Chuck Gallagher – Business Ethics Expert Speaks at United States Coast Guard Academy 20th Annual Ethics Forum

Given the increased complications junior officers face and what was seen as a gradual deterioration in moral and ethical standards of behavior within the government, the class of 1948, at their 40th reunion, felt that the Academy graduates should have the best foundation possible in the humanities, government, integrity, ethics and political judgment.  Furthermore, they felt that Academy graduates must be outstanding citizens, as well as good officers and leaders.

These words reprinted with minor modification are part of the program for the 20th Annual Coast Guard Academy Ethics Forum.

In 1989, the Class of ’48 established an endowment fund, now supplemented by the Class of ’57, “To provide a source of investment income to stimulate and enrich the training of the Corp of Cadets in good citizenship and ethics.”

As a business ethics speaker with strong ties to University and higher education presentations in ethics, I was honored to accept the invitation to speak to the United States Coast Guard Academy for their ethics forum.  Knowing that every choice has a consequence, I feel that it is part of my calling to remind, if not impress, on the minds of young adults the critical importance of understanding that consequences always follow choices made.

While many people cannot imagine making choices in life that can lead to disastrous consequences, the reality is we all are vulnerable to temptation and as soon as we say it will never happen to me, the likelihood is that a test of integrity or ethical decision making is headed your way.  Many of the cadets attending seemed to get the message, knowing that they are being groomed to be responsible for lives of US citizens and property of the US Government.

Prior to my presentation, many exceptional people (speakers and presenters) were assembled to make this 20th annual event memorable and effective for the participants.  A keynote presentation, made on opening night by Rear admiral William F. Merlin, was a highlight and set the tone for the event for the cadets.  Rear admiral Merlin spoke of (1) greed and (2) hubris – as the foundation of unethical behavior.  As I listened to his comments, I had to apply them to my own personal story, which I openly shared with the cadets in my presentations today.  While I didn’t start my venture into unethical behavior with greed in mind, I honestly must say that “greed” took over and “hubris” became the word of the day.  I was, self defined, as the smartest man in the room and felt that somehow the rules didn’t apply to me.

Wrong.  The rules do apply to me and to everyone else.  In fact the one rule that sticks out now most is the rule – you reap what you sow.  That’s true.  I did.  Prison following bad choices was the consequences of my sowing – so to speak.

Rear admiral Merlin completed his comments with one more word – humility.  Again, his words spoke directly to me.  When the illusion I had created was dissipated – the bubble burst so to speak – I was faced with the daunting task of telling my wife, family, business partners and friends that I was no more than a liar and thief.   There is nothing more humbling than speaking the truth and knowing that the illusion of success was gone.  Yet, as difficult as it was to communicate that truth, it was also freeing.  Unencumbered by illusion, I was able to make new empowering choices that (like all choices) would have a profound consequence – only this time in a positive manner.

Perhaps, though I may never know the impact, the words spoken in my presentations and those of others – may – just may – have an impact that is positive.

As I closed by thoughts I stated the following:

Before I took those 23 steps into prison – I thought I made good choices.  After I became 11642.058 (my prison number), I understood that every choice has a consequence.  If you want positive results in life you must build a foundation of good choices.

Before I took those 23 steps – I lived life as an illusion.  After I became 11642-058, I came to know that truth is freeing and though painful at times will always support a foundation of trust which is the backbone of all relationships.

Before I took those 23 steps – I thought I was successful.  After I became 11642-058, I came to understand that success has nothing to do with the things we amass, but rather success in life is defined by the impact we have on those we come in contact with.

Make wise choices – look past life’s illusions and claim your success by making a difference in the lives of those come in contact with.  As future leaders, we, the people, are placing our trust in you!

As a side note, the US Coast Guard Academy is listed as one of the top schools in 2009.  Congratulations.

Dumb but Premeditated Fraud – Stephanie L. Mayer of Simpsonville, SC Pleads Guilty

As I leave Pittsburgh, PA from a speaking engagement on ethics and fraud, I couldn’t help but stop when I read about a 38 year old Simpsonville, SC woman and her attempt at fraud.  A “Bernie Madoff” she isn’t as her fraud lacked creativity and ended quickly.

Every choice has a consequence.  That is a statement that I speak often as I address groups nationwide.  Whether it is Bernie Madoff, his accountant (now charged with fraud), Robert Stanford, Gordon Grigg or a host of others, the reality is whether the fraud lasts for some time or is short lived – in the case of Stephanie L. Mayer – there is a consequence for choices that we make.  If those choices are unethical, then the consequences can’t be good.

According to the US Attorney’s office:

In February 2008, Meyer opened accounts at four brokerage firms including the ultimate victims, The Vanguard Group and Ameriprise Financial.  Meyer then deposited worthless checks into the accounts, which resulted in fictitious or “phantom” balances.  Meyer then withdrew $175,000 from the credited Vanguard account and $130,000 from the Ameriprise account before the fraud was detected.

Without intending to sound judgmental, the “real impact” of the current recession wasn’t felt till late summer ’08 or certainly the fall ’08.  Therefore, the question is – what motivated Mayer to take such radical action.  She had to know that passing worthless checks to set up brokerage accounts was a venture that had a short life.

