New York Times
Feb. 23, 1981 - front page

Embezzling Case at Wells Fargo:
Keys Are Computers and Volume

Special to The New York Times

    LOS ANGELES, Feb. 21 — Just three months ago, Edward P. Croak, a top Wells Fargo auditing official, wrote in Pacific Banker & Business magazine that the bank was in an "enviable position" in the banking community because of its success in controlling embezzlement and fraud.
    But this month the bank filed a civil suit charging that a group of boxing promoters and two former bank employees had defrauded it of more than $21 million. Bankers and law enforcement officials say that full details are not yet known but that the evidence suggests a classic case of the dangers in the increasing use of computers in banking and in the proliferation of bank branches.
    If the charges prove true, the theft would be one of the biggest embezzlement or fraud cases in American banking history. No criminal charges have yet been filed. The Federal Bureau of Investigation and the Comptroller of the Currency have been called into the case, and intensive internal audits are continuing.
    Wells Fargo officials decline to talk now about their banking procedures or controls. Nor have they explained in the lawsuits or elsewhere how the alleged embezzling, which continued undetected for at least two years, was carried out.
    But bankers and law enforcement officials familiar with the case say that a key aspect of the alleged scheme was the ability to take advantage of a built-in delay in the bank's computerized record of transactions between its 343 branches, called the settlement process. This vulnerability has also led bank and Federal officials to examine the adequacy of Wells Fargo's internal controls, which were circumvented despite four levels of review.
    In some respects, the officials say, the case illustrates, in almost textbook fashion, the axiom that any well-placed employee can evade the most sophisticated controls and security.
    In other respects, according to the officials, the case demonstrates that the potential for fraud has increased significantly as a result of the two developments, widespread electronic bookkeeping, and the proliferation of branch offices, sometimes nationwide. The larger a bank's operations — Wells Fargo handles several million transactions a day — the greater its vulnerability to fraud, especially when computers are involved, these experts say.
    This is also true of individual accounts, and the alleged fraud was made easier, the officials said, by large legitimate transactions flowing through the accounts in question.
    Wells Fargo's settlement process, according to bank and law enforcement officials, was vulnerable in part because of the delay between the computer's recording of deposits and withdrawals and the arrival a few days later of the paper documenting the transaction.

Appearance of Legitimacy

    The officials gave a simplified example of one type of "roll-over" scheme: The computer would be told to record a fictitious $1,000 deposit at one branch, and would instantly credit it to the depositor's account in another branch. The computer is programmed to wait several days for the arrival of the deposit slip before sounding an alarm. In that period, another fictitious $1,000 deposit would be made in another account, creating the source for apparently legitimate documentation, a check, for example, for the first deposit. This would allow the first deposit to be cleared through the system, although the check was written against a fictitious deposit itself. A chain of apparent deposits would follow, each covering the previous one and making all the deposits appear to be legitimate, so that funds were available for withdrawal from the bank.
    The case has attracted wide attention, often being portrayed as a boxing scandal because of the involvement of enterprises bearing the name of Muhammad Ali, who has not been implicated.
    In its suit the bank named as defendants Muhammad Ali Professional Sports Inc., or MAPs, and Muhammad Ali Amateur Sports Inc., or Maas, as well as several principals in those corporations, including the boxing promoter Harold J. Smith.

Length of Alleged Fraud Unusual

    But to bankers and law enforcement officials the case is a banking scandal with a more elusive quality.
    In the first place, most insider frauds, especially involving the rolling-over of fictitious assets, do not normally last very long, and certainly not for two years.
    In addition, no one has been able to trace where most of the missing $21 million went, according to the investigating officials.
    And most of those the bank named as principal defendants have disappeared from public view. These are Mr. Smith and his wife, and L. Ben Lewis, a former operations manager at a Wells Fargo branch in Beverly Hills, and his wife.
    A fifth defendant, Sammie Marshall, a top Maps official and a former bank employee, was reached by telephone at his home in Los Angeles. He said, "Man, I'm not talking to anyone."

Other Irregularities Indicated

    Law enforcement officials say that at this point in their investigation, the bank's estimate of a $21 million loss seems fairly accurate, though they add that there are indications of other irregularities, such as improper loans, that could add to the total. In the suit, the bank is seeking restitution and damages.
    Wells Fargo, which has its headquarters in San Francisco, has in the last decade expanded aggressively, with much of the growth in southern California, and has pioneered in instant computer bookkeeping. As a result, a tremendous volume of transactions is processed — some 2.8 million a day in December 1978, according to the bank's 1978 annual report.
    It is impossible for banks with this much business to verify every transaction instantly, so the computer is programmed to look closely at only a limited range of transactions.

