A Classic Case of Accounting Fraud

In 1967, Equity Funding Life Insurance Company reported sales of $54 million and insurance in force totaling $109 million. By 1972, sales had grown to $1.32 and insurance in force had jumped to $6.5 billion. In the same five-year period, corporate profits increased nearly eightfold. For at least the first nine months of 1972, Equity Funding was ranked among the top ten American life insurance companies. It was the fastest-growing life insurance company in the USA.

In early March 1973, acting on a tip from a former employee, investigators began to look into the company’s activities. By March 27, trading in Equity’s stock was suspended by the New York Stock Exchange. The price of the stock had dropped almost ten points in a week, to less than $15 a share. Shortly, after that, the stock was declared to be of “no value”. Equity’s 7,000 stockholders had lost at least $114 million.

The investigators found that, of the 97,000 policies listed on the books of an Equity Funding subsidiary, approximately 58 percent were nonexistent. Moreover, other insurance companies that had bought these policies as reinsurers had paid millions of dollars for nothing.

Reinsurance or the practice of a company’s issuing an insurance policy to a customer and then selling the policy to another insurance company to acquire cash, is not unusual in the insurance business. What was unusual in the Equity case was that there were no policyholders behind most of the policies. Nearly two-thirds of what the company claimed as its insurance business was based on bogus policies!

The chairman and the president of Equity Funding received an annual salary of $100,000. In addition, in 1972 he was given a stock bonus then worth more than $150,000. He was a respected Los Angeles business leader, who until January 1972 had served as chairman of the business conduct committee of the Los Angeles branch of the National Association of Securities Dealers. He had a home with a gymnasium and tennis courts, a Rolls Royce, and a 35-foot yacht. On November 1, 1973, he and eighteen other executives of Equity Funding were indicted on 105 criminal counts. They were charged with committing felonies that included securities fraud, mail fraud, bank fraud, electronic eavesdropping, and filing false documents with the Securities and Exchange Commission.

At the time, Equity Funding had a highly computerized accounting system that facilitated the mixing of phony policies with genuine policies. However, the hoax could easily have been discovered if the policies on the books had been verified with their supposed owners. Unfortunately, not one auditor for an outside accounting firm ever confirmed a policy directly with a policyholder until after the rumors of fraud began to circulate.

It is not surprising that traditional auditing techniques failed to detect the phony policies. The company’s policies looked valid, and auditors generally tend to believe the computer. In the wake of the Equity Funding scandal, the American Institute of Certified Public Accountants formed a committee to study the techniques used in auditing insurance companies and to determine how they should be changed. One change was to require that auditors obtain policy information directly from policyholders.

Questions

1. Can strict accounting requirements stop fraudulent business practices? What group or groups should develop such requirements? Who should implement them?

2. How might an employee at Equity Funding have discovered the fraud? What would you have done if you were that employee?

MANAGEMENT

“Good management is better than good income”

Portuguese proverb

Learning objectives:

Become aware of what management is

Understand the four basic management resources

Management Resources

Study and Learn the Words:

English	English equivalents	Romanian	Russian
tangible (adj)	that can be touched, having real existence,	material, real, palpabil	ощутительный, осязаемый, реальный
fiber-glass (n)	glass made of plastic	sticlă organică	стекловолокно
assembly line (wc)	production line	linie de producţie	линия производствa
house (v)	to provide or serve as a house for, to store in a house	a găzdui, a adăposti, a depozita	поселять, помещать
day-care center	a medical institution that can provide services for protecting the health	centru de ingrijire a sănătăţii	центр здоровья
incentive (n)	stimulus	stimulent	побудительная причина
perk (n)	thing used to recover one’s spirit, benefit	facilitate, înlesnire	льгота
wholesaler (n)	person who sells in bulk	angrosist	оптовый торговец
check-out counter (n)	cash desk	casă de achitare	касса
tuition (n)	money paid for education	plată pntru învătămînt	плата за обучение
endowment (n)	money given to a college or another institution to provide it with an income	investiţie, dotare	вклад, пожертвование
utility bills	bills used to pay for gas, water, electricity	bonuri de plată pentru serviciile comunale	счета за коммунальные услуги
prop-fan (short for propeller) airliner		avion de pasageri	авиалайнер

Management is the process of coordinating the resources of an organization to achieve the primary goals of the organization. Most organizations make use of four kinds of resources: material, human, financial, and informational.

Material resources are the tangible, physical resources that an organization uses. For example, General Motoros uses steel, glass, and fiber-glass to produce cars and trucks on complex machine-driven assembly lines. Both the assembly lines and the buildings that house them are material resources, as are the actual materials from which vehicles are built. A college or university uses books, classroom buildings, desks and computers to educate students. And the Mayo Clinic uses beds, operating room equipment, and diagnostic machines to provide health care.

Perhaps the most important resources of any organization are its human resources – people. In fact, some firms live by the philosophy that their employees are their most important assets. To keep people happy, a variety of incentives or perks are used, including higher- than-average pay, flexible working hours, recreational facilities, day-care centers, lengthy paid vacations, cafeterias offering inexpensive meals, and generous benefit programs.

Financial resources are the funds that the organization uses to meat its obligations to various creditors. A Safeway store obtains money from customers at the check-out counters and uses a portion of that money to pay the wholesalers from which it buys food. Citicorp, a large New York bank, borrows and lends money. A college obtains money in the form of tuition, income from its endowment, and state and federal grants. It uses the money to pay utility bills, insurance premiums, and professors’ salaries. Each of these transactions involves financial resources.

