offshore accounts.

Since then, more than 33,000 U.S. taxpayers have confessed to holding undeclared overseas accounts and paid more than $5 billion in taxes and penalties.

It’s a good thing that controls are finally being put in place and enforced by the Swiss with respect to secrecy accounts. Alois Pirker, a research director at Boston consulting firm Aite Group, estimates that Swiss private-banking fees have fallen at least 25% in the past two years because foreign clients no longer see an advantage to stashing money there.

Unfortunately, other destinations are ratcheting up their efforts to draw money from the wealthy and mega-wealthy under the guise of secrecy. Pirker says wealthy Americans are moving funds to other tax havens, such as the Cayman Islands, Monaco and some Asian countries.

Birkenfeld pleaded guilty in 2008 to one count of conspiracy to defraud the U.S., a felony, and was given a 40-month sentence. He currently is in New Hampshire finishing his sentence in home confinement.

At his sentencing hearing, Justice Department official Kevin Downing said, "Without Mr. Birkenfeld walking into the door of the Justice Department in the summer of 2007, I doubt as of today that this massive fraud scheme would have been discovered by the U.S. government."

The $104 million award is 26% of the $400 million in tax paid by UBS to the IRS as a result of the 2009 settlement. The large-awards program pays between 15% and 30% of proceeds collected, which can be hard to determine.

The massive award, paid out last week to a felon still serving time, shows the lengths the agency now is willing to go to collect unpaid taxes, experts said. "If Brad Birkenfeld can get an award, then many company insiders will have no problem getting one," said Scott Knott, an attorney in Washington who specializes in tax whistleblower lawsuits. This is my concern as well and recent whistle-blowing legislation that was part of the Dodd-Frank Financial Reform Act may exacerbate the problem.

The law doesn't preclude paying money to convicted felons, as long as they didn't plan or initiate the evasion. I’m not sure how the planning criteria can be known short of a ‘smoking gun,’ such as an e-mail to that effect. Do we really believe someone like Birkenfeld would admit to planning the act? He certainly was complicit in carrying it out.

"The IRS encourages courageous actions," said Sen. Charles Grassley (R., Iowa), who sponsored the law. "An award of $104 million is obviously a great deal of money, but billions of dollars in taxes owed will be collected that otherwise would not have been paid as a result of the whistleblower information." This is an ends justifies the means approach to ethical reasoning and shows the lack of ethical sensitivity by Grassley. I’m also concerned about spying on one’s employer to whom employees owe a confidentiality obligation.

According to the Wall Street Journal, the IRS has collected more than $1 billion in taxes through whistleblower cases since the new program was launched targeting major offenders. Don’t get me wrong. I am not against whistle-blowing. I merely raise ethical issues as I might in a classroom discussion.

Oh, by the way, in case you are wondering, IRS whistleblower awards are fully taxable.

Blog posted by Steven Mintz, aka Ethics Sage, on September 17, 2012

Catch Me if you Can

The Harvard Fraudster

Perhaps you remember the Steven Spielberg movie, Catch Me if you Can, starring Leonardo DiCaprio, that told the story of Frank Abagnale, known for his history as a former confidence trickster, check forger, imposter, and escape artist. He became notorious in the 1960s for passing $2.5 million worth of forged checks across 26 countries over the course of five years, beginning when he was 16 years old.

Abagnale became one of the most famous impostors ever, claiming to have assumed no fewer than eight separate identities as an airline pilot, a doctor, a U.S. Bureau of Prisons agent, and a lawyer. He escaped from police custody twice (once from a taxiing airliner and once from a U.S. federal penitentiary) before he was 21 years old.

Abagnale served fewer than five years in prison before starting to work for the federal government. He became a consultant and lecturer at the academy and field offices for the FBI. He also ran Abagnale & Associates, a financial fraud consultancy company.  Like all too many criminals, he was rewarded for his criminal efforts by talking to others about how to avoid making the same “mistakes”.

On December 16, 2010, life imitated art when former Harvard student, Adam Wheeler, pleaded guilty to all 20 counts against him, admitting that he duped the Harvard admissions office and defrauded the University out of over $40,000 in grants and prizes.

Wheeler’s story seems to have been inspired by the movie. He committed larceny, identity fraud, falsifying an endorsement, and pretending to hold a degree. He was sentenced to 10 years’ probation and ordered to make restitution of $45,806 to Harvard University and to continue the psychological treatment that he had begun since his arrest.

Wheeler conceded that he dishonestly gained admission to Harvard by fabricating SAT scores, falsifying letters of recommendation, and forging high school and college transcripts. He also admitted to plagiarizing essays and a research proposal that earned him a Hoopes Prize, Sargent Prize, and Rockefeller research grant while he was a Harvard student.

It seems that Wheeler went one step too far in his quest to fool all of the people, all of the time, when he applied for a Rhodes Scholarship. He claimed to have a 4.0 average. He did not. His résumé said he had coauthored four books with a Harvard English professor. The professor he listed did not coauthor books with undergraduates, and college students, even at Harvard, typically do not have four advanced books to their credit by senior year. Wheeler also wrote that he was fluent in Old Persian, Classical Armenian, and “Old English”.

Wheeler just couldn’t keep away from playing the game. But the tale began unraveling during the interview process for the Scholarship, when a Harvard professor noticed inconsistencies and alerted administrators. Wheeler was expelled from the school and the criminal investigation was launched.

On November 11, 2011, Wheeler allegedly violated the condition of his probation that prohibits him from portraying himself as a Harvard student or claiming that he ever attended Harvard. Apparently, he submitted a resume to U.S. Green Data, Inc. that said he had attended Harvard. His attorney argued that he should not be sent to jail because he needed to be working and was emotionally “fragile”. [Lying and deceiving and covering-up will do that to you.]

The lawyer claimed that after Wheeler lost his job, he felt financial pressure to pay rent for his apartment and the $45,806 restitution to Harvard ordered by the court. Wheeler had only just found a new job—performing manual labor—a week ago before he was summoned to court for this alleged violation. According to his attorney, Wheeler was not a flight risk because he voluntarily appeared in court for sentencing and would return to court whenever he is called back. “Going to jail would be particularly harmful for Wheeler because his absence could cost him his job and return him to a precarious financial state”.

Fool me once, shame on you, fool me twice, three times, four and more, shame on the legal justice system.

On December 23, 2011, Wheeler was sentenced to one year in prison.

So what’s the lesson to be learned from Wheeler’s story? Sadly, it is that crime does pay. Here is a guy that broke virtually all the rules in the book for honorable behavior and took the pursuit of self-interest to a new (low) level.

Actually, I like his own assessment of his character in an e-mail sent to fellow Harvard students:

“My own, brief, assessment of my character is that I am sententious, crypto-tendentious, slightly pedantic with a streak of contrarianism, a fascination with any pedagogical approach to Shakespeare, and a decent sense of humor.”

Wheeler also remarked on his made-up time at MIT:

“At MIT I was, to put it poorly, suckled upon the teat of disdain. That being said (fortified by a reflexive snort), I was inspired thereby to apply to Harvard, where the humanities, in short, are not, simpliciter, a source of opprobrium”.

Who could argue with that logic? Who can understand what he said? And there’s the rub. The red flags were there but ignored.  A blatant faker like Wheeler should have been outed much sooner than he was.

The moral of the story is we have to be more vigilant in assessing the behavior of those around us because they can do real harm whether to institutions, such as Harvard, or to folks in our community. All we need do is think about the actions of James Holmes, who, during a midnight showing of “The Dark Knight Rises”, killed 12 and wounded 58. It appears he tried to reach out for help, and red flags existed, but those in the know found it easier to dismiss the warnings. It reminds me of the sex scandal at Penn State. The warnings signs were there but it was easier to hope the problem would go away than be proactive and avoid a disaster before it happens.

Blog posted by Steven Mintz, aka Ethics Sage, on September 7, 2012

Why Good People Sometimes Do Bad Things

Our Ethical Blind Spots Inhibit Ethical Behavior

In my study of ethical behavior I have come across many instances when otherwise good people do bad things. They may succumb to the pressure of a supervisor to go along with financial wrongdoing or they may defer to the judgment of others even though they are convinced of the right thing to do.

Ethical blind spots refer to the gap between who we want to be and the person we really are. Many researchers have studied the psychological processes that lead even good people to engage in ethically questionable behavior that contradicts their own preferred ethics. Bazerman and Tenbrunsel identify bounded ethicality as an explanation for the phenomenon when individuals make decisions that harm others and when that harm is inconsistent with these decision makers’ conscious beliefs and preferences.

We all deal with ethical challenges. Some of us may be better able to identify the ethical issues and take ethical action more than others. Take the case of Betty Vinson. In 1996, she took a job as a midlevel accountant at WorldCom, a company that had a meltdown caused by an $11 billion financial fraud. Asked by her bosses to make false accounting entries, Vinson balked -- and then caved. Over the course of six quarters she continued to make the illegal entries to bolster WorldCom's profits at the request of her superiors. Each time she worried. Each time she hoped it was the last time. At the end of 18 months she had helped falsify at least $3.7 billion in profits. Her rationalization was that the CFO and higher-level accountants who pressured her must have known the accounting was correct. She deferred to their judgment even though she questioned the entries from the beginning.

At her trial, Vinson admitted "I was very concerned about the order to make the adjustment." The fact is she was afraid to go against her superiors for fear of losing her job and not being able to support her family. On August 5, 2005, Vinson was sentenced to five months in prison and five months of house arrest for taking part in the telecommunications company's accounting fraud.

By all accounts, Betty Vinson was a good person who did a bad thing. She played on the high-school tennis team and translated her love of math into an accounting major at Mississippi College. She lived at home and spent the summers working in her father's typewriter shop. Shortly after she graduated in 1978, she married Tom Vinson, her college sweetheart. The Vinsons moved to a quiet, manicured neighborhood on the outskirts of Jackson, Mississippi. They attended their daughter's soccer games, took on home-improvement projects and played with Cupcake, their curly-haired mutt. In her spare time, Ms. Vinson taught Sunday school and devoured John Grisham novels.

When she joined WorldCom, it was a small long-distance company on the verge of becoming a star of the Wall Street telecom boom. Vinson developed a reputation for being hardworking and diligent. She was known as a loyal employee who would "do anything you told her," says a former colleague. Many nights after dinner, she would retreat to her den to work on WorldCom's books until nearly midnight. On vacations, she squeezed in some work on her laptop.

Vinson was a victim of what Bazerman and Tenbrunsel call bounded awareness. In other words, she placed arbitrary and dysfunctional bounds around her definition of the problem. Much of the reason for her “ethical blindness” came from systemic causes. WorldCom had a culture of getting the stock price up as high as possible. Top management wanted big bonuses and were insistent on meeting or exceeding Wall Street analysts’ financial projections. Superiors exerted immense pressure on Vinson and others to go along with the financial wrongdoing.

The key to ethical action in such situations is to remove the blinders and do what is right upon greater reflection. Vinson's story is a cautionary tale for good corporate soldiers everywhere who find themselves ordered to do something wrong. Saying that you were "just following orders" is not an excuse for breaking the law. As Vinson's experience at WorldCom shows, sometimes it's hard to tell right from wrong in the heat of a workplace battle. And when an employee's livelihood is on the line, it's tough to say no to a powerful boss.

Our ethical intentions are put to the test virtually every day as we encounter conflicts in our lives about how we should behave and thoughts of how we want to behave.  We believe it is inappropriate to go along with financial wrongdoing. We predict that we will not go along with it. Yet, something happens to alter the perception and reality. Self-deception allows us to behave self-interestedly while, at the same time, falsely believing that one's moral principles were upheld. The end result is that the ethical aspects of the decision fade into the background, the moral implications obscured.

Blog posted by Steven Mintz, aka Ethics Sage, on August 24, 2012

Pfizer Admits Bribery Overseas to Gain Business

Pfizer’s $60.2 Million Settlement under the FCPA Illustrates Ethical Lapses in Pharmaceuticals

On August 7, 2012, Pfizer agreed to pay the federal government $60.2 million to settle allegations that its employees bribed doctors and other foreign officials in Europe and Asia to win business and boost sales. The charges against Pfizer were brought under the Foreign Corrupt Practices Act (FCPA), which bars publicly traded companies from bribing officials in other countries to get or retain business.

The Securities and Exchange Commission said that Pfizer's overseas subsidiaries made illegal payments to health care workers in China, Italy, Russia, Croatia and other Eastern European countries. As early as 2001, Pfizer sales representatives tried to conceal the bribes by recording them as legitimate business expenses for travel, entertainment and marketing purposes, the agency said.

Pfizer subsidiaries in several countries had bribery so entwined in their sales culture that they offered points and bonus programs to improperly reward foreign officials who proved to be their best customers," said Kara Brockmeyer, chief of SEC's foreign enforcement division.

Pfizer's China operation created a point program that allowed doctors to purchase gifts based on points earned for prescribing Pfizer medications. In other cases, Pfizer would invite high-prescribing doctors to club-like meetings as a reward for choosing Pfizer products. (This sounds like the New Orleans Saints bounty hunter program that led to suspensions of coaches and players by the NFL).

The settlement includes alleged violations by Wyeth, the New Jersey-based drugmaker which Pfizer acquired in 2009. Wyeth gave up more than $17 million in profits, plus $1.6 million in interest. Pfizer agreed to disgorge $16 million in profits and interest of $10.3 million

As part of the settlement, Pfizer's HCP subsidiary agreed to pay $15 million to resolve similar bribery allegations with the Department of Justice. In addition to the settlement fee, the Pfizer unit agreed to a two-year deferred prosecution agreement.

New York-based Pfizer first disclosed the misconduct to SEC and Justice Department officials in October 2004, and “cooperated” with the government's investigation. Pfizer, the largest pharmaceutical company by sales, neither admitted nor denied the allegations.

Pfizer's general counsel, Amy Schulman, said of the settlement, "The actions which led to this resolution were disappointing, but the openness and speed with which Pfizer voluntarily disclosed and addressed them reflects our true culture and the real value we place on integrity and meeting commitments."

I take issue with the statement that the “voluntary” disclosure reflects Pfizer’s true culture. The government was already investigating Pfizer and a number of pharmaceutical companies dating back to about 2004.

The fact is the culture of pharmaceuticals seems to be a breeding place for illegal activity. I have previously blogged about the problem. For example, on July 2, 2012, a federal judge approved an agreement by British drugmaker GlaxoSmithKline to pay $3 billion for criminal and civil violations involving 10 drugs, the largest health care fraud settlement in U.S. history. GlaxoSmithKline pleaded guilty to promoting the popular antidepressants Paxil and Wellbutrin for unapproved uses.

Prior to the Glaxo settlement, the record-setting case involved Pfizer. It paid the government $2.3 billion in 2009 in criminal and civil fines for improperly marketing 13 different drugs, including erectile-dysfunction drug Viagra and cholesterol fighter Lipitor, the top-selling drug in the world for years. Pfizer was accused of encouraging doctors to prescribe its drugs with free golf, massages and junkets to posh resorts.

In May 2012, Abbott Laboratories settled for $1.6 billion over its marketing of the antipsychotic drug Depakote. And an agreement with Johnson & Johnson on June 11, 2012, the company agreed to pay up to $2.2 billion, including a criminal penalty portion of as much as $600 million, to settle U.S. investigations and lawsuits into abusive marketing practices involving the antipsychotic Risperdal and other prescription drugs.

What is about the culture in pharmaceutical companies that seems to create a breeding ground for illegal activity? Eight of the world's top 10 drugmakers have warned of potential costs related to charges of corruption in overseas markets, according to a Reuters examination of U.S. filings.

One reason is the executives that approve the payments never seem to be held to account whether through federal prosecution or by their companies. In the case of Pfizer, the SEC said the company payoffs were made “without the knowledge or approval of officers or employees of Pfizer, but the inaccurate books and records of Pfizer subsidiaries were consolidated in the financial reports of Pfizer.” I find this hard to believe. How can no one know about millions paid in bribes?

The culture of an organization sets the tone for the behavior of its employees. By ‘voluntarily’ disclosing the illegal payments, Pfizer is not acting with integrity. It was trying to head off an extensive government investigation that might have cost more to litigate than the $60.2 million paid to settle government charges of illegal payments under the FCPA.

Let’s not give Pfizer, or any other company for that matter, credit for disclosing an illegal activity that never should have occurred in the first place. It’s easy to confess in advance of the expected disclosure of an illegal act and make it seem as though the company is getting ahead of the problem. It’s an entirely different matter to prevent such activity from occurring in the first place.

Blog posted by Steven Mintz, aka Ethics Sage, on August 21, 2012

On line Dating Scams Spreading like Wildfire

How to protect yourself against on line Dating Scammers

The total number of single people in the U.S. has been estimated at 54 Million. The total number of people in the U.S. who have tried online dating is about 40 Million. The two largest on line dating services are eHarmony with 20 Million members and Match.com with 15 Million members. According to the Association of Psychological Science, online dating is now the second most common way people find one another. Introductions from friends and family are still the most popular methods for finding love, but online dating sites now surpass churches, fitness clubs and bars as meeting places for those seeking friendship or romance.

So it’s not surprising that recent reports of on line dating scams are causing consternation among singles looking for the right partner with whom to share their lives. On August 15, 2012, the Better Business Bureau issued a warning that complaints about on line dating services have increased by 108% in the past year. While the report covers the Chicago and Northern Illinois area, it does raise some important points that would-be-on line-daters should heed.

Steve J. Bernas, president & CEO of the BBB in the Chicago area cautions: "With matchmaking contracts, it's important to know exactly what you're getting into and what the service offers. Be sure to read all agreements, guarantees, and instructions before signing and be wary of vaguely worded provisions, exclusions or limitations which could pose a problem later."

The BBB offers the following advice to avoid dating scams:

• Know and recognize the red flags. Be wary if someone claims any of the following: to be in love right away, to be from the U.S. but traveling or working overseas, or to be a member of the military. Another red flag is if someone's profile lacks a photograph and/or information in their "About Me" section.
• Create a new e-mail account to be used just for online dating. The advantage of having a separate account is that you can filter information in your dating inbox and it doesn't become mixed with work or personal e-mails.
• Don't give out personal information online. It is not necessary to reveal any of the following on your online dating profile: full name, address, phone numbers, link to your Facebook page, work information or financial details. This information can be revealed later if you meet in person and develop trust. Avoid anyone who pushes you to disclose personal information.
• Talk on the phone before meeting in a public place. It can be easier to spot a fraud over the phone rather than online. If you decide to meet someone after the initial phone conversation, always meet in a public.

The anonymity of the Internet makes dating sites easy places for con artists to find victims, especially with so many people are willing to share personal information with strangers. But beware that scammers can set up fake profiles with legitimate online dating services. As a romantic relationship progresses, often for many months or even years, the communications usually leave the dating site and switch to personal emails. Victims receive pictures, which they are led to believe are of their new love interests, and the thieves tell elaborate stories about “their” families and personal lives. Most often none of their stories are true. The real people behind many of the fake profiles are Nigerian scam artists, and eventually the fake gentlemen and ladies come up with “emergencies” and ask for money.

A Lincoln, Nebraska woman recently reported to the BBB that she was a victim of a dating scam via Match.com. She had a 16-month online relationship with a man who told her that he was an American working in Nigeria on a construction job. He sent pictures of (supposedly) himself with (supposedly) his son and told her he was building an orphanage. He claimed he would be receiving a payment of $16 million for the project in the near future and he even said he planned to share $1 million of that with her.

How to Recognize a Scam Artist

The relationship may not be what you think, especially if your sweetheart:

• wants to leave the dating site immediately and use personal email or instant messaging
• claims love in a heartbeat
• claims to be from the U.S., but is traveling or working overseas
• plans to visit, but is prevented by a traumatic event or a business deal gone sour

Scammers also like to say they’re out of the country for business or military service.

What You Can Do About It

You may lose your heart, but you don’t have to lose your shirt, too. Don’t wire money to cover:

• travel
• medical emergencies
• hotel bills
• hospital bills for a child or other relative
• visas or other official documents
• or losses from a temporary financial setback

Don’t send money to tide someone over after a mugging or robbery, and don’t do anyone a favor by making an online purchase or forwarding a package to another country. One request leads to another, and delays and disappointments will follow. In the end, the money will be gone along with the person you thought you knew.

Relationship scams should be reported to the Federal Trade Commission, the FBI’s Internet Crime Complaint Center, and your state Attorney General. To access a list of possible scams, click on this link to the Fraud Aid victim advocacy website.

Blog posted by Steven Mintz, aka Ethics Sage, on August 17, 2012

Holding CEOs Responsible for Fraud at their Companies

Tyco & Kozlowski

You remember Dennis Kozlowski, the former CEO of Tyco International, who was convicted in 2005 of crimes related to his receipt of $81 million in purportedly unauthorized bonuses, the purchase of art for $14.725 million for his $30 million New York City apartment which included $6,000 shower curtains and $15,000 "dog umbrella stands," and numerous other diversions of company funds. Kozlowski's North Hampton, NH. estate was auctioned off for $4.135 million after he was sent to jail. It looks like something out of Hearst Castle.

Who can forget the $2 million spent for the 40th birthday party for his wife by flying friends and corporate hotshots to the Italian island of Sardinia for fun and games including a Roman toga party complete with entertainment by Jimmy Buffet. There was a board meeting on the last day of the week of fun and frolic, and Kozlowski billed Tyco for ‘only’ $1 million.

