Reference no: EM133123563

Case: Portau Inc. was a manufacturing company specialized in electronic components located in Vancouver, British Columbia. There were obvious clues that something was wrong at Portau Inc. Sales were up and business was growing but profit margins were either stable or declining. This did not make any apparent sense to Sol Irvine, the owner of the manufacturing business. Irvine, who ran the business his mother had founded, began believing that it was his own fault and that he was a bad businessman. "We were growing very strongly, but we never seemed to make a decent profit. I figured that I just didn't know how to do it."

However, the fault for the anemic profits did not lie with Irvine, but with Grace Adler. She had been the company's sales manager since the year that Irvine took on the business. She was in her 40's but looked like she was in her twenties. Irvine had even trusted her to baby-sit his daughter. According to Irvine, she was "very hard working, very eager to please." She also had a lot of autonomy, because Irvine wasn't very interested in the supervision function. He would "leave the sales manager alone and let her generate sales. I got out of her way." As it turned out, that was a very bad idea.

The company claimed that it was ahead of the national curve for manufacturers and even the Business Insider Journal acknowledged the company's extraordinary sales growth. Although business grew, the company was barely able to turn a profit. This prompted Irvine to go to Adler to figure out why they weren't making any money even in favorable years. Adler explained that increasing sales expenditures were eating up their profits. Irvine was convinced when Adler showed him that sales figures were increasing at a slower rate than related expenditures. But shortly thereafter, a series of events occurred that finally led Irving to discover that his company was being defrauded.

Although the business started making good profits, it began bouncing payments and had to borrow money to pay vendors. About this time, Irving was reviewing his company's records when he came across a resume sent from Adler's daughter to her mother for her review. It listed Portau Inc. as an employer and Adler as a contact, though the company had never employed nor paid Adler's daughter.

This new information prompted Irvine to look up his company's bank account online to compare cashed checks and electronic payments with those recorded in Portau's disbursement journal. It was then that Irvine learned that Adler had been embezzling from his company for at least 6 years. She had created fake sales invoices to increase her compensation.

Portau Inc. used a computerized sales register and accounting program to record sales invoices. Adler would enter (into the system) quantities of electronic products presumably sold on credit to non-existing customers. She was free to cash her inflated commission payments because all of the records appeared to be in order. The accounting system showed that all sales invoices had been recorded with full customers' names and coordinates.

After the scheme came to light, Adler eventually admitted to embezzling $317,150. She was promptly terminated, but Irvine never reported the incident to the police. Portau Inc. was never able to recover the money Adler embezzled; she claimed her husband had lost it all drinking and eating out.

Irvine was left feeling guilty about the effects of the fraud that took place over the last 6 years. Many of his employees had been working for him for a long time but he could not afford to give them pay raises for close to 10 years. Also, they could not take advantage of the company's profit-sharing plan because there were no substantial profits. This affected his business because some valued employees were lost to other employers. He also may have lost a competitive advantage because he could not upgrade the company's equipment.

Adler, meanwhile, may now be trying to turn her life around. After declaring bankruptcy, she attended Dalhousie University in Nova Scotia with the help of members of her dance club. Donations were solicited to organise a yard sale to help her raise money to assist with her performing art educational expenses.

Question 1: What is the name of the fraud scheme being perpetrated at Portau Inc.? Explain your scheme classification.

Question 2: Recommend and explain 5 applied (specific) internal controls that would help Portau Inc. prevent/detect such fraud scheme in the future.

Question 3: Using relevant fraud examination legal principles, explain how what happened at Portau Inc. would qualify as a fraud.

Question 4: Does Sol Irvine have any ethical obligation to report this incident to the police? Explain the pros and cons and make an opinion.