Embezzlement Case at Water Company Demonstrates Financial Negligence

The former General Manager (GM) of the Box Springs Mutual Water Authority in Moreno Valley, California was recently charged with embezzling $784,175 over a 19 month period. She made $42,000 a year – the average $41,000 monthly loss to the water company equaling nearly the amount of her annual salary.  She used the proceeds from her embezzlement scheme to pay for various vacations and cruises, and to fund her gambling habit at local casinos.  She also admitted to investigators that she used a company ATM card that she issued to herself, in addition to falsifying financial statements that were submitted to the board of directors.

Moreno Valley Police Department reports show that a prior employee had previously reported embezzlement at the company on two separate occasions, but the board of directors did not want to conduct an investigation and took no action. The red flags were obvious, it would seem, yet ignored.

Business owners studying this situation can learn how to better demonstrate increased awareness and diligence within their own companies when it comes to potential internal fraud schemes. Management should respond promptly to employee tips and implement sound internal controls in order to minimize the risks of misappropriation. Here are ways a business can create an effective operating environment through internal controls:

  • Segregation of duties.  The GM had complete control of Box Spring’s finances. Single employees should not be responsible for an entire accounting cycle (e.g. approve invoices, prepare checks, sign checks, post checks, and reconcile the bank account). If there aren’t enough staff to divide the responsibilities, make sure effective review procedures are in place.
  • Need for oversight and audits.  A bookkeeping service that had discovered missing money in 2008 stopped providing its services in 2009, coinciding with Sutton’s promotion to GM.  Where were the auditors?  If a surprise audit had occurred at any time, it most likely would have caught this embezzlement.  Warning employees that a surprise audit may occur from time to time is also a good deterrent, since they would fear getting caught.
  • Monitor bank statements and reconciliations.  In this case, the disbursements process was compromised by the GM.  A simple comparison of activity on the bank statements and reconciliations would likely have revealed the magnitude of funds being withdrawn via ATM, and how they were being recorded in the accounting records.  That monitoring would not have been labor intensive, and should have been possible using existing personnel, or even a member of the board of directors.
  • Perform a fraud checkup yearly.  According to the Association of Certified Fraud Examiners (ACFE), the average fraud goes on for 18 months or more before it is caught.  Since this fraud went on for almost two years, a yearly fraud checkup may have discovered the theft.  Contact a CFE for a fraud checkup checklist, or click here.
  • Create levels of accountability.  Too much trust is oftentimes placed in high level officials and long-term employees.  Employees at all levels of an organization need supervision and accountability. Since the GM had complete control of the finances, it appears that she could have caused even greater losses than were realized.
  • Look for red flags.  The GM would not have been able to hide her vacations where she would have to miss work, or her gambling habit, since others could see her gambling at the local casinos.  Further, increased spending and a more lavish lifestyle should have caused red flags warranting the attention of others.  Gambling or other addictions may contribute to the rational for theft, and provide the motive for taking money to cover debts or expenses.
  • Establish a third-party hotline.  Using a third-party hotline to report suspicious activity offers a level of anonymity, making employees more likely to blow the whistle on fraudulent activity.  With all of the flagrant spending of the GM, someone at the water company probably noticed a problem.  And, if there had a third-party hotline, it is likely that a warning would have been received.

According to the ACFE, a typical organization loses an estimated five percent of annual revenue to fraud.  Box Springs was already losing money, so being defrauded out of $784,175 would have been devastating to its financial position.  The significance of losses at Box Springs is an illustration of what can happen when you don’t have effective internal controls in place.  With five percent of annual revenues lost to fraud every year, coupled with the funds needed to address the aftermath, any resources devoted by organizations to the deterrence of fraud would be a prudent investment.  This would include calling on the professional services of a CFE, who would possess the requisite specialized skills and knowledge in this area.

Mike Rosten is a Principal at Piercy Bowler Taylor & Kern CPAs and Business Advisors. You can reach him at mrosten@pbtk.com. Emily Long, CFE is an auditor/forensic analyst with the firm and can be reached at elong@pbtk.com. For more information on forensic accounting, visit http://www.pbtk.com/forensic_accounting.asp.

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