Kozlowski is a non-repentant individual who not only used company funds for personal reasons but told Morley Safer in a 60Minutes interview that he did nothing different than prior CEOs of Tyco. He was playing by the ‘book.’ Kozlowski’s approach to ethics is called “ethical relativism.” This is when a person believes ethical decision-making is relative to the situation. In other words, everyone is free to define his or her ethics in situations encountered based on the prevailing facts – and pressures – at the time. Most ethicists would scoff at the suggestion that I define my own ethics.

Ethics is based on certain immutable ideas that include a set of core ethical values to be followed in all situations. For example, honesty and truthfulness are core values. Once a person starts to lie, deceive, or cover-up past actions, that person begins the slide down the ethical slippery slope and oftentimes there is no turning back. I always encourage my students to tell the truth when they have made an error in judgment – admit it; be remorseful and promise never to do it again; and change your behavior to avoid repeating the mistake.

I was pleased to learn that on Friday, August 10, Tyco and Kozlowski reached a tentative settlement in litigation over compensation before he was convicted and jailed in 2005 for a massive fraud. The civil litigation was filed in 2002 in U.S. District Court in Manhattan. Tyco accused Kozlowski of fraud and breach of fiduciary duty. Two years ago, a judge found Kozlowski liable on most claims and a trial scheduled to start this week would have decided any damages owed to the company.

Kozlowski, who is in his mid-60s, was convicted in June 2005 of securities fraud, grand larceny and falsifying business records in New York State Supreme Court. A jury found that Kozlowski and former chief financial officer Marc Swartz stole $137 million from the conglomerate.

Kozlowski was sentenced to 8-1/3 years to 25 years in prison. The New York State parole board denied him parole in April.

Goldman Sachs & all the President’s Men

It’s high time we started to hold CEOs responsible for fraud at their companies. The buck should stop with those at the helm of these companies who knew, should have known,  and/or looked the other way while the fraud was committed. That is why I was dismayed to learn last week that the Justice Department won’t prosecute Wall Street firm Goldman Sachs or its employees in a financial fraud probe.

In a written statement, the department said it conducted an exhaustive investigation of allegations brought to light by a Senate panel investigating the 2008-2009 financial crisis. "The department and investigative agencies ultimately concluded that the burden of proof to bring a criminal case could not be met based on the law and facts as they exist at this time." But the department added that if additional or new evidence were to emerge, it could reach a different conclusion about prosecuting Goldman.

A Senate subcommittee chaired by Sen. Carl Levin in April 2011 found that Goldman marketed four sets of complex mortgage securities to banks and other investors but that the firm failed to tell clients that the securities were very risky. The Senate panel said Goldman secretly bet against the investors' positions and deceived the investors about its own positions to shift risk from its balance sheet to theirs.

The Obama administration is infested with people with ties to Goldman Sachs. Goldman was Obama’s biggest campaign contributor ($994,795) in 2008 and before that as a candidate to the Senate. Moreover, I can’t help but wonder whether ties to Robert Rubin, former co-Chairman of Goldman, head of Citicorp, and U.S. Treasury Secretary in the Clinton Administration, biased the decision. After all, protégés of Rubin include Larry Summers, Obama’s chief economic adviser and head of the National Economic Council, and Timothy Geithner, current Treasury Secretary and past president of the Federal Reserve Bank of NY.   

It’s ironic that the Democrats accuse Mitt Romney of being an unfeeling capitalist while crony capitalism is practiced by the current administration. We, the People, deserve better from our elected officials. To allow Goldman executives to escape unscathed by a scandal they were part and parcel of, is, quite frankly, an outrage.

Blog posted by Steven Mintz, aka Ethics Sage, on August 13, 2012

What Motivates Medical Billing Fraud?

Medicare Billing Fraud Costs to Society

We all will need it at some time in our future. The costs keep rising and the loss to the government (i.e. we, the People) is staggering. Medical billing experts estimate that the U.S. Government loses 30 cents of every dollar earned from fraudulent practices and medical billing scams. You may recall that the Obama Health Care Reform Act that was signed into law on March 23, 2010, cited about $500 billion in Medicare fraud that is supposed to be recovered to help pay for the Act. I believe this is the tip of the iceberg.

Medicare's war on fraud went high-tech on August 1, 2012, with the opening of a $3.6 million command center in Baltimore that features a giant screen and the latest computer and communications gear. The idea is to have the tools to prevent the annual $60 Billion cost in Medicare fraud and recover as much as possible from the fraudsters. The government expects the system to eventually pay for itself, although as with most statements of this kind the glaring omission is how much is spent to run the system and pay the employees charged with its operation.

I’ve often wondered what motivates a highly-skilled and well-educated medical professional to commit Medicare fraud. These are reasonably well paid individuals who, supposedly, receive a great deal of self-satisfaction from doing their job well. Very few professions can match those benefits.

I believe there are a variety of factors involved including an indifference to ethical transgressions. I like to think of it as the absence of a moral compass or a compass that is not pointed true north. In my last blog I spoke of this phenomenon.

We all know people who seem to be amoral – but we expect medical professionals to be better than that. You know, The Hippocratic Oath historically taken by physicians, physician assistants' and other healthcare professionals swearing to practice medicine ethically and honestly.   

Alas, I am forced to conclude that physicians are no better or worse than the “average” American. Not all, of course, but way too many have morphed into greedy individuals who pursue self-interests above all else and rationalize unethical actions. Perhaps they feel entitled my low Medicare reimbursement rates to pad their billings, bill for nonexistent services, or perform and bill for unnecessary procedures. Unfortunately, the end result is we all pay higher health care costs to cover the over-billings for unsubstantiated Medicare services.

I’ve done a bit of research on actual cases of Medicare fraud and am alarmed at the lengths to which some medical professionals go in billing the government for fraudulent services. I describe just a few below to educate the reader about the extent of the problem.

Medicare fraud generally refers to willfully and knowingly billing medical claims in an attempt to defraud the Medicare program for money. Anyone found guilty of Medicare fraud is subject to exclusion from participation in the Medicare program in addition to fines and possibly imprisonment. Most Medicare fraud occurs in four areas:

1. Medical Equipment Never Provided The most common area of Medicare fraud is billing for Durable Medical Equipment (DME). DME refers to any medical equipment necessary for a patient's medical or physical condition. It includes wheelchairs, hospital beds, and other equipment of that nature. The provider will bill Medicare for equipment that the patient never received. Mobility scooters have been particularly popular for Medicare fraud schemes.
2. Services Never Performed In this instance, the provider bills for tests, treatment or procedures never performed. This can be added to the list of tests a patient has actually received and never be noticed. A provider may also falsify diagnosis codes in order to add on unnecessary tests or services.
3. Upcoding Charges Misrepresenting a level of service or procedure performed in order to charge more or receive a higher reimbursement rate is considered upcoding. Upcoding also occurs when a service performed is not covered by Medicare but the provider bills a covered service in its place.
4. Unbundling Charges Some services are considered all inclusive. Unbundling is billing for procedures separately that are normally billed as a single charge. For example, a provider bills for two unilateral screening mammograms, instead of billing for 1 bilateral screening mammogram.

Two examples illustrate particularly egregious behavior. On January 12, 2012, Jorge Pineiro pleaded guilty for his participation in a $25 million home health Medicare fraud scheme. Pineiro was a registered nurse who worked for ABC Home Health Care Inc. and Florida Home Health Care Providers Inc., two Miami home health care agencies that purported to provide home health and therapy services to Medicare beneficiaries. Pineiro and his co-conspirators operated ABC and Florida Home Health for the purpose of billing Medicare for expensive services that were not medically necessary and/or were never provided. The medically unnecessary services were prescribed by doctors, including, but not limited to, Pineiro’s co-defendant, Dr. Jose Nunez.

According to court documents, beginning in approximately June 2008, and continuing until approximately March 2009, Pineiro and his co-defendant nurses falsified patient files for Medicare beneficiaries to make it appear that they qualified for home health care and therapy services. Pineiro knew that the beneficiaries did not actually qualify for and did not receive the services. Pineiro and his co-defendant nurses described in nursing notes and patient files symptoms that were non-existent, such as tremors, impaired vision, weak grip and inability to walk without assistance. They included these symptoms to make it appear that the patients were unable to self-inject insulin and were homebound, thus appearing to qualify for home health care benefits under Medicare.

Lana Le Chabrier, a physician in Santa Barbara, California, was sentenced on July 12, 2012 to six and a half years in prison for conspiring to commit health care fraud. Le Chabrier was responsible for close to a million dollars in fraudulent billings submitted to Medicare and more than $400,000 in payments made on false claims. During the period of February 2006 through August 2008, Vardges Egiazarian, 63, of Panorama City, owned and controlled three health care clinics in Sacramento, Richmond, and Carmichael. Egiazarian and others recruited doctors to submit applications to Medicare for billing numbers. Le Chabrier assumed the role of co-owner and practitioner at the Richmond clinic, and claims were submitted to Medicare under her name for medical services purportedly rendered at the clinic.

In fact, Le Chabrier never treated a single patient at the clinic. Clinic patients, almost all of whom were elderly and non-English speaking, were recruited and transported to the clinics by individuals who were paid according to the number of patients they brought to the facilities. Rather than being charged a co-payment, the patients were paid for their time and the use of their Medicare eligibility, generally $100 per visit. False charts were created stating that each patient received comprehensive exams and a broad array of diagnostic tests. Few of these tests were ever performed, none were performed based on any medical need, and clinic employees filled out other portions of the charts using preprinted templates. Some clinic employees admitted to performing various tests on themselves, and placing the results in patient files.

Fraud is endemic in our society. It infects the business world including financial institutions, the health-care services profession, and our government. The total costs of fraud to society are difficult to determine. I believe it ranges in the trillions, not billions, and certainly not millions. Imagine if we had that money to pay off our national debt. Imagine if that money were returned to the taxpayer to stimulate the economy. Imagine if we lived in a society where people followed their inner voice rather than ignore it. We can hope, we can dream, but in the end “it takes a village” to raise a society that is led by a moral compass pointing due North.

Blog posted by Steven Mintz, aka Ethics Sage, on August 4, 2012  

Bank Financial Fraud Goes Global

The LIBOR scandal infects Global Financial Markets

Last week it was disclosed that Barclays, a 300-year-old British bank, rigged the LIBOR rate. The LIBOR is a borrowing rate set daily by a panel of banks for ten currencies and for 15 maturities. The most important of these, three-month dollar LIBOR, is supposed to indicate what a bank would pay to borrow dollars for three months from other banks at 11am on the day it is set. The dollar rate is fixed each day by taking estimates from a panel, currently comprising 18 banks, of what they think they would have to pay to borrow if they needed money. The top four and bottom four estimates are then discarded, and LIBOR is the average of those left. The submissions of all the participants are published, along with each day’s LIBOR fix.

Many financial institutions, mortgage lenders and credit card agencies set their own rates relative to (and typically higher than) LIBOR. The LIBOR is among the most common of benchmark interest rate indexes used to make adjustments to adjustable rate mortgages. So, it affects virtually all people around the world and the scandal described below threatens to infect the global financial system if left unchecked.

Over the past week strong evidence has emerged in documents detailing a settlement between Barclays and regulators in the U.S. and Britain that employees at the bank and at several other unnamed banks tried to rig the number time and again over a period of at least five years. Investigations by regulators in several countries, including Canada, America, Japan, the EU, Switzerland and Britain, are looking into allegations that LIBOR and similar rates were rigged by large numbers of banks. Corporations and lawyers, too, are examining whether they can sue Barclays or other banks for harm they have suffered. That could cost the banking industry tens of billions of dollars.

As many as 20 big banks have been named in various investigations or lawsuits alleging that LIBOR was rigged. The scandal also corrodes further what little remains of public trust in banks and those who run them. Still, the fraud is bigger than just LIBOR manipulation.

A second sort of LIBOR-rigging has also emerged in the Barclays settlement. Barclays and, apparently, many other banks submitted dishonestly low estimates of bank borrowing costs over at least two years, including during the depths of the financial crisis. In terms of the scale of manipulation, this appears to have been far more egregious—at least in terms of the numbers. Almost all the banks in the LIBOR panels were submitting rates that may have been 30-40 basis points too low on average. That could create the biggest liabilities for the banks involved.

As the financial crisis began in the middle of 2007, credit markets for banks started to freeze up. Banks began to suffer losses on their holdings of toxic securities relating to American subprime mortgages. With unexploded bombs littering the banking system, banks were reluctant to lend to one another, leading to shortages of funding system-wide. This only intensified in late 2007 when Northern Rock, a British mortgage lender, experienced a bank run that started in the money markets. It soon had to be taken over by the state. In these febrile market conditions, with almost no interbank lending taking place, there were little real data to use as a basis when submitting LIBOR. Barclays maintains that it tried to post honest assessments in its LIBOR submissions, but found that it was constantly above the submissions of rival banks, including some that were unmistakably weaker.

At the time, questions were asked about the financial health of Barclays because its LIBOR submissions were higher. Back then, Barclays insiders said they were posting numbers that were honest while others were fiddling theirs, citing examples of banks that were trying to get funding in money markets at rates that were 30 basis points higher than those they were submitting for LIBOR.

Regulators around the world are concerned that global financial markets may have been rigged by a large number of banks. The list of institutions that have said they are either co-operating with investigations or being questioned includes many of the world’s biggest banks. Among those that have disclosed their involvement are Citigroup, Deutsche Bank, HSBC, JPMorgan Chase, RBS and UBS.

The U.K. Serious Fraud Office (SFO) opened a criminal probe into the attempted rigging of interest rates that led to a record fine against Barclays, adding to pressure on banks already under investigation by regulators around the globe. (As a side point, I never could understand why, in certain countries, large scale frauds ware distinguished from tamer ones by having the “Serious Frauds Office” do the investigation. It seems to me all frauds are serious on their face.)

Politicians including Chancellor of the Exchequer George Osborne and Opposition Labour leader Ed Miliband called for a criminal probe after Britain’s second-biggest bank was fined $451 million two weeks ago in the UK and U.S. for submitting false LIBOR rates. Chief Executive Officer Robert Diamond and Chief Operating Officer Jerry Del Missier resigned over the scandal.

The SFO joins the U.S. Department of Justice in criminally investigating how derivatives traders and rate submitters colluded to rig interbank offered rates. The U.K. Financial Services Authority is seeking civil penalties against banks and has said its criminal powers don’t include Libor rigging.

As part of the U.S. and U.K. settlements, Barclays admitted rigging the LIBOR as well as Euribor, its equivalent in euros, as early as 2005. In testimony to the British Parliament last week, Diamond apologized and said 14 Barclays traders were involved.

Citigroup Inc., Royal Bank of Scotland Group Plc, UBS AG, ICAP Plc, Lloyds Banking Group Plc and Deutsche Bank AG are among the firms regulators are investigating. About 18 banks are surveyed as part of the process of determining LIBOR rates.

The bottom line is now global interest rates and the global financial system is coming under attack. If we can’t trust that system, then the global transfer of money may be in doubt. In the US, we have our own problems with the financial system. Now, we have to consider the LIBOR-rigged rate problem to determine how, and to what extent, it has affected the actions and performance of US banks. US regulatory authorities should investigate as quickly as possible to assure investors the scandal has been controlled.

Blog posted by Steven Mintz, aka Ethics Sage, on July 14, 2012

GlaxoSmithKline Fraud Leads to Settlement of Whistle-blower Lawsuits

Health Care Fraud a Growing Problem

On July 2, 2012, a federal judge approved an agreement by British drugmaker GlaxoSmithKline to pay $3 billion for criminal and civil violations involving 10 drugs, the largest health care fraud settlement in U.S. history. GlaxoSmithKline pleaded guilty to promoting the popular antidepressants Paxil and Wellbutrin for unapproved uses.

Prior to the Glaxo settlement, the record-setting case involved Pfizer Inc., the world’s biggest drugmaker. It paid the government $2.3 billion in 2009 in criminal and civil fines for improperly marketing 13 different drugs, including erectile-dysfunction drug Viagra and cholesterol fighter Lipitor, the top-selling drug in the world for years. Pfizer was accused of encouraging doctors to prescribe its drugs with free golf, massages and junkets to posh resorts.

In May 2012, Abbott Laboratories settled for $1.6 billion over its marketing of the antipsychotic drug Depakote. And an agreement with Johnson & Johnson on June 11, 2012, the company agreed to pay up to $2.2 billion, including a criminal penalty portion of as much as $600 million, to settle U.S. investigations and lawsuits into abusive marketing practices involving the antipsychotic Risperdal and other prescription drugs.

Government officials said in the original complaint against Glaxo that the company promoted Paxil as safe for children and adolescents, even though the U.S. Food and Drug Administration (FDA) hadn’t approved it for those patients and the company’s clinical trials raised concerns about an increased suicide risk.

Prosecutors had charged that the drugmaker promoted Wellbutrin for unapproved uses that included treating attention deficit disorder, bipolar disorder, obesity, sexual dysfunction and anxiety when it wasn’t shown to be safe and effective for those uses.

The company also admitted that it failed to report to the government some safety problems with Avandia. In 2010, the diabetes drug was restricted in the U.S. and banned in Europe after it was found to sharply increase the risks of heart attacks and congestive heart failure.

I have previously blogged about the GlaxoSmithKline case in the context of a whistleblower lawsuit brought against the company. In October 2010 it was reported that Cheryl Eckard, a quality-assurance manager at Glaxo who had blown the whistle on the safety of products made in its Puerto Rico plant, had been fired as a result of what the company called a “redundancy” related to the merger of Glaxo Wellcome and SmithKline Beecham a couple of years before. Of course, the suspicion was that Eckard was fired because she refused to go along in a cover-up of the quality assurance and compliance problems at the plant.

Eckard filed a federal lawsuit against Glaxo under the U.S. False Claims Act. The law prohibits people or businesses from defrauding the government, and provides incentives for people who suspect wrongdoing to come forward. Lawsuits are typically filed confidentially and the Justice Department determines whether the case has enough merit for it to take over. If the Justice Department is successful in recovering money – usually through a settlement – the whistleblower is generally entitled to receive from 15% to 25% of the award. Cheryl Eckard won $96 million as part of an initial $750 million penalty against Glaxo.

Last week it was announced that the company had settled lawsuits from claims made by four employees of GlaxoSmithKline, including a former senior marketing development manager for the company and a regional vice president, who tipped off the government about a range of improper practices from the late 1990s to the mid-2000s.

Prosecutors said the company had tried to win over doctors by paying for trips to Jamaica and Bermuda, as well as spa treatments and hunting excursions. In the case of Paxil, prosecutors claim GlaxoSmithKline employed several tactics aimed at promoting the use of the drug in children, including helping to publish a medical journal article that misreported data from a clinical trial.

A warning was later added to the drug that Paxil, like other antidepressants, might increase the risk of suicidal thoughts in teenagers. Prosecutors said the company had marketed Wellbutrin for conditions like weight loss and sexual dysfunction when it was approved only to treat major depressive disorder.

They said that in the case of Avandia, whose use was severely restricted in 2010 after it was linked to heart risks, the company had failed to report data from studies detailing the safety risks to the FDA.

The Glaxo settlement is the latest in a string of settlements related to pharmaceutical companies that put profits ahead of patients. In recent years, the government has cracked down on drugmakers’ aggressive tactics, which include marketing medicines for unapproved uses. While doctors are allowed to prescribe medicines for any use, drugmakers cannot promote them in any way not approved by the FDA.

The actions against pharmaceutical companies raise serious questions about the safety of medicines that are increasingly marketed to, and taken by, children and adolescents. It is a problem that should not be tolerated and threatens the health of young people in the US.

I have to wonder about the business ethics at companies like GlaxoSmithKline. I went online to look at its code of conduct. Here it is:

 

GSK Code of Conduct   �    GSK Staff must always  act with integrity  and honesty  and must protect  the Company’s public  image  and  reputation   in  relationships   with  customers,   competitors,   suppliers, business partners and staff. �    GSK Staff must promptly raise any concerns about possible unethical or illegal conduct. GSK will investigate  all genuine concerns and take appropriate  action, while maintaining confidentiality and protecting reporting individuals from retaliation. �  GSK Staff are expected to be free from actual or potential conflicts of interest that might influence, or appear to influence their judgment or actions when performing their corporate duties on behalf of GSK. The employment of a close relative within a reporting line or the existence of a personal relationship within a reporting line is a conflict of interest.

�    GSK’s reputation and the respect of those who deal with GSK must not be put at risk by Staff acceptance of any entertainment, gifts or favors intended or perceived by others to influence their business judgment.

�    Communications with external audiences, i.e., Investors and the Media, should be managed through appointed company spokespersons to minimize risk to GSK’s reputation.

Why do we have this policy? GSK is committed to the highest standards of conduct in all aspects of its business.

 

The actions of Glaxo violate just about every provision of its code. Unfortunately, all too many companies look at their code as a piece of paper that serves as a PR document and then it is filed away never to be seen again.  A code of conduct should be a living document that guides the actions of company employees and top management. Ethics training is essential to inform employees of the importance of the code and the ethical expectations in the workplace.  An effective code requires oversight including management involvement, a hot line and whistle-blowing procedures. Most important is for top management to set the proper ethical tone by their actions and to “walk the talk” of ethics.

Blog posted by Steven Mintz, aka Ethics Sage, on July 10, 2012

 

What to do if you are a Victim of Financial Elder Abuse

Elder Fraud a Growing Problem

In Tuesday’s blog I talked about elder fraud and recounted the fraud perpetrated against Jim and Miriam Parker who lost nearly $200,000 of their retirement savings to a fraud scheme. In this blog I look at the techniques used against seniors and what can be done to prevent and report elder fraud.

