Fraud will flourish until human beings and money are removed from the mechanics of the international economy. In fact, all that separates a determined criminal and a company's cash flow is a control regime developed by imperfect human beings, often operating with insufficient manpower and limited technological assistance. So there's a decent chance that somebody will come up with a way to scam any new system. Indeed, most of the worst frauds ever have played out in the last 20 years, because the prize money is growing and the playing field is expanding.
"The fraud climate has greatly improved over the past few decades," says financial analyst Harry Markopolos, who battled unconvinced U.S. Securities and Exchange Commission (SEC) staffers in Boston and New York when he tried to disclose one of the biggest schemes in recent years. "Unfortunately, it's improved for the fraudsters, not the victims." Internal audit functions are doing their best — and they're sometimes the heroes when crimes are uncovered. But a look back at some of the biggest headline-grabbing scandals of the 21st century confirms his contention that fraud fighting is, increasingly, a 24/7 responsibility.
In 2001, former vice president of corporate development, Sherron Watkins blew the whistle on executives at once-giant energy company Enron Corp. for "inventing revenue and hiding losses via elaborate partnerships with dummy companies," as CBS News reported at the time. Enron went bankrupt, taking down Arthur Andersen, its main audit firm, with it. In all, 21 people pleaded or were found guilty in the $74 billion fraud; charges included insider trading, conspiracy, bank fraud, making false statements to auditors, and securities and wire fraud. Former chair and CEO Kenneth Lay, former CEO and chief operating officer Jeffrey Skilling, and former chief financial officer (CFO) Andy Fastow were among the convicted, but Lay died before serving any time.
Watkins played a key role in exposing the fraud, though it proved an uphill battle and took significant time for the scandal to fully come to light. Evidence that fighting fraud is an increasingly titanic endeavor is evident in the numbers, Markopolos says — the dollar amounts of the damage the criminals do keep going up. "You can see the growing problem by the size of the frauds," he says. "They're becoming increasingly larger decade by decade."
Early in the last decade, former CEO Bernie Ebbers' $180 billion WorldCom fraud included underreporting line costs by capitalizing rather than expensing them and inflating revenues with fake accounting entries. The monumental scheme was discovered by the company's then vice president of internal audit, Cynthia Cooper, who along with Watkins was named one of Time magazine's 2002 Persons of the Year for her efforts. WorldCom went bankrupt and is now part of Verizon Communications.
WorldCom's CFO was fired and the controller resigned. Ebbers was sentenced to 25 years in prison for fraud, conspiracy, and filing false documents with regulators; he's still in jail, despite his widely reported "begging" for a presidential pardon. U.S. Congress passed the Sarbanes-Oxley Act of 2002 just weeks after news of the WorldCom scandal broke.
A few years after Sarbanes-Oxley went into effect, the fraud case Markopolos tried to expose — involving now-80-year-old Bernie Madoff, the former Nasdaq chair who pleaded guilty in 2009 to federal felonies — racked up an estimated $65 billion price tag in the 10 years Markopolos attempted to convince the SEC that something didn't add up. Madoff's charges included securities, investment advisor, mail, and wire fraud; money laundering; perjury; making false filings with the SEC; and theft from an employee benefit plan.
He's still in prison, with an expected release date of 2139. The former head of Bernard L. Madoff Investment Securities LLC forfeited $17 billion before starting the 150-year sentence for running the largest Ponzi scheme in history — basically, investors' returns came from their own money, not from profits. The case, Markopolos points out, is a sad example of the outcome of most financial fraud scandals. "Unfortunately, when it comes to economic crimes," he explains, "usually only the top tier of planners and architects of the scheme end up serving significant prison sentences." In this instance, "no one at Madoff's hundreds of feeder funds was ever prosecuted, just like no bank executives went to jail for the global financial crises from 2007 to 2009."
In 2011, a low-level Olympus Corp. employee blew the whistle on executives concealing $1.5 billion in investment losses. The brand new CEO, Michael Woodford, exposed the scandal; he got fired and Olympus denied everything.
Ultimately, 11 executives were arrested, much of the board resigned, and the company lost 80 percent of its value. But just three got suspended sentences — two for three years, the other for 30 months. Within a couple years the company returned to profit, and its shares recovered most of their losses.
Just three years ago, U.S. officials charged nine executives at the Fédération Internationale de Football Association (FIFA), four sports marketers, and an accused intermediary with racketeering, wire fraud, and money laundering, saying they conspired to solicit and receive $150 million in bribes and kickbacks for rights to televise the quadrennial World Cup and to sway FIFA's decisions on who hosts it. Charles Blazer, former executive committee member, pleaded guilty and forfeited $2 million; he faces a maximum of 10 years in prison. José Hawilla, head of the Traffic Group, a sports marketing conglomerate, and two of his companies, Traffic Sports International Inc. and Traffic Sports USA Inc., also pleaded guilty; he forfeited $151 million. The individuals face maximum terms of 20 years in prison; the corporate defendants face fines of $500,000 and one year of probation.
Since then, the organization has struggled to implement internal reforms — but reminders of the scandal keep surfacing. In 2017, former member Richard Lai pleaded guilty to FIFA-related charges, and this summer, a corporate defendant pleaded guilty to fraud in the case — and paid $25 million in fines and forfeitures.
Little Restitution for Victims
Those fines and forfeitures, unfortunately, rarely make victims whole. For example, in most Ponzi schemes, Markopolos points out, "recoveries range from 20 cents to 50 cents of every initial dollar invested, varying by geographical location, size and type of the scheme, and too many other variables that affect just how much investors will eventually get back." He also notes that it takes a long time to unwind such complex schemes — so when victims finally do receive partial restitution, it's often as much as five to 10 years after the scheme has collapsed.
Indeed, The New York Times reported in April that victims would receive another $504 million from Madoff assets the government seized a decade ago. "With that distribution," the Times reported, "21,000 victims have received more than $1.2 billion." But the theft tally ranged from a conservative $15 billion or so to the widely reported $65 billion; in the better case scenario, in other words, victims haven't yet gotten back 10 percent of their losses. Says Markopolos: "The one constant truth is there are no happy endings for victims."
He blames a regulatory and corporate culture that has its head in the sand, that struggles to take the threat of another shocking scandal seriously, and that gives finance industry titans too much credit for good behavior. Indeed, he famously complained to the SEC for a decade that the Madoff firm's returns weren't mathematically possible, but he was turned away more than once; two SEC executives ultimately resigned, but no one was fired and few were sanctioned. "Investor due diligence on Wall Street is very lax," Markopolos says, and "doesn't come close to The IIA's standards of what a real audit would entail. If financial due diligence professionals would join The IIA and attend chapter meetings, they'd learn enough to be much harder to fool."