Business Fraud

Business credit is based on belief or faith. Faith that once you as a “lender” have analyzed and are satisfied with all the financial, character and ambient analysis of a customer, you will have a reasonable opportunity to be paid the full amount owed, on time. Credit is a word derived from credere (Latin) which means to believe or trust. Fraud is any business activity, which resorts to deceitful practices or devices with the intent to deprive another of property or other rights, or to cause economic injury.


The essential characteristic of fraud is the intent to deceive. If the intent to deceive is lacking in any act or series of acts or representations, it is wrong to call such acts fraudulent, although they have caused you a loss as a creditor. A principal may be incompetent or negligent in managing the business or may be even willfully wasteful of the firmís assets, by gambling for instance; but, unless creditors were at some point intentionally deceived on a material fact, the principal cannot properly be charged with fraud.

Investigation concerning scams, bust-outs, false financial statements, and counterfeit checks, is an important part of the work of the NACM Loss Prevention Department. Particularly, when fraud is suspected (but for one reason or another the case does not go to the bankruptcy courts or state courts) this resource is often the only practical recourse of a defrauded creditor. The Loss Prevention Department works closely with federal and state authorities, and their information, if warranted, is turned over to these authorities for possible prosecution. The NACM Loss Prevention Department can be reached at 410-740-5560.

Why are all businesses susceptible?

Always unscrupulous individuals want to make quick money by cheating your company. However, the more competitive your business environment is, the more risk you take to get that new or incremental business. This eagerness can make it easy for a con artist to take advantage of your company.

You want to trust the customer because you want the business. Con artists know their game well. They know just what will “hook” you, and they know innumerable ways to fool the systems you have devised to stop them. You need to make it as hard as possible for a con artist to succeed. The best way to keep the hand of a crook out of your business is to learn the game.

Some Typical Scams to Watch Out For:

“Bustouts” or “Overbuys”
These terms describe criminal activity that aim to obtain large amounts of merchandise without paying for it. The swindler orders merchandise from a few suppliers and pays promptly. These suppliers are then used as credit references for larger and larger orders. The bogus company soon becomes a slow-payer and then a non-payer. At some point in the future, creditors are stuck for “the last payment”.

This type of fraud is often well planned, highly organized and involves substantial financial backing. Unpaid-for merchandise is sold below cost to other illegitimate businesses, at “flea-markets” or peddled door-to-door.

Hit and Run
A swindler moves into a location and orders merchandise COD, paying with phony certified or cashier’s checks. By the time the counterfeit check bounces, the “skip artist” has moved on to a new location to repeat the fraud.

The Hometown Repeater
By using different trade styles, keeping their operations small, and limiting their victims to “out of towners,” a “respectable citizen” swindler may indefinitely avoid criminal prosecution.

Advance Fee Scams
In this type of fraud an up front payment is obtained for services to be rendered later, supposedly to “cover costs”. This advance fee is accepted with no intention of providing the service. Example: The swindler, acting as a broker, is paid to secure a loan for a business. After some time, the swindler skips town or tells the victim that a suitable lender could not be found and refuses to return the fee.

Fictitious Stock Transfers
A fictitious company exchanges its worthless stock for the stock of a sound company. The swindler then creates false financial statements with inflated assets. These statements are used to get other businesses to swap stock for a piece of a bogus holding company. The assets of a legitimate company acquired in this way are then sold off or used as collateral on bank loans that are never paid.

Bank Loans and Leases
Fake trade and bank references are used to obtain loans not intended to be repaid or to arrange financing for the leasing of stolen or non-existent equipment.

Businesses Preferred by Fraudulent Operators

While fraud can be found in almost any line of business, certain businesses have special appeal to dishonest business people. The following are the types of businesses and products chosen most frequently by fraud perpetrators:

  • Wholesale general merchandise: Popular examples include housewares, health and beauty aids, electronic items such as radios, stereos, VCRs and TVs, computers, etc.
  • Relatively small items: Crooks prefer products that can be easily moved, difficult to trace and easy to sell.
  • Low-to-medium priced apparel: Also a leading line for fraudulent businesses.

What you can do:

  • If you deal in any of the thousands of products preferred by dealers in fraud, you must protect your business by establishing and following, tight credit procedures at all times. These procedures will include obtaining independent verification of information provided by companies requesting credit from you.
  • You might join a trade group consisting of other businesses similar to yours, so that you can share and compare credit information.

Who Really Owns the Company?