Financial fraud is the fastest growing form of elder abuse. Broadly defined, financial elder abuse is when someone illegally or improperly uses a vulnerable senior's money or other property. Most states now have laws that make elder financial abuse a crime and provide ways to help the senior and punish the scammer.

Elder financial abuse is tough to combat, in part because it often goes unreported. Many elderly victims are often too confused, fearful, or embarrassed by the crime to report it. One recent study reported by Consumers Digest estimated that there are at least 5 million cases of this financial abuse in the United States each year, but law enforcement or government officials learn about only 1 in 25 cases.

Frauds and thefts against the elderly by people they know and trust are surprisingly common. Examples cited by the Justice Department and other sources include stealing money; cashing checks without permission; transferring the ownership of property; committing identity theft; "borrowing" funds without intending to repay; and denying services to the elderly person – even medical care – to pocket the money.

Friends and relatives also have convinced senior citizens to add their name onto bank accounts, living trusts or wills (perhaps as the sole beneficiary) or grant a power of attorney (giving total control over the person's financial affairs).

Signs of Financial Fraud against Elders

Seniors and their loved ones should be very suspicious if they notice any of the following:

• A relative or caregiver becomes extremely interested in the elderly person's financial affairs.
• A caregiver is reluctant to spend money on necessary medical treatment.
• Someone prevents the elderly person from talking on the phone or doesn't pass along phone messages.
• There are unauthorized withdrawals from checking or savings accounts.
• The caregiver claims that some money is "missing." Or, there are new or recently changed legal documents, such as wills or "powers of attorney" that give this other person rights to conduct transactions.

A recent study by the American Association of Retired Persons (AARP) highlighted characteristics of people older than 50 that make them easy targets for financial abuse. In general, they: expect honesty in the marketplace, are less likely to take action when defrauded, and are less knowledgeable about their rights in an increasingly complex marketplace. And as people over 50 are more likely to be home than their younger neighbors, they are often within easy reach of devious telemarketers and home solicitors.

Scammers target elders that they perceive to be vulnerable -- those that are isolated, lonely, physically or mentally disabled, unfamiliar with handling their own finances, or have recently lost a spouse.

The scam artists often pose as trustworthy helpers. They can be strangers, such as telemarketers and tradespeople, or have a relationship with the targeted victim, such as friends, family members, doctors, lawyers, accountants, and paid or volunteer caregivers. Abusers who are family members often have money troubles that may be made worse by unemployment, gambling, or substance abuse problems.

Common Financial Schemes

Financial scams perpetrated against older people include a broad range of conduct. Here are some common examples.

Telemarketing or mail fraud. The U.S. Department of Justice estimates that dishonest telemarketers take in an estimated $40 billion each year, bilking one in six American consumers -- and the AARP claims that about 80% of them are 50 or older. Scammers use the phone to conduct investment and credit card fraud, lottery scams, and identity theft. Scammers also use the phone to sell seniors goods that either never arrive or are worthless junk.

Getting unauthorized access to funds. In "Sweetheart Scams," alleged suitors woo older people, convincing them that love and care are their motivations for being included on bank accounts or property deeds; the suitors usually disappear along with the property.

Charging excessive amounts of money. Smooth-talking scammers first convince seniors that they need some goods or services and then overcharge them -- often hiding the high cost in extravagant schemes involving interest and installment payments. This tactic is often used for products that many older people might find essential to their quality of life, such as hearing aids and safety alert devices.

Selling bogus items. In the "Rock in a Box" scam a senior is sweet-talked into buying an item, such as a new color television, at a bargain price, that comes in a box that's suspiciously sealed. What the box actually contains is a well-padded rock.

Getting money or property through undue influence or fraud. Many seniors have been duped into parting with their homes or other property because a scammer convinces them it is for their own good. In one infamous case, three officials from the Detroit-based Guardian Inc. were found guilty of embezzlement and fraud after selling a client's house for $500 -- to the mother of a company officer. The company also collected excessive fees from its wards, sometimes as high as 70 percent of their Social Security checks.

Using fraudulent legal documents. Many scammers cloak their actions in legal authority, procuring a power of attorney or will or other legal document giving them access to a senior's property. They get seniors to sign these documents by lying to, intimidating, or threatening the seniors.

Faking an injury scenario. In this situation, a scammer claims to have a connection to law enforcement and tells an elder that a child or other close family member has been seriously injured or is in jail. The scammer then convinces the senior to give him or her money for medical treatment or bail.

Offering false prizes. A good example of this is the "You have won the lottery" scam operating out of Canada. In this scam, thousands of older people were bilked into believing they became wealthy overnight, but had to wire money in "fees and taxes" before they could collect the grand prize. In another version of this scam, con artists tell an elder that he or she has just won a huge cash prize, but needs to send in some money -- usually in money orders -- to free it up from customs officials. This is what happened to the Parkers.

What to do to protect yourself and Loved Ones

The National Fraud Information Center (NCL) provides tips about how to identify common scams and avoid telemarketing fraud. In addition, NCL has information about identity theft, how to get off marketing lists by signing up for the national “do not call” registry at 888-382-1222, and how to protect your personal privacy.

To better understand legal rights for seniors, the National Center on Elder Abuse (NCEA), has prepared a report which focuses on four components of the legal system: the state and criminal justice system, federal investigative and regulatory agencies, the civil legal system, and the victim witness assistance network. Professionals from each system describe challenges they face in handling financial abuse cases and made recommendations for improving each system's response. To view, click here to download it from the NCEA web site.

Other resources include AARP’s website, the Journal of Elder Abuse & Neglect which has one issue is solely devoted to elder financial abuse [(Volume 12 Number 2 (2000)], and. A/PACT: Aging Parents and Children Together. This video is produced by AARP and the Federal Trade Commission and focuses on consumer fraud, daily money management, alternatives to guardianship, and so on.

Fraud against the elderly is a cowardly and despicable act that takes advantage of a vulnerable group of people, and it is one that violates every ethical standard imaginable. Unfortunately, it is likely to continue and grow over time because of our aging population. The fact that we have lost our moral compass as a society feeds into the fraud.

Blog posted by Steven Mintz, aka Ethics Sage, on July 7, 2012

Elder Fraud

Fraud Schemes Bilk Elderly out of Savings

This is the first of a two-part blog on elder fraud. Part two will be posted on Saturday.

CNN Money reported the results of a study last week that senior citizens have been getting swindled out of billions of dollars a year, and the trend is only getting worse.

The majority, or 84%, of experts who deal with financial fraud of elders -- including financial planners, medical professionals and social workers -- have noticed an increase in financial abuses this year, according to a survey released by nonprofit organization Investor Protection Trust.

About 58% of the 762 respondents reported that they encountered investment fraud or financial exploitation of seniors "quite often" or "somewhat often." And 96% of experts said elderly fraud is a serious problem.

Meanwhile, research from insurance provider MetLife has found that Americans over the age of 60 lost about $2.9 billion to financial abuse in 2010 -- up 12% from the $2.6 billion lost in 2008.

About half of that fraud was perpetrated by complete strangers, while family, friends and neighbors accounted for about 34% of financial abuse, according to the report. In many cases, fraudsters stole seniors' Medicare or Medicaid benefits -- resulting in losses of $38 million in 2010.

Childhood actor, Actor Mickey Rooney, now in his 90s, elevated the profile of the problem earlier this year when he won a restraining order against his stepchildren. He claimed they used intimidation to get access to his money and later told Congress how that can happen to a vulnerable senior.

According to the Richard Cordray, director of the Consumer Financial Protection Bureau, "Many seniors have routines, and their predictable patterns make them easier targets for predators. They can be lonely or overly trusting, and we now have many methods by which perfect strangers can communicate with them, often anonymously or posing as someone they are not."

A MetLife Mature Market Institute study also found that elderly women are nearly twice as likely to be victims as men. The majority are between 80 and 89 years old, lived alone and were dependent on some sort of help around the home or with their health care. Caregivers are often in a position where they can easily take advantage of seniors, especially if they have access to their finances, said Cordray.

Most elderly victims of financial abuse don't report fraud because they are either too ashamed, don't realize they are being duped until it's too late to get their money back, or their adult children fail to recognize the problem in time to intervene.

The case of Donna and Jim Parker illustrates how easy it is to scam seniors. The couple ended up on what people in the industry call the "sucker list" perhaps because of donations to some group. Then the scammers proceeded to "reload" them. You've won this multimillion-dollar lottery, they'd say. All you need to do is send us money to cover taxes, and we'll send you your prize.

So on Dec. 8, 2004, Miriam Parker – then 80 – drove herself to the Wal-Mart down the road to send a MoneyGram to Montreal, Quebec.

And so, over a series of calls, Howard Clark – a man with a warm voice who called her "dear" and "sweetheart" – had learned enough personal information about Miriam to convince her that he was the family's ticket to riches.

Other MoneyGrams followed. Then, on Jan. 12, 2005, Miriam sent a Federal Express package to a "Mr. Stewart" on Papineau Street in Montreal. Inside, as instructed, was a magazine with $12,550 in cash sandwiched between its pages.

By May 2005, the Parkers had blown through their savings. They had tapped into their home equity line and had maxed out several credit cards. They were running out of things to give.

Unwittingly, their children had contributed to the problem. When Miriam asked Donna for a $7,000 loan, the daughter thought little of it.

Through most of their marriage, Charles Parker had taken care of the couple's finances. But in 1989, shortly after his retirement, he suffered a heart attack. That was followed by colon cancer. As her husband's health declined, Miriam stepped to the fore.

Faced with mounting debt – and clinging to assurances that a big payday was coming – she was determined to right their financial ship. That's when she became a "money mule." Clark told Miriam that she'd been "hired" by the Canadian sweepstakes company.

On May 5, 2005, a package from Bloomingdale, N.J., containing $8,275 in cash arrived at the Parkers' home. Others followed and in about a week, Miriam Parker would receive and repackage $60,000 in cash for delivery to Mr. Stewart.

Sometimes, there would be two stacks of bills tucked into magazines. The smaller pile was Miriam Parker's "commission."

Howard said she wasn't to tell her children about their dealings. But the kids had already become alarmed by changes in their mother's behavior.

During visits, her son, Jim, noticed that Miriam would race him to the phone, then prevent him from listening to the conversations.

And then there was the need for loans. When Donna asked what for, her parents were evasive.

When the children finally persuaded their mother to get a credit report, the news was jaw-dropping. Their thrifty parents were nearly $200,000 in debt.

The daughter went to the state Attorney General's Elder Fraud Unit. In April 2006, sitting around the family table, the door-bell rang. A FedEx driver handed Jim a crinkly envelope. He knew without opening it what was inside and turned it over to Kirkman, manager of the Elder Fraud Unit in the Attorney General’s office.

When authorities opened the envelope, they found an old issue of Martha Stewart Living magazine. It contained $5,725 in cash from a Visalia, Calif., widow.

Kirkman called a contact at Federal Express, who ordered a stop on deliveries and pickups at the Parker home. But the crooks just switched to United Parcel Service.

And now, in addition to money, they were delivering and picking up car tires and custom rims, and laptop computers worth thousands of dollars — all purchased by other elderly victims.

Ultimately, with the help of the Royal Canadian Mounted Police, a visit was paid to Dave Stewart. The Jamaican native acknowledged accepting numerous packages from the American lady on behalf of a man whom he knew as "Roger." Stewart said he was paid $100 per package. Professing ignorance of any illegal activity, Stewart agreed to cooperate.

Howard, meanwhile, gave Miriam a new address to which she should forward items. On Aug. 17, 2006, laptops valued at more than $7,200 arrived from Hayward, Calif. She sent them to a "Joseph Reid" in Montreal. Parcels kept coming.

In December 2006, the Parker kids persuaded their parents to grant Donna a limited power of attorney. A month later, she accompanied them to the credit union, where they took out a 30-year, $179,000 mortgage on their home.

The scam unraveled when the FBI ran a sting operation on Howard.

In Raleigh, North Carolina, a federal grand jury handed up a 35-count indictment against Clar, whose real name was Clayton Atkinson, and two co-defendants – Dave Stewart and Jamaal McKenzie, aka "Joseph Reid." The three were charged with one count each of conspiracy and interstate transportation of stolen property, seven counts of wire fraud and 26 counts of mail fraud.

In my next blog I will address the issue of what seniors can do if they feel targeted by elder fraud.

Blog posted by Steven Mintz, aka Ethics Sage, on July 3, 2012

 

Financial Reporting Practices of Chinese Companies Investigated by SEC

Can We Trust Financial Reports of Chinese Companies?

It's déjà vu all over again as the famous philosopher Yogi Berra once said. The Securities and Exchange Commission in the U.S. has sued yet another China-based company and two of its executives, charging them with lying to investors about the value of the company's assets and how it used $120 million in proceeds from its initial public offering on the Nasdaq. In a complaint filed on April 23, the S.E.C. also charged that the chairman of the company, SinoTech Energy, secretly siphoned $40 million from the company's account at the Agricultural Bank of China last summer.

I have previously blogged about accounting and ethics problems at Chinese companies such as Longtop Financial. The legal action against SinoTech, an oil field services company de-listed by the Nasdaq in January, is the latest example of a continuing crackdown on accounting fraud and other financial crimes at Chinese companies listed in the United States. The S.E.C. also charged 11 investors in AutoChina International, including a senior executive and director, with market manipulation. The Commission also secured a court order freezing the assets of six Chinese citizens and an offshore holding company after accusing them of insider trading in the shares of Zhongin Inc, a pork processor based in China.

In its complaint against SinoTech, the S.E.C. charges that the company “grossly overstated the value of its primary operating assets,” including hydraulic drilling equipment. The company claimed in its listing document it would spend $120 million on such equipment, but the Commission found that it bought less equipment than it said it would, lied about the equipment it did buy and overstated the value of its purchases by nearly fivefold in its financial statements.

The S.E.C. alleged that the chief executive, Guoqiang Xin, 47, and the former chief financial officer, Boxun Zhang, 35, were behind the equipment purchasing fraud. In addition, the Commission accused the company’s chairman and controlling shareholder, Qingzeng Liu, 50, of stealing $40 million from a company bank account and lying about it to investors.

SinoTech Energy raised $167.8 million in an initial offering on the Nasdaq in November 2010. The company caught the attention of regulators after it was criticized last August in a negative report. The company’s auditor, Ernst & Young Hua Ming, resigned in September.

Many questions exist about Chinese accounting principles and the reliability of the financial statements produced by state-owned and private enterprises.  Questions continue to be raised about the value of those statements to investors looking to obtain a piece of the growing Chinese economic pie. For the most part, accounting rules are ignored; financial disclosures lacking; and transparency seems to be a word not in the disctionary of Chinese companies.

An important point is that China must play by SEC rules if it is to audit affiliates of US companies that are subject to inspection by the Public Company Accounting Oversight Board and if Chinese companies are to list their stock on U.S. exchanges. All foreign c companies that list stock in the US are subject to such inspections. China should not be treated any differently. If China wants to be a key player and become a force in the international financial markets, then it must learn to play by the rules of regulators outside their own country even if it seems to run counter to cultural norms whereby such regulations and inspections might be interpreted as demonstrating a lack of trust in Chinese management.

Blog posted by Steven Mintz, aka Ethics Sage, on April 27, 2012

 

Skilling’s “Honest Services” Argument Fails in the US Supreme Court

Enron Redux

You remember the Enron failure. It ushered in a sustained period of financial statement fraud where earnings restatements totaled in the billions. It has been estimated that financial statement fraud caused a decrease in market value of stock of approximately 500 to 1,000 times the amount of the fraud so that, for example, a $10 million fraud might cause a $5 billion loss in market value.

The perpetrator of the Enron fraud was Jeff Skilling, the former CEO of Enron. Skilling blessed the off-balance sheet, special-purpose entities (SPEs) set up by its financial wizard, Andy Fastow. This maneuver enabled Enron to keep billions of debt off its Balance Sheet and shift it to the entity. Many of these entities were shells set up to hide debt. In return for cash received by Enron from bank loans made to the SPEs, these entities agreed to accept unwanted assets on Enron’s books.  In some cases Enron even recorded a gain on the exchange thereby boosting income because the cash received from the SPE was greater than the book value of Enron’s asset transferred to it.

On October 23, 2006, Skilling was sentenced to 24 years and 4 months in prison and fined $45 million. That means he wouldn’t get out until 2030. By then he’d be 74 years old.

Skilling has filed a serious of appeals of his sentence. On April 3, 2008, Skilling’s defense attorney argued with government prosecutors that Skilling’s trial and the conviction itself was based on “honest services fraud” that he said did not apply to Skilling.

Honest services fraud refers to a 28-word sentence of 18 U.S.C. Section 1346 (the federal mail and wire fraud statute), added by the US Congress in 1988, which states: "For the purposes of this chapter, the term, scheme or artifice to defraud includes a scheme or artifice to deprive another of the intangible right of honest services."

The statute has been applied by federal prosecutors in cases of public corruption as well as in cases in which private individuals breached a fiduciary duty to another. In the former, the courts notably have been divided on the question of whether a state law violation is necessary for honest services fraud to have occurred. In the latter, the courts notably have taken differing approaches to determining whether a private individual has committed honest services fraud – a test based on reasonably foreseeable economic harm and a test based on materiality.

The statute, which has been a target of criticism, was given a narrow construction in the case of Skilling v. United States. In order to avoid finding the statute to be unconstitutionally vague, the Court interpreted the statute to only cover "fraudulent schemes to deprive another of honest services through bribes or kickbacks supplied by a third party who ha[s] not been deceived."

Skilling’s basic argument was that even though he committed illegal financial maneuvers, he did so in order to save the company and did not profit from it. This sounds to me like a “delusional” defense approach.

On January 6, 2009, the US Court of Appeals for the Fifth Circuit affirmed Skilling’s conviction, but vacated the sentence and remanded for resentencing. I believe there were procedural errors in the original trial that led to the decision.

On October 13, 2009, the Supreme Court agreed to hear the appeal. A key question was whether the federal “honest service” fraud statute required the government to prove that Skilling’s conduct was intended to achieve “private gain” rather than to advance the interest of his employer, and, if not, is the statute unconstitutionally vague.

Let’s not forget our Enron history. On May 25, 2006, Skilling was found guilty of conspiracy, insider trading, making false statements to auditors, and securities fraud. It seems to me Skilling’s motivation for the fraud was both to advance the company’s interests and increase his own individual wealth. It’s a common theme that ran throughout the many frauds at the time including Enron, WorldCom, Tyco, and Global Crossing.

On April 16, 2012, the Supreme Court left intact Jeffrey Skilling’s conviction for leading the Enron Corp. accounting fraud, refusing to grant a second hearing to the imprisoned former chief executive officer. Let’s hope it stops right here and right now. Skilling should accept responsibility for his actions and not look for loopholes in the law to escape serving his sentence. He was a main contributor to the fall of the 7^th largest company in the US back in 2001.

A long time ago Sophocles, one of three ancient Greek writers of tragedy said: “It is a painful thing to look at your own trouble and know that you yourself and no one else has made it.”

Blog posted by Steven Mintz, aka Ethics Sage, on April 20, 2012

 

Abramoff, PACs, and Campaign Financing

Abramoff is Out of Prison Just in Time to Witness the Buying of the Presidency

Last week it was reported that Jack Abramoff, the former lobbyist, businessman and movie producer who was indicted on charges of fraud, conspiracy and tax evasion after an extensive corruption investigation, will give a talk on ethics at The University of Texas at Austin on May 2. "You Don't Know Jack! A Conversation with Jack Abramoff” will be held at the AT&T Executive Education & Conference Center on the UT campus.

Abramoff, who served four years in federal prison after pleading guilty, will discuss the importance of ethics in government, as well as personal ethics as they relate to his own experiences. He will describe the pitfalls he didn’t see, what he didn’t do, how he came to the point of making only bad choices and how he came to realize his mistakes and work through them.

I don’t know about you but I have a problem with a convicted fraudster going on the speaker’s circuit and making money by telling listeners why and how s/he did what they were convicted of doing. It’s worse when that person gives advice on how to spot fellow-fraudsters. Perhaps it’s just me but the only way in my mind of justifying a speaking engagement for a fraudster is to donate the speaker’s fee to a worthy cause. On that comes to mind is The Association of Certified Fraud Examiners.  This is a group of well-trained accountants, auditors, lawyers and investigators who examine incidents of fraud and provide expert information on the causes and results of such actions, and how to prevent and detect fraud in an organization.

Abramoff has the dubious “distinction” of having been involved in the most widespread influence-peddling scandal to date. On September 4, 2008, he was sentenced to a four-year term in federal prison for mail fraud, conspiracy, and tax-evasion charges stemming from an influence-peddling scandal in Washington, D.C. Lawmakers, lobbyists, Bush administration officials, congressional staffers, and businessmen got caught up in the Abramoff public corruption probe including former Ohio Representative Bob Ney (R-GA) who was sentenced to a 2 1/2 year prison term for taking bribes from Abramoff.

Abramoff was released from prison in June 2010 having been confined since November 2006. I guess he received four months off his sentence for good behavior. Perhaps he gave seminars in prison and counseled prisoners on the errors of their ways.

