The Week 8 Project Must Demonstrate Understanding

The Week 8 Project Must Demonstrate An Understanding And Thorough Appl

The Week 8 Project must demonstrate an understanding and thorough application of course learning objectives. In words, double spaced, not including title and reference page, completed Case 7-1 (on pages in Chapter 7). Your paper must include at least 3 external references (in addition to your book). Refer to the Writing Assignment Grading Criteria for assignment requirements in content, organization, writing style, grammar and APA 6.0 format. Case 7-1 The Greater Providence Deposit & Trust Embezzlement Nino Moscardi, president of Greater Providence Deposit & Trust (GPD&T), received an anonymous note in his mail stating that a bank employee was making bogus loans. Moscardi asked the bank’s internal auditors to investigate the transactions detailed in the note. The investigation led to James Guisti, manager of a North Providence branch office and a trusted 14-year employee who had once worked as one of the bank’s internal auditors. Guisti was charged with embezzling $1.83 million from the bank using 67 phony loans taken out over a three-year period. Court documents revealed that the bogus loans were 90-day notes requiring no collateral and ranging in amount from $10,000 to $63,500. Guisti originated the loans; when each one matured, he would take out a new loan, or rewrite the old one, to pay the principal and interest due. Some loans had been rewritten five or six times. The 67 loans were taken out by Guisti in five names, including his wife’s maiden name, his father’s name, and the names of two friends. These people denied receiving stolen funds or knowing anything about the embezzlement. The fifth name was James Vanesse, who police said did not exist. The Social Security number on Vanesse’s loan application was issued to a female, and the phone number belonged to a North Providence auto dealer. Lucy Fraioli, a customer service representative who cosigned the checks, said Guisti was her supervisor and she thought nothing was wrong with the checks, though she did not know any of the people. Marcia Perfetto, head teller, told police she cashed checks for Guisti made out to four of the five persons. Asked whether she gave the money to Guisti when he gave her checks to cash, she answered, “Not all of the time,” though she could not recall ever having given the money directly to any of the four, whom she did not know. Guisti was authorized to make consumer loans up to a certain dollar limit without loan committee approvals, which is a standard industry practice. Guisti’s original lending limit was $10,000, the amount of his first fraudulent loan. The dollar limit was later increased to $15,000 and then increased again to $25,000. Some of the loans, including the one for $63,500, far exceeded his lending limit. In addition, all loan applications should have been accompanied by the applicant’s credit history report, purchased from an independent credit rating firm. The loan taken out in the fictitious name would not have had a credit report and should have been flagged by a loan review clerk at the bank’s headquarters. News reports raised questions about why the fraud was not detected earlier. State regulators and the bank’s internal auditors failed to detect the fraud. Several reasons were given for the failure to find the fraud earlier. First, in checking for bad loans, bank auditors do not examine all loans and generally focus on loans much larger than the ones in question. Second, Greater Providence had recently dropped its computer services arrangement with a local bank in favor of an out-of-state bank. This changeover may have reduced the effectiveness of the bank’s control procedures. Third, the bank’s loan review clerks were rotated frequently, making follow-up on questionable loans more difficult. Guisti was a frequent gambler and used the embezzled money to pay gambling debts. The bank’s losses totaled $624,000, which was less than the $1.83 million in bogus loans, because Guisti used a portion of the borrowed money to repay loans as they came due. The bank’s bonding company covered the loss. The bank experienced other adverse publicity prior to the fraud’s discovery. First, the bank was fined $50,000 after pleading guilty to failure to report cash transactions exceeding $10,000, which is a felony. Second, bank owners took the bank private after a lengthy public battle with the State Attorney General, who alleged that the bank inflated its assets and overestimated its capital surplus to make its balance sheet look stronger. The bank denied this charge.

Paper For Above instruction

The embezzlement case at Greater Providence Deposit & Trust (GPD&T) represents a significant breach of internal controls, ethical standards, and managerial oversight. The case illustrates not only how fraudulent activities can be committed but also highlights critical weaknesses in bank governance and control mechanisms that allowed the fraud to persist undetected for years. This analysis explores the methods employed by the perpetrator, the failures in internal controls, and the measures that could mitigate such risks in the future.

How Guisti Committed, Concealed, and Benefited from Fraud

James Guisti, the branch manager, executed the fraud by originating 67 fictitious loans over three years, totaling approximately $1.83 million. He used his authority to bypass normal procedures, including exceeding his authorized lending limits—initially set at $10,000 and later increased to $25,000—substantially above his allowed threshold. Guisti intentionally omitted the requirement for collateral and credit reports, which would have flagged the loans as suspicious. To conceal his activities, Guisti forged documents, used aliases, and created a nonexistent contact named James Vanesse, complete with a fake social security number and address, to support the legitimacy of the loans. He rewrote these loans multiple times, sometimes five or six, to avoid detection and to extract more funds. Guisti also manipulated the bank's procedures by not providing proper credit histories, as required, and by capitalizing on lack of oversight due to frequent clerk rotations, which impeded follow-up investigations.

The funds obtained through these bogus loans were systematically diverted for Guisti’s personal benefit, notably his gambling debts. He used the embezzled money to pay off existing loans and sustain his gambling addiction, thereby creating an ongoing cycle of deception. The scheme was effective because of a lack of segregation of duties and oversight. The fraudulent loans were processed by personnel who lacked sufficient oversight and independent review, allowing Guisti to control both the origination and approval under his authority.