Criminals in the business of fraud know that a careful businessperson will likely check on the ownership of a company and its principals before granting credit and shipping goods. Therefore, they make it very hard for you to find out who you’re doing business with. Here are some situations to watch out for:

  • Very young owner or principal: Using a “front man” often conceals the true ownership of the company by individuals with questionable backgrounds. One of the con artist’s favorite fronts is a very young person, because they will not have to invent a long business background.
  • Older, retired principal: Older individuals also make good “fronts” if they retired with clear business records and are willing to be used to confer respectability on a dishonest operation.
  • Hard-to-confirm employment records: The business backgrounds of a company’s management should be specific and easy for you to check. Watch for a principal who claims long periods of time working in an obscure company in a foreign country, for several companies now out of business, or as a consultant, particularly if the principal will not provide references or specific business locations from that prior employment.
  • Possible secret sale of business with former owner being paid to stay on: The new owners may be skimming profits, selling the assets and running up credit while the old owner keeps you complacent. The swindler wants the fraud to look like a normal business failure because this makes it difficult for prosecutors, who must prove intent, to get a conviction.
  • Confusing, complex organizational structure, especially in a relatively new business: Unscrupulous principals may hide behind a maze of complicated corporate or partnership entities (mostly false) so that creditors find it extremely difficult to check on the company.

What you can do:

  • Find out all you can about the principals with whom you contemplate doing business.
  • Insist on the name and phone numbers of companies with whom the principals claim past employment so you can confirm their business background.

Take Another Look at the Credit References

  • References supplied by a fraudulent company may not be all they seem at first glance. To avoid being lulled into a state of complacency by a company with all the right references, re-examine those references with a more critical eye.
  • Be suspicious if a reference provided by the new customer gives an instant “glowing” account without taking time to consult records when you call.
  • Both trade and friends or partners of the fraudulent businessperson can fake bank references. Take care when you are provided with a specific extension from an individual and are told to “Ask for Joe”.
  • Answering services can be used to provide a false confirmation or reference.
  • Beware of hard-to-trace fax numbers supplied as the only way to contact references: They may all lead to a single location where one individual can respond to reference checks using a variety of business names.

What you can do:

  • Check a reference company by confirming through outside sources, such as the Yellow Pages, that the company is truly an existing business.
  • Check to see if the company phone number you were given can be obtained from directory assistance. Be sure the individual you speak to actually works for the reference company and is in a position of authority.
  • Be sure the reference is in a line of business that makes sense as a reference for the company seeking credit.
  • If provided with an 800-telephone number, ask your customer or the referenced business for the local number – then call it and confirm the location.

What’s in a Financial Statement?

When a company provides a copy of its financial statement to obtain credit, do not judge it favorably after a quick perusal of the bottom line or the cash figure. Instead, look for indications that the financial statement may be questionable.

  • Randomly dated statements: Accountants’ statements usually are prepared at the end of a month, quarter or year, not on May 17, or October 20, for example.
  • Inflated assets: Assets that are impossible to confirm, such as marketable securities or real estate, may be suspect. Also, accounts receivables shown in rounded figures and/or in extremely high amounts are questionable. A large “due from officers” should be checked as well.
  • Who is the accountant? Look for the name of the outside firm that performed the audit. A CPA listed as the preparer should be checked with the appropriate state licensing board. If the business and the accountant are in different states, find out why.
  • In the case of a new business: Check carefully the stated worth and starting capital figures to be sure they are consistent.

What you can do:

  • Ask for, and carefully check, a financial statement from a company before you grant a significant amount of credit or ship goods.
  • Check assets to determine if they can be confirmed by other sources, or in the case of accounts receivable, that they are consistent in size with annual sales.
  • Check the credentials of the person who prepared the statement.
  • Is the statement heavy on assets but indicates little debt? Does it look just too good to be true? It probably is.
  • Call the company’s primary bank for a reference – specifically the average balance. If the bank says, “Low three figures” and the cash on the balance sheet is $560,000, something may be amiss.

The Unsolicited New Customer

If most of your orders are obtained through your sales people, pay special attention to the unsolicited order. Here are some “red flags” to watch for:

  • The customer avoids giving you hard information about its company. They may act excited but vague, emphasizing what a great opportunity this is for you.
  • The customer makes a case for “urgent” delivery. For instance, they need the order before a trade show, or to fulfill orders for a promotion already underway. Brand-new customers pressing for immediate, emergency or rush shipments on credit may be high risks.
  • The unsolicited order is large. Be even more careful; you have more to lose. However, many fraudulent business people may start with small orders, which they pay for on time. Later, when their credit with you is “good”, they will place larger orders for which they do not intend to pay.
  • The new customer seems very familiar with your credit policy. This is suggested when the company orders just under the largest amount that would trigger a more stringent credit check.

What you can do:

  • Do not grant instant credit if you do not know the customer, ever though the customer’s reason for the rush sounds plausible or they threaten to go elsewhere with the order.
  • If the new customer offers credit references with other companies, be sure to check the size of the orders for which the credit was granted to see if they are consistent with the size of the order submitted to you.
  • Be wary of a sudden flurry of telephone calls for credit references on a company you just began selling to. It may be using you to set up credit with other companies it intends to defraud.
  • If you are selling directly from a wholesale establishment and the customer wants to take the merchandise immediately, insist on cash-and-carry.


Because you may not visit your customer at its place of business, you must check to see that the address provided does not carry the earmarks of a fraudulent business.