Abramoff has been trying to regain the notoriety he once had by establishing a promotional website and he began to charge for giving talks about corruption in Washington with titles like "How Lobbyists Shape Your Industry" and "Can Congress be Fixed?" Abramoff also made the rounds on talk shows like "Hannity," "60 Minutes," "The Early Show" and "Piers Morgan Tonight" in an attempt to rebrand himself as a whistleblower against corruption. He has a Facebook page and game app called "Congressional Jack," and a feature film called “Casino Jack.” The movie tells the story about how a band of amoral lobbyists and ideologues bought and sold favors from a slew of influential Republicans.

How timely it is that Jack’s lobbying entanglements seem to have ushered in an era of sanctioned influence peddling in Washington, D.C. During the past several months we watched as Political Action Committees (PAC) were used to influence the outcome of primary elections. Critics of Mitt Romney claim he paid for and bought the Republican nomination for President through the operations of his PAC.

We can thank a 2010 Supreme Court decision, Citizens United v. Federal Election Commission. In the case, a bitterly divided court ruled 5 to 4 that the government may not ban independent political spending by corporations, as well as labor unions and other organizations, in candidate elections. The decision and subsequent court rulings led to tens of millions of dollars in donations -- often by wealthy individuals, of as much as $5 million at a time -- to super PACs supporting candidates in the Republican primaries.

We now live in a political campaign environment where there are no limits on how much cash can be raised and spent by anonymous donors seeking to influence elections and legislation. It is a world that would suit the old Jack Abramoff quite well. The 2012 presidential election is almost certain to be the most expensive in history, as the two main candidates set lofty fundraising goals and money floods in to “super PACs,’' independent political committees that have been supercharged by a series of court decisions.

The sad fact is that millions of Americans go hungry every night while politicians and their PACs and Super PAC’s spend outrageous amounts of money to influence a contest that is supposed to pick the next President of the US, a person who should represent all the people.

Blog posted by Steven Mintz, aka Ethics Sage, on April 16, 2012

GSA Misuses Funds and Improperly Awards Contracts

Wasteful GSA Spending and Contract Procurement Policies to be investigated by Congress

What in the world is the General Services Administration thinking? After all the fraud, misuse of funds and downright unethical actions that caused the financial meltdown in 2008, along comes the GSA with its own brand of greed and stupidity. GSA Administrator Martha N. Johnson resigned last Monday and two of her senior deputies have been fired in the wake of the agency’s recent spending scandal.

The GSA inspector general’s report, which strongly criticizes the agency for excessive spending on clowns, mind readers and lavish parties during a training conference just outside Las Vegas, claims that officials awarded a $58,808 contract to a large audio and visual services firm, Royal Productions, when federal regulations require contracts of such size be reserved for small businesses.

The inspector general also said the agency violated federal rules by neglecting to publish a solicitation for the contract on the government’s list of Federal Business Opportunities and by providing Royal Productions with a competing bidder’s quote — thus allowing the company to present a winning offer. This is ethics 101. The bidding process must be above board and confidential. It didn’t help matters from an ethical perspective that the agency paid roughly double what the contract outlined for the company’s employees’ hotel rooms, according to the report.

The contracting accusations focus on a problem that some say has been crippling the nation’s small businesses for more than a decade. “The diversion of small-business contracts to large corporations has gone on for a dozen years, and the only thing the government has done in response is remove the transparency,” Lloyd Chapman, president of the American Small Business League, said in an interview, later adding that the procurement review system available to the public has become increasingly difficult to use in recent years.

The federal government has a stated goal of awarding 23 percent of contract dollars every year to small businesses. However, Chapman pointed to his group’s recent analysis of government data that showed that 72 of the 100 companies receiving the highest amount of federal small-business contracts in 2011 were firms that exceeded the Small Business Administration’s size standards for small companies.

“Anytime you take a sample of what the federal government is doing and anytime you take a look at small-business contracting in almost any federal agency, what you find is money going to the biggest companies in the world,” he said.

In October, the SBA’s inspector general published a report acknowledging that small-business contracting was the agency’s most serious management and performance challenge. Specifically, the report stated that “procurement flaws allow large firms to obtain small business awards and agencies to count contracts performed by large firms towards their small business goals.”

Congress plans to hold hearings on the claims of wasteful spending against the GSA. No doubt it will be a waste of time without significant consequences for the perpetrators of the bad judgment and fraudulent activities of the GSA. I have seen this movie before and know how it will end.

Blog posted by Steven Mintz, aka Ethics Sage, on April 9, 2012

Allen Stanford: A Ponzi Schemer from the Madoff School of Fraud

What makes Ethically-Challenged People do Bad Things?

So how does a once prominent financier find himself convicted of an $8 billion dollar Ponzi scheme? Just ask Bernie Madoff, the former chairman of NASDAQ, who set the standard for avarice. In March 2009, Madoff pled guilty to 11 federal felonies and admitted to turning his wealth management business into a massive Ponzi scheme that defrauded thousands of investors of about $65 billion.

In early 2009, Stanford became the subject of several fraud investigations, and on February 17, 2009, was charged by the SEC with fraud and multiple violations of U.S. securities laws for alleged massive ongoing fraud involving $8 billion in certificates of deposit. Last week the jury that convicted former Texas tycoon R. Allen Stanford of operating a massive Ponzi scheme found that there was sufficient evidence that $330 million in frozen foreign bank accounts he controlled was money he stole from investors, clearing the way for U.S. authorities to go after the funds.

I sometimes wonder how successful businessmen (I’ll leave out women because none seem to have mastered the art of a Ponzi scheme) become so greedy as to use and abuse friends, colleagues, and even family members for their own financial gratification. I’m convinced they must be narcissists who have become self-delusional and blind to the harm they have caused to others. They are lacking in empathy; care only about themselves; feel no guilt or shame for their actions; and have illusions of grandeur.

Stanford was involved in one of the largest incidents of fraud against investors since the fraud that involved Bernie Madoff. Stanford's personal fortune was once valued at $2.2 billion. Still no match for Madoff who is supposed to make restitution of $170 billion partly by having Irving Picard, the trustee charged with unwinding the Bernie Madoff fraud, file about 1,000 lawsuits worth some $100 billion against individuals and companies accused of profiting from Madoff's scheme including multibillion-dollar lawsuits against  mega financial firms JP Morgan, UBS and HSBC. These “clawback” lawsuits include NY Mets owners Fred Wilpon and Saul Katz and associated individuals and firms, who allegedly received $300 million from the scheme.

During a six-week trial, prosecutors told how Stanford, 61, repeatedly raided the bank he owned in Antigua, Stanford International Bank, using it as his "personal ATM." He bought a castle in Florida for one of his girlfriends and his oldest daughter lived in a million-dollar condominium in Houston. He wore custom-made suits, lived in luxury homes and on a yacht in the Caribbean and bankrolled a $20 million prize for an international cricket tournament. In short, he was from the Dennis Kozlowski school of creep-ism. You may recall that Kozlowski, the former CEO of Tyco International, was convicted in 2005 of crimes related to his receipt of $81 million in purportedly unauthorized bonuses, the purchase of art for $14.725 million for his $30 million New York City apartment which included $6,000 shower curtains and $15,000 "dog umbrella stands," and numerous other diversions of company funds.

The government's star witness in the Stanford case, former aide James Davis, testified that he and Stanford faked documents and made up financial reports to calm investors and fool regulators. They funneled millions of dollars from Stanford International Bank to a secret Swiss bank account that Stanford tapped for his personal use, Davis testified.

Prosecutors said Stanford lied to investors from more than 100 countries, telling them their funds were being safely invested when instead he used the money to fund a string of failed businesses, bribe regulators and pay for luxuries such as yachts and private jets. His attorneys portrayed Stanford as a visionary entrepreneur who made money for investors and conducted legitimate business deals. Seriously?

Blog posted by Steven Mintz, aka Ethics Sage, on March 12, 2012

Michael Douglas says Gordon Gekko was wrong -- greed is not good

Do the Rich Act More Greedy than those Less well-off?

You may have heard that Michael Douglas came out earlier this week and confessed that greed is not so good after all. Some believe that two memorable lines from the 1987 movie “Wall Street” helped usher in an era of self-serving behavior by investment fund managers that led to the economic collapse in 2008 -- Greed is good and greed is right.

So, what are we to make of the fact that Douglas who played Gordon Gekko, a corporate raider who cheated innocent investors out of their savings in the original movie and 2010 sequel, has discovered the error of his character’s ways? No doubt it is a reaction to the difficult economic times and massive decline in wealth due in large part to the greedy actions of corporate managers and Wall Street investment bankers. But, in the real world do the rich act greedy in their own personal dealings or is it just play-acting portrayed in the movies?

A new study shows that while the poor might seem to have the most reason to cheat and steal, the rich are more likely to be dishonest. In a series of experiments, University of California at Berkeley researchers showed again and again that upper-class individuals were more prone to unethical behavior than people from more deprived backgrounds, according to the study published in the Proceedings of the National Academy of Sciences.

Paul Piff, a doctoral candidate and the study's lead author, says he was surprised at how little incentive it took to get high-income people to cheat.

In one study, for example, people were asked to play a game of chance online. The 195 volunteers were told that a die would be rolled for them five times and that the participants with the highest scores from the five rolls would get more credits toward a drawing for a $50 Amazon.com certificate. The researchers also told the volunteers to keep track of their own scores.

But Piff and his colleagues had designed the game so all players would end up with a score of 12. As it turns out, “the upper socio-economic status people were way more likely to report a score above 12,” says Piff. “It was fairly remarkable. You wouldn’t think that people reporting incomes of $150,000 per year and up would be so motivated to win this prize.”

In another study, the researchers asked 108 volunteers to fill out a survey online. Along with questions about their backgrounds, the volunteers were asked to imagine that they were employers who needed to hire someone at the lowest salary possible. In the hypothetical, they would get a bonus if they negotiated a low enough salary. The job was one that would last just six months.

Then they were asked what they would do if a candidate came in who was willing to work for less if he could be guaranteed the job would last two years. “Thus, if participants (acting as employers) were honest about the six-month limit of the job, chances are they wouldn’t be able to negotiate a very low salary,” Piff says. In this scenario, the wealthier participants were more likely to act unethically to get a reward.

Piff suspects that a combination of factors, including greed and a heightened sense of entitlement, are what spur the wealthy to cheat. While there are examples of rich people who are especially generous such as Warren Buffet and Bill Gates, money seems to have a deleterious effect on ethics in most cases, Piff says.

Now that I’ve explained some of the test procedures and findings, let me tackle the problem of greed in our society. I do believe we have morphed into a greedy, self-serving society. I have blogged about this issue many times before. It has become routine for people to think of themselves first and then, oftentimes only after already acting, to think about how their actions affect others.

I believe the cause of greed that is endemic in our society can be traced back to the 1960s, well before Gordon Gekko came on the scene. It was the era of the hippie movement fueled by the mantra to “do your own thing.” Hippies were not concerned with the way they were viewed by conventional society. This may sound good in principle but doesn’t work very well in practice because we are accountable to others. We do have a civic duty to act in ways that improve society by enabling others who may be less fortunate to get ahead.

Does this mean that the 1%ers are uncaring, greedy, and indifferent to the plight of others as many in the “Occupy” movement would have us believe? Some criticize Presidential hopeful Mitt Romney for just such behavior. For example, about a month ago he responded to a question about helping the poor by saying: "I'm in this race because I care about Americans. I'm not concerned about the very poor. We have a safety net there. If it needs repair, I'll fix it."

In theory there is nothing wrong with Romney’s message. He is, after all, a businessman first and his answer reflects a business approach. Unfortunately, it is lacking in compassion. This is a valid reason to criticize Romney and, I believe, what is behind the results of the Cal Berkeley study.

Perhaps the most interesting aspect of the study results is an online preference poll conducted by MSNBC after reporting the story. By no means are these results indicative of the entire population of the U.S. However, it is quite curious to have solicited the following responses.

Do you think rich people are more likely to cheat, steal or cut you off in traffic?

• Yes (71%). How do you think they got rich in the first place?
• No (4%). In my experience, rich people aren't less ethical than the poor.
• Not sure (25%). I think it depends on the person, not on the tax bracket.

I, myself, would have answered “not sure.” I do not stereotype people. There are good people and not so good people of all shapes and sizes. Goodness is an end result sought by those who act out of virtue and includes having empathy for others.

There is an old proverb that dates back to the Cherokee tribe of Native Americans, who said “Don’t judge a man until you have walked a mile in his shoes”. Nelle Harper Lee, an American authoress, was seemingly inspired by the saying of the Amerindians in her book “To Kill a Mockingbird,” where she wrote

“You never really know a man until you understand things from his point of view, until you climb into his skin and walk around in it.”

This is the most challenging part of being an American today. We have lost touch with those who are less fortunate than us; those who are struggling to make ends meet during the most trying times; and those who need a gentle push to help pull themselves up by their bootstraps.

Blog posted by Steven Mintz, aka Ethics Sage, on March 1, 2012

Fraud at Chinese Companies Raise Questions of Transparency and Oversight

SEC Brings Charges against Ming Zhao, chairman of Puda Coal Inc., and its former CEO, Liping Zhu

I have previously blogged about ethical problems in Chinese Businesses and financial reporting practices that bring into question the trustworthiness of accounting and financial reporting practices by Chinese companies. In particular, a massive fraud at Longtop Financial, a popular Chinese software company raises doubts about whether and when China will be accepted as playing by the free market rules that depend on financial accuracy and transparency.

Additional problems have been identified by federal regulators after filing civil fraud charges on February 22 against the chairman and the former CEO of a Chinese company, accusing them of duping people to invest in a coal company that was an empty shell.

According to the Associated Press, The Securities and Exchange Commission announced the charges against Ming Zhao, chairman of Puda Coal Inc., and its former CEO, Liping Zhu. The SEC said they conspired to “loot” and sell the company’s main asset, a coal mining firm.

Puda Coal’s stock traded on the New York Stock Exchange from September 2009 to August 2011. The SEC said Zhao and Zhu raised money from U.S. investors in two public stock offerings during which time they stole and sold the company’s assets before they raised more than $100 million from public investors in the United States.

Because Zhao and Zhu failed to disclose their moves in regulatory filings, the investors were unaware that Puda Coal no longer owned the coal mining firm and was a shell company with no business operations, the SEC said in a lawsuit filed in federal court in Manhattan.

Their “massive fraud ... wiped out hundreds of millions of dollars in shareholder value,” George Canellos, director of the SEC’s New York regional office, said in a statement.

The agency also alleged that Zhao and Zhu obstructed its investigation of Puda Coal, forging a letter from a large Chinese state-owned financial firm attesting that the coal company’s investors weren’t harmed by the sale of the mining firm.

The SEC is seeking unspecified fines and restitution from Zhao and Zhu, and a ban against them serving as officers or directors of any public company.

There have been troubles at several other Chinese companies, most of which went public in the U.S. through a back-door procedure known as a reverse merger that doesn’t require an initial public offering. A private company can access the public markets by buying a shell company that is already listed.

The most interesting aspect of the Puda Coal case is how easy it turned out to be to discover the fraud. It was basically spelled out in documents that were publicly available in China months before American and Canadian investment banks, advised by major law firms, raised the money from investors. But it appears no one bothered to look — not the underwriters and not the auditors.

“They charge a lot for due diligence,” says the man who uncovered the fraud, Dan David, a 43-year-old money manager from Skippack, Pa. “But they don’t do it.”

What the documents showed was laid out last week by the S.E.C. Puda’s principal asset was a coal mining company, Shanxi Puda Coal. But in 2009, chairman Zhao transferred that interest from Puda to himself. The next year, he sold a controlling interest in it to Citic.

Puda, which had gone public in the US through a merger with a shell company in 2005, did not disclose those crucial facts when, in February 2010, it raised $12.8 million selling stock to American investors, in an offering underwritten by Brean Murray, Carret & Company of New York and Newbridge Securities of Fort Lauderdale, Fla. In December 2010, a $100 million share sale was underwritten by Macquarie Capital, a Canadian firm, and Brean Murray. Investors in that offering paid $12 a share for stock that now trades for about 25 cents.

The fraud blew up last spring. On Friday, April 8, Mr. David posted his analysis on his Web site, GeoInvesting, and a similar analysis was posted on the Web site of Alfred Little, a firm that had a reputation for spotting Chinese frauds. That analysis was unsigned, but it was written by Andrew Wong, the head of the IFRA Group, a Hong Kong research firm.

“In contrast to most of the other Chinese frauds, where the business was not real, this was a profitable company that the chairman just stole,” Wong said in an interview last week. He said he had looked into the company after David asked him to review his own research.

“Incredibly,” Wong wrote in his report, “Puda’s auditor, Moore Stephens, failed to catch this theft of an entire company that is clearly documented in government ownership filings that any lawyer can obtain directly from the source.” In July, Stephens quit as the company’s auditor and said its previous audits could not be relied on.

The company’s audit committee investigated the allegations, and eventually concluded they were accurate. But there was contradictory statement by Zhao who in April produced a letter, ostensibly from Citic, saying that it had not purchased the company, and sought to reassure investors by saying he was considering taking the company private at $12 a share. Eventually, Citic said the letter was false, and the company said Mr. Zhao had admitted forging it.

The readily available documents were filed with China’s State Administration for Industry and Commerce, known as S.A.I.C., showing transactions affecting the filing companies. Chinese companies must publish lists of all their subsidiaries, and it is necessary to check filings by all the subsidiaries.

The Chinese authorities appear thus far to have shown no interest in bringing charges against the men named by the S.E.C. and, according to David, the Chinese government was restricting access to some S.A.I.C. filings and asking why people they were interested in a certain company, a fact that has scared some investigators who fear reprisals.

A basic requirement of investment markets is for investors to have a reasonable confidence that they are not being defrauded, and — if it turns out they are — that the government will seek to punish those responsible. It is quite clear to me that businesses in China have failed to establish a corporate governance system that prevents fraud from occurring and fully discloses it when it does occur. For those of you who are considering investing in Chinese companies to take advantage of their economic boom I can only offer two words of advice – caveat emptor.

Blog posted by Steven Mintz, aka Ethics Sage, on February 27, 2012

Johnson & Johnson Records a $3.3 Billion Charge for Product Liability

Lawsuits over Risperdal Marketing at Johnson & Johnson Continue to Raise Questions about Ethics at the Company

Johnson & Johnson announced this week that it has recorded pretax charges and special items totaling $3.3 billion for the fourth quarter of 2011 in order to provide a reserve for probable losses from product liability lawsuits. The pending lawsuits are attributable to misleading marketing practices and manufacturing-quality lapses.

I have previously blogged about product deficiency and ethics questions at Johnson & Johnson with respect to issues such as: quality control-failures at manufacturing plants of subsidiary McNeil Consumer Healthcare that led to recalls of the popular over-the counter drug Motrin; baby shampoo that allegedly includes the potentially cancer-causing chemical methylene chloride; lawsuits concerning its subsidiary DePuy Orthopaedics and the metal-on-metal hip implants that were found to shed minute metal particles into a patient’s bloodstream over time; and suits by women who have suffered serious injury and disfiguration claiming that vaginal mesh manufactured by J&J subsidiary Ethicon caused them life-altering complications. In today’s blog I deal with what may be the worst ethical lapse at J&J -- its marketing of the antipsychotic medication Risperdal.  

Risperdal is an "atypical antipsychotic". It works by changing the effects of chemicals in the brain. Risperdal is used to treat schizophrenia and symptoms of bipolar disorder (manic depression). It is also used in autistic children to treat symptoms of irritability. In the latter case questions have been raised whether the company received approval from the federal Drug Administration (FDA) to market the drug for use by children. Other states have brought lawsuits against J&J for marketing agreements to promote the drug.

On January 9, J&J, which has already lost judgments of almost $660 million over the marketing of its Risperdal, went to trial facing a demand by Texas for damages of more than $1 billion. State Attorney General Greg Abbott said J&J’s Janssen unit paid state officials to get Risperdal on approved drug lists, marketed it for unapproved uses to children and the elderly, and lied about its safety and effectiveness. The case in state court in Austin was filed by a whistle-blower, Allen Jones, an ex-investigator for the Pennsylvania Office of Inspector General.

A jury weighing only the claim that the company downplayed the drug’s risks awarded Louisiana $257.7 million in 2010. A judge in South Carolina last year ordered J&J to pay $327 million over Risperdal sold in the state. The Texas suit may result in the largest-ever false-claims verdict, said Patrick Burns of the advocacy organization Taxpayers Against Fraud in Washington. J&J and its Janssen unit, which sold Risperdal, deny any wrongdoing.

Jones probed allegations that the chief pharmacist for the state’s mental health office had received payments from pharmaceutical companies. He sued Texas in 2004, his last year in the Pennsylvania job. Jones determined in his probe that Janssen had “engaged in a fraudulent scheme that included payments to at least one Texas state official” to ensure that Risperdal was included as a preferred drug in the state’s Texas Medication Algorithm Project, known as TMAP, he said in court papers.

“Janssen had made payments to Texas and other state officials to facilitate the exportation of TMAP to other states, including Pennsylvania,” Jones said. He sued under a Medicaid-fraud law similar to the federal False Claims Act. It allows a whistle-blower to share in any settlement money or damages.

Texas claims that Janssen and J&J paid four state health officials $340,000 to promote Risperdal, inducing them to breach their duties to the state. “J&J sent the four leaders of TMAP around the country to promote TMAP, and, in the process, Risperdal,” David Rothman, a state expert, said in a pretrial report.