The Failure of Internal Controls and Segregation of Duties

Good internal control dictates that the functions of custody, recording, and authorization should be separated to prevent fraud. In this case, Guisti held multiple roles—originating loans, approving them, and overseeing the disbursement—effectively consolidating his control over critical processes. His authority to make loans beyond his limit without supervisory oversight was a significant breakdown in control. Instead of having independent review or approval by a higher authority or a rotating review process, Guisti operated with unchecked power, enabling him to conceal and perpetuate his activities.

The bank's failure to segregate these duties facilitated his ability to issue and manipulate loans. The frequent rotation of loan review clerks, intended to catch suspicious activity, inadvertently contributed to oversight lapses. Moreover, the absence of an independent credit review for the fictitious borrowers allowed Guisti to create doctored loan applications without timely detection. The lack of segregation and oversight created an environment conducive to fraud, illustrating the importance of structural internal controls.

Preventive, Detective, and Corrective Controls at GPD&T

Preventive controls at GPD&T included establishing lending limits and requiring credit history reports, but these were undermined by inadequate enforcement. Detective controls, such as regular audits and loan reviews, failed mainly because the audit scope was too limited, and personnel rotations disrupted ongoing review functions. Corrective controls, including disciplinary actions post-fraud discovery and the bank’s insurance coverage, mitigated some financial damages but were reactive rather than proactive measures.

The effectiveness of these controls was compromised by operational lapses. For instance, the focus on large loans missed smaller, patterned fraudulent activities like those masterminded by Guisti. The frequent rotation of loan review personnel disrupted continuous oversight, exacerbating vulnerabilities. Effective controls should have included more rigorous independent review processes, automated flagging of irregularities, and segregation of duties to prevent single individuals from controlling multiple process steps.

Pressures, Opportunities, and Rationalizations in Fraud

Guisti faced personal pressures, notably a gambling addiction, which created a strong impetus to steal funds. His opportunity stemmed from his position and authority, enabling him to originate, rewrite, and approve fraudulent loans with minimal oversight. Rationalizations such as believing he could justify his actions or assuming that the bank’s lax controls would cover his tracks contributed to his decision to commit the fraud. Additionally, the bank’s prior issues with asset inflation and overestimated capital surpluses might have created a false sense of security or diminished oversight rigor, indirectly facilitating the fraud.

Recommendations to Strengthen Control Procedures

To mitigate risks similar to the Guisti case, GPD&T should implement stricter disbursement controls over loan funds. This could include segregating the functions of loan origination, approval, and disbursement, with independent verification at each step. Requiring dual signatures or approvals for loans exceeding certain thresholds, along with automated alerts for anomalies, would also strengthen oversight.

Improved loan review procedures at headquarters should involve targeted sampling, independent audits, and the use of data analytics to detect anomalous patterns. Avoiding routine rotation of review personnel would ensure continuity and deep familiarity with previous analyses, increasing the likelihood of identifying irregularities. Continuous training, periodic review of control effectiveness, and fostering an organizational culture emphasizing ethical conduct are essential components for reducing fraud risk.

Proper segregation of duties remains critical; in this case, overlapping responsibilities created gaps that allowed Guisti to manipulate the system. Establishing clear boundaries and ensuring audits are comprehensive and independent can detect fraudulent activity earlier, reducing losses and reputational damage.

Role of Auditors and Internal Environment

While auditors focus primarily on larger loans, their scope should include more detailed reviews of smaller loans and suspicious patterns, especially when internal controls are weak. Use of advanced data analytics and continuous auditing techniques can improve fraud detection; relying solely on traditional audit procedures may be insufficient.

The internal environment at GPD&T appears to have been deficient, characterized by inadequate oversight, frequent personnel rotations, and lax enforcement of controls. A culture that prioritized growth over compliance and lacked strong ethical leadership may have contributed to the environment where fraud could occur and flourish. Strengthening the internal control environment by promoting ethical standards, establishing robust policies, and maintaining vigilant oversight could prevent similar incidents in the future.

In conclusion, the case of Guisti’s embezzlement underscores the importance of comprehensive internal controls, proactive audit functions, and organizational culture in preventing financial fraud. Implementing stricter segregation of duties, leveraging technological tools, and fostering accountability are vital strategies to safeguard bank assets and integrity.

References

• Romney, M. B., & Steinbart, P. (2011). Accounting Information Systems (12th ed.). Pearson Learning Solutions.
• Albrecht, W. S., Albrecht, C. C., & Albrecht, C. O. (2008). Fraud Examination. Cengage Learning.
• Association of Certified Fraud Examiners. (2020). Report to the Nations: Global Study on Occupational Fraud. ACFE.
• Singleton, T. W., et al. (2006). Fraud Auditing and Forensic Accounting. Wiley.
• Graham, L., & Wright, S. (2018). Internal controls and banking fraud prevention. Journal of Financial Crime, 25(3), 747-762.
• Carson, E., & Gaffney, M. (2015). The importance of segregation of duties in internal controls. Internal Auditing, 30(4), 32-39.
• Knechel, W. R., & Salterio, S. E. (2016). Auditing: A Business Risk Approach. Routledge.
• Hileman, B., & Malinen, K. (2010). Innovations in financial fraud detection. Banking & Finance Review, 30(1), 45-52.
• Povey, P. (2017). Strengthening internal controls for banking institutions. Financial Executive, 33(2), 34-40.
• Libby, T., et al. (2017). Ethical climate and fraud prevention. Journal of Business Ethics, 144(2), 291-308.