Westchester Dis. 1. What went wrong at Westchester? Summarize the case facts and key causes of the current situation. Your response should EXPLICITLY consider the COSO Framework. Due to an informal corporate environment, Westchester Distributing, Inc. experienced a situation that could have been avoided had the control environment been in place. Carter Mario, a salesman for Westchester, defrauded his employer by falsifying expense reports and bribing a customer. George Pavlov, a sales manager, not only cooperated with Mario, but was also guilty of the same acts.
After having a kickback deal with a customer go bad, Pavlov went to the VP of Administration, Joe Roberts, for help. Since Joe signs all neon signs out of inventory and because Mario had promised the customer three signs, they needed Joe to complete the transaction. Unfortunately, Joe tried to resolve the situation himself and went to the customer and offered him the signs. The customer, feeling as if the situation was inappropriate, had his attorney draw up a letter addressed to Elizabeth Jones, VP Finance, asking to be removed from the situation. At this point Jones and Patton, the two shareholders, meet to discuss how to move forward.
The situation could easily turn volatile, landing Westchester in trouble with the California ABC accompanied by substantial fines and suspension of operations for 45 days. Exacerbating the problem, Mario, sent a formal letter to Patton trying to clear himself of any wrongdoing and placing the blame for his actions on the lack of control measures at Westchester. When comparing the Westchester control environment to the COSO reading, a clear separation between the two is obvious. The following is a list of the five framework components listed in the COSO reading accompanied by the action or lack-of-action by Westchester.
Control Environment: Westchester’s environment was informal, predominately leaving discretion up to the employees (the honor system). Vince put a lot of faith in his employees and hoped they would follow his lead as to how to conduct themselves. Although he tried to define the rules, they were ambiguous at best. Risk Assessment: There were no examples of Westchester doing any analysis of risk assessment. Located in Exhibit 5, in the case, is an internal controls list, which mentions internal auditing as well as having an independent CPA audit.
However, the case itself does not mention if this list was more for show than implementation. Control Activities: Other than loose expense report/reimbursement procedures and inventory counts, Westchester did not have many other procedures to help ensure an effective control environment. Information and Communication: As Mario stated in his letter to Patton, management was so disconnected from actions taking place in the field, he felt that whatever disconnect there was between rules and reality would get overlooked if the outcome benefited the company.
Mario’s letter allows Jones and Patton another perspective. Their rules were just words on paper and worth nothing more. Monitoring: Much like the control activities, little was done with monitoring of internal controls. Any monitoring that took place appeared to be a loose system of reviewing cash disbursements and Roberts approving expense reports, which did not even require proof via receipts. 2. What should Vince Patton do with each of the three employees? Address Joe, Mario and George separately. Why do you believe these are appropriate consequences?
Joe Roberts: Should step down temporarily, if not permanently from the position of VP Administration. Joe is a good and loyal employee who needs retraining and possibly given a second chance. Mario Carter: Should be terminated. A lawyer could draw up a letter that Mario agrees to and signs. Although his own letter places the blame of his actions on the company culture, his past performance suggests he is not interested in following rules. Mario is guilty of stealing, which is a clear violation of the Standards of Conduct.
George Pavlov: Should be terminated. Because George is management, he should be more acutely aware of the Standards of Conduct he violated. This termination will also require a letter to be drawn up by a lawyer. Joe is a good employee and his actions were well intended. Although he did take a neon sign out of inventory, his mistake was a singular event and not a pattern of misconduct. As for Mario and George, their misconduct was intentional, and both were in violation of several company rules and showed little if any regard for their behavior.
By terminating them, a clear message is sent to others at Westchester that similar actions will not be tolerated. 3. What remedial actions should Vince Patton undertake to prevent these sorts of problems from recurring? Your response should recommend specific internal controls. Referencing the Association of Corporate Counsel, Vince Patton should start with the fourth step on their list and apply each of the remaining steps to his company.
Vince needs to set the control tone for the distributorship, meet with his employees to discuss how compliance with the law is essential for being employed at Westchester. Another action Patton needs to take is to hire an outside audit professional/company to execute an investigation to review all employees and how they conduct business on behalf of Westchester to uncover any other possible injustices, and provide a report of recommendations on how to prevent this in the future. This risk assessment should also result in an internal position within Westchester.
Recommendations that might come up include: having employees use credit cards instead of cash for better record keeping, requiring actual invoices instead of blank one that are filled in, better safeguarding of inventory, and reconciling inventory counts to accounting records, formal meetings with employees before they sign the annual Code of Conduct, and Patton being more engaged on the warehouse floor. Patton should also hire a controls professional whose responsibility is to improve internal controls, carry out internal controls training, and monitoring of all control activities for compliance.
As stated in the Greased Palms, Giant Headaches reading, the best approach for business owners/managers to keep their employees from detouring off the straight and narrow path is to train, enforce polices and implement controls. Since Patton had a vague resemblance of the aforementioned, he needs to begin addressing the misconduct with structuring of better internal controls. The keys to keeping Westchester in compliance are supplying his employees with ample information and constant communication, and then monitor compliance (trust, but verify).