With respect to off-label uses, allegations include that J&J marketed Risperdal for the treatment of medical conditions for which it hadn’t received regulatory approval after clinical trials. It was allegedly sold for use by children and the elderly, according to Texas officials. Texas alleged that Janssen began promoting prescriptions for children as soon as the drug was being sold without any approvals by the FDA for such use.

“They had their sales people out calling upon doctors as early as 1994 who saw no adult patients, who saw only children”. One psychiatrist in north Texas who treated only children was called by Janssen sales people 96 times. There was no FDA-approved indication for any use in the child and adolescent population from December 1993 to October 2006, Texas said in its complaint.

Johnson & Johnson needs a change in leadership and the board of directors must play a more active role in overseeing the company’s product quality processes and the marketing of pharmaceutical products. It is sad to see how low the company has fallen on the ethics scale. The reputation it built in handling the Tylenol poisoning incident in 1982 has been all but forgotten. What’s worse is the company seems to have forgotten the values in its own Credo that made it a model for business ethics. They include the statement:

“We believe our first responsibility is to the doctors, nurses and patients, to mothers and fathers and all others who use our products and services. In meeting their needs everything we do must be of high quality”.

Blog posted by Steven Mintz, aka Ethics Sage, on January 27, 2012

Building an Ethical Corporate Culture

Ethics Compliance Program and Whistle-blowing Provisions

I have previously blogged about the corporate ethics and the increase in regulations and new laws imposed on businesses in recent years including the Sarbanes-Oxley Act and Dodd-Frank Financial Reform Act. In an ideal world we would not need such stifling regulations and corporate America would be free to pursue their own self-interests while improving the income levels and job opportunities for our citizens. Undoubtedly, the capitalist ethic works in the vast majority of cases. As in so many situations in life, however, it is the few fraudsters who can spoil it for the vast majority who attempt to play by the rules of the game and try to do the right thing.

In this blog I examine what makes for an ethical corporate culture. It starts with the “tone at the top”. Top management (i.e., CEO, CFO) must set an ethical tone that makes it clear to those in the organization that the rules must be followed, regulations adhered to, and identified best practices should have an ethical component. It’s not enough for top management to set an ethical tone, they must be supported by a diligent board of directors and audit committee that oversees corporate operations and financial reporting to ensure everyone plays by the rules and ethical standards are being followed.

Congress passed legislation known as the Federal Sentencing Guidelines in 1984 that sets rules for uniform sentencing policies for individuals and organizations convicted of felonies and serious (Class A) misdemeanors. According to the guidelines, an ethics and compliance program can help to mitigate the penalties imposed under the Law. Here are some key elements that can help to create the kind of ethical culture to protect a company from the actions of a “rogue” employee.

• Willingness to seek ethics advice
• Receipt of positive feedback for ethical conduct
• Employee preparedness to handle instances of misconduct
• Management can be questioned without fear
• Incentives, support, and encouragement to follow ethical standards
• Questionable means of conduct are not rewarded
• The organization encourages ethical conduct
• Employees believe organization is ethical

As pointed out in a study by the Ethics Resource Center, a strong ethical culture develops when the following elements are present.  

• Ethical Leadership: “tone at the top” of an organization and belief that leaders can be trusted to do the right thing
• Supervisor Reinforcement: individuals directly above the employee in the company hierarchy set a good example and encourage ethical behavior
• Peer Commitment to Ethics: ethical actions of peers support employees who “do the right thing”
• Embedded ethical values: values promoted through informal communication channels are complementary and consistent with a company’s official values

Today, it is not unusual to find a top-level management official with the title of Ethics Compliance Officer who oversees compliance and enforcement of the code of ethics. Many believe that an ethics hot line and encouraging a whistle-blower protection program is an essential part of building an ethical culture. In fact, both the Sarbanes-Oxley Act and Dodd-Frank include protections for whistle-blowers and Dodd-Frank even includes what has been called a whistle-blower’s “bounty” provision.

I have mixed feelings about paying whistle-blowers to come forth with information about their company that might lead to a monetary reward. At a minimum, whistle-blowers should take their concerns up the chain of command and try to resolve their concerns internally. With respect to external whistle-blowing, there is a confidentiality obligation that employees have to employers, and non-disclosure agreements may exist that tie the hands of employees who contemplate contacting external parties.

Nevertheless, I believe the test should be whether more good than harm would come from blowing the whistle on corporate wrongdoing. After all, investors may be harmed by fraudulent financial statements; the public may be harmed by environmentally unsafe practices; and the company may be following discriminatory practices. Utilitarianism (weighing harms versus benefits) is an accepted approach to corporate decision-making as long as the rights of stakeholders are not violated in the process of calculating the effects of proposed actions.

Above all else, whistle-blowers must be motivated by righting a wrong and doing the ethically appropriate thing, and not by greed, revenge, or other selfish motive.

Blog posted by Steven Mintz, aka Ethics Sage, on January 13, 2012

Are Business Ethics Improving or Declining?

NBES Survey about Ethics in Business Shows Mixed Results

The Ethics Resource Center recently issued its 2011 National Business Ethics Survey (NBES) and the results are mixed. Here are some of the major results reported in its Executive Summary.

• The percentage of employees who witnessed misconduct at work fell to a new low of 45 percent.  That compares to 49 percent in 2009 and is well down from the record high of 55 percent in 2007.

• Those who reported the bad behavior they saw reached a record high of 65 percent, up from 63 percent two years earlier and 12 percentage points higher than the record low of 53 percent in 2005.

• Retaliation against employee whistleblowers rose sharply.  More than one in five employees (22 percent) who reported misconduct say they experienced some form of retaliation in return.  That compares to 12 percent who experienced retaliation in 2007 and 15 percent in 2009.

• The percentage of employees who perceived pressure to compromise standards in order to do their jobs climbed five points to 13 percent, just shy of the all-time high of 14 percent in 2000.

• The share of companies with weak ethics cultures also climbed to near record levels at 42 percent, up from 35 percent two years ago.

The encouraging news is that instances of misconduct have declined in the workplace. I attribute this to stronger internal controls put into place in response to the Sarbanes-Oxley Act and increased attention given to building an ethical culture. Also, it is quite common for companies today to have a code of ethics, ethics training programs, and a top-level management official to oversee compliance with laws and regulations.

The rest of the results are not so encouraging. It appears that instances of bad behavior are on the rise; pressure to compromise one’s values has increased; and retaliation against whistleblowers rose sharply. It’s no wonder more companies have a weak ethical culture according to the 2011 survey when compared to past surveys. The weak economy and competitive global business environment may have something to do with these troubling results.

I was somewhat surprise that more employees have a negative view of their supervisors’ ethics: 34 percent in 2011 versus 24 percent in 2009. One explanation is that workers often perceive the ethics of those around them as weaker than their own. Another is that pressure in the workplace to compromise one’s standards typically comes from top to bottom.

The kinds of misconduct in the workplace are all on the rise. Here is the NBES analysis.

TYPE OF MISCONDUCT                           2009       2011        INCREASE

Sexual harassment                                    7%         11%            4%

Substance abuse                                        7%         11%            4%

Insider trading                                            1%          4%             3%

Illegal political contributions                     1%          4%             3%

Stealing                                                        9%         12%            3%

Environmental violations                             4%          7%             3%

Improper contracts                                      3%          6%             3%

Contract violations                                      3%          6%             3%

Improper use of competitor's information  2%          5%             3%

Health or safety violations                         11%        13%            2%

Anti-competitive practices                          2%          4%             2%

The results with respect to ethics identified by active social networkers reflect the growing use of Internet websites to engage in improper conduct. Workers who spend 30 percent or more of their work day participating in various social networking sites report far more negative experiences of workplace ethics. As a group, they are almost four times more likely to experience pressure to compromise standards and about three times more likely to experience retaliation for reporting misconduct than co-workers  who are less active with social networking.  They also are far more likely to observe misconduct. Meanwhile, active social networkers differ from co-workers in their more tolerant attitudes toward a number of questionable workplace behaviors.   For example, half of active social networkers say it is okay to keep a copy of confidential work documents for possible use in future jobs, compared to 15 percent of non-networkers who believe such behavior acceptable.  In addition, by a five-to-one margin, networkers differ from colleagues in saying it is acceptable to do a little less work to compensate for cuts in benefits or pay.

Finally, instances of reporting specific misconduct in the 2011 survey run the gamut: reporting stealing or theft; insider trading; illegal political contributions; falsifying expense and time reports; violating terms with customers; financial statement fraud; and workplace issues such as a hostile work environment and sexual harassment.

Unfortunately, it appears that businesses have a long way to go to create a truly ethical organization environment. It starts with the tone at the top, as my next blog will address.

Blog posted by Steven Mintz, aka Ethics Sage, on January 11, 2012

 

 

KPMG Disclaims an Audit Opinion on Chinese Company

Ethical Culture of Chinese Businesses Raise Doubts about Financial Reports

Chinese-style western capitalism has been spreading to virtually every continent as China seeks to form joint ventures in Africa, South America, and elsewhere to ensure reliable access to needed natural resources to feed China’s hunger for economic growth and development. In recent years it has spread its “currency reserve wings” into the US through Chinese state-owned and private enterprises. The question for the investing public is whether Chinese financial statements can be relied on and, correspondingly, whether Chinese businesses can be trusted as they flex their economic muscle. A good example of the perils of outright trust is Sino-Forest Corp., a Chinese company that was charged with allegations of accounting abuses and fraud, burning investors including John Paulson, the billionaire whose hedge fund said in June it lost $468 million on Sino-Forest.

I have previously addressed the growing questions about Chinese accounting principles and the reliability of the financial statements produced by state-owned and private enterprises. I called it "The Dark Side of Chinese Capitalism". I've also looked at regulation of Chinese companies doing business in the US. In this blog I look at a recent event where the Big-4 international accounting firm, KPMG, withdrew from the audit of a Chinese company because it couldn't trust the information provided for those reports.

Just last week it was announced that after issuing a “disclaimer of opinion” with respect to China Forestry Holdings’ financial statements for the year ended December 31, 2010, KPMG has opted not to stand for reappointment as the company’s auditor. KPMG resigned as auditors of the Company as of January 5, China Forestry disclosed to the Hong Kong Stock Exchange.

First, let me dispense with a disclaimer of opinion. According to generally accepted auditing standards, an auditor should not issue such an opinion unless the firm has been unable to gather a sufficient amount of credible evidence to support the numbers in the financial statements prepared by company management. KPMG’s disclaimer “was due to the irregularities we identified during our audit and limitation in the scope of our work,” KPMG told the company in a letter.

Scope restrictions are a valid reason for a disclaimer. I’m more concerned about the former – irregularities found during an audit. My concern is not so much from an audit opinion perspective but whether the ethical culture of Chinese companies is such that American investors should follow the old adage when contemplating investment in Chinese companies – “buyer beware”.

Returning to China Forestry, the company describes itself as “one of the three largest, privately-held, naturally regenerated and plantation forest operators in China”. On its website, it claims to own and operate more than 171,000 hectares of forest land in Yunan and Sichuan provinces. It reported a loss of RMB2.7 billion (US$429 million) in 2010, in the report that KPMG issued a disclaimer of opinion.

The company admitted that for the 2011 financial year, KPMG asked that “a number of other matters will need to be resolved”. These are verification of the ownership and valuation of plantation assets, valuation of lease prepayments, valuation and ownership of inventories of logs and related sales and purchase transactions, and estimation of payables for plantation assets and taxation matters. In other words, the accuracy and reliability of all company financial statements are in doubt. China Forestry had apparently not come through on these demands, resulting in KPMG’s decision to resign.

When I look at the way Chinese companies are run I am not surprised by the increasing level of disclosure of financial wrongdoing. I find that Chinese companies have not built a strong ethical base in their state-owned and private companies. Chinese companies are not used to being questioned about what they do and why they do it because they existed so long under the Chinese communist system where the government ran the businesses. Moreover, secrecy is an important value in Chinese society so their perspective is to disclose as little as possible about a company’s financial status. Contrast that with the full disclosure notion for US companies and you can see why there is what I call a “believability GAP” in Chinese financial reports.

In the US and all western-style capitalist nations, internal controls are the bedrock of accurate and reliable financial reports. In China, the notion of internal controls has yet to take hold as questions of management about their controls can meet with stares of mistrust about the motives of an auditor who questions the believability of the financial statements.

The next great financial scandal may be waiting in the wings with respect to financial statements by Chinese businesses. In a sense the expansion of capitalism and potential for greed is one step ahead of developing and enforcing rules to prevent such occurrences and creating the kind of ethical culture that helps to prevent fraudulent financial reporting.

Blog posted by Steve Mintz, aka Ethics Sage, on January 9, 2012

Financial Statement Fraud at Olympus

Japanese Cultural Values May Have Enabled the Cover-up of Fraud

Most financial statement frauds extend for about 3-5 years before someone blows the whistle, the company makes a mistake, or it all catches up with them as the house of cards that built the fraud collapses. Not at Olympus Corporation, the Japanese maker of cameras and medical imaging equipment, where the fraud lasted more than two decades.

The Olympus fraud has a real life whistle-blower – Michael C. Woodford – the newly appointed president and CEO at the time of the fraud. It is quite unusual for the top manager to blow the whistle on his company’s fraud; kudos to Woodford for doing the right thing.

It turns out the motivating factor for the fraud was an effort to make the company’s books accurate — at least in terms of its balance sheet — that led to the suspicious transactions noticed by Woodford. He thought they showed theft from the company by its chairman, and he confronted him. Instead, the chairman had only tried to clean up an accounting mess without damaging the reputation of Olympus. The chairman felt there was no need to tell Woodford about what had happened because the fraud was finally behind the company when Woodford took the job.

New York Times reporter Floyd Norris points out that a report by an investigating committee shows that two changes in accounting rules, one caused by the Enron scandal, eventually led to the collapse of the scheme. It shows that KPMG AZSA, the Japanese affiliate of the international accounting group, failed to notice what was going on for years but finally did complain about the somewhat clumsy transactions intended to put the losses on Olympus’s books. Ernst & Young Sjin Nihon, a Japanese affiliate of that network, was brought in and did sign off.

The scandal also highlights the controversy over mark-to-market accounting. The Financial Accounting Standards Board (FASB), the U.S. accounting standard-setter, started to require it for some financial instruments in 1997. However, the fraud had begun seven years earlier so covering up the losses was easy. One reason is took so long to uncover the fraud was  at the time accounting rules in Japan, as well as in other countries, allowed investments to be carried at cost. Theoretically, there should eventually have been a write-down to a lower market value, but there never was.

At Olympus, it appears the company held at hope that with additional risky investments, the losses could somehow be made up. They were not. Over time, the company tried securities speculation and private equity investing in promising start-up companies. It didn’t work and eventually the losses grew to more than $1 billion.

Olympus seems to have been content to sit on the losses until 1997, when accounting rules required some investments had to be marked to market. To hide the fraud, the company developed a plan to “sell” the losing investments, at original cost, to shell companies (off-balance-sheet-entities) set up by Olympus for that purpose. The sales were financed with loans from banks, which received cash from Olympus to secure the loans. Under lenient accounting rules at the time, those shell companies did not have to be consolidated with Olympus, so the losses could remain hidden. These rules were tightened after the Enron fiasco.

The plan was to phase out the losses, either by more investments or through overpriced acquisitions, with the extra cost of the acquisitions going to the off-balance-sheet-entities to make them whole. That was done through a variety of means, one of which was retaining the shell companies as high-priced investment advisers. The “cost” would appear on the company’s balance sheet as good will, and eventually written off. When that was done, the balance sheet would show an accurate value for Olympus.

From 1999 to 2003, Olympus managed to get out of some losses, or at least to convert them to good will. No one outside the company was the wiser. KPMG, the auditor, did not notice, the committee report says, in part because some of the information it received was false.

However, in 2003 the FASB changed the rules for off-balance-sheet entities controlled by sponsoring entities (i.e., Olympus) so that these entities would have to be consolidated on the sponsor’s books and losses could no longer be hidden. One of Olympus’ ways to manufacture phony profits was to “sell” assets to the off-balance-sheet entities it controlled, and to book profits on those sales. That technique was negated by the new rules.

In Japan, the rules changed in 2007 and the fraud started to unravel. The off-balance-sheet-entities would have to be consolidated. Olympus had until March 31, 2008, the end of its fiscal year, to clean up its books. Efforts to continue to hide the fraud fell apart when in April of that year Woodford became president and chief executive in September. He was told to not worry about such history, but he did. With the assistance of PricewaterhouseCoopers, he unraveled the transactions but not their purpose, and concluded that company money was being stolen. He confronted the chairman and was fired. He forced an investigation, which resulted in the December 2011 report.

The report says the top officers of Olympus knew what was going on throughout and that new presidents always accepted the decisions made by their predecessors. It does not say why Woodford evidently was not told, but some have speculated that it was some combination of not trusting a foreigner who had not worked in Japan and a belief that, with the balance sheet now reflecting reality, there was no need to involve him.

On December 20, 2011 -- nearly two months after Woodford blew the whistle -- Japanese authorities raided the company’s headquarters in Tokyo, emerging several hours later with boxes of documents. The company’s stock market value had already dropped by 50 percent. Foreign investors had started to question the culture of old-style Japanese companies that attempt to thwart disclosures of negative information.

The eventual Olympus salvage plan could be a Japan-wide effort. Last week, the Nikkei business daily reported that Olympus might issue about 100 billion yen (about $1.3 billion) in new preferred shares, and that Japanese technology companies like Fujifilm or Sony might be possible buyers. Those two companies, though, denied that any such investment was in the works.

Top Olympus executives acknowledged in November 2011 that the company had conducted a decades-long effort to cover up $1.7 billion in investment losses in a global scheme that sparked public investigations on three continents. Last month, Olympus acknowledged some of the losses in five years’ worth of revised statements. Three executives implicated in the scheme have left the company. But the rest of the Olympus board has been scrambling to retain control. Backing them are the country’s biggest banks, which have significant influence over top Japanese corporations, serving as major lenders and as major shareholders.

The ethics lesson to be learned from the Olympus affair is that a lack of underlying ethical values trumps full disclosure even in the post-Enron era of transparency. In fact, underlying cultural values such as secrecy may continue to rule the day in countries like Japan that seem to place not “losing face” ahead of ethical values such as full disclosure and the rights of investors and creditors to be fully informed about both good and bad financial dealings.

Blog posted by Steven Mintz, aka Ethics Sage, on January 6, 2012  

SAT Cheating Scandal Is a Low Point in High School Student Ethics

Cheaters Cheat, Honest kids are Harmed, and the Reliability of the SAT is Questioned

Perhaps you saw the 60 Minutes segment last Sunday about Sam Eshaghoff, the Great Neck Long Isalnd, New York, student, now at Emory University, who officials said was paid to take tests for other kids. You can watch a one-minute snipet from the show by clicking on the CBS video in the above link.

In the interview with Alison Stewart, Eshaghoff rationalized his unethical actions with statements like this one:

“My whole clientele were based on word of mouth and like a referral system”. A kid who has a horrible grade-point average, who, no matter how much he studies is going to totally bomb this test”. By giving him an amazing score, I totally give him … a new lease on life. He’s going to go to a totally new college … be bound for a totally new career … new path in life”.

First of all, how can someone who uses so many “totally” words in a sentence be so smart that other kids pay him to take the SAT for them? I’m totally baffled by it. 

Here is more from the interview with our anti-hero who admitted to hearing the notion that deserving students are being left out of those colleges as a result of his fraud.

 “[I] really wasn’t displacing somebody … I feel confident defending the fact that [my clients] getting into the schools that they ended up getting into didn’t really affect other people”. [He] regrets the shame his arrest caused his family and says “if he could start over, he never would have done it”. [Yeah, right. They all say that after being caught].

Eshaghoff accepted up to $2,500 from other students -- per student that is -- to take their tests using easily manufactured fake IDs. His scam came crashing down in fall 2011, when he was arrested for criminal impersonation and fraud.

Later in the interview program Stewart asked Kurt Landgraf, the president of the Educational Testing Service (ETS) that administers the SAT, whether it is easy to cheat on the SAT. Landgraf said “no”. All I can say is OMG! He needs to get his head out of the sand.

Landgraf admitted to discovering 150 impersonators last year who, like Eshaghoff, simply manufactured an ID to take the test for others. I figure if he admits to 150, the real number is closer to 1,500. He said that three million students take the SAT every year. His organization spends $11 million on SAT test security annually. I don’t know about you but his blasé attitude worries me. This is the guy who is in charge of SAT security and he dismisses at least 150 cheating incidents as being immaterial to the overall reliability of the Exam.

It seems to me even one cheat is one too many. We’re talking about basic ethical standards. Honesty is a virtue. Trustworthiness is an essential value in a test like the SAT. Fairness to other students who take the test using their own skills is compromised by the cheats. How would you like it if your son or daughter was denied admission to their college of choice because someone got in as a result of Eshaghoff’s fraudulent results?

You may be wondering how Eshaghoff pulled off the scam. He simply made a high school ID; one of six forms of identification accepted at SAT testing centers. Here is another pearl of wisdom by Eshaghoff:

A school ID is what? Like what is that? It's like, it's some colors with literally a name and picture on it. So what I would do is, I took the template from my high school ID, pasted my picture on top of it, and whatever person's name whose test I was taking, I would have their name and date of birth on it. And it was really as easy as that.

Like wow, is all I can say, Sam. Seriously? I can’t believe it is so easy to cheat on an exam that is so widely used by colleges and universities. As a college professor I am shocked by this incident.

