Archives for posts with tag: Management Fraud

Barnes and Noble, the bookstore chain, has experienced more than its share of trouble. They are hurt by Amazon, by the rise of e-books, the lack of book reading by younger people, too much debt, and excessive turnover in the management ranks, to name a few. Now, their third CEO, in two years was just fired by the Board. According to the Wall Street Journal, here are some of the details: the CEO violated Company policy (not specifically named), this was not due to any SEC type financial reporting or potential fraud, he was removed from the Board immediately, and he will receive No Severance!

This is what should happen but rarely does. If you Google severance pay, the stories never end. From media people like Harvey Weinstein collecting $25 million to Fox’s Roger Ailes receiving $40 million both leaving in sexual harassment scandals. United’s former CEO left in a corruption scandal and received $29 million. All this makes the misconduct departure of Lululemon’s CEO, who only received about $5 million, sound like a real bargain.

The only other recent and well-known example I could find of a CEO leaving for cause and getting no severance was the Vegas mogul, Steve Wynn and his ex-wife was a still a major shareholder in his company.

Why don’t more companies and their Board of Directors do the proper thing and not pay severance for executives who were fired for cause?  One obvious issue is the legal definition of  “cause”. When it involves violation of a company’s policies or code of ethics, this should not be an issue, but it is still usually not followed. If it involves a legal action, such as a lawsuit to establish “cause”, public firms usually run or at least look the other way!

Why? The real reason is that large public firms are afraid. Afraid of having to give depositions; afraid to go to court and mostly afraid the company will look stupid or mean or bad or worst yet, wrong! I know this because, as a CFO, I have been in more than one meeting that involved terminating another senior executive for cause and I am the only one suggesting no severance and that our company should pursue legal action.

In the case of a fallen CEO, it is the responsibility of the Board of Directors to take action whether that is to pursue criminal or civil actions and/or to withhold any severance. Too many Boards are weak. They take the easy way out, pay some hush money, sign a nondisclosure agreement and find a new CEO.

So let’s congratulate the Boards of Barnes and Noble and even Wynn Casinos for taking the first hard step and not further enriching a discredited CEO with any severance package! Most people distrust large firms and their executives. When people read about these undeserved and unexplainable severance payoffs, it only adds to that distrust.

The Journal of Accountancy (yes, there really is such a publication) had an article about the Securities and Exchange Commission (SEC) bringing and enforcing fraud cases over the last decade. The largest cases involved either improper financial reporting or violations of the Foreign Corrupt Practice Act which deals with bribes to international officials. Not surprisingly the financial services industry had, by far, the most cases and fines followed by natural resource and energy firms (think mining and oil and gas).

But what was very surprising, and more than a bit disturbing to me, was who the SEC prosecuted and fined.  Corporations themselves were at the top of the list which made sense. But, what did not, was that Chief Financial Officers (CFOs) were second followed by a firm’s Chief Executive Officer (CEOs) as a far distant third. Worst of all was that the Board of Directors were barely fined at all! Now, I know I was a practicing (and never indicted CFO) and I know CFOs certainly play a major role in a fraud of any kind. But, let me tell you this: nine times out of ten when a CFO does something bad, his or her CEO not only knows about it but probably pressured the CFO to cook the books in the first place! I could understand if CFOs were fined a bit more than CEOs, but not ten times as much in this study. CEOs are always responsible and often behind what goes on, period.

And, the Directors in these firms should have know something was going on! I have written on several occasions about the often limited involvement or usefulness of many members of Boards of Directors. But remember the corporate officers from the CEO to the CFO all report to and are responsible to the Board. The buck, and on average, $250,000 per year of bucks for large company directors, stops with the Board.

As many readers know, I hate fraud and especially fraud committed by senior managers who are paid a lot of money. So I am all for prosecuting and fining those who commit fraud. But if the SEC and the U.S. Government focus the bulk of their efforts on CFOs and almost ignore CEOs and their Boards, the occurrence and magnitude of fraud will only continue and probably get worse.