Cost of Controls Weighed

    An insider with access to the system and an awareness of its limits can commit a crime in the "window" period, when the computer is not programmed to respond to missing documentation. The larger the bank and the more it relies on technology, the longer this window period, bank experts say.
    Because there is a direct correlation between the cost and the vigilance of internal controls, banks may often decide, in effect, that the cost of preventing some kinds of crime would exceed the possible loss from those crimes.
    And the employees with the most computer knowledge and access are often paid less then $25,000 a year.
    Bankers say there have been relatively few problems in this area in the past because most employees are honest and banks have instituted adequate internal control and surveillance systems.

'Anxious About Skilled Insider'

    "Honesty is the glue that holds the whole thing together," said William H. Bowen, president and chief executive officer of Commercial National Bank in Little Rock, Ark. He added, however: "We're all anxious about the skilled insider who can take advantage of the delays and crevices in the system. It's miraculous there's been so little abuse so far, considering the billions of transactions."
    Mr. Bowen emphasized the importance of internal audit systems and controls as a means of preventing fraud by insiders.
    Banks are subject to an unusual number of auditing tests. In the first and most important level, called internal control, the work of employees in a department is reviewed by their immediate superiors.
    At the next level are the bank's internal auditors, who do an independent review of the bank's personnel, operations and accounts. A further review and audit is done by the bank's outside accountants.

Final Review by Bank Regulators

    The outside accountant for Wells Fargo is the firm of Peat, Marwick, Mitchell & Co., which audits six of the nation's top dozen banks.
    The final review, a broader look at bank policies and procedures, is provided by bank regulators — in Wells Fargo's case, the Comptroller of the Currency. Donn B. Parker, who has been a security consultant to Wells Fargo and other banks in computer-related areas, said that Wells Fargo had one of the more advanced internal audit and control systems in the banking community.
    Mr. Parker, who works for S.R.I. International, near San Francisco, added, however, that he had some "suspicions about the propriety" of Wells Fargo bank employees' having business relationships with bank customers whose accounts they handle. This "possible conflict of interest," according to Mr. Parker and others, is a signal to auditors looking for abuses by insiders.
    Three Wells Fargo officials who handled Maps-related accounts also had business relationships with Mr. Smith, according to bank documents and bank officials. One was Mr. Lewis, the former branch operations manager who is a principal in several enterprises with Mr. Marshall, a top Maps official and a former bank employee whose jobs included a position at a Wells Fargo computer center. The third, Gene Kawakami, the director of Maas, handled Maps business at the bank and was dismissed earlier this week as manager of Wells Fargo's Miracle Mile branch. Mr. Kawakami, who has disappeared from public view, was not named in the lawsuit; Mr. Marshall and Mr. Lewis are defendants.

Laws and Codes of Ethics

    Some of the business relationships between Mr. Lewis and Mr. Smith were readily discernible. Indeed, one entity that the bank has accused of misappropriating funds is a corporation called Lewis and Smith Enterprises, which had accounts at Wells Fargo and an office in Santa Monica with an outdoor sign that prominently displayed its name.
    Some outside relationships are prohibited by law; for example, officials at savings and loan institutions, but not commercial banks, are prohibited by Federal law from certain business relationships with customers. Most banks, including Wells Fargo, have have internal codes of ethics that may require disclosure of outside interests and may also limit their extent. A spokesman for Wells Fargo declined to talk about the extent of disclosure of outside interests made by the three former officials.
    Wells Fargo moved to dismiss Mr. Kawakami this week only after Mr. Smith and others publicly raised questions about his activities.
    But questions had already been raised in a 1980 case in Los Angeles Superior Court in which the bank and Mr. Kawakami are defendants. Records in this case show that the bank, through Mr. Kawakami, lent large sums of money to an admitted gambler. The records also show that the gambler, who has now petitioned for bankruptcy and owes $100,000 to Wells Fargo, had financial dealings with Mr. Kawakami.
    The bank also disclosed this week that another branch manager, Joseph Mahfet Jr. of Wells Fargo's Hollywood branch, had been temporarily relieved of his duties while the bank authorities investigated $3.5 million in unsecured loans for Tennessee real estate investments. Mr. Mahfet, according to deed records in Memphis, was one of the investors.
    A lawyer for Mr. Smith, Albert Sheppard, has also raised questions about the bank's record keeping and internal controls. Mr. Sheppard said earlier this week that Mr. Kawakami had helped Mr. Smith convert to cash more than $500,000 in cashier's checks in a manner that contradicted bank and Federal bookkeeping procedures.
    Failure to fill out these forms, which help bankers and law enforcement officials keep track of large cash transactions, could subject the bank to civil or criminal penalties under the Bank Secrecy Act of 1970.
    Mr. Sheppard said that his client was an innocent victim, and that he intended to vindicate his name. He said that Mr. Smith had borrowed from the bank under what he thought was a normal line of credit for more than $6 million, arranged through Mr. Kawakami. Mr. Sheppard said that he would soon be talking to Wells Fargo lawyers about these borrowings and about Mr. Smith's assertion that he was unaware of any scheme involving his account.