The investigation of the cheaters is ongoing. As of last November, at least 35 students remained under investigation; several had been charged. Criminal defense attorney Robert Gallo who represents one of the charged students made one of the more ethically-challenged comments about this incident. He admitted to being stunned at the ongoing court action. “The student that I represent went on with his life on the supposition that this matter was behind him.” Gallo said, adding that his client is currently in college.

How do we make sense out of the whole Eshaghoff cheating affair? Some blame parents for putting too much pressure on their kids to get into the best schools. Others blame peer groups and the pressure, especially in a wealthy community with high achieving parents like Great Neck, NY, to get into Ivy League Schools. I blame Eshaghoff and the kids who hired him to cheat. They need to accept personal responsibility for their actions. How will they learn that there are consequences for violating the rules, breaking the law, and acting immorally if they are not punished?

Oh, and in case you are wondering, a perfect SAT score is 2400. Eshaghoff scored between 2140 and 2220 for the students. Over the course of nearly three years, he took the SAT over and over again, consistently scoring in the 97th percentile or higher for the students he called his "clients."

Blog posted by Steven Mintz, aka Ethics Sage, on January 4, 2012

 

What Ever Happened to Ethics at Johnson & Johnson?

Lawsuits over Johnson & Johnson Products Raise Questions about Ethics at the Company

Let’s go back to the fall of 1982, when seven people in the Chicago area collapsed suddenly and died after taking Extra-Strength Tylenol capsules, manufactured by McNeil Consumer Healthcare, a subsidiary of Johnson & Johnson, which had been laced with cyanide. This was the first known case of product tampering. J&J faced an immediate crisis with little guidance to go by except the company’s Credo. According to the company, it was this aspirational document that helped them to manage the crisis in an ethical manner.

Following disclosure of the tainted product, J&J swiftly removed the product from the shelves of supermarkets, provided free replacements of Tylenol capsules with the tablet form of the product, and made public statements of assurance that the company would not sell an unsafe product. The company became a model for how to handle an ethical crisis. What was in this Credo that so powerfully dictated the actions of the company? Well, here is the key statement as I see it

“We believe our first responsibility is to the doctors, nurses and patients, to mothers and fathers and all others who use our products and services. In meeting their needs everything we do must be of high quality”.

This is an impressive statement and even more impressive reaction to a crisis situation by J&J. In fact, I have used the company’s response to the Tylenol poisoning as an example of ethical behavior. Now I must ask myself:  What Ever Happened to Ethics at Johnson & Johnson?

Fast forward to 2010 and 2011 and let’s look at recent legal challenges to the safety of products made by J&J.

1.      On December 21, 2011 it was announced that Johnson & Johnson, the world’s largest health products company, must defend a lawsuit claiming it misled investors about quality control-failures at manufacturing plants that led to recalls of the popular over-the counter drug, Motrin. Allegedly, top executives made misleading statements about details of the recalls leading to stock losses after the true reasons for the recalls became public. McNeil Consumer Healthcare has been facing numerous lawsuits as studies link Motrin to increased risk of severe allergies such as Stevens Johnson Syndrome (SJS), and Toxic Epidermal Necrolysis.

2.      Earlier in 2011, a lawsuit filed by a group of consumers alleging Johnson & Johnson’s baby shampoo includes potentially cancer-causing chemicals was allowed to go forward, according to federal court Judge Dennis Cavanaugh. The Judge based his decision to let the lawsuit proceed on the presence of a single chemical ingredient found in the shampoo: methylene chloride, which is banned by the Food and Drug Administration for use in cosmetics.

3.     In January 2011, it was announced that J&J might have to shell out up to $1 billion for lawsuits concerning its subsidiary DePuy Orthopaedics and the metal-on-metal hip implants that were found to shed minute metal particles into a patient’s bloodstream over time. Lawsuits over the ASR implant have piled up across the country, accusing DePuy of manufacturing a defective product, failing to warn patients and doctors of problems with the implant and negligence in designing, manufacturing and selling the product. (How does this square with its Credo?)

It is worth noting that J&J hiked its product-liability reserves to $570 million at the end of 2010 and allotted $280 million for medical costs of patients directly affected by the recalled hip implants.

4.      Women who have suffered serious injury and disfiguration have filed suit against J&J subsidiary Ethicon, claiming that vaginal mesh manufactured by Ethicon caused them life-altering complications. Upon investigation, a number of doctors and scientists have concluded that J&J Ethicon vaginal mesh and bladder slings do not meet reasonable safety standards.  The FDA issued Public Health Notifications regarding the use of vaginal mesh products to treat pelvic organ prolapse and stress urinary incontinence in October 2008, in February 2009, and in July 2011.   

The FDA received a total of 2,874 reports of vaginal mesh complications and injuries from January 1, 2008 to December 31, 2010.  Many of these reports concerned products manufactured by Ethicon. Lawsuits brought against the company by women claim that they were not adequately warned of the serious and often permanent injuries that may be caused by the vaginal mesh.

How can the culture of a company change 180 degrees? J&J has gone from a highly respected manufacturer of safe consumer products to one that either has shoddy quality control practices and/or ignores the warning signs of possible product defects. In any case, the company’s Credo apparently no longer guides its actions. Unfortunately for the doctors, nurses and patients, mothers and fathers that use J&J products, they no longer can rely on the safety of products manufactured by J&J and its subsidiaries.

Blog posted by Steven Mintz, aka Ethics Sage, on December 26, 2011

 

Is Corzine a Fraudster or just Incompetent?

Corzine Feigns Ignorance in Questioning about MF Global

Is Jon S. Corzine, the former U.S. Senator, New Jersey governor, and Goldman Sachs CEO, a fraudster who is trying to absolve himself of any responsibility for the meltdown at MF Global by feigning ignorance, OR is he the most incompetent CEO ever to come out of the C-Suite? You make the call.

MF Global filed for bankruptcy protection on October 31 after a disastrous bet on European government debt. In just a week, stock investors lost about $585 million. More than $600 million in clients' money is still missing. Regulators say MF Global moved the money out of client accounts within days as the firm's cash dried up.

MF Global didn't list the European debt on its balance sheet for all to see. Instead, those holdings were shifted to the company's "off-balance sheet," deep in its financial statements. Some separate filings with regulators excluded the European debt entirely.

Under a 2002 anti-corporate fraud law (Sarbanes-Oxley Act) — which Corzine co-wrote as a U.S. senator — CEOs of public companies must personally certify the accuracy of their company's financial statements. If client money was used by the firm for its own purposes, Corzine could be held responsible, according to Thomas Ajamie, an attorney who specializes in financial fraud cases. "That would be the house gambling with customers' money," Ajamie said.

The direct costs of the failure include $1.2 billion in supposedly segregated retail investor accounts that have not been identified and 2,900 people lost their jobs. The real costs go way beyond and include a further rupturing of the trust in the securities industry on the part of the American public and concerns about whether our regulatory systems are capable of monitoring banks and securities firms to identify problem firms while the fraud is occurring and take action against such firms after the fact.

Corzine appeared before Congress last Thursday having been subpoenaed to testify about his role as the former CEO of MF Global. Here are some of Corzine’s explanations and responses to questions from the Congressional panel. It’s worth noting that Lawmakers had previously heard from farmers, ranchers and small-business owners who are missing money deposited with the firm. Agricultural businesses use brokerage firms to help reduce their risks in an industry vulnerable to swings in oil, corn and other commodity prices.

• In his prepared testimony submitted before the hearing, Corzine said he could not explain what happened to “many hundreds of millions of dollars” that the firm was holding for customers. "I simply do not know where the money is, or why the accounts have not been reconciled to date," he told the House Agriculture Committee, adding that he was "stunned" when he heard of the missing funds.
• Under pointed questioning by members of the House Committee, Corzine said he “would not rule out the possibility that someone at the firm misinterpreted him as suggesting that the struggling firm tap into investors’ funds.”
• Asked why there was a shortfall in customer funds, Corzine said that “many transactions… occurred in those last chaotic days.” He said he was not aware of all of those transactions and that “as a consequence it would be very hard for me to speculate why or where that shortfall took place.”
• Asked if he authorized a transfer of customer funds, Corzine responded, “I never intended to break any rules, whether it dealt with the segregation rules or any of the other rules that are applicable.”
• When asked if he was aware of any transfers, authorized or unauthorized, out of customer accounts, Corzine said, “I’m not in a position, given the number of transactions, to know anything specifically about the movement of any specific funds.”

Janet Tavakoli, an expert on the transactions MF Global specialized in, said Corzine's remarks seemed to divert attention from the firm's fundamental flaw under his leadership: It lacked the cash to cover its bets after investors started to fear that a major European nation would default.

Rep. David Scott, D-Ga., said it was the "height of disbelief" to think that Corzine knew nothing about the $1.2 billion. "We've got to get better answers from you because you [were] the CEO," he said. Rep. Tim Johnson, R-Ill., said that "people who live in the real world" have "suffered dramatically" from MF Global's downfall, and he asked Corzine whether he'd be willing to pay back those people with his own personal fortune. Corzine dodged the question, saying he was confident the money would be found. Seriously?

In his testimony to the House Agriculture Committee, Corzine sought to deflect blame for the company's collapse, arguing that he inherited a firm already doomed by his predecessors' bad financial decisions. Let me get this straight. Here is a former Senator, Governor, and CEO of Goldman Sachs taking a position as CEO of a failing company. Why would he do that? It doesn’t pass the smell test unless he saw it as a vehicle to stoke the burning fire that is his ego. Perhaps Corzine saw it as a way to personally enrich himself and he didn’t consider the possible consequences of his actions. That seems to be a recurring theme in the business frauds and financial meltdown that has plagued our country since the late 1990s.

Blog posted by Steven Mintz, aka Ethics Sage, on December 12, 2011

What should be the Next Step for the OWS Movement?

Citizen Watchdog Groups Have an Important Role to Play in the OWS Movement

It’s been one month since the Occupy Wall Street (OWS) movement set off a chain of events that have literally spread throughout the world. I believe the motivation for the movement comes from two sources: (1) the efforts of those involved in the “Arab Spring” to bring about meaningful and lasting change in the way their government operates and how they treat citizenry and (2) the ongoing economic crisis in the U.S. that has affected many in the ‘99%’. Just consider the effects of the financial crisis that ushered in a recession in 2008 and motivated the ‘99%’ to protest nationwide.

• Millions have lost their jobs or been forced to work beneath their skill level, accept less hours on the job, no pay raises, and increases in their share of health plan costs
• Millions have been unable to prevent their houses from going into foreclosure because of the downward spiral of home prices, underwater mortgages, and stagnant or a decline in in their personal wealth over a number of years
• Millions have seen their retirement accounts (i.e. IRAs, 401-Ks) go down in value or increase only marginally due to declines in stock prices over a number of years

I haved previously blogged about the growing gap in income in America. Studies show that the 400 richest families in America, who saw their wealth increase by some $400 billion during the Bush years, have now accumulated $1.27 trillion in wealth. At the same time, working families have watched as median family incomes dropped nearly $2,200, the third year in a row we have witnessed such a decline. In a recent report issued by the U.S. Census Bureau on poverty in America, 46.2 million Americans are now living in poverty.  The number of those living in poverty in America has grown by 2.6 million in just the last 12 months, and that is thelargest increase that we have ever seen since the U.S. government began calculating poverty figures back in 1959. Back in the year 2000, 11.3% of all Americans were living in poverty.  Today, 15.1%  of all Americans are living in poverty.  The last time the poverty level was this high was back in 1993.

Participants in the OWS movement point to the gap between rich and poor, use of public funds to bail out failing companies (i.e., the GM, Chrysler, and AIG), and greed on Wall Street and in corporate America as evidenced by a survey by salary.com that shows the average salary and benefits paid to the CEOs of the Standard & Poor’s top 500 companies in 2010 was $11.4 million. We are rapidly becoming a country of haves and have-nots and that is a recipe for civil disobedience, or worse. Add to the mix the public distrust of government and politicians who place partisan interests ahead of acting for the public good, and you can understand why our individual angst has now spread throughout the country.

Critics of the OWS movement believe it has been hijacked by groups that have self-serving interests such as the Services Employees International Union (SEIU), labor unions, and those just looking for a warm place to sleep. No doubt, there is some truth in these charges and other (fringe) groups and individuals have given the movement a bad name. But this is to be expected in a Vietnam-type environment where disenchantment among the populace has motivated a movement for change in the way “the powers that be” drive the political and economic agenda in America.

The OWS movement needs to identify where they want to go with their legitimate complaints. The Tea Party organized into a powerful representative group with a common point of view – no new taxes, reductions in entitlement payments, and cleaning up America’s economic mess that, as of November 18, created an outstanding public debt of more than $15 trillion and climbing --  which is over $48,000 for each citizen of the U.S. based on a population of about 312 million.  

I recommend that government watchdog groups take the lead in identifying a unifying message for the OWS movement. Most of these groups have missions that are complimentary to that of OWS. Here are some groups I think could lead the way:

Citizens for Responsibility and Ethics in Washington: an organization dedicated to promoting ethics and accountability in government and public life by targeting government officials who sacrifice the common good to special interests.

Common Cause: an advocacy organization that serves as a vehicle for citizens to make their voices heard in the political process and to hold their elected leaders accountable to the public interest. 

Corporate Accountability International: a group that challenges corporate abuse and demands direct corporate accountability to public interests.

The Project On Government Oversight: a watchdog group that champions good government reforms and  investigates corruption, misconduct, and conflicts of interest to achieve a more effective, accountable, open, and ethical federal government.

These are four groups that can best lead the charge to promote ethics in government, accountability from our elected officials, public interest decision-making, and corporate responsibility. Many other groups are equally worthy to lead the way, but the effort must be limited and focused on common goals to have a meaningful impact on the OWS movement, create true and lasting change, and to advance the endeavor to the next level of true reform in government and corporate America.

Blog posted by Steven Mintz, aka Ethics Sage, on November 19, 2011

Madoff, Mets, and Clawbacks

Trustee Picard on the Losing End of Clawback Lawsuits

Unless you’ve been living on a remote island since December, 2008 where communication with the outside world is difficult, and if so please pass along the details, Bernie Madoff was arrested on December 11, 2008 in the largest Ponzi scheme ever devised. In March 2009, Madoff pleaded guilty to 11 federal felonies and admitted to turning his wealth management  business into a massive Ponzi scheme that defrauded thousands of investors of about $65 billion. The irony is, if Madoff  hadn’t faced $7 billion in redemptions, the Ponzi scheme might not have been discovered. On June 29, 2009, he was sentenced to 150 years in prison, the maximum allowed.

Perhaps you saw Madoff’s wife and son on 60 Minutes a week ago. Talk about a woman in denial. She looked like she had just taken a dose of Propofol. It’s hard to feel sorry for members of the family who deny any knowledge of the fraud. “Burying your head in the sand" is not a defense to standing by as thousands of investors lose billions of dollars, many their life savings.

Irving Picard was appointed the trustee to unravel Madoff’s finances. The trustee has filed about 1,000 lawsuits worth some $100 billion against individuals and companies accused of profiting from Madoff's scheme including multibillion-dollar lawsuits against  mega financial firms JP Morgan, UBS nad HSBC. That's five times the $20 billion that Madoff is believed to have cheated from his clients while masquerading as an investment firm. Ironically among those sued was Madoff’s son Mark, who hung himself in his Manhattan apartment on the same day, the two-year anniversary of his father’s arrest. "Mark Madoff  had made it clear that he felt his family ... would be better off without 'this' hanging over them all, forever," a source told the NY Daily News.

The basis for the “clawback” lawsuit is that some investors profited handsomely from Madoff’s scheme gaining large returns while others lost everything. The suits aim to force those who profited by the “ill-gotten gains” to return these amounts for distribution to the losers.

For those of you sports fans out there, Picard also sued the owners of the New York Mets baseball team for the return of profits earned from their Madoff investments. Mets owners Fred Wilpon and Saul Katz and associated individuals and firms, received $300 million from the scheme according to the lawsuit. Wilpon and Katz have "categorically rejected" the charges.

Helen Chaitman of Becker & Poliakoff represents more than 300 investors who had accounts with Bernard Madoff. For more than two years she’s hammered away at one particular argument in federal bankruptcy court, in Congress, even on YouTube: Madoff bankruptcy trustee Irving Picard of Baker & Hostetler shouldn’t be allowed to demand the return of profits that Madoff investors pulled out of their accounts as long ago as 2002, six years before the Ponzi scheme imploded in December 2008. Two weeks ago, Chaitman finally found vindication, even though it wasn’t in any of her cases. Manhattan federal judge Jed Rakoff, ruling in Picard’s fraud case against the owners of the New York Mets, concluded that a section of the federal bankruptcy code precludes Picard from attempting to claw back money Madoff investors pulled out of the Ponzi scheme before 2006.

The decision is a boon to the Mets owners. The judge left standing only one of Picard’s fraud counts against the Mets, limiting the Madoff trustee’s potential recovery to no more than $386 million, rather than the nearly $1 billion in principal and profits Picard wanted. Moreover, for Picard to get his hands on any of the Mets owners’ principal, he will have to prove they were “willfully blind,” a prospect Judge Rakoff doesn’t seem to consider very likely. “This is something I’ve been saying from the beginning,” Chaitman said. “Anyone who didn’t withdraw their money in the last two years…is out completely.”

On November 2, a federal judge threw out most of a $19.9 billion lawsuit against JPMorgan Chase & Co and a $2 billion case against UBS AG. According to the ruling, Picard lost the right to demand $19 billion in damages from JPMorgan, for victims of Madoff's fraud. The decision by U.S. District Court Judge Colleen McMahon in Manhattan is one of the largest setbacks for the trustee, Irving Picard, who has spent nearly three years liquidating Bernard L Madoff Investment Securities LLC. On November 10, Picard asked for an expedited appeal of her ruling to finally determine his claims were viable. “Permitting an immediate appeal would provide much-needed finality for the trustee and the BLMIS estate as to the viability of these claims,” he said, asking her to enter a final judgment in the case, which will make it easier for him to appeal her ruling. BLMIS refers to Madoff’s firm.

Perhaps in the most unfair ruling on October 27, Madoff’s family would keep about $82 million of “other investors’ money” under a ruling that limited a bankruptcy trustee to claiming from the owners of the Mets only two years of withdrawals from the Ponzi scheme, according to a court filing.

Madoff’s family took out $141 million in the six years before Madoff’s firm went bankrupt in 2008, of which less than $59 million was taken in the two years before the bankruptcy, trustee Picard said in a filing. Many other investors are trying to hang onto “stolen” money that belongs to customers who took losses in the fraud, he said.

In a previous blog I pointed out that while it may seem clear that clawback suits are the right thing to do, there are ethical issues that should be considered. If the investors did not know the returns were based on fraudulent activities, should they be penalized? What if the investors used their returns to invest in the stock market and lost everything in the meltdown, should this be taken into consideration in deciding whether to file clawback suits against them and how much should be redistributed? What is the key ethical principle that should guide trustee Picard’s actions? It would seem to be fairness. That is, the losses should be spread proportionately to investors who lost all their money and those who received some returns. Fairness provides that equals should be treated equally; unequals, unequally. Of course, the devil is in the details.

Blog posted by Steven Mintz, aka Ethics Sage, on November 16, 2011

AMERICA, CHANGE IT OR LOSE IT

Government Ineptness Underlies Occupy Movement

This is the second in a series of blogs I’ll post on Fridays from now until election day to address critical issues facing our country. My blog last week dealt with the issue of who is to blame for class warfare (Blame Corporate America and Wall Street for “Class Warfare.”). This week I look at the role of our political system and how it creates distrust of our government.

Critics of the “Occupy Wall Street (OWS)” movement rail against what they perceive to be obnoxious protesters looking for a place to vent, and even sleep and eat. Critics charge there is a segment of the protesters who want to tear down capitalism and our government. They miss the point that the underlying goal is to reform capitalism so that it works for all in society and not a chosen few who tend to act in their selfish interests without regard to the consequences of their actions on the public.

There is a meaningful analogy to be made between the protesters in the Vietnam War and those in OWS. Many in the public criticized Vietnam protesters as unkempt, loud, a nuisance, and generally wanting nothing more than to tear down our government. Sound familiar?  Today we look at those protesters in a much different light as ushering in a period of peace and ending an unjustified and, perhaps, unwinnable war. I’ve taken the title of this blog from one of the slogans chanted during the Vietnam War protests – “America, change it or lose it.” The chant was in reaction to anti-protesters whose slogan, “America, love it or leave it,” articulated the view that those who don’t like what America is doing should leave the country.

Much of the criticisms lodged against OWS protesters have the same underlying theme. The anti-protesters are trying to minimize the valid and well-meaning message that corporate greed and government ineptness is to blame for the harm that has befallen so many in society. Millions have lost their jobs not because they no longer can do the job or don’t want to work, as the OWS opposition would have us believe. Let’s not forget that it was financial institutions and investment banks that brought down our financial system thereby leading to massive layoffs. The government through Fannie Mae and Freddie MAC, both of which engaged in accounting fraud, created a bubble in the housing industry that burst and caused the loss of millions in home value. The combined efforts of the perpetrators of the financial disaster that began in 2008 led to the destruction of a massive amount of stock market wealth for the average citizen whose IRAs and 401Ks plummeted in value.

