Claims Departments Vulnerable to Vendor Theft Schemes

Unscrupulous vendors and employees in cahoots with them are in every business and the claims industry is no exception.

“…[A]ny business entity or even a non profit entity that engages the service of vendors in the conduct of their business is vulnerable to some kind of a loss, if the employee engages in things with the vendor in a collusion matter to effectively steal money from the employer,” according to Steve Balmer, product manager for crime insurance products for Travelers Bond & Financial Products.

Balmer said his company has identified a growing trend whereby employees are stealing through vendor relationships.

Vendor service companies may resort to fraudulent deals and kick-back schemes with a company’s employees to ensure the business relationship is maintained. This type of an arrangement can damage a company’s bottom line if left unaddressed and business owners should adopt best practices to secure a financial safety net in the event employees are engaging in vendor fraud, he said.

“We insure companies, businesses, government entities, non profits. We insure those kinds of entities for losses they suffer as a result of employee theft. So my observations are based on what we’re seeing in claim trends relative to employees stealing from and causing theft losses to their employers,” Balmer said.

While Travelers’ customer base doesn’t focus on insurance carriers, Balmer admits carrier claims departments are vulnerable.

“I just wanted to explain that from the context of the insurer, and in claims in particular, who might be engaging vendors to perform work for them, the fact that they’re doing that creates some vulnerability because wherever there’s an opportunity for an employee to somehow cause the employer to send out money that the employee can get their hands on, certain employees will exploit that,” he said.

Balmer said there are a number of schemes that an employee can engage in to steal money from an employer. One way is to set up a fictitious company.

“One [scheme] we would refer to as a ghost vendor, that being a vendor who doesn’t exist,” he said. “You give it a real name. You give it a real location, or it could be a made up location. But you give some authenticity to that vendor, and now you authorize payment to that vendor. The employee meanwhile, is on the other end receiving the check because they’ve created a vendor…The check comes in…it’s deposited…That’s one example,” Balmer said.

A former adjuster with the Louisiana Oilfield Contractors Association (LOCA), a self-insured workers’ compensation group, allegedly did just that. As part of his responsibilities, he reviewed cases for possible fraud. If there was suspicious activity, he would hire a private investigation firm. In July 2007, the adjuster created a fictitious private investigation firm, Legal Risk Management Consultants, and used this company to bill LOCA $297,772.09 for phony investigations. He used a portion of the money fraudulently obtained to purchase a local health club. In 2010, he was sentenced to a 46 month prison term and ordered to pay restitution.

Balmer described another more common scenario involving a real vendor.

“That real vendor engages in a collusion effort with the employee, either by perhaps offering the employee a bribe to engage the vendor’s services, in which perhaps the employee authorizes overpayments to the vendor or payments to the vendor for work that isn’t done,” he said.

In this scenario, the vendor can approach the employee and vice versa.

“For example, the vendor might come in to the employee and say, ‘I’m going to increase my bill 15 percent. If you authorize the payment, I’ll kick back 10 percent of that 15 to you,’” he said.

“Or it’s possible the employee could actually initiate that themselves, by going to the vendor and saying, ‘…if you want to do business with us, this is the way it’s going to work,’” said Balmer.

That’s just what happened when three former employees of Tristar and their wives embezzled over $1 million from the third-party administrator of workers’ compensation claims for Los Angeles County.

Christian Ramirez, Hugo Ramirez, Javier Ramirez, Maria Ochohey, Sandra Orozco and Dominique Boudreax pleaded guilty to one count each of claims adjuster fraud and theft by extortion in 2010.

The Ramirez sons worked in Tristar’s claims department as adjusters while their father, Javier, worked as a data entry clerk releasing payments authorized by his sons. The three referred transportation and investigative business to four companies owned by their wives and mother – Transco Transportation, owned by Dominique Boudreaux; Universal Transportation Services, owned by Christian Ramirez; Paramount Transportation, owned by Maria Ochoa; and On-Call Investigations, owned by Sandra Orozco.