Finally, many organizations are increasingly finding that they cannot afford to ignore information. External environmental conditions – including the economy, consumer markets, technology, politics, and cultural forces – are all changing so rapidly that an organization that does not adapt will probably not survive. And, to adapt to change, the organization must know what is changing and how it is changing. Companies are finding it increasingly important to gather information about their competitors in today’s business environment. Companies such as Ford Motor Company and General Electric are known to collect information about their competitors. McDonnell Douglas used competitive intelligence to beat Boeing in the development of a new prop-fan airliner.

I. COMPREHENSION

1. Define the term management and name the kinds of resources it uses.

2. Identify the resources the Academy of Economic Studies of Moldova uses, the National Bank of Moldova and the Central Hospital.

3. How do these institutions strive to attract employees and keep them happy?

II. FOCUS ON GRAMMAR

A) Insert prepositions, where necessary:

1. …… fact, some firms live by the philosophy that their employees are their most important assets. 2. And, to adapt …… change, the organization must know what is changing and how it is changing. 3. A college obtains money ……. the form of tuition, income …… its endowment, and state and federal grants. 4. Most organizations make use ….. four kinds of resources: material, human, financial, and informational. 5. A Safeway store obtains money …… customers ….. the check-out counters and uses a portion of that money to pay the wholesalers from which it buys food.

B) Write verbs, nouns and adjectives:

NOUN	ADJECTIVE	VERB
	achievable
information
		to produce
	educational
diagnosis
		to change
	various
		to philosophize
		to recreate

C) Complete the following passages about leadership styles. Fill in the blanks with a, an,the or 0:

___(1) role of ___(2) leadership in ___(3)management is largely determined by ___(4), organizational culture of ___(5) company. It has been argued that ___(6) manager’s beliefs, assumptions and values are of ___(7) critical importance to ___(8) overall style of ___(9) leadership they adopt.

There are several different leadership styles that can be identified within each of ___(10) following management techniques: ___(11) Autocrat ___(12) LAISSEZ-FAIRE Manager ___(13) Democrat ___(14) autocratic leader dominates ___(15) team-members, using ___(16) unilateralism to achieve ___(17) singular objective. Generally, ___(18) authoritarian approach is not ___(19) good way to get ___(20) best performance from ___(21) team. ___(22) Laisser-Faire manager exercises ____(23) little control over his group. ___(24) Laissez-faire technique is usually only appropriate when leading ___(25) team of motivated and skilled people, who have produced ___(26) excellent work in ___(27) past. ___(28) democratic leader makes ___(29) decisions by consulting ___(30) team, whilst still maintaining ___(31) control of ___(32) group. ___(33) good democratic leader encourages ___(34) participation and delegates wisely, but never loses ___(35) sight of ___(36) fact that he bears _____(37) crucial responsibility of ___(38) leadership.

D) Discuss in groups of four what style you would adopt in your future business or relationship with your collegues, husband/wife, children etc.

III. CASE STUDY

“Trust the technology”

Determined to regain his position at the top of the computer industry, Steven Jobs is betting his tarnished reputation and a substantial amount of cash on his new brainchild –the NeXT computer. Jobs is trying to prove that he really can build and manage a successful computer company, although some business analysts maintain that his triumphs as cofounder of Apple Computer, Inc. were mostly a fluke. After losing a power struggle at Apple to his one-time friend John Sculley, Jobs started a company called NeXT, Inc., and, with five formal Apple employees, attempted to build a revolutionary computer. Because of Jobs’ abilities and personality, and some impressive engineers feats, he achieved his objectives.

During the three years it took to develop the NeXT computer, Jobs followed a simple managerial strategy: He demanded devotion, sacrifice, and, most importantly, perfection from his employees. Leaving Apple with a damaged ego and a reputation for throwing tantrums, Jobs used his charm and infectious enthusiasm to recruit the best personnel he could. Despite being extremely demanding at times, Jobs is able to keep morale high at NeXT by providing a work atmosphere teeming with competency and style. One of the first people Jobs hired after he set up headquarters in California was an interior designer. NeXT corporate headquarters and high-tech, automated computer-manufacturing plant are as slick as the NeXT computer itself. From the headquarters’ polished wood floors, white furniture, and exotic juice-stocked refrigerator to the stylish gray and black robots, NeXT employees are surrounded by testimonials to their elite (at least in the eyes of Jobs) standing.

Jobs, a college dropout at 19 and a multimillionaire by 26, claims he is a better manager now then when he was at Apple. Today, in his thirties, he is proud of his new management style. “I think to myself as a pretty good operations person, ” says Jobs. “I am concerned about how things are going to work at NeXT and how to avoid too many layers of management. I don’t sit around in a dark room with a crystal ball. A lot of macro insights come after you’ve spent time on microscopic detail.”

Jobs designed the NeXT computer especially for the academic community. Before product development began, he surveyed faculty members of thirty universities to determine what professors and students wanted in a personal computer. Some computer experts have expressed surprise and skepticism about Jobs’ pursuit of the academic market. The competition from other firms to supply colleges and universities with computers is fierce, and college students might have a difficult time paying the $ 6,500 price (a NeXT laser printer costs an additional $ 2,200). Nevertheless, Jobs is as confident as he ever was. He firmly believes in a slogan he often quotes to his employees: “Trust the technology”.

Questions

1. How would you characterize Steven Jobs’ leadership style?

2. Would you like to work for Jobs? Why or why not?

IV.READING