In a poll taken between October 19 and 24 by Real Clear Politics, only nine percent of the public approves of the job Congress is doing, a 75 percent drop in support since the last poll. How could Congress not expect the public to protest with these numbers? I’d be surprised if there were no protests as it would indicate a complacency in society that is not healthy to our tradition of speaking out about wrongdoing. Moreover, compare these results to an Association Press-Gallup Poll that 37 percent support the Wall Street protesters and 58% say they are furious about America’s politics.

Protesters against the Vietnam War changed the public’s opinion about it just as the protesters in New York City and other places will change the public’s position on the rightness of their cause. However, it behooves the protesters to get better organized; keep in check those who are there for their own agenda; and control troublemakers that always latch on to any protest movement.

The legitimacy of the Vietnam protesters who were branded hippies was enhanced when the group Students for a Democratic Society came along and organized into a political force. SDS developed a political manifesto that suggested a series of reforms, some of which are relevant to today’s protesters: it proclaimed a need to reshape the political parties to attain greater representation, for stronger power for individuals through citizen's lobbies, for more substantial involvement by workers in business management, and nonviolent civil disobedience as the means by which student youth could bring forth a "participatory democracy." This was a unifying message. OWS protesters also must develop a unifying message to be successful in the long run.

The support for the anti-war movement was low at first but grew as the war wore on and more and more Americans questioned the values of their government, much as do OWS protesters. Support for the war went from a high of 52 percent in August 1965 to a low of 28 percent in May 1971.

A Fox-News poll taken the week of October 24 indicates that 76 percent of Americans are not satisfied with the direction our country is headed. This is a serious matter. How can Republicans and other critics dismiss the protest movement in light of the lack of support in the public for the political process and results? The unemployment rate has been over nine percent for about thirty months with no decrease in sight. Programs to alleviate the pain have not worked. None of the Wall Street fat cats were charged with any crimes for their role in the financial meltdown. The government is stalemated and we can’t move forward. Some say it will change after the election. I doubt it as our recent past indicates that political posturing by the party not in power will begin the day after we elect a new President. Politicians are more concerned with the ends – get re-elected; get control of Congress; and change the party of the President – than the means used to achieve those ends. This is an unethical approach to decision-making because it ignores how the public may be harmed by the political games played to achieve a goal.

Blog posted by Steven Mintz, aka Ethics Sage, on October 28, 2011

Chinese Companies Financial Reporting Practices Escape US Regulators

Can We Trust the Financial Statements of Chinese Companies?

I have previously addressed the growing questions about Chinese accounting principles and the reliability of the financial statements produced by state-owned and private enterprises. I called it “The Dark Side of Chinese Capitalism.” Questions continue to be raised about the value of those statements to investors looking to obtain a piece of the growing Chinese economic pie. In this blog I look at how Chinese companies look for ways to avoid U.S. regulators including the SEC.

China is dealing with charges of fraud in financial statements. I blogged about how U.S.-style capitalism may be infecting Chinese companies with the “fraud bug.” A good example is Sino-Forest Corp. that has been charged with allegations of accounting abuses and fraud, burning investors including John Paulson, the billionaire whose hedge fund said in June it lost $468 million on Sino-Forest.

Two reporters for Bloomberg on line, Dune Lawrence and Gary Putka, identify a common corporate structure that has allowed dozens of Chinese companies to get listed on U.S. exchanges but may run afoul of U.S. regulations. Chinese Internet companies such as Sina Corp. and Baidu Inc. have used so-called variable interest entities, or VIEs, to work around Chinese restrictions and seek foreign investors since 2000. In case you have forgotten, these are the same self-created off-balance sheet entities used by companies such as Enron to keep debt of the balance sheet and make a company look more liquid than it really is thereby misleading investors and other users of the financial statements.

The VIE structure, which allows firms to set up contractual relationships that mimic equity ownership, may carry its own risks, according to Joseph St. Denis, director of research and analysis at the Public Company Accounting Oversight Board. The PCAOB, which oversees auditors of U.S. public companies, has begun to look at VIEs’ audit implications.

“China has blocked our inspections of firms in their region, but we think VIEs are a risk area,” St. Denis said. “We can’t know, without going to inspect, how much risk they represent.” Last month, the Chinese government signaled it may create new rules for VIEs, which have helped enable the boom in overseas listings of Chinese stocks.

Reporter Tom Schoenberg points out that financial software maker Longtop Financial Technologies Ltd., disclosed that it may face SEC civil claims related to accounting abuses and whose U.S. shares have lost more than 99 percent of their value this year, used a VIE structure. The company is conducting an independent investigation into allegations made by its auditor, Deloitte Touche Tohmatsu CPA Ltd. The auditor resigned in May, saying Longtop’s chairman had admitted there was fake revenue and cash on the company’s books.

Deloitte has its own problems. Mark Lanpher, an SEC lawyer, believes the company should be ordered to appear in a U.S. Court for rejecting a SEC demand for documents related to an investigation of its former client Longtop Financial Technologies Ltd. Lanpher claims Longtop has refused to respond to a court filing seeking documents that the regulator claims are “critical” to its probe of possible fraud at the company.

The key take-away is that China must play by SEC rules if it is to audit affiliates of US companies that are subject to inspection by the Public Company Accounting Oversight Board and if Chinese companies are to list their stock on U.S. exchanges. All foreign c companies that list stock in the US are subject to such inspections. China should not be treated any differently. If China wants to be a key player and become a force in the international financial markets, then it must learn to play by the rules of regulators outside their own country even if it seems to run counter to cultural norms whereby such regulations and inspections might be interpreted as demonstrating a lack of trust in Chinese management.

Blog posted by Steven Mintz, aka Ethics Sage, on October 26, 2011       

Blame Corporate America and Wall Street for “Class Warfare”

Occupy Wall Street Protesters Motivated by Corporate Greed and Fraud

This blog first appeared as an opinion editorial in the online version of the Pacific Coast Business Times on October 21, 2011.

At the Value Voters Summit on Friday, October 7, Rep. Eric Cantor (R-Va.) said he is "increasingly concerned" by "Occupy Wall Street" demonstrations which began in New York and spread to other major cities. Cantor used part of his address to attack the Occupy Wall Street protests, and he condemned political leaders who are supporting them.

"This administration's failed policies have resulted in an assault on many of our nation's bedrock principles," he said. "If you read the newspapers today, I, for one, am increasingly concerned about the growing mobs occupying Wall Street and the other cities across the country. And believe it or not, some in this town have actually condoned the pitting of Americans against Americans. But you sent us here to fight for you and all Americans."

Unfortunately, some have joined the protesters for their own reasons and to vent their individual anger. Others have used the park near Wall Street at which they are protesting as a place to eat, sleep and generally make a mess of the area. This is wrong and disrupts innocent people going about their daily work. Still, we should not lose sight of what the protests are really about. Cantor, like so many Republicans, has misread the true message of the protesters. I add my voice to the protestors and believe the underlying motivation is to speak out about what is the true cause of the economic decline in the U.S., the financial difficulties facing our nation, high unemployment, and the general malaise that exists on Main Street about the future of our country. It is the greed that infected corporate America in the 1990s and early 2000s by the Enron’s and WorldCom’s. It is the fraud and corrupt policies of these companies and institutions such as Fannie Mae and Freddie Mac. It is the hyped securitized mortgages that were sold off by financial institutions to unsuspecting investors. It is the ill-advised mortgages made by commercial banks that ignored home buyer ability to repay the mortgage because the banks sold off these mortgages along with the related risk of default. Wall Street investment firms that held these securities hedged their bets by purchasing credit default swaps from AGI thereby betting on both sides of the coin. It is the Ponzi-schemers such as Bernie Madoff. I could go one but you get the point.

If there is a class warfare that has developed in the U.S. it is because the selfish policies of these institutions caused the financial meltdown, economic recession, and massive loss of jobs – all through no fault of us who play by the rules. The unemployed didn’t cause the crisis. Sure, some people overspent and got too deeply in debt, but that was due in part to the belief fostered by the actions of these institutions that the good times would keep rolling along. Instead, the bubble burst and it was the average American that was left holding the bag.

The Republicans attack over-regulation in the form of Dodd-Frank and Sarbanes-Oxley that, they claim, has created an uncertainty and unwillingness to expand economically by the very companies being regulated. That may be so and there is no denying it is a problem. However, the Republicans need to look in the mirror of those being regulated to see the face of who created the need for more regulation.

Our free market capitalistic system is based on the notion that by acting out of self-interest, business will create a better economic climate for all Americans. Well, it is just not working out as intended by Adam Smith. According to a survey by salary.com, the average salary and benefits paid to the CEOs of the Standard & Poor’s top 500 companies in 2010 was $11.4 million. The average CEO earned 343 times more than typical workers.

Very little has been said this election year cycle about how much the financial crisis has cost the average American in lost wealth. Well, hold on to your chairs as you look at the data provided by The Pew Charitable Trust that covers the period between 2008 and 2009:

• $100,000: Cost to the typical American family in combined losses from declining stock and home prices
• $5,800: Average household income loss resulting from declining economic growth
• $14,200: Average household loss in wealth caused by plunging real estate prices
• $66,200: Average stock market losses for households from July 2008 to March 2009
• $2,050: Average household cost to pay for TARP, the main government program to shore up the economy

Oh, and Representative Cantor, his net worth went from $2.2 to $7.6 million during 2008 to 2009, and he ranks 60^th in the House with respect to personal wealth.

Blog posted by Steven Mintz, aka Ethics Sage, on October 24, 2011

Ethical Hacking

Colleges Training Students to be “Ethical Hackers”

Did you know college courses and degree programs are sprouting out on the subjecting matter of “Ethical Hacking?” Ethical hacking can be defined as the methodology adopted by [ethical] hackers to discover the vulnerabilities in existing in information systems’ operating environments with the intent of protecting the security of the target/client. According to the EC-Council, ethical hacking is one the fastest growing areas in network security, and certainly an area that generates much discussion about whether such practice right or wrong; warranted or unwarranted; an invasion of privacy or a necessary security step in this age of cyber-attacks.

Computer hacking skills should be taught to cyber-security students to "know the enemy" and ensure they will be equipped to effectively prevent and defend against attacks in the real world. Both academia and security experts add that schools must emphasize law and ethics so students "don't cross the line" and misuse their hacking abilities.

The growing dependence and importance regarding information technology present within our society is increasingly demanding that professionals find more effective solutions relating to security concerns. Individuals with unethical behaviors are finding a variety of ways of conducting activities that cause businesses and consumers much grief and vast amounts annually in damages. As information security continues to be foremost on the minds of information technology professionals, improvements in this area are critically important. One area that is very promising is penetration testing, a key aspect of Ethical Hacking.

Penetration testing activities focus on the identification and exploitation of vulnerable areas of security and subsequent implementation of corrective measures. According to those within the security field, more information technology professionals are going back to class to learn the "latest hacking techniques." In fact, many consider the three to five day seminars to be less expensive than hiring consultants. The average cost is $2,000 to $8,000 per person while consulting services range from $10,000 to $100,000.

According to a Computer Crime and Security Survey, virus attacks continue as the source of greatest financial loss. Unauthorized use increased slightly over the previous year, while unauthorized access to information and theft of proprietary information significantly increased in average dollar loss per respondent.

A wide range of educational opportunities exist for individuals interested in pursuing information security. Many of these are being offered in the public sector within community colleges and universities. It is interesting to note that while many schools offer such education and training, a number of professionals express concern about teaching hacking techniques. This apprehension stems from a fear that students may use the information unethically. In other words, they may use the information against the very company hiring them to protect their security.

To help government and businesses minimize security risk, colleges and universities are increasingly offering courses and security training programs. Syracuse University offers a Cyber Security Boot Camp to prepare future technology security professionals. Topics include cyber-security, cryptography, steganography, digital forensics, network security, and wireless security. There are stringent rules for entry into the program, and the Boot Camp ends with "Hackfest" which is a hands-on event putting into practice the theoretical concepts covered within the course.

Rochester Institute of Technology offers courses in security education that have been added to the curriculum. Students are divided into two teams; they set up networks and try to hack each other. As security flaws are found, they patch their systems and continue to secure the networks more and more as the semester progresses.

Northern Virginia Community College offers a network security certificate program. Leaders at the college interviewed their community and found that people were being educated at “too high of a level,” and programs were needed to help day-to-day security professional. There are 7 courses, 3 theory and concept, 3 labs, and a capstone course. The capstone is a free vulnerability analysis of a local non-profit organization or small business. The capstone is important in that it provides a hands-on opportunity to put into practice everything learned in the classroom.

George Mason University also offers a course in information warfare. Students divide into different country teams, and attempt to hack into each other’s network. The course motto is that “anyone can hack but defending a system is the real mark.”

In the United Kingdom, a hands-on ethical hacking course called The Training Company is being offered. A variety of topics are included such as social engineering techniques, wireless security, internal hacking, denial of service attacks, and penetration testing.

A group of individuals called the Ghettohackers are trying to change way society views hackers. They enable people that are curious about information security to get hands -on experience without any harm to others. Their mission is to change culture from within and to better educate the public at large concerning hacking. In addition, their main focus is to stress the importance of teaching ethics as well general hacking concepts. Let’s hope they are successful because ethical hackers may be drawn to the “dark side” and wind up hacking the hackers.

Blog posted by Steven Mintz, aka Ethics Sage, on October 3, 2011

Deloitte Sued for $7.6 Billion, Accused of Missing Fraud

Are CPA Firms Finally Being Held to Account for the Financial Meltdown?

Deloitte Touche Tohmatsu Ltd, the world's largest accounting and consulting firm, was accused on September 26 of failing to detect fraud during its audits of one of the biggest private mortgage firms to collapse during the U.S. housing crash. This was the latest lawsuit to hit one of the major accounting firms over their role in the credit crisis. Pricewaterhouse Coopers, KPMG and Ernst & Young are also facing accusations about their auditing standards by investors who collectively seek to recoup billions of dollars lost in the financial meltdown.

A trust overseeing the bankruptcy of Taylor, Bean & Whitaker Mortgage Corp, or TBW, and one of the company's subsidiaries filed complaints in a Miami Circuit Court claiming a combined $7.6 billion in losses. Deloitte spokesman Jonathan Gandal said the "claims are utterly without merit."

Lee Farkas, the former chairman of Taylor, Bean and Whitaker, was sentenced to 30 years in prison in April for masterminding what U.S. officials described as one of the biggest bank frauds ever. U.S. Justice Department officials said Farkas ran a $2.9 billion fraud scheme that led to TBW's downfall and the collapse of one of the largest U.S. regional banks, Colonial Bank. Farkas was accused of running a wide-ranging scheme to cover up large losses at Taylor, Bean, which was based in Ocala, Florida, by moving funds between accounts at Colonial Bank and also by selling mortgage loans that did not exist, were worthless or had already been sold.

The complaint filed by Neil F. Luria, a plan trustee of Taylor, Bean & Whitaker Trust, claims losses of approximately $6 billion. A second complaint by Ocala Funding, a wholly owned TBW subsidiary which served as a lending facility, claims losses of $1.6 billion.

"Deloitte missed this fraud because it simply accepted management's conflicting, incomplete and often last-minute explanations of highly-questionable transactions, even though those explanations made no sense and were flatly contradicted by the documents in Deloitte's possession," according to the complaint by Ocala Funding. Furthermore, “Ocala relied on Deloitte to detect material misstatements in the financial statements due to error or fraud.

According to Generally Accepted Auditing Standards (Statement on Auditing Standards No. 99), "The auditor has a responsibility to plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement, whether caused by error or fraud.” The key always has been the interpretation of “reasonable assurance” and auditor responsibilities to examine evidence. Generally, evidence provided by the client is less reliable than that gained by auditor communications with third parties and by applying accepted audit procedures. Deloitte apparently relied too much on management’s explanations and did not do its due diligence in collecting and analyzing data. Plaintiffs' lawyers argued that as gatekeepers, auditors have a duty to be vigilant at rooting out fraud.

One question that arises is whether Deloitte missed the red flags that fraud may be present. According to Jacob Zamansky, founder of Zamansky & Associates, a law firm specializing in securities fraud, “If [auditors] see something they need to report it. If they consciously ignore red flags, they could be held responsible as an aider or abettor to the fraud."

 

Auditors are expected to exercise professional skepticism in making professional judgments on the extent and scope of evidence to be gathered and in evaluating its usefulness in rendering an opinion on the fairness of presentations in the client’s financial statements.

From the auditor’s point of view they can take solace in a newly emerging legal defense called "in pari delicto," or equal fault principle, used when a company being audited was equally to blame for wrongdoing. It is very fast becoming a law of this nation, which is a tremendous protection for the Big Four." However, Steven Thomas, an attorney for the plaintiffs, said his case rests on solid legal ground. He said that a key bankruptcy decision holds that under Florida law, the in pari delicto defense does not apply in cases in which the auditor has a duty to detect fraud and in which there were innocent board members who could have been alerted about the fraud. "They (Deloitte) had a public duty to detect the fraud," Thomas said. "They didn't do their job, and that's what we're going to prove."

Deloitte has also been named in other big lawsuits stemming from the credit crisis, including one involving its audits of Bear Stearns, which collapsed after suffering enormous mortgage losses, and another involving Washington Mutual, the biggest bank to fail during the credit crisis. Critics have argued that the independent auditors should have predicted the dramatic and unprecedented decline in the housing market that shocked the entire industry.

Are auditors finally going to be held accountable for their role in the financial meltdown? Time will tell but there can be no doubt some must have missed the red flags and, more important, ignored the changing business model and risks inherent in dealing with financial instruments such as sub-prime mortgages and credit default swaps. Auditors are supposed to understand the environment in which their clients operate and use that knowledge and related risk assessment to determine proper audit procedures. It appears that Deloitte failed to do so and there may be other cases waiting in the wings.

Blog posted by Steven Mintz, aka Ethics Sage, on September 30, 2011

How to Reverse the Trend of Educational Failure in the U.S.

Standardized Testing is not the Answer

This is the third in a three-part series of blogs on declining student performance in our schools. In the first blog I pointed out that the mean SAT reading scores of U.S. high school students have fallen to their lowest levels in nearly 40 years, dropping four points in the last four years to 497, and only 43 percent of test takers achieved a total score indicating they are likely to succeed in college. In my second blog I looked at school accountability, teacher performance, and cheating in the schools. In this blog I question whether standardized testing is partly to blame for the disappointing results and what factors might be contributing to educational decline in the U.S.

Standardized tests have been touted as the best way to ensure that students all over the country are learning a specific curriculum to enhance test evaluation and comparability of scores over time. In these tests all students answer the same questions, usually in multiple-choice format, and each question has only one correct answer. They reward the ability to quickly answer superficial questions that do not require real thought. They do not measure the ability to think or create in any field. Their use encourages a narrowed curriculum, outdated methods of instruction, and harmful practices such as retention in grade and tracking. Some criticize standardized testing because teachers teach to the test rather than instill in students the analytical reasoning and critical thinking skills so essential to be competitive in an increasingly globalized and technology-oriented world.  

Standardized tests are based in behaviorist psychological theories from the nineteenth century. While our understanding of the brain and how people learn and think has progressed enormously, tests have remained the same. Behaviorism assumed that knowledge could be broken into separate bits and that people learned by passively absorbing these bits. Today, cognitive and developmental psychologists understand that knowledge is not separable bits and that people (including children) learn by connecting what they already know with what they are trying to learn. If they cannot actively make meaning out of what they are doing, they do not learn or remember. But most standardized tests do not incorporate the modern theories and are still based on recall of isolated facts and narrow skills.

Multiple-choice tests are a very poor yardstick of student performance. They do not measure the ability to write, to use math, to make meaning from text when reading, to understand scientific methods or reasoning, or to grasp social science concepts. Nor do these tests adequately measure thinking skills or assess what people can do on real-world tasks.

Standardized, multiple choice tests were not originally designed to provide help to teachers. Classroom surveys show teachers do not find scores from standardized tests very helpful, so they rarely use them. The tests do not provide information that can help a teacher understand what to do next in working with a student because they do not indicate how the student learns or thinks. Good evaluation would provide helpful information to teachers.

The question really is whether there are better ways to evaluate student achievement or ability? The answer is “yes.’ Good teacher observation, documentation of student work, and performance-based assessment, all of which involve the direct evaluation of student effort on real learning tasks, provide useful material for teachers, parents, the community and the government. However, there is one aspect that can’t be measured and is largely behind the declining test scores, -- the declining work ethic in society. I see it all too often in my college classes. Even bright students lack the motivation to put the hours in to learn the material and look for the easy way out. They look for shortcuts, search the Internet for term papers that can be purchased online, and they outright cheat. What’s worse is that many of them see nothing wrong with their behavior and use the excuse that “everyone does it” as the rationalization for their unethical actions.

Unfortunately, student cheaters are only mimicking what is all too prevalent in society especially the business world. We have been bombarded with stories of fraud in the government, Medicare programs, the financial services industry, housing, insider trading and Ponzi schemes. Until we get our ethical house in order including re-creating the work ethic that was responsible for “American Exceptionalism,” we are likely to simply remain afloat all the while treading water to stay even with students from other countries and trying to avoid being overcome by the Chinese.

Blog posted by Steven Mintz, aka Ethics Sage, on September 28, 2011

Are Schools Being Held Accountable for Declining Test Scores?

