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Unit 5: Evaluation of Internal Control System

Notes
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Case Study Internal Control Breakdown

eaders of a certain age may associate Haight Ashbury with the peace movement of
the '60s, youthful exuberance and caring nonprofits such as the Free Clinic - not
Rfraud perpetrated by one of its executives. What makes this story even more
disheartening is the fact that the embezzlement occurred at the Haight Ashbury Free
Clinic and could have been avoided if even the simplest of accounts payable best practices
had been observed.

Cause and Effect
According to published reports, what happened at the clinic is typical of the types of
employee fraud that happens day in and day out at many organizations. It was nothing
overly sophisticated and demonstrated how insiders who know the peculiarities of differing
requirements use their knowledge for their own enrichment.
A former CFO of the clinic took advantage his knowledge that requires nonprofits receiving
federal grants to return any unspent money. This money is supposed to go directly to a
federal office. However at the free clinic, authorities claim the CFO created an account at
a Sacramento bank under a name similar to the federal office. For over two years he had
clinic workers return these checks, which he deposited into this account that he actually
owned.

He allegedly set up several accounts with names similar to legitimate vendors. The CFO
had payments intended for these legitimate vendors be sent to his dummy corporations
and later cashed the same checks.

These schemes began in June 2001 and went on for over two years. After the irregularities
were uncovered and investigated, the CFO was fired and the case was turned over to
prosecutors, who miraculously prosecuted and got a conviction. We say miraculously
because white-collar crime is rarely prosecuted. Even more amazing is the fact that he was
convicted. He was sentenced on April 30, 2008 to serve four years in prison, make restitution
and pay back taxes and fines.
Returning checks to anyone besides the intended payee is a break in best-practice
procedures. What happened here demonstrates clearly why returning checks to anyone
but the payee is such a bad practice.
Clearly the process for setting up new vendors was lax at the clinic.
Solution
If one of your employees is determined to steal from you, you probably can't stop them
from trying. But, you can stop them from succeeding. And even if they get away with it
once, you should be able to catch it early on - not two years and $700,000 later. By following
these best practices, financial executives can avoid and prevent most internal fraud:
 Never, ever, return checks to requisitioners.
 Use appropriate segregation of duties including master vendor file responsibilities.

 Limit access to the master vendor file.
 Get W-9s from every new vendor before making the first payment.

Contd....

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