Business Fraud in the Wake of Scandals

¶ … Business Fraud

In the wake of scandals such as Enron and others, corporate fraud still appears to be prevalent across the business world. The reasons for this can be many and varied, although greed and a sense of hubris appear to be two of the common role players. In other cases, desperation could also be a factor, where a business is in danger of failing and its owners or managers see little choice but to cheat or sing with the boat. In many of the fraud cases, questions regarding regulation also abound, where regulatory authorities appear to be unable to either identify fraudulent activity or to sufficiently monitor the actions of those involved. This appears to be at least partly the case as far as Russell Wasendorf Sr. is concerned, who recently confessed to have committed fraud as the owner of his brokerage for 20 years Huffstutter and Polansek, 2012). This had significant repercussions for both stakeholders and the industry.

According to Wasendorf's confession, business trouble and his "big ego" led to his fraudulent activity during the past two decades. It was, apparently, a choice between seeing the business fold or cheating, and the owner made the decision for the latter. The most immediate effect was shaken trader confidence in the U.S. futures markets, whose worth extends to some trillion dollars.

What is significant is the ease with which Wasendorf was able to commit the fraud. He used little more than a rented P.O. Box, along with Photoshop and inkjet printers to circumvent regulators in a scheme of more than $100 million. At 64 years of age, Wasendorf now faces "decades" in prison, according to U.S. Attorney Peter Deegan (Huffstutter and Polansek, 2012).

The fraud has also taken its toll on Wasendorf himself, who suffered from "constant and intense guilt" as a result of what he was doing. Prior to his arrest, the business owner attempted to commit suicide by inhaling exhaust fumes in his car after confessing to the whole scheme in a suicide note. He did not succeed in the suicide attempt, and was hospitalized instead.

Specifically, Wasendorf began forging bank documents when his business risked failure if additional capital were not made available. According to Huffstutter and Polansek (2012), the fraud lasted almost throughout the lifetime of the business, which has been declared bankrupt.

Huffstutter and Polansek (2012).

Wasendorf's actions also had a significant impact on the community within which he operated, a small Iowa town, where residents looked up to him as a business person and community friend. The pain and betrayal as a result of the fraud is significant, while the financial industry as a whole also suffered a sense of anger from the failure of a rival in the industry. On a personal level, the business owner's downfall also shocked his family and colleagues. The clients in his care included a day-care, a four-star cafeteria, and geothermal climate control, as well as a Romanian property company and a glossy magazine.

Investor confidence in the futures markets has also been affected negatively in terms of the ability of brokers to safeguard client money and the ability of regulators to police these activities. Regulators such as the National Futures Association, for example, are under the spotlight for failing to bring to light the long-term fraud committed by Wasendorf. To survive throughout the 20 years of his fraud, Wasendorf evolved his forgeries, as well as the rules that went with them, with the way in which the business world evolved. It was when auditors began to contact banks directly to verify broker balances that he opened a post office box for the purpose of intercepting confidential forms. He used these to inflate statements by more than $200 million, which amounted to more than half of his customers' total funds. Significantly, regulators accepted the inflated statements without question. The National Futures Association, the regulator responsible for futures businesses, started a new audit of Wasendorf's business two weeks ago, and only then, for the first time, demanded electronic, direct access to his bank accounts. Without this demand, it is reported that the fraud could have been much more severe.

In terms of classification, Wasendorf's actions might be identified as "financial output fraud," where his claims of financial output and strength were much higher than the actual fact. The only type of control that was in place during the 20-year duration of the fraud was the regulator, which appears to have been blissfully aware of the scheme until closer investigation was initiated. Clearly, this control falls far short of what was necessary to discourage and/or prevent Wasendorf's actions. Indeed, despite the fact that he professed to suffer from guilt, he also had a great sense of pride in his supposed financial prowess and did not fail to display this to the world in which he operated.

In the light of the long-term nature of Wasendorf's fraudulent activity, one might consider what types of controls might be put in place to assist regulators in their work. Some, like Holton (2009) suggest in-house systems to ensure that personnel and managers alike are safeguarded from the effects and dangers of fraudulent activity. While Holton focuses on disgruntled employees and their private text communications, a similar system might also be put in place for managers and business owners. As seen above, it was only when direct electronic access to Wasendorf's bank accounts was granted that his activities came to light. Regulators could make email and text communications, as well as bank statements, part of regular investigations in order to prevent or identify fraud, whether by employees or managers.

In addition, one might also suggest a whistle blowing element within companies, where employees and managers monitor each other's work. Wasendorf appears to have single-handedly committed the fraudulent activity of his business. The inclusion of more than one partner to manage the financial aspect might have made it more difficult to do so undetected.

Since Wasendorf's company is now bankrupt, there is little that can be done to mitigate its losses or the losses suffered by its clients.

Another important element that can be incorporated as a control factor is the incentive of stock prices (Johnson, Ryan, and Yisang, 2008). Wasendorf began defrauding his clients because his business was failing. Increased stock prices as a result of inflated earnings reports were his only potential salvation. This is also a factor that could be a source of regulator investigation. Particularly high stock prices, for example, might be sufficient reason for suspicion and subsequent investigation.