Of course – as reported in the Greenville News – “Until June 2008, Meyer deposited $5.4 million in checks spread across the firms from bank accounts that didn’t have sufficient funds to cover the checks, according to the charges.  She also pleaded guilty to mail fraud charges for mailings to Minnesota and Pennsylvania, according to the charges.”

BACKGROUND OF A FRAUD:

Frauds, regardless of type, need three things in order to take life – (1) Need; (2) Opportunity and (3) Rationalization.  The question related to the Mayer fraud is what was her (1) need and (2) rationalization?  The obvious opportunity was the method of execution of the fraud – which was amateurish and dumb.  How Mayer effected her fraud shows her lack of experience and hopefully will be taken into account in her pre-sentence report.

Her guilty plea could result in a penalty of up to 20 years in prison and a fine of up to $250,000.00 on each of the two counts to which she pled guilty.  While, I would suspect that Stephanie L. Mayer is an amateur fraudster, in the current environment, I would not be surprised if she received a prison sentence of well over three years.

If you know Stephanie and might comment on her motivation – please know that YOUR COMMENTS ARE WELCOME.

David G. Friehling, CPA for Bernie Madoff Investment Securities Charged with Fraud! And The Dominios Begin To Fall…

With a $65 Billion Ponzi scheme in play and Bernie Madoff electing to plead guilty, it is no great surprise that others will being to fall as the government widens the responsibility net for the largest Ponzi scheme in US history.

I must admit this hits home and was something I expected.  Although I wish I could say something different, I, too, was a CPA, created a Ponzi scheme and spent time in Federal prison.  It is no fun.  And, without a doubt, Friehling will spend time there himself – although my guess – his sentence will much longer than mine.

Yesterday, David G. Friehling, CPA (licensed in the State of New York) was charged with securities fraud, aiding and abetting investment adviser fraud, and  four counts of filing false audit reports with theExchange Commission (“SEC”).   Friehling is the sole practitioner at Friehling & Horowitz, CPAs, P.C. in New York.  As a point of reference, Friehling was the son-in-law of Jerome Horowitz (his former accounting partner) who didn’t live to see it all unravel.  He dided on March 12, the day Madoff plead guilty.

According to a news release issued by the US Attorney’s office:

From 1991 through 2008, F&H was the accounting firm retained by BLMIS (Bernie L. Madoff Investment Securities) purportedly to audit BLMIS’s financial statements. FRIEHLING created BLMIS’s certified and purportedly audited financial statements, including balance sheets, statements of income, statements of cash flows, and reports on internal control. FRIEHLING falsely certified that he had prepared such statements in accordance with Generally Accepted Auditing Standards (“GAAS”) and in conformity with Generally Accepted Accounting Principles (“GAAP”). Those financial  statements were filed with the SEC and sent to clients of BLMIS.   BLMIS paid FRIEHLING approximately $12,000 to $14,500 per month for his services between 2004 and 2007.

Sorry, but before going any further, one must question the payment.  $14,500 a month is a small price to pay for disgusing a fraud considering that Friehling will be facing certain loss of his license and a lot of time in Federal Prison.  But, there is more…  the news release goes on to say:

FRIEHLING failed to conduct audits that complied with GAAS and GAAP by, among other things, failing to: (a) conduct independent verification of BLMIS assets; (b) review material sources of BLMIS revenue, including commissions; (c) examine a bank account through which billions of dollars of BLMIS client funds flowed; (d) verify liabilities related to BLMIS client accounts; or (e) verify the purchase and custody of securities by BLMIS. FRIEHLING also failed to test internal controls as required under GAAP and GAAS standards. For example, FRIEHLING did not take any steps to test internal controls over areas such as BLMIS’s redemption of client funds, the payment of invoices for corporate expenses, or the purchase of securities by BLMIS on behalf of its clients. Further, commencing at least as far back as 1995, FRIEHLING did not maintain professional independence from his audit client, BLMIS.   Specifically, FRIEHLING and/or his wife had an account at BLMIS with a year-end net equity of more than $500,000 — the maximum amount that, under SEC rules, he could have invested with a broker-dealer client and still maintain his independence.

According to the SEC’s complaint, Friehling similarly did not conduct any audit procedures with respect to BMIS internal controls, and had no basis to represent that BMIS had no material inadequacies. Afraid that his work for BMIS would be subject to peer review, as required of accountants who conduct audits, Friehling lied to the American Institute of Certified Public Accountants for years and denied that he conducted any audit work.

Articles in Forbes stated the following:

“Friehling essentially sold his license to Madoff for more than 17 years while Madoff’s Ponzi scheme went undetected,” said James Clarkson, acting director of the SEC’s New York Regional Office. “For all those years, Friehling deceived investors and regulators by declaring that Madoff’s enterprise had a clean audit record.”

Madoff has said his business didn’t become a Ponzi scheme until the early 1990s, around the time that Horowitz retired and Friehling took over. He was not accused of wrongdoing in the court complaint.