Think of this like a National League Football team. When a team, like my Cleveland Browns go winless, they fire the coach. When the team only wins a few games in several years, you fire the General Manager, the Director of Player Personnel and everyone but the Owners. So, in corporate terms, when major fraud occurs, fire the Board. This is how you send a message and how things might have a chance to improve in the future.

The unusual title of this blog post is from a new book called The Chickenshit Club by Jesse Eisinger. The book’s subtitled is “Why the Justice Department Fails to Prosecutes Executives.”  The writer cites several reasons why this is happening.  First, U.S. Attorneys are concerned about their conviction record and shy away from tough corporate cases they could lose, thus the nickname chickenshit. The second reason is even worse. The belief is that a far too cozy of a relationship exists between the government attorneys and the white collar defense lawyers who defend the corporate executives. The issue is that many government attorneys end up working, for far higher salaries later in their careers,  for the very laws firms they have been fighting against.

I have written before that corporate Boards of Directors and senior management are reluctant or afraid to prosecute fellow executives who commit crimes.This is true whether it is internal fraud, breaking security laws or even violating the firm’s ethics or morality code such as with sexual harassment.   Firms are reluctant because it often involves going after one of their own. Firms are afraid because to bring criminal charges because they have to follow through and maybe even testify in court!

So, when you combine the U.S. Government’s unwillingness to charge and try corporate executives and the corporations own reluctance to even report issues to the authorities, what do we have? To paraphrase James Bond, it is a license to steal and commitment securities fraud!

I Hate fraud and especially Management Fraud by those who get paid a lot already. So what is to be done? The federal government is hard to change as we all know. But, if these issues become more known they could end up being debated in law schools and maybe the next group of U.S. Attorneys will handle themselves and their responsibilities better. The corporate problem gets back to another one of my pet peeves, corporate boards.  Board of Directors have to step up and show courage and leadership in properly discipling and prosecuting executives who behave badly. None of this is easy but the present lax attitude to corporate misdoing needs to change.

To paraphrase the Nike logo, Just Do the Right Thing! People’s view of business and government may actually improve.


Wall St. Journal article: Activist shareholder Nelson Peltz threatens to break up Pepsi. Their Board says, no thanks.

Facts: The term “activist shareholder” is a Wall Street polite term for a firm that buys a small percent of a company’s stock and then threatens them with either a takeover or demands seats on their Board or something. Many people do this these days. Carl Icahn buys some Apple shares and demands stock buybacks. The activist shareholder does this for a couple reasons: the firm’s stock price seems low to them and they can make a lot of money on re-selling the shares if the price moves up. Corporate Boards really dislike these people.

Facts: Pepsi sales are $66 billion (a Fortune 500 top 50 firm). Half are beverages and half are snacks and cereals. The snacks business is growing well in sales and profits. The original core beverage business much less so, even though this includes Gatorade and Aquafina water. Apparently, selling sugared drinks and old soda pop is not what it was years ago. Pepsi is resisting Mr. Peltz’s suggestions, but said they would increase dividends and buy back more common stock to make him happy (and hopefully go away!) Just don’t mess with our Doritos!

This article reminded me of two related conversations I had recently: First, a friend and I were wondering how very large firms like General Electric are able to manage themselves. Our agreed answer was that they are not. GE sales are $150 billion which ranks it the 8th largest U.S. firm. It is truly a very mixed conglomerate with appliances, energy (nuclear power equipment) , transportation (trains),  aviation (engines) and finance. Very few of these products, industries or markets have anything to do with each other. But GE’s senior management are some of the highest paid corporate people.

Second, a couple friends asked why some giant companies keep buying other businesses trying to get even bigger. One asked if it was due to the egos of the senior people. A very appropriate and partially true comment. But there is another much more basic reason. And it goes back to my old friends in Human Resources and one of my favorite topics, Management Compensation.

