High Fidelity! Corporate Theft and Recovery

1. High Fidelity!Corporate Theft and Recovery Geoff Harrold, The Gavilon Group Alex Lathrop, Orrick, Herrington & Sutcliffe, LLP

2. Section I Introduction

3. Employee Crime Statistics • $50B stolen by employees of US businesses (2013) • An increase of 7% from 2011 • 75% of employees have stolen at least once from their employer • 5% of annual revenues are lost to theft or fraud • Theft is conducted by: • Men: 59.1% of the time • Women: 40.9% of the time

5. Employee Crime Statistics • Employee theft occurs most often at: • Convenience stores • Truck stops • Apparel stores • Office supply/stationery stores • Small businesses also are prone to employee theft as internal controls are not as established

6. Employee Theft Schemes • As the usage of cash decreases, employees have shifted to stealing material/physical items (inventory) • Corporate credit cards make it easier for employees to disguise charging personal expenses to the company • Employees often falsify time records and number of hours worked in order to be paid more by the company

7. Detecting Employee Theft • Tips are the most common method of initial detection • Top three sources of tips • Employee tips (51%) • Customer tips (22%) • Anonymous tips (12.4%) • Organizations that use a hotline experience a 44.4% lower median fraud loss

8. Take Away • Employee theft presents a substantial loss exposure to most companies • Risk Managers must have effective loss control measures in place and be sure the Company is adequately insured

9. Section II The Case of the Stolen Grain

10. Background • Gavilon • Managing Essential Ag Commodities on a Global basis • Second largest grain handler based on licensed storage • The Case Study location • Storage capacity of 7.5M tons of grain • Trucks enter the facility, weigh in empty, truck is filled with grain, weigh out full, and depart • Entire process takes about 12 minutes per truck

11. The Case Study Facility

12. Discovery of the Loss • First Evidence of the Loss • Tip from customer • Confirming the Loss • Conducted Internal Audit of Inventory • Confirmed missing stock

13. Investigating the Loss • Hired third-party surveillance company • Observed trucking operations for several nights • During certain periods, trucks would enter and exit with full loads in less than four minutes • Local Law Enforcement • Interviewed night crew • Thefts took place when one employee went on breaks • Remaining employee was colluding with truck drivers

14. Insurance Issues – Employee Requirement • Must be an employee • Insuring Agreement • Loss must result from dishonest or fraudulent acts “committed by an Employee acting alone or in collusion with others” • Had to show that truck drivers were in collusion with storage facility employee

15. Insurance Issues – Inventory Computation Exclusion • Missing inventory cannot be the sole evidence of the loss • Evidence of loss included customer tip and surveillance • Inventory audit confirmed the quantity of the loss

16. Quantifying the Loss • Bulk Commodities • Challenge of bulk commodities • Physical Dimensions • Size – Angle of Repose - Expertise • Weight of Product • The Storage Barn is Seldom Empty • Accounting records • Scale Tickets • Invoices

17. Quantifying the Loss • Accounting records • Historical throughput • Seasonal adjustments • Historical pricing • Traded on an exchange? • Independent Verification • Profit Margin • Accounting systems

18. Insurance Issues – Proof of Loss • Describe all facts establishing that loss occurred, nature of the theft, that employees participated • Interviews/testimony of employee in underlying matter may include denials inherently in tension with coverage claim • Provide an accounting of the loss—quantum, dollar value • Statement must be sworn • Deadline is condition precedent to coverage—but insurer will grant extension on reasonable request • Important to involve professional support immediately

19. Insurance Issues – Documenting the Loss • Forensic Investigation • Interviews • Law Enforcement and Prosecutorial Authorities • Outside Evidence

20. Lessons Learned • An ounce of prevention • Frequent and unscheduled audits • Use of a third party for unscheduled audits • Rotate employees and shifts worked • Manager present during all shifts • Criminal Background Checks • Engage a Forensic Accountant before a loss • Endorse Crime Policy to include fees • Think like a criminal • Contemplate the records and documents needed before a loss

21. Preventing a Loss • Physical Deterrents • Fencing, lighting, gates • CCTV and Security Cameras • Security Staff • Restrict Access • Vulnerability Assessment • Metaphysical Deterrents • Local Authorities – Fire and Law Enforcement • Be a good neighbor

22. Section III Coverage for Employee Theft

23. Fidelity Bond Components • Insuring Agreement • Employee Involvement • “Manifest Intent” • To Gain and/or Cause Loss • Exclusions • Conditions

24. Insuring Agreement • We will pay for loss resulting directly from dishonest or fraudulent acts . . . committed by an Employee acting alone or in collusion with others . . . with the manifest [or specific] intent to: • Cause you to sustain such loss; [and/or] • Obtain an improper financial benefit for the Employee or another person or entity.

25. Manifest Intent • Must be discernible intention (objective/subjective) • to cause Loss to Company and/or benefit to employee or others • Does not include Employee Compensation (per insuring agreement or by exclusion) • Loss must be direct result of employee acts

26. Some Common Exclusions • Inventory computation exclusion • Timing of loss and claim • Directors and officers • “Damages” or indirect or consequential losses • Losses resulting exclusively from acts of non-employees

27. Limitations on Recovery • Timing related limitations • Variable limits/sublimits related to type of loss • Non-cumulation provisions

28. Tendering and Supporting Your Claim • Deadlines • Policies are “claims made and reported” • Provide prompt notice of claim • Provide proof of loss • Engage forensic accountant, investigator and/or counsel, if required, early!

29. Litigation Considerations • Documentation of claim (causation, participants, quantum of loss) must be well developed • Supporting experts lined up • Witnesses lined up/credible • Anticipate and prepare responses to insurer coverage arguments • What is the cost-benefit analysis for litigation? • Would compromise make sense?

30. Negotiated Settlements • Insurers may dispute coverage because they do not agree with proof that (1) an employee was involved; (2) there was manifest intent; (3) that proof was consistent with conditions and exclusions; or (4) quantum of loss was proved • Such disputes often can be compromised in a direct meeting with the insurer • Be prepared to (1) lay out the factual case for coverage; (2) demonstrate quantum; (3) address legal issues head-on; and (4) compromise weaker points • Involve your forensic accountant, investigators, and counsel