THE FRAUD BEHIND THE FLAGS: A chief operating officer hid her multimillion-dollar scheme behind a cost-savings initiative.

AuthorRichards, Bryant
PositionFraud Findings

After Greg Kane was promoted to director of internal audit at State Elder Care Co., a management firm for 54 long-term senior citizen care centers in Florida, his first objective was to refresh the risk assessment process. In his opinion, the previous director was too loose with his approach.

Kane met with department leaders as part of the risk assessment, including Tom Anderson, the director of purchasing. Purchasing was identified as an increasingly high-risk area because of the volume of spending and the absence of an internal audit in the last five years According to Anderson, the department was deeply focused on a cost-savings initiative led by the chief operating officer, Dianna Foster. When asked how the initiative was going, Anderson eagerly expressed how 80% of spending from the 54 centers was consolidated to better leverage purchasing's buying power and reduce expenses and costs.

Kane presented his risk assessment and internal audit plan to the audit committee, which included a review of the purchasing department. Foster resisted the inclusion of purchasing, insisting that the cost-savings initiative was not complete and that an audit would halt improvements. The audit committee agreed to the review primarily based on Kane's insistence that a high-risk area should not be ignored for more than five years.

Internal auditors started the review by testing purchasing controls and performing a high-level analysis of purchasing data, which included looking at overall spending trends by year. They also conducted walk-throughs of purchase order approvals, vendor master file additions, and the bid process. Satisfied with well-documented and performed controls, the auditors chose a sample of 30 purchased items and services and tested them through all purchasing controls. Each test was perfect with three bids for each product, the best bid selected, approvals documented, and authorization levels followed.

When Kane met with his team, one auditor had an unusual comment about one of the samples--the 900 flags purchased the previous year for $150 each for the centers. Having never considered the cost and durability of a flag before, the auditor thought this seemed like a large expense. A quick Google search found that reasonable, quality flags last approximately 90 days and cost around $40. This resulted in a potential overspend of ($150-$40) x (900-200) = $77,000.

Kane double-checked all the workpapers. Everything was in accordance with the...

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