Crazy Eddie - Case Study

Introduction

Crazy Eddie, was an American electronic consumer retail chain which began as a small operation in the 1970s but within a short time, it had grown to become a major New York retail chain having 43 stores across four states with its annual sales records hitting over three hundred million dollars. Eddie Antar, Aaron Gindi, and Sam M. Antar were the three partners who founded the company, and each owned at least one-third of the interest in the business. Aaron was bought out by Sam M who acquired two-thirds of the interest in the business. Sam M later formed a new corporation, Ultralinear Sound Corporation to succeed in the previous business.

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The fraud at Crazy Eddie involved a number of deceptive activities and malicious schemes to benefit personally from the business operation. Main three phases of the fraud are estimated to have occurred. Between 1969 and 1979 the first phase occurred, 1980 to 1984 the second phase and finally the third fraud between 1984 and 1987. In 1971 the first fraud case was seen just after sights and sounds were created. Primary schemes were cash skimming, evasion of tax (payroll, sales, and income taxes) phony recording and also the insurance claims were highly exaggerated( Banarescu,2015). Cash skimming involved failure to record cash proceeds in the company books whereby the cash was being used for personal use and off the books payroll. Money accumulated was even hidden in another country.

In the second phase, it resulted from steps to launch an initial public offering(IPO) of Crazy Eddie stock. There was a belief that the sale of stock would make higher profits compared to the previous scheme. They reduced cash skimming through paying employees on the books to artificially increase the company's growth which would give an appearance of the rapid growth of the company. The investors were enticed to buy the company's shares at highly inflated prices. The initial public offering Crazy Eddie had was in September 1984.

The third phase of Crazy Eddie fraud occurred after the company went public. Antars shifted their focus as they had to find a way of inflating their income to continue selling their stock at inflated prices in the market. This was done through inventory fraud, underreporting of payable accounts, channel switching, sales volume inflation through bringing back previously skimmed cash. In May 1996 Eddie Antar pleaded guilty and sentenced to eight years in prison, made to pay over 150 million dollars fines and over $1 billion in judgments against him.

Did Crazy Eddie understand how to create a culture of honesty, openness, and assistance?

Not at all. Crazy Eddie skimmed cash mainly from money made through cash sales, evaded paying taxes (sales, income and payroll tax) they used the skimmed cash to make off the books payroll and for personal use, and the accumulated cash was also hidden in other countries to hide their tracks. They also overstated sales stores, earnings, and capital and making false insurance claims.

Did Crazy Eddie understand the importance of proactive fraud auditing?

Crazy Eddy didn't realize the importance of fraud auditing as they carried out all their operation through fraudulent means without complying to any regulation and set procedures either in auditing or true financial information reporting.

How could the Crazy Eddie fraud have been detected earlier?

Through notice of the poor audit activities and also their documentation. Before the company went public, there was substantial wages increase far below market wages. The 1985 attempt to falsify store inventories and which went uncovered by the company's auditors but could have been easily noted.Avoidance of self-dealing transactions with related family members. Use of participative leadership unlike in this case where Crazy Eddie had absolute control of all the company's aspects.

Who were the victims of the Crazy Eddie fraud?

The government was a victim through Crazy Eddie behavior of tax evasion. This included skimming of cash sales aimed at avoiding sales and income tax. Insurance firms were also a significant victim as Crazy Eddie reported exaggerated and phony insurance claims directed at profit increasing. Investors who were made to buy Crazy Eddie stock at exaggerated prices as Antar wanted to increase their income. The prices of stock later dropped extensively to $17.50 per share.

What happened to Eddy and Sammy Antar?

As Eddie started quarrels with his wife and began having an affair with another woman and was caught, this marked the beginning of his problems because Eddy's scam relied heavily on members of his family who wanted to maintain a false image that the company was operating successfully. Antar was ordered to repatriate over $50 million illegally transferred to Israel and appear before the court, but he failed to turn up hence an arrest warrant issued. He fled to Israel and in exchange for immunity Sammy was ready to testify to federal prosecutors. Sammy pleaded guilty sentenced to 6 months of house arrest, community service for 1200 hours and over $10000in fines. Eddy was finally arrested and convicted for twelve and a half years in prison.

What did you learn from the case?

Long term successful operation of any company requires transparent ways of carrying out a business which includes tax compliance, use of right methods of employee compensation, auditing, avoidance of insider trading, making valid insurance claims, proper auditing and financial reporting. Failure to this may lead to short term success only for massive collapse to occur later through liquidation and to be unstable in the stock market.

References

Banarescu, A. (2015). Detecting and Preventing Fraud with Data Analytics. Procedia Economics and Finance, 32, 1827-1836. doi:10.1016/s2212-5671(15)01485-9