Numerous reports claim that Friehling and family had $14 million invested with Madoff two months before his confession to the largest financial fraud in US history.  Since 2000, Friehling withdrew about $5.5 million from those accounts, the SEC stated.

WHERE FROM HERE?

Bernie Madoff, while perhaps brilliant (in his own way) is not capable – in my opinion – of pulling off a fraud of this magnitude without help.  I am not suggesting that Friehling knew about the Ponzi scheme (he says he didn’t), but it is likely that he’ll be found guilty on most of the charges as there is no doubt that he’s (at a minimum) negligent.  Selling his license for money seems very clear.

But, from these headlines, I suspect there will be a demand for more “accountability” for audited financial statements and regulations placed on compliant CPA’s.  That is not the answer.  I have stated before and will again, you cannot legislate or regulate ethics or morality.  If a person elects to be dishonest…they will be dishonest regardless of the rules in place.

Friehling was a puppet for Bernard Madoff.  Most people (although most will deny it) have a price.  It appears that Friehling’s price wasn’t all that much.  Comfortable yes – rich no!  And knowing that his reputation is ruined, his license all but gone and many many years in prison facing him, I know that Friehling wishes he’d never met Bernie Madoff.  Hind sight is 20/20 and there is no doubt with all that is facing this CPA – Friehling is just beginning to face the consequences of his choices.

Every choice has a consequence!

My prediction – Friehling isn’t the only pawn is this massive fraud to fall.  There will be others so stay tuned…

FRIEHLING, 49, faces a statutory maximum sentence of 105 years in prison.

YOUR COMMENTS WELCOME!

AIG Bonuses – Now Is Not The Time For Irresponsible Rhetoric Senator Grassley

How many adjectives can we use to describe the feelings associated with the news that AIG paid $165 million in bonuses when the Federal Government spend over $170 Billion – yes, that is Billion, in bail out money to save the ailing giant?

There is outrage and many in government leadership are expressing their opinions about how they feel about the audicity of AIG to effect those payments.  That said, it is also important to make sure that leadership on both sides of the isle don’t get carried away with their comments.

CNN reported the following comments:

Republican Sen. Charles Grassley of Iowa didn’t appear to be joking, however, when he spoke with Cedar Rapids, Iowa, radio station WMT.

“I would suggest the first thing that would make me feel a little better toward them [AIG executives] is if they follow the Japanese example and come before the American people and take that deep bow and say, ‘I am sorry,’ and then either do one of two things: resign or go commit suicide,” he said.

“And in the case of the Japanese, they usually commit suicide.”

Now I know that emotions are high, but come on Senator Grassley – that is political rhetoric and frankly is uncalled for.  I can’t believe for a minute that Grassley would, in fact, want anyone to commit suicide.  After all – we are talking about money and money can be replaced – human life can’t.

Perhaps as the night wears on cooler heads will prevail.  The right and ethical thing to do is reconsider how and when bonuses should be paid to a company that – but for the help of the taxpayers – would be bankrupt and out of business.  Further, more – this whole scenario should serve as a less for other businesses that line up to receive their bailout money.

Bonuses should be paid for outstanding performance.  When performance is lacking and, in fact, when a company faces the very real possibility of not continuing, then different choices should be made.  As a business ethics speaker, I understand Grassley’s frustration, but would hope that he would be more careful with his words.   Now is the time for level headed leadership, not sound bites spoken to garner media attention.

YOUR COMMENTS ARE WELCOME!

AIG Bonuses – Ethical or Insane? Business Ethics Speaker Chuck Gallagher Comments…

I want to make this clear – I am pro business!  I think that free enterprise is the life blood of our economic system and I fully support people making lots of money.  But, I have to question whether the payment of upwards of $165 million in bonuses to AIG employees is ethical or just insane?

QUESTION ONE:

The arguement in favor of AIG paying the bonuses is that the contracts that generated the bonuses were established before the economic meltdown and before AIG accepted government bailout money.  Employees who work(ed) for AIG therefore should be entitled to payment under the terms of their contract for services performed.

• Do you agree?
• Does the company have an ethical or moral obligation to pay regardless of circumstances?

QUESTION TWO:

AIG has accepted, according to published reports, upwards of $170 BILLION of government bailout money.  Sorry for the editoral content, but that is quite amazing by any standard that I could consider.  Nothing like that has happened in my lifetime and I’m over a half century in years.  So – here are some questions to consider:

• Should AIG be forced to void pre-existing employment and bonus contracts if they accept government bailout money?
• Should bonuses be paid?
• What basis or grounds for payment or nonpayment make sense for AIG?

QUESTION THREE:

If a homebuilder constructs a home and finds that he/she cannot sell it for the asking price and, in fact, finds that the market for his product is below the construction loan – what happens?  Most of the time, the bank will foreclose and the sub-contractors, who have mechanic leins against the property, lose their time and receivable.  In other words, they lose because circumstances have changed.

• Is AIG in the same circumstance?
• Should the employment compensation contracts be treated similar to a mechanics lien – void through forclosure?
• Is the government’s bailout of AIG in effect a forclosure to avoid bankrupcy?
• Is there any reason that AIG should be treated differently than other small businesses that are unable to honor their commitments today?