You see, most companies set their salaries and bonus levels in large degree based on the size, usually in sales, of a business. When I was at USG Corporation, the headquarters people were paid the most. Then those who ran the largest business, Gypsum Wallboard,  the next most and so on down the line. And this is not just the President or CEO of a given business, it included all the senior management and on down to managers. For in Management Compensation, size does matter. You might ask, isn’t it harder to manage a bigger business? Answer, no; it’s harder to manage a more multi-faceted or troubled business. Or to manage an international firm with many different country locations, laws, and taxes than one giant U.S. based business. You might also ask, shouldn’t a firm’s Board of Directors figure this out and pay what is right? Well, the Board usually relies on outside Compensation Advisors who are hired by….. you guessed it the company’s Senior H.R. person! Not much help there.

So why do people like Nelson Peltz or Carl Icahn go around and threaten these giant firms? To make a fortune off the money they invest in these companies’ common stock, of course! But how do they know that nine times out of ten they will make money doing this? Because they know the following secrets. First, giant firms really do not maximize shareholder value over the long run by buying (often at huge premiums) and then trying to manage very different businesses. Most of these bolted together giant firms would be more successful and worth more as a smaller  firm or as a part of a similar business. Peltz wants Pepsi’s snacks to merge with Mondelez International which used to be Kraft’s snack business before he and some of his activist friends got involved. The second and most important secret is that the Senior Management of most of these giant firms will do anything in their power to get rid of these activist investors so they can continue to collect large salaries and bonuses based on the fact that they are a Fortune 10 or 50 giant firm. It takes a unique CEO and team to decide to breakup this game and take a chance on actually trying to run a smaller company versus a conglomerate. And remember it is tough being a CEO since their average tenure (or corporate life) is 5 years. They may need that money someday.

So good luck to Pepsi and their Senior Management. As an aside, I have not drunk a Pepsi in years (Vitaminwater instead) but I do love their Doritos and Lay’s chips!

Those who have followed this blog know that one of my favorite subjects is Fraud. Mainly the type committed by those who make the most and need the money the least: Management Fraud. But there exists, of course, a million other types of fraud, from con men to tax evaders. Which brings us to this tale of two famous or infamous fraudsters in the news recently.

Dennis Kozlowski was the CEO of a conglomerate called Tyco. Through acquisitions, Kozlowski grew Tyco into a giant public firm which was very successful and respected by Wall Street. He also managed to get paid tens of hundreds of millions in compensation from salary, bonuses and stock awards. But somehow this may not have been enough. Kozlowski was convicted of “stealing” from his company with an elaborate compensation package and outlandish expenses. These included a $30 million company owned NYC condo with, among other things, $6,000 in shower curtains and over $10million in artwork. You would want your luxury condo to look good after all. And let’s not forget the birthday party for his then second wife on the coast of Italy for which Tyco paid half of the $2 million cost. For all of this he was sentenced and just completed serving over 8 years in prison. One of the harshest sentences ever for a corporate executive. Kozlowski reported to a Board of Directors who were supposed to monitor his compensation and certainly understood much of what was going on. None of the Board were charged. Many business writers believed that Kozlowski’s punishment exceeded the crime in these circumstances.

Ty Warner, of Chicago, invented Beanie Babies and has been listed as having over $5 billion in net worth. But what does Ty do? He puts a mere $100 million or so of it into hidden Swiss bank accounts. Over a decade he uses different names including a foundation to evade U.S. income taxes. He has now paid our government over $70 million in back taxes, penalties and interest. The criminal trial just wrapped up. His lawyers argued that this tax evasion was the only mark on his lifelong business and charity record. Seems like a pretty big stain to me. The federal prosecutors argued for at least a year in prison as an example to others. The Chicago judge ignored federal guidelines of up to five years in prison and sentenced Warner to two years of probation and community service.