These companies would bill Tristar for services not rendered or would subcontract out the services, submit bills higher than the industry standard, and pocket the difference.

Regardless of the type of scheme involved, they can be difficult for businesses to discover, Balmer said.

“If there are not sufficient controls in place, the only way they’re discovered many times is by accident because the employee or the vendor…makes a mistake,” Balmer said. “Perhaps the employee is away on vacation or is not available when a vendor sends in a faulty invoice, and somebody else has to approve it. Then they look into it, and they say, ‘Oh, this doesn’t look right.’ They do some investigation. Next thing you know, they discover that the invoice is inflated in some way. That’s discovered by accident,” he said.

According to Balmer, businesses should be on the lookout for these schemes in order to prevent them.

“The best way is to never have what’s happened in the first place by having some appropriate controls in place, which serve as a deterrent to the employee being able to set up a scheme in the first place,” he said.

Balmer recommended the following controls be put in place to deter employee vendor theft schemes:

• Vendors should be fully reviewed, approved, and vetted by someone other than the employee who is responsible for payment. The decision is not solely in the hands of one individual.
• There should be an approved vendor list that has details of the service that’s being provided by that vendor and the location of the vendor.
• Spot audit checks should be done to ensure the vendor who’s been contracted with is actually doing what they’re contracted for. The audit process should be done by somebody other than the employee who engaged the service or is responsible for the oversight of the vendor.
• There should be documented levels of authority for engaging vendors.
• There should be some sort of purchase order system where vendor payments cannot be made without appropriate documentation and invoices.
• There should be consistent application of controls in place throughout the organization, whether there are multiple locations or not.

Balmer points out that while there may be a vendor scheme in play, an employee may have no role in it.

“Certainly… you could be swindled by a vendor and have no employee theft,” he said.

Balmer has seen trends emerge as a result of the poor economy.

“I would say, over the last seven or eight years, the types of schemes are evolving from the old, more common loss activity from years ago where you had losses caused by people who had direct access to checks,” he said.

It’s not just the employees who are suffering as a result of the economic downturn. Vendors who have seen business slow may resort to these kinds of schemes as well.

“The fact is that vendors who become desperate for business will engage in practices that wouldn’t be either ethical or honest or legal for that matter,” said Balmer.

According to a report on embezzlement published earlier this year, the economy is not the only reason for the increase in employee theft. The report describes a yearning for a grander lifestyle as another reason for the increase. The 2011 Marquet Report on Embezzlement highlighted the following statistics:

• Vermont, Connecticut, Pennsylvania, Montana, Virginia, Iowa and Idaho had the highest embezzlement propensity factor;
• Companies in the financial services industry sustained the greatest losses;
• The average loss was $750,000;
• The average scheme lasted almost 5 years;
• 64 percent of the incidents reported involved females;
• The most common scheme involved forged or unauthorized checks

“In terms of the most effective methods of embezzlement, vendor fraud, which accounts for more than twice its percentage in losses as compared to occurrences, tops the last as it did in last year’s report,” stated Christopher T. Marquet in the report.

Balmer said that while a loss may appear very small at first, added up over time it could be become a considerable sum.

“In general, you could have an employee who receives a very small kickback …but let’s say that transaction is repeated and, perhaps, a certain amount of that kickback is a very small amount, maybe it’s a $1000. But let’s say that that type of transaction is now repeated many times over. In that circumstance even though the employee might have received a very modest kickback, however one defines that, but the amount of overpayment and therefore a loss to the employer could be very substantial,” he said.

“What makes these losses problematic is just that. The amount of money that the thieving employee could actually receive could be very small in relation to the amount of loss that the employer sustains because of overpayments,” Balmer said. “It’s not like the employee might have stolen a million dollars, maybe they were into this kickback scheme and only received a few hundred bucks, the fact is that they were still dishonest.”