FINAL THOUGHTS:

The definition of business ethics is, in business situations, the discipline dealing with what is good and bad and with a moral duty and obligation.  The question for AIG is – what is the ethical thing to do?  As a business ethics speaker, there is no right or wrong answer to most situations, it rather is a function of doing the right thing considering all the facts and circumstances.  My opinion – the moral duty and obligation in this situation is to void the employment bonus contracts and accept that were it not for the taxpayers, AIG would not be in business!

Now is the time for AIG and any organization that accpets bailout money to make the tough decisions that honor the trust that the federal government and taxpayers have given them.  Look to Lee Iacocca’s example – when the government bailed out Chrysler, he took $1 as his compensation.  Perhaps the folks at AIG should take note.  One thing is for sure they are not winning friends and influencing people – at least not positively.

YOUR COMMENTS WELCOME!

Bernie Madoff – The Human Tragedy. Is Compassion Possible?

At the end of the movie – Saving Private Ryan – Ryan, as an old man speaks these words to his wife who walks up to his side:

“Tell me I’ve have led a good life.  Tell me I’m a good man.”

I must say that, although I’ve seen that movie many times, I am always brought to tears.  I am touched knowing that others come into our lives for a reason and, through their efforts, we find that our lives are shaped.  In Ryan’s case, his concern was living up to the sacrifice made for him and on his behalf.  Ryan wanted to know if the life he lived and the legacy he left was worth the price.

As the movie ended, I could not help but feel sadness for the tragedy that came to light some four months ago when Bernie Madoff admitted that his work wa nothing but a ponzi scheme.  As those words were spoken – lives were changed and, at least for now, not for the better.  The reality of lost investments came to light, financial futures were changed and Madoff’s legacy was forever etched in history.

THE HUMAN TRAGEDY:

From the standpoint of those who were victimized the loss is great.  But the tragedy goes much deeper than lost money.  I do not wish to minimize the loss of treasure, but it is – afterall – just money.  Money can be made and often is lost.  The question is how do we react to that loss?

I heard one of Madoff’s victims on a radio clip Thursday the day Madoff was sentenced.  She said, “My life is over…”  I cringed when I heard her comments.  I, too, (admittedly for different reasons) lost everything material.  I know the feeling of loss and despair, but LIFE IS NOT OVER.  In fact, while life will most certainly change, she still has her freedom and the ability to make choices to improve her life.

One part of the human tragedy is the natural feeling of anger that lost trust naturally brings.  That anger and the negative emotion that is a part of what we hear about Madoff does little to promote joy and healing.  Perhaps over time that will come.

There is grief over loss.  In this case the loss is not only the obvious – the investments that didn’t exist, but the grief over loss is the trust that forever is gone.  Many people have come to learn the pain of betrayed trust, and that is hard to heal from.  As I have talked with victims from other similar scams, many have said that they have a hard time trusting anyone.

MADOFF’S LEGACY:

Beyond the victims, I have to say that I feel for Madoff.  I do not condone his actions – they are abhorent.  But, I feel for the man.  Imagine for a moment the feeling inside as Madoff once again crawls into his prison bed.  As a child, as a teen as a young man, never would he have imagined that the end of his life would be spent in prison.  In his early years he was able to use his intellect to benefit others and himself.  Madoff is not dumb and certainly has a vast compentency.  Unfortunately, he elected to miguide his brilliance.

Again, at the risk of offending his victims, I do not express my feelings for Madoff in support of his actions.  He has earned every night he spends in prison.  The empathetic feelings I have are for him as a human being.  How tragic that his actions have not only hurt those whom he was entrusted with investments, but his actions have harmed his family and others closely connected to him.

As a human being, it is difficult to find your life relegated to the structure and environment of prison.  Here’s a man who has a brilliant mind, who now will wake at 6ish each day, eat prison food at designated times and eat only what is offered.  He will eventually be assigned a location which will likely be a medium to minimum security facility.  It is NOT “Club Fed” – the days are filled with counts, structure and work.  You quickly lose the feeling for the outside world as contact is kept to a minimum and while you may read the newspaper, you find that reading or TV is no replacement for contact that free people have with each other.

As time goes on as he languishes away in prison, those close to him will die – but, he’ll find himself disconnected.  He will have gone from high flying financier to just another inmate.  He will withdraw for his own protection finding that the culture in federal prison is something foreign to him.  He will hear and learn things that will repulse him and there will be those who will leach on to him hoping to make him their prey.  Perhaps, they might think, “If I can threaten or endanger him, I might get some money for my family on the outside.”  He may become a target or he may just fade into oblivion.

For a time, he will continue to have notoriety as the federal government seeks to unravel the true scope of his actions.  Did his wife and/or children know?  Were they involved?  Was his accounting firm in the know or where they just incompetent?  How was he able to maintain the grandeur of his illusion for so long?  These questions and many more will arise – but all the while, the human tragedy is that someone – Bernie Madoff – through his choices is ending his life sitting in a prison cell.