It was tax evasion that finally got Al Capone, also of Chicago. Tax criminals and corporate criminals should be treated the same. Ironically those who perpetuate most of these Frauds have the most money and the least reason to do so. It is very often more of a second thought or a game to them. So when caught and convicted, they should pay.

So what should we learn from all this? Individuals who commit fraud should be prosecuted with a criminal trial not just an out of court settlement. So often public corporations are afraid to deal with this type of unpleasantness and just announce that someone has left to pursue other interests. If those who commit fraud are not properly dealt with, it sets a terrible example for those who remain. It also allows corporate criminals to go off to some other organization and perhaps act in the same fashion. And it should not matter if the fraud involves expense accounts, kickbacks or tax evasion. Corporate America went through a rough patch with companies like Tyco and Enron grabbing headlines for all the wrong reasons. Some of the punishment was excessive in comparison to earlier times or similar crimes. What we need is consistent sentences based on federal or state guidelines. And even those with records as otherwise model citizens or major charitable donors should do prison time if that is the norm. Criminal Fraud should be followed with criminal punishment.

I was reminded recently that I had not written in awhile about one of my favorite topics, Management Fraud. Our focus here and in my book, The Business Zoo will concentrate primarily on those people who should know better, people who already make excellent money and who often believe they never did anything really wrong. This is called Management Fraud. Sometimes this can take on giant proportions like kickbacks from suppliers and sometimes it can seem almost like petty cash when it involves travel and entertainment expenses.

As is my practice with potential crimes, we will leave the company and person’s name out to protect their families any further embarrassment. We call this tale: Grooming a Senior Corporate Executive’s Expenses.

As individuals rise to the top of the senior corporate ranks, they get many benefits and privileges. Besides higher pay, bonuses, and stock options, they often are awarded private lunch club memberships, and in the old days, golf country clubs, company cars etc. But this is not enough for some people. For whatever reasons, a certain Senior Corporate Executive working with this company needed more. So the Executive started charging some personal expenses like hair stylists. To make matters worse, the same Executive spread over several expense reports, the cost of a holiday party at their home for their staff. That was against company policy as well. The sum total of all this was very minor compared to the Executive’s salary and bonus. What is also interesting is that the people who dream up and do things like this, are never someone you would expect even if you knew something about Management Fraud.

Expense accounts for senior executives at public companies would make exciting reading, if published in the Wall Street Journal. This actually happened to the, now imprisoned, former chairman of Tyco who charged the infamous thousands of dollars shower curtain. Sadly, senior executives’ expense accounts are often prone to these types of vulgarities. Why? Because for some the higher up in a firm they get, and the more they get, the more they actually believe they deserve.

Pushing your expenses seems like an easy way to get what you believe you deserve. Compounding the problem is this little understood fact: the expense reports for senior executives are reviewed and approved internally by other senior executives! Now some senior people actually do review each other’s expense reports as though they were important; others well, not so much. Sometimes very senior people like a Chairman or CEO, by necessity, have lower level executives review their reports. As CFO at one of my public companies, I reviewed and approved my boss’s expenses. But what should be common knowledge to the Executives at large public companies is that Internal Audit will review or spot check all the senior executives‘ expense reports. And every year or so someone gets caught. And usually for something stupid.

Our Senior Corporate Executive’s improper grooming and party expenses turned a spot check into a multi-year full blown review of all expense reports and departmental spending for the person and their staff. The Senior Corporate Executive and a direct report abruptly left the company “to pursue other interests.” This dreaded corporate jargon phrase usually means they were fired and had to go pursue something else.

Perhaps they learned a lesson and went straight on their expenses. But nowadays with less goodies, like country clubs, I doubt it.

The moral here is simple. Everyone in business and life needs a type of “moral compass” to tell themselves what is right versus wrong. You need to develop this when you are young and starting out and, by the time you are a Senior Corporate Executive, you won’t cheat on your expenses!