  • Fraudulent business operations generally use short term, low rent locations. Typical business frauds, not surprisingly, move around frequently.
  • Fraudulent businesses often prefer mail drops. Using a mail drop gives a phony business a street number mailing address instead of just a box number.
  • Strip “mini-warehouse” locations. These can give the bogus “wholesaler” the opportunity to move part of its stolen inventory at below cost to walk-in buyers.
  • Be sure the address is appropriate to the type of business. Residential locations are unlikely for wholesale, retail or manufacturing lines of business.
  • The ship-to address is at a different location than the business address. You may be shipping goods to a temporary location from which it will soon disappear, as well the “offices” at the business address.

What you can do:

  • Ask how long the business has been in its present location, and then check with an outside source or the building’s management to confirm that it is a street address and not a mail service location.
  • Ask a supplier you know, or other third party in the area, to stop in or drive by the business for you.
  • Ask the credit references provided by the business how long they have been selling to the business. This may tell you the length of time the company has been in business.

Mystery Affiliates

A fraudulent company often wants to convince you that it is a large, expanding business with many resources backing it up. It may claim to have parent companies or related businesses, branches and/or subsidiaries that do not exist. Here are some other things to look out for:

  • A claimed relationship to a well-known, legitimate company: Fraudulent businesses attempting to look legitimate sometimes represent themselves as subsidiaries or branches of existing legitimate companies.
  • Difficult-to-confirm foreign ownership: Phony foreign parents are popular with securities dealers and merchandise swindlers.

What you can do:

  • Get specific information on claimed affiliates, including addresses and telephone numbers.
  • Check the information by using a third-party: for instance, you can contact an individual at the business via a main telephone number to confirm the existence of affiliates and their relationship with the company requesting credit or merchandise from you. Contact the Secretary of State to check corporate charter information.

What’s In a Name?

Do not be too quick to think that you have heard of a company, and therefore it is legitimate. Fraudulent companies will sometimes try to convince you that they have been around for a long time by carefully crafting a company name to mislead you.

  • The “familiar” name: The fraudulent company may use a name that is very similar to a successful, well-respected company in the same town, or similar to a company with a national reputation, such as the “International Business Machinery Company”.
  • The “big” name: A fraudulent business may use an impressive, nondescript trade style that is intended to convey an impression of size and stature. Some of the favorite words used by these false companies are International, American, U.S., European, Atlantic and Pacific.

What you can do:

  • Again, get addresses and telephone numbers to help you confirm the existence and identity of the company and its relationship to other large, well-known companies.

Identifying Bankruptcy Fraud

The bankruptcy system is designed to give an individual or a company a chance to reorganize their affairs, or if reorganization is not possible, to equitably distribute the non-exempt assets of the debtor among the creditors. This is often referred to as “a fresh start.” The amount of money a creditor will receive in a case will range from nothing in many cases to 100 percent in a few cases. In every case there will be significant delays from the time a bankruptcy petition is filed until the case is closed and all creditors receive final payment.

The bankruptcy system is based on the theory that a debtor will make full disclosure of all assets and liabilities so that the final disposition is in accordance with the requirements of the law. Unfortunately, at times both debtors and creditors try to obtain more than they are entitled to under the Bankruptcy Code. There are a number of criminal statutes that prohibit this type conduct.

Although concealing assets or making false statements in a bankruptcy proceeding make up the majority of bankruptcy frauds, there are a number of fraud schemes that are more complicated or are primarily designed for reasons other than maximizing the retention of assets in bankruptcy. Such schemes often use the automatic stay provided by the Bankruptcy Code to conceal an earlier crime, maximize profit from an ongoing fraud scheme or buy time while the perpetrator finds a way to avoid victims or leave town.

Bankruptcy Fraud Warning Signs

  • Concealment of assets
  • Serial bankruptcy cases
  • Failure to keep usual business records
  • Incomplete or missing books and records
  • Conduct well outside ordinary business or industry standards and practices
  • Unusual depletion of assets shortly before the bankruptcy filing
  • Recent departure of debtor’s officers, directors or general partners
  • Unanswered questions or incomplete information on debtorís schedules and statement of financial affairs
  • Frequent amendments to schedules, statements of financial affairs and monthly operating reports
  • Inconsistencies among recent financial statements, tax returns and debtor’s schedules and statements of financial affairs
  • Absence of knowledgeable officers to testify at the Section 345 meeting
  • Inability to contact principals of debtor at debtor’s stated location
  • Frequent dealings in cash rather than recorded transactions
  • Sudden depletion of inventory post-petition without plausible explanation
  • Inflated salaries, payments of bonuses or cash withdrawals by officers, directors, shareholders or other insiders
  • Transfer of property to insiders, shareholders and relatives shortly before bankruptcy
  • Payoff of loans to directors, officers, shareholders, relatives or other insiders shortly before filing
  • Transactions with non-debtor subsidiaries, parent companies or affiliated corporations owned by the same or related persons or entity
  • A history of prior litigation or post-petition litigation involving breech of contracts, fraud misrepresentations, etc
  • Complicated corporate structures and relationships
  • Creditor confusion concerning corporate structure
  • Fire, theft or loss before or after filing
  • Failure to pay withholding and sales tax
  • Startup of a similar business near the time of bankruptcy filing.

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