Beyond Madoff – for a moment – imagine being one of his children, grandchildren or greatgrandchildren – the name Madoff is tainted.  He will be remembered for his crime – for the effect he had on the lives of thousands who trusted him – for his last days spent in prison.  If you were a grandchild – think of what happens when you enter college and for the first time the teach calls the role.  When they get to your name and say “Madoff” – think of the looks you’ll get when folks quickly begin to wonder – “is he connected to that guy”?   Their lives have been changed forever as well – and not by their doing.

Charles Ponzi created this scheme.  The name “Ponzi” is forever associated with something negative – just like the name Hitler.  As we live our lives today, the same is true with “Madoff” – his name has been etched in history never to be associated with positive thougths.

FINAL THOUGTHS:

As a business ethics and fraud prevention speaker, I know what it must be like for Madoff – this his first weekend in prison.  While I wish I could say otherwise, I know because I’ve been there.   I earned my time there.  It was no fun, but punishment is a consequence of choices.  My choices led me to prison, and Madoff’s have led him there as well.

Perhaps, when the dust settles, we can all take a moment and, like Private Ryan from the movie, ask “have I led a good life?”  I pray when my life ends that I’ll be able to look back and see a life well lived.  I wonder though for Madoff if it is possible for people to find compassion while at the same time accepting that his life is prison is a clear consequence for the choices he made?

YOUR COMMENTS ARE WELCOME!

Bernie Madoff – Text of Court Statement

Your Honor, for many years up until my arrest on December 11, 2008, I operated a Ponzi scheme through the investment advisory side of my business, Bernard L. Madoff Securities LLC, which was located here in Manhattan, New York at 885 Third Avenue. I am actually grateful for this first opportunity to publicly speak about my crimes, for which I am so deeply sorry and ashamed. As I engaged in my fraud, I knew what I was doing was wrong, indeed criminal. When I began the Ponzi scheme I believed it would end shortly and I would be able to extricate myself and my clients from the scheme. However, this proved difficult, and ultimately impossible, and as the years went by I realized that my arrest and this day would inevitably come. I am painfully aware that I have deeply hurt many, many people, including the members of my family, my closest friends, business associates and the thousands of clients who gave me their money. I cannot adequately express how sorry I am for what I have done. I am here today to accept responsibility for my crimes by pleading guilty and, with this plea allocution, explain the means by which I carried out and concealed my fraud.

The essence of my scheme was that I represented to clients and prospective clients who wished to open investment advisory and individual trading accounts with me that I would invest their money in shares of common stock, options and other securities of large well-known corporations, and upon request, would return to them their profits and principal. Those representations were false because for many years up and until I was arrested on December 11, 2008, I never invested those funds in the securities, as I had promised. Instead, those funds were deposited in a bank account at Chase Manhattan Bank. When clients wished to receive the profits they believed they had earned with me or to redeem their principal, I used the money in the Chase Manhattan bank account that belonged to them or other clients to pay the requested funds. The victims of my scheme included individuals, charitable organizations, trusts, pension funds and hedge funds. Among other means, I obtained their funds through interstate wire transfers they sent from financial institutions located outside New York State to the bank account of my investment advisory business, located here in Manhattan, New York and through mailings delivered by the United States Postal Service and private interstate carriers to my firm here in Manhattan.

I want to emphasize today that while my investment advisory business — the vehicle of my wrongdoing — was part of my firm Bernard L. Madoff Securities, the other businesses my firm engaged in, proprietary trading and market making, were legitimate, profitable and successful in all respects. Those businesses were managed by my brother and two sons.

To the best of my recollection, my fraud began in the early 1990s. At that time, the country was in a recession and this posed a problem for investments in the securities markets. Nevertheless, I had received investment commitments from certain institutional clients and understood that those clients, like all professional investors, expected to see their investments out-perform the market. While I never promised a specific rate of return to any client, I felt compelled to satisfy my clients’ expectations, at any cost. I therefore claimed that I employed an investment strategy I had developed, called a “split strike conversion strategy,” to falsely give the appearance to clients that I had achieved the results I believed they expected.

Through the split-strike conversion strategy, I promised to clients and prospective clients that client funds would be invested in a basket of common stocks within the Standard & Poor’s 100 Index, a collection of the 100 largest publicly traded companies in terms of their market capitalization. I promised that I would select a basket of stocks that would closely mimic the price movements of the Standard & Poor’s 100 Index. I promised that I would opportunistically time these purchases and would be out of the market intermittently, investing client funds during these periods in United States Government-issued securities such as United States Treasury bills. In addition, I promised that as part of the split strike conversion strategy, I would hedge the investments I made in the basket of common stocks by using client funds to buy and sell option contracts related to those stocks, thereby limiting potential client losses caused by unpredictable changes in stock prices. In fact, I never made the investments I promised clients, who believed they were invested with me in the split strike conversion strategy.

To conceal my fraud, I misrepresented to clients, employees and others, that I purchased securities for clients in overseas markets. Indeed, when the United States Securities and Exchange Commission asked me to testify as part of an investigation they were conducting about my investment advisory business, I knowingly gave false testimony under oath to the staff of the SEC on May 19, 2006 that I executed trades of common stock on behalf of my investment advisory clients and that I purchased and sold the equities that were part of my investment strategy in European markets. In that session with the SEC, which took place here in Manhattan, New York, I also knowingly gave false testimony under oath that I had executed options contracts on behalf of my investment advisory clients and that my firm had custody of the assets managed on behalf of my investment advisory clients.