The Ethics of School Accountability

In my last blog I pointed out that the mean SAT reading scores of U.S. high schoolers have fallen to their lowest levels in nearly 40 years, dropping four points in the last four years to 497. Furthermore, only 43 percent of test takers achieved a total score indicating they are likely to succeed in college. The testing company claims this decrease is due to greater participation by a more diverse group of students, and cushions the news with information that our top-achieving students are doing even better. I suggested that the results may be a reflection that the gap between the haves and have-nots, or those in the know and those who know not, is widening

The results also indicate that while white students' overall scores decreased by a mere three points since 2006, black students' scores decreased by 19 points, Puerto Ricans' decreased by 17 points, Mexican-Americans' decreased by nine points, and "other Hispanics' " decreased by 14 points. For Asians, the trend is reversed: from 2006 to 2011, Asians' scores increased by 40 points. These results led me to question the value of the No Child Left Behind program that was put into place during the administration of George W. Bush.  

Some have suggested that schools are not being held accountable for the results of their efforts to educate young people and that standards-based education reform either is not working or is not being properly implemented. Others claim more money needs to be spent to foster real reform. Still others blame poor teaching and a lack of commitment by teachers for the disappointing results. These are important and complex issues that should be discussed in national forums with input from a variety of stakeholders including teachers, primary and secondary school administrators, potential employers and, most important, parents.

Unfortunately, there have been some instances that have created serious doubts in the mind of the public about the ethics of teachers and school accountability. In July, Nathan Deal, the Governor of Georgia, released findings from a now-infamous investigation into systemic, longstanding cheating in the Atlanta Public Schools. Some 178 teachers and administrators at 44 schools corrected students’ answers on standardized tests — even at weekend “changing parties.”

Also that month, allegations emerged that educators at 89 Pennsylvania schools may have doctored students’ test responses. In August, reports indicated officials were investigating cheating at a Connecticut elementary school; 17 teachers and administrators were placed on leave.

Out here in California land where virtually nothing works anymore it was reported last week that twenty-two California schools had their test scores thrown out this year for reasons ranging from outright cheating to comparatively minor mistakes, such as failing to cover up bulletin boards or stumbling over instructions. Nearly half of the schools lost their Academic Performance Index scores because of cheating by teachers on multiple-choice tests. Several others were penalized because of help teachers gave students that violated rules. There was even sabotage: Answers for 19 students at Jackson Avenue Elementary were changed from right to wrong. If a discrepency involves more than 5% of the school's students, the school doesn't receive a rating. I suppose that means it's OK to cheat so long as you keep it below the 5% threshhold.

Such schools and districts join others where cheating and questionable testing practices have occurred. Yet despite educators’ ethical lapses, no one has stepped forward to accept full responsibility for these actions and the accountability of administrators has come into question.

Instead, many have targeted the No Child Left Behind law and high-stakes testing, which base school ratings, penalties, and, increasingly, teacher evaluations on student test performance.

Temptation to inflate scores is unprecedented, The New York Times’ Michael Winerip wrote recently: “Never before have so many had so much reason to cheat.”

Some say high-stakes testing incentivizes, even causes, corruption. In Atlanta, investigators blamed cheating primarily on “pressure to meet targets in the data-driven environment.” The Save Our Schools organization, which links high-stakes testing with cheating, held a national rally to protest test-based accountability and other education policies. SOS claims, “Many school communities have resorted to cheating” in “desperation to raise test scores.”

I can’t help but conclude that school accountability is nonexistent and the whole system needs to be changed. Nothing short of a sea change in how we educated our young people is needed if we are to educate students in a way that enables them to be competitive in an increasingly globalized, and well-educated, international environment.

UCLA Accepts $10 million gift from Michael Milken

UCLA and Milken’s Gift

By Steven Mintz

Today's blog first appeared as an opinion editorial in the Pacific Coast Business Times that covers businesses in Ventura, Santa Barbara and San Luis Obispo counties.

When UCLA announced  a $10 million gift from Lowell Milken to establish a business law institute in his name, last month,  the university described him as a “pioneer in education reform” and a “leading philanthropist.”

Many faculty have welcomed the gift at a time when state funds have been drastically reduced to fund hiring education in California. Still others criticize the University for accepting the gift from a donor who escaped possible conviction on securities fraud charges because his brother Michael, once known as the junk bond king, reached a plea bargain agreement with prosecutors.

Let’s begin with a brief history lesson. Michael Milken was a pioneer in the development of the market for high-yield bonds that became known as junk bonds during the 1970s and 1980s. He was indicted on 98 counts of racketeering and securities fraud in 1989 as the result of an insider trading investigation. He pled guilty to six securities and reporting violations but was never convicted of racketeering or insider trading. Michael Milken was sentenced to ten years in prison and permanently barred from the securities industry by the Securities and Exchange Commission. The presiding judge reduced his sentence for cooperating with testimony against his former colleagues and good behavior; he was released after less than two years. His brother Lowell, who worked alongside Michael, was never charged.

 The Milken critics point to the brothers as symbols of Wall Street greed during the 1980s. Supporters point to their philanthropic activities since that time. They founded the Milken Family Foundation and philanthropies funding research into melanoma, cancer and other life-threatening diseases.

One of UCLA’s top business law professors, Lynn Stout, criticizes the gift because it threatens the reputation of the institution. She is quoted in a New York Times article as having written the following to the president and chancellor of UCLA: “The creation of a Lowell Milken Institute for Business Law and Policy will damage my personal and professional reputation, as I have devoted my career to arguing for investor protection and honest and ethical behavior in business.”

My one criticism of Stout’s position, based on the quote, is the personalization of her position. It will damage her personal and professional reputation. I imagine she extends the argument to harming that of UCLA as well. Proponents of the gift point more for the need for funds to support faculty activities at a time of severe budget cuts but the bulk of the funds are targeted for a business law institute in his name.

The Milken family generated controversy at UCLA in 1984 after the University severed its ties with an education company controlled by Michael Milken that planned to sell videotapes of a lecture series he gave at the school. The company agreed to remove any identification of UCLA from the tapes after the school said it received many complaints from state officials.

Precedents exist for a major university to refuse gifts from corporate wrongdoers like Milken. In the 1980s, Princeton returned money from Ivan Boesky to build a Jewish Center after the government charged the Wall Street financier with insider trading crimes. Seton Hall removed the name of L. Dennis Kozlowski from an academic building in 2005, after the conviction of the former Tyco chief executive for looting his company.

My opinion is UCLA has sold its soul in accepting a gift in Lowell Milken’s name. The thinly-veiled message is that convicted felons can benefit from such crimes simply by donating money large enough to make the recipient overlook the offenses. In accepting the largest single gift in the University’s history, the UCLA School of Law stated it will enable “the law school to meet and exceed its ambitious $100 million fundraising goal well ahead of its original five-year schedule.” I suppose UCLA then believes the ends justify the means.

 Steven Mintz is a professor of accounting at Cal Poly San Luis Obispo and blogs at EthicsSage.com.

 

 

Blog posted by Steven Mintz, aka Ethics Sage, on September 19, 2011

What Are Corporate Social Responsibilities (CSR)?

What Does it Mean to Say a Corporation Has Social Responsibilities?

This is the first of a two-part blog on corporate social responsibilities (CSR). In this blog I look at the definition and various perspectives on just what it means to say a corporation has social responsibilities and new regulations passed by Congress to rein in corporate misbehavior. In the next blog I will examine the actions of US companies that make decisions designed to minimize global taxes from the perspective of social responsibility and the ethics of such actions.

Milton Friedman is widely credited for initiating a discussion about CSR. In his seminal piece on this topic that was published in The New York Times Magazine on September 13, 1970, Friedman challenged the idea that businesses had responsibilities beyond maximizing profits for the benefit of shareholders. In his book Capitalism and Freedom, Friedman posits that "there is one and only one social responsibility of business–to use it resources and engage in activities designed to increase its profits so long as it stays within the rules of the game, which is to say, engages in open and free competition without deception or fraud."

I have no qualms with that statement but I do feel corporate America today, and their Republican friends, are turning a blind eye to the deception and fraud that has permeated the business world for the past fifteen years. Businesses such as Sunbeam, Lucent, Micro Strategy, Enron and WorldCom, all engaged in fraudulent financial reporting during the late 1990s and early 2000s. The financial meltdown of 2008 was due in large part to fraudulent banking practices including disclosure fraud whereby commercial banks and financial institutions created structured financial assets that were ultimately sold to investors without disclosing the risks of such investments. Fraudulent loan-granting practices contributed to the collapse of the real estate market and general malaise in our economy. The inescapable conclusion is that even by Friedman’s restricted definition, corporate America has not met its social responsibilities.

Friedman did not buy into the spreading belief during the 1970s that business should not be concerned merely with profit but also with promoting desirable “social” ends; that business has a 'social conscience' and takes seriously its responsibilities for providing employment, eliminating discrimination, avoiding pollution and other socially desirable goals. John Mackey, the founder and CEO of Whole Foods, disagrees with Friedman. In a 2005 piece published in Reason magazine, Mackay argues against Friedman’s limited view and emphasizes the humanitarian dimension of capitalism. He believes a corporation should try to create value for all of its constituencies. While acknowledging the mantra of profit maximization for the benefit of investors as the driving force behind capitalism, Mackey points out that is not the purpose for other stakeholders--for customers, employees, suppliers, and the community. Each of those groups defines the purpose of the business in terms of its own needs and desires, and each perspective is valid and legitimate.

According to the Corporate Social Responsibility Network, CSR is about how businesses align their values and behavior with the expectations and needs of stakeholders - not just customers and investors, but also employees, suppliers, communities, regulators, special interest groups and society as a whole. CSR describes a company's commitment to be accountable to its stakeholders by managing the economic, social and environmental impacts of their operations to maximize the benefits and minimize the downsides.

Some have argued that the discussions of the "social responsibili­ties of business" are notable for their analytical looseness and lack of rigor. According to this view, only people can have responsibilities not businesses that are artificially-created entities. If we accept that assertion as being true, then it is not that far of a stretch to claim that top management has social responsibilities as flesh and blood representatives of the corporation. The decisions and actions of top management potentially affect all stakeholder groups. We need look no further than the aforementioned entities whose actions negatively affected employment, the well-being of communities, and equity in the stock market.

This brings me to my main point. Time and time again I hear Republican candidates for the Presidency lay blame for our stagnant economy on the Democrats because of the burdensome regulations imposed on businesses. In particular, Republicans like to point to the Sarbanes-Oxley Act and the Dodd-Frank Financial Reform Act as creating business uncertainty and regulatory burdens that negatively affect business’ willingness to create new jobs in America; instead corporations expand their global operations.  

In a previous blog I made the case for increased regulation due to the narcissistic behavior of some on Wall Street. The Republicans seem to have short memories and are in denial as to the main cause of our economic woes. The public has lost billions in wealth as measured by losses in investments, retirement funds, and their home equity. Little regulation existed at the time to curtail risky behavior and corporate fraud including misleading and deceptive disclosures on real estate transactions. The expansion in business regulation is directly the result of unethical activities by corporate America with the result being Sarbanes-Oxley and Dodd-Frank. In short, corporate America has no one to blame but itself for the “over-regulation.” 

Blog posted by Steven Mintz, aka Ethics Sage, on August 24, 2011

Whistle-blowing and Accountants' Obligations

Accountants as Whistle-Blowers: Confidentiality Issues

Accountants are increasingly being asked to blow the whistle on corporate wrongdoing to help stem the tide of recent massive financial frauds such as Bernie Madoff’s Ponzi scheme. I have blogged about whistle-blowing considerations before, but not on specific expectations in the law for accountants to blow the whistle. The laws that encourage whistle-blowing by accountants may be well-meaning but they fail to consider the fact that professional accountants and auditors who are Certified Public Accountants or who hold a Certificate in Management Accounting and Certificate in Internal Auditing, all have to abide by a strict code of conduct that generally precludes whistle-blowing. Corporate accountants might be seen as disloyal if they blew the whistle on wrongdoing by their employer. However, this is where ethics and the law part ways. Ethical people use the law as a minimum standard of behavior. They always try to adhere to the law and, in this case, rules of professional accounting and auditing. Under the profession’s rules of conduct, if you know your employer is committing fraud the first step is to take your concerns up the chain of command all the way to the audit committee of the board of directors, if necessary. If you are shut out at every step then, based on your conscience and ethical beliefs about right and wrong, it may be that you choose to take your concerns outside the organization even though it violates your confidentiality obligation and the rules of professional conduct. This is whistle-blowing.   

Congress enacted the Dodd-Frank Wall Street Reform and Consumer Protection Act in 2010. One of the goals of Dodd-Frank was to extend whistleblower protection beyond the Sarbanes-Oxley Act of 2002 to further incentivize whistleblowers to expose securities fraud. On May 25, 2011, the U.S. Securities and Exchange Commission (SEC) approved final rules to implement a program to pay individual whistleblowers that provide information relating to possible securities law violations that lead to successful SEC enforcement actions.

While CPAs are not permitted to receive a reward under Dodd-Frank by reporting possible violations of a client, they are permitted to receive a reward by reporting possible violations of their accounting firms in the performance of audit services for a client. In a sense Dodd-Frank contains what some have called a “bounty hunter” provision. To be eligible for a reward under the whistleblower provisions, a whistleblower must voluntarily provide the SEC with original information that leads to a successful enforcement action by the SEC and that results in monetary sanctions of more than $1 million.

Where the SEC recovers at least $1 million, the whistleblower must be awarded anywhere from 10 percent to 30 percent of amounts recovered, although the SEC has broad discretion in determining the exact amount of the award. If the SEC does not ultimately recover at least $1 million, the whistleblower receives nothing.

To receive the award, the whistleblower must agree to provide sworn testimony if needed and other assistance and cooperation with the SEC’s investigation. As a result, whistleblowers may be faced with years of ongoing cooperative obligations before receiving any payment. Although initial whistleblower reports can be made anonymously via an attorney, a whistleblower must identify himself or herself to the SEC before collecting any reward.

The whistleblower provisions exclude two categories of accountants from award eligibility because of their pre-existing legal duty to report securities violations:

1. Individuals with internal compliance or audit responsibilities at an entity, including CPAs, who receive information about potential violations, cannot receive whistleblower awards since it is part of their job responsibilities to report suspicion of illegal acts to management. However, these individuals will not be excluded from receiving a whistleblower award where:
   1. Disclosure to the SEC is needed to prevent “substantial injury” to the financial interest of an entity or its investors,
   2. The whistleblower reasonably believes the entity is impeding investigation of the misconduct or
   3. The whistleblower has first reported the violation internally and at least 120 days have passed.
2. CPAs who receive information about potential violations of a client or its directors or officers through an audit or other engagement required under the federal securities laws are not eligible to receive whistleblower awards. The SEC included this exclusion so as not to undermine the legal duty that auditors have under Section 10A of the Securities and Exchange Act of 1934 to report illegal acts by officers, directors, and other client personnel up the chain of command. If the issues are not addressed adequately by management, the auditor must then resign from the engagement and file a report with the SEC.

Notably, the whistleblower exclusions do not apply to CPAs who report information about potential violations regarding their own firms’ performance of audit services for a client. This is true even where the CPA’s information about his or her firm leads to a successful enforcement action against one of the firm’s clients.

Several members of the public accounting industry, including KPMG, Ernst & Young, PricewaterhouseCoopers and the Center for Audit Quality, have expressed concerns to the SEC that the accountant exclusion in the whistleblower provisions is too narrow. Those entities believe that permitting CPAs to obtain monetary rewards by blowing the whistle on their own firms’ performance of services for clients could create several significant problems with respect to maintaining the confidentiality of client information.

Blog posted by Steven Mintz, aka Ethics Sage, on August 10, 2011

Throw the Republicans and Democrats Out of Office

Politicians Have Violated the Public Trust

Politicians have lost sight of their main responsibilities -- to serve the public interest, honor the public trust, and be faithful to their constituency. It's the latter that can get them into trouble as is the case with the current budget deliberations. The republicans are driven by conservative views and the Tea Party principles based on balancing the budget, cuts in spending especially from entitlement programs and no new revenues. If this is the Tea Party manifesto then it should start to drink caffeinated coffee. This is not the time to pursue a balanced budget amendment given the government has failed to deliver one for at least the last 14 years and we are still fighting two unwinnable wars. 

The Democrats want no balanced budget amendment, limited cuts in spending programs and new revenues by raising the tax on taxpayers making over $250,000 in income. There needs to be changes in social security such as expanding the retirement date to a minimum of 65 years and a maximum 70 years. I would also recommend a slight increase in the 2.5% tax on Medicare which is low in comparison to the 6.25% rate for social security. We have an aging population that now lives longer than in the past and a slight increase in the Medicare rate is justified given the higher Medicare costs to the government.

'Cut, cap and balance' is predicated on the balanced budget amendment. These are laudable principles and ones that should be included in a national debate during the next 15 month election cycle. However, Rome was not built in a day. Let the voters decide in the ballot box. Politicians should make decisions based on principled behavior and serving the public trust and not motivated by satisfying lobbyist groups.

There should be a comprehensive audit of government programs to eliminate the fraud and abuse. For years we have heard about $500 million in Medicare fraud yet no one seems to have the political will to eliminate it. The Government Accountability Office seems unwilling or incapable of identifying abuse areas and eliminating it. I suggest calling in one of the Big-Four CPA firms to conduct an independent audit. They know how to examine documentation and ask the right questions. CPA firms must abide by strict ethical standards including serving the public interest.

There undoubtedly are other areas of fraud and abuse including in the procurement program, community-based funding, and the misuse of government resources by some in Congress including unsupportable reimbursement of trip expenses and payoffs to lobbyists. 

Our country is at a crossroads. We are headed down a path that will make us the second largest economy after China. Our work ethic is declining perhaps due to not having the skills necessary to compete in the global environment and/or pure laziness. A malaise has taken over our society. If we put the same time and effort into our schoolwork and job performance that we do to social networking time, then much of the declining work ethic would vanish. Americans have gotten lazy and believe they are entitled to a certain standard of living provided by the government. I call it the "Greece-ization oif America."

Congress should be given sufficient time to get the job done right and not based on some arbitrarily imposed deadline. Going forward, we all must make a shared sacrifice and Congress should lead the way by setting a good example and insist on reductions in fraud and waste and reduce their own profligate spending to regain the public trust.

Blog posted by Steven Mintz aka Ethics Sage on July 30, 2001

 

 

 

Using Social Media to Detect Fraud

Social Networking Becomes a Tool to Detect Fraud 

Be careful what you tweet about or post on you Facebook because those social media sites and others are increasing being used by investigators to detect fraud. Internet detection includes a variety of frauds such as credit card fraud, health care fraud, Medicare fraud, consumer fraud, bank fraud, social security fraud, stolen personal fraud, and the most common fraud -insurance fraud.

Nathalie Blanchard found out the hard way. In an article in the L.A. Times, Shan Li  reports Blanchard's story and how she got caught committing insurance fraud because of the posting of photos on Facebook. She had struggled with depression and took a medical leave early in 2008 from her job as an IBM technician. Soon after, she began receiving monthly disability benefits from her insurer, Manulife Financial Corp. A year later and without warning, the payments stopped. A representative of the Toronto insurance company told Blanchard that Manulife used photos of her on Facebook — showing her frolicking at a beach and hanging out at a pub — to determine she was depression-free and able to work, said Tom Lavin, Blanchard's attorney. "They just assumed from the pictures that she was a fraud," Lavin said, "without investigating further before terminating Nathalie's benefits." Blanchard went to court to ask for a temporary reinstatement of her benefits until a final decision is made. The judge who heard her request refused. Blanchard sued Manulife, accusing Manulife of failing to talk to her doctor and neglecting to inform her before cutting off payments. Manulife said in a statement: "We would not deny or terminate a valid claim solely based on information published on websites such as Facebook."

Social-networking websites such as Facebook and MySpace have become the go-to places where employers, college admissions officers and divorce lawyers can do background checks. Armed with the information, police have caught fugitives, lawyers have discredited witnesses (just think about the Casey Anthony case) and companies have discovered perfect-on-paper applicants engaged in illegal or simply embarrassing behavior. Such sites have become the latest tools in detecting fraud, which the industry says costs the U.S. as much as $80 billion a year and accounts for 3% to 10% of total annual healthcare spending. Medicare fraud alone costs $500 million.

A 2008 memo by the Department of Homeland Security has revealed that US immigration officials were instructed to use social media in order to detect fraud. The memo, entitled "Social Networking Sites and Their Importance to FDNS" (Office of Fraud Detection and National Security), was obtained by the Electronic Frontier Foundation (EFF) under the Freedom of Information Act. Agents were given instructions and information about social networks, including how to join, how to expand friend networks once one is a member and what the most popular social networking sites are. Agents were also given information on how they could use social networks to sniff out US Visa fraud and spot fake relationships.

One danger is that people constantly provide status "updates" on their Facebook pages.  Often this includes bragging or sharing about whatever cool and expensive vacation or other activity they are undertaking.  For example, claimant X might use his Blackberry to post: "Having a great day at the TCI golf course!"  But what if claimant X had also recently claimed a theft of his golf clubs?  Or an injury that prevented him from enjoying golf anymore?

If you feel you have been defrauded, I suggest you contact the Internet Crime Complaint Center. ICR was established as a partnership between the FBI and the National White Collar Crime Center. It serves as a means to receive Internet related criminal complaints and to further research, develop, and refer the criminal complaints to federal, state, local, or international law enforcement and/or regulatory agencies for any investigation they deem to be appropriate.

The bottom line is no one should commit fraud as it injures another person or organization and is motivated purely by self-interest. There is no more unethical activity than defrauding another out of money and other resources that belongs to that person.

Posted by Steven Mintz, aka Ethics Sage, on July 27, 2011