To further cover-up the fact that I had not executed trades on behalf of my investment advisory clients, I knowingly caused false trading confirmations and client account statements that reflected the bogus transactions and positions to be created and sent to clients purportedly involved in the split strike conversion strategy, as well as other individual clients I defrauded who believed they had invested in securities through me. The clients receiving trade confirmations and account statements had no way of knowing by reviewing these documents that I had never engaged in the transactions represented on the statements and confirmations. I knew those false confirmations and account statements would be and were sent to clients through the U.S. mails from my office here in Manhattan.

Another way that I concealed my fraud was through the filing of false and misleading certified audit reports and financial statements with the SEC. I knew that these audit reports and financial statements were false and that they would also be sent to clients. These reports, which were prepared here in the Southern District of New York, among things, falsely reflected my firm’s liabilities as a result of my intentional failure to purchase securities on behalf of my advisory clients.

Similarly, when I recently caused my firm in 2006 to register as an investment advisor with the SEC, I subsequently filed with the SEC a document called a Form ADV Uniform Application for Investment Adviser Registration. On this form, I intentionally and falsely certified under penalty of perjury that Bernard L. Madoff Investment and Securities had custody of my advisory clients’ securities. That was not true and I knew it when I completed and filed the form with the SEC, which I did from my office on the 17th floor of 855 Third Avenue, here in Manhattan.

In more recent years, I used yet another method to conceal my fraud. I wired money between the United States and the United Kingdom to make it appear as though there were actual securities transactions executed on behalf of my investment advisory clients. Specifically, I had money transferred from the U.S. bank account of my investment advisory business to the London bank account of Madoff Securities International Ltd., a United Kingdom corporation that was an affiliate of my business in New York. Madoff Securities International Ltd. was principally engaged in proprietary trading and was a legitimate, honestly run and operated business.

Nevertheless, to support my false claim that I purchased and sold securities for my investment advisory clients in European markets, I caused money from the bank account of my fraudulent advisory business, located here in Manhattan, to be wire transferred to the London bank account of Madoff Securities International Limited.

There were also times in recent years when I had money, which had originated in the New York Chase Manhattan bank account of my investment advisory business, transferred from the London bank account of Madoff Securities International Ltd. to the Bank of New York operating bank account of my firm’s legitimate proprietary and market making business. That Bank of New York account was located in New York. I did this as a way of ensuring that the expenses associated with the operation of the fraudulent investment advisory business would not be paid from the operations of the legitimate proprietary trading and market making businesses.

In connection with the purported trades, I caused the fraudulent investment advisory side of my business to charge the investment advisory clients $0.04 per share as a commission. At times in the last few years, these commissions were transferred from Chase Manhattan bank account of the fraudulent investment advisory side of my firm to the account at the Bank of New York, which was the operating account for the legitimate side of Bernard L. Madoff Investment Securities — the proprietary trading and market making side of my firm. I did this to ensure that the expenses associated with the operation of my fraudulent investment advisory business would not be paid from the operations of the legitimate proprietary trading and market making businesses. It is my belief that the salaries and bonuses of the personnel involved in the operation of the legitimate side of Bernard L. Madoff Investment Securities were funded by the operations of the firm’s successful proprietary trading and market making businesses.

Your Honor, I hope I have conveyed with some particularity in my own words, the crimes I committed and the means by which I committed them. Thank you.

Bernie Madoff in Jail! It’s Not “Club Fed” I Know – I’ve Been There…

There was cheering from the crowd when Madoff was immediately taken to jail.  Emotions are running high and will do so for years to come.   But this is not a joyous day.  Many victims lives have been radically transformed by the financial crime Madoff effected.  Likewise, Madoff’s life as he knew it is over.  Leaving the comfort of normal life to go to prison is a radically different experience as well.

I know – regretably I have been there for exactly the same crime Madoff plead guilty to today.

Every choice has a consequence.  Many were victimized by Madoff et al and both the victims and Madoff, himself, are facing the consequences of choices made.

Madoff made the following comments in court today.

“I operated a Ponzi scheme.  I thought it would end quickly, but it proved impossible.  I am ashamed for these criminal acts. I always knew this day would come.”

I was asked today on CBS radio – KRLD – by Ernie and Jay about the mentality of how something like this could happen.  Is it possible that Madoff just was out to steal from folks?  The answer is simply – NO.

While I don’t personally know Bernie Madoff, I know the thought process that ends in federal prison.  Madoff is a smart man.  In fact, I would say that he was brilliant in his ability to effect such a scheme successfully for so long.  That is rather amazing.  But, for a time, I suspect when he first got started, Madoff was legitimate.

To effect a fraud like this, there must be three components: (1) need; (2) opportunity and (3) rationalization.  My best guess is that Madoff had two needs that came together when he began this in the early 90′s – (a) emotional need – he would not admit that he was faliable; and (b) money – in that he likely lost money and was unwilling to admit that fact.  Hence, he entered into the second  part of creating such a fraud – he took advantage of his name and notariety to gain more money – more investors or more victims.

CNN reported: Madoff admitted that he never invested his clients’ money, and that he deposited the funds into a “Chase Manhattan” bank.

At that point, Madoff crossed the line of investing and became an outright fraud.  Amazingly, instead of continuing to invest clients money hoping for the big win, Madoff just deposited the money in the bank.  Of all revelations, that was the most amazing.  Effectively he just gave up, committed the crime and waiting until the house of cards fell.

TONIGHT FOR MADOFF:

As I type this I can speak first hand from experience, Madoff just entered a phase of life that is totally foreign and for which he is unprepared.  Likely, as he was removed from the court room, he went to processing where he removed his clothing and was issued prison issue clothing.  It is doubtful that he was allowed to keep much other than one set of “street” clothes that might be used for limited visiting privileges or meetings with legal counsel, etc.  He would have likely been handed his bed linens and escourted to his holding cell.   Unless because of his age he was assigned a lower bunk, he would be given the upper bunk as those with more time in the facility get the privilege of lower.  His meals would be a step above a Swanson’s TV dinner – maybe – and the routine is strict.

Counted multiple times per day, Madoff will soon find that he’s no more than anyone else incarcerated, an inmate.  Inmates will likely acknowledge him, but not consider him any more than they.  In fact, it is likely that many will avoid him fearing that what they might say to him will be used against them (they fear he’d become a snitch) in order to gain favor with the judge for a lighter sentence.

Tonight will be one of the longest nights of Madoff’s life.  He will wonder to himself – time and time again – what he has done and why.  Those thoughts will haunt him for the rest of his life, which from a free man’s perspective, has ended.

THE VICTIMS:

Now here’s where I should stop, but for whatever reason, I can’t.  I understand the anger, and desire for revenge that many feel.  It is natural as your trust has been violated.  This is no different than feeling that one has when a marriage ends with the distrust created by adultery.

Many would say that I am the least to offer advice.  Perhaps that is true, but I’m going to try.  First, from a practical perspective seek the legal help you need to recover what you can.  Know that there are possible sources for some recovery including the application of IRC Section 165(c)(2).  I am not an expert in that area, but I have a guest blog from someone who is.  Go there it might be helpful.

Beyond the legal recourse against Madoff and those involved – and I suspect that others will fall from this as well, may I say – with respect – put your loss into perspective.  We come into this world with nothing and leave that way as well.  Money – security – certainly are important, but it is afterall only material.  The longer one harbors anger or hate, the worse life becomes.  Finding the ability to recognize that Madoff will suffer and reap the consequences of his choices is significant.

Your life has changed – so has his.  No one walks away from this feeling good or whole.  The ultimate outcome, however, for you and your well being will, in large part, be a function of your ability to forgive.

IN THE LONG RUN:

Having been there, I know the pain of prison.  Some learn from their experience and others never get it.  In Madoff’s case we may never know what the true effect of his life changing experience will bring.  In my case, prison was life changing.  While I am thrilled with freedom, I understand that my time there changed my life and gave me an opportuity to do something positive today that, in fact, helps others.

Sometimes you can actually get lemonade from lemons!

As always – COMMENTS ARE WELCOME.

HERE is what Madoff read to the court.

Bernie Madoff Will Plead Guilty! Fraud Prevention Expert Chuck Gallagher Speaks Out

In what will likely become the biggest investment fraud in US history, Bernie Madoff is set to enter a plea of guilty at a US District Court in Manhattan on Thursday.    According to Assistant U.S. Attorneys Marc Litt and Lisa Baroni a plea hearing is scheduled for March 12, 2009.

According to a CNN report:

Madoff’s attorneys Ira Sorkin and Daniel Horowitz confirmed to CNN that Madoff is waiving his right to a grand jury indictment and that there have been ongoing negotiations regarding a possible settlement.

“We obviously have talked to the government,” said Horowitz. “And we have been professional with each other.” The U.S. attorney’s office in Manhattan had no comment.

Frankly, it would make sense that Madoff would enter a plea.  Anything beyond that would likely result in a sentence or punishment that would be less favorable to Madoff.  Let me, however, say, I don’t think the punishment will be anything to laugh at.  Madoff’s alleged crime is substantial enough that it will earn him many years in federal prison.  Based on his age, I have stated on more than one ocassion that Madoff may never see freedom again.  But, that is just speculation.

PERSPECTIVE:

As many of my readers know, I have been through what Madoff is facing now.  Here’s a reality check – if you fight the federal government, you will likely end up with a substantially longer sentence.  The government (for the most part) will do whatever is necessary to gain a “win”!  The governments role is not to make the victims whole or even to discover who or how many people have been victimized.  The role of the government is to bring those who break the law to justice.  And the easier you make it for them to “win” the more likely one is to receive a moderate to light sentence.

Now, having said that, I also know that there are victims who get angry when they discover that the government doesn’t really care about their loss or their plight.  If a victim can help the government win, then the government is interested.  But, when the US Attorney has sufficient evidence to win or gets an admission of guilt on a plea agreement (which is exactly what Madoff – through his attorneys – will enter on Thursday) they are done.  The rest of victims claim will come in other legal suits that will be brought against a multitude of organizations.

In Madoff’s case – gaining a guilty plea should be easy since Madoff basically admitted guilty publically.  CNN reported:

It was “basically, a giant Ponzi scheme,” Madoff said, according to the government’s criminal complaint. “There is no innocent explanation,” Madoff told two FBI agents, according to the complaint, which states Madoff expected to go to jail.

With a statement like that – it’s an easy win for the goverment.  The issue in the plea agreement is not guilt, but what Madoff will plead guilty to and what sentence has basically been agreed to in advance.  The government will get it’s win, but will the sentence be sufficient to satisfy the victims?  By the way, starting at 10:00 a.m. victims will have a chance to be heard by the judge.  Not that it matters all that much as I would guess that it’s pretty well decided.

REALITY CHECK:

Having been through it, (wish I could say other wise) the process will likely be fairly straight forward.  Madoff pleads guilty to “securities fraud”.  The judge hears from the victims.  The judge accepts Madoff’s guilty plea.

WHAT’S NEXT:

Hum…now that’s a good question.  Thus far Madoff has been under – shall we call it – “house arrest.”  Whether he’ll be allowed to continue that form of confinement or whether the judge will require him remanded to some form of federal prison awaiting sentencing remains to be seen.  Certainly this is public outcry for Madoff to be imprisoned.

There is little chance that Madoff will be sentenced on Thursday.  If this hearing is true to form, it will only be an admission of guilty.  Once entered and accepted, Madoff will have more time to wait until his sentencing hearning.  In my case I had to wait almost six months before being sentenced and then another four months before being required to report to federal prison.

I doubt it will take that long for Madoff, but it will likely take time.

According to the New York Times:

If Mr. Madoff does plead guilty on Thursday, it could nevertheless be several months before he is sentenced, several former prosecutors said. The single count of securities fraud that he faces now carries a prison term of up to 20 years.

The one thing I do find interesting in this case if that the government is only seeking an admission of guilt on ONE count of securities fraud.  With so many victims, it would seem that the government could easily win multiple admissions of guilt on items other than just ONE count of securities fraud.  It makes one wonder if the government isn’t being cooperative due to the backlash that could come if Madoff exposed the incompetence of the SEC?

Just a thought!

QUESTION:

1.  Assuming Madoff Pleads guilty – how much time do you feel he should serve for his crime?

2.  Should Madoff’s sentence be reduced if he helps locate available funds to help with restitution?

3.  Should charitable organizations get preferential treatment when it comes to restitution?

YOUR COMMENTS ARE WELCOME!

Bruce Karatz, former CEO of KB Homes – Indicited! Were His Choices Ethical?

Having begun a formal probe by the SEC in 2007, a federal grand jury has indicted Bruce Karatz.  The 20-count indictment included seven counts of mail fraud, five counts of wire fraud, three counts of securities fraud, four counts of lying in statements to the U.S. Securities and Exchange Commission and one count of lying to KB Home’s accountants.

Well…with all those indictments, if found guilty on all charges, Mr. Karatz could face up to 415 years in prison.  Seems like the alleged frauds are getting larger as are the potential sentences.

Reported by the Dallas Business Journal:

Los Angeles-based KB Home was the 21st-largest home builder in North Texas in 2008, with 239 housing starts, according to DBJ research. The company started 513 North Texas homes in 2007, and 1,216 in 2006.

Karatz, 63, is alleged to have backdated stock options over seven years, awarding himself and others millions in stock-based compensation. Karatz resigned from KB Home (NYSE: KBH) in November 2006 under pressure in the wake of an options inquiry. Other top KB executives forced out were Richard B. Hirst, executive vice president and chief legal officer, and Gary A. Ray, the head of human resources.

The Los Angeles Times reports: “Karatz, 63, served as chairman and chief executive of Westwood-based KB Home from 1986 to 2006, when he resigned under fire. Over a three-year period ending in 2005, Karatz garnered more than $232 million in compensation.”

The Times further reports:

The indictment does not say exactly how much Karatz gained as a result, but KB Home required Karatz to pay back $13 million in backdating gains when he left the company in 2006. And the SEC agreed to a settlement of $7.2 million with Karatz in 2008 to cover what it reckoned were his gains.

Karatz has long been a target of shareholder activists and labor unions, who accused him of taking more than his fair share of company profit. In 2005, the year before he stepped down, Karatz had take-home pay of $6.3 million, but he received an additional $150 million, mostly from exercising stock options.

As a business ethics speaker, it is clear that transparency is the order of the day.  Long gone are the days (or at least they should be gone) when corporate compensation is a behind closed door discussion.  I am certainly open to executive compensation that is fair and rewards those in leadership for outstanding performance.  However, any person in executive leadership in a public company must be alert to the consequences of the choices they make.

Every choice has a conseqence.  Bruce Karatz has been dealing with the consequences of his leadership at KB Home for the past several years.  It would appear that, if convicted, he will have many years ahead to review his leadership choices.

If you worked for KB Homes and have an opinion on Mr. Karatz’s leadership feel free to comment!