Ponzi schemes - who was Ponzi?

With some much recent news about Ponzi schemes - see the posts on Bernard Madoff and about the Sunshine Empire, the question that some ask is "who was Ponzi and what was his scheme?'

Ponzi was someone with a bright idea which he introduced in the USA as a means of generating great returns. His idea involved international reply coupons which could be bought in any country and used like postage stamps to send a letter overseas. These coupons could also be exchanged for cash in any other country. His brainwave was to buy the coupons in less developed countries and then to ship them to the USA where they could be exchanged for much greater amounts (sounds like a great form of arbitrage). Logistic problems prevented his plan from being carried out but he received such a large amount of investments in his plan that he decided to carry out a massisve deception by using new investment money to pay off previous investments.

If you wish to know more about his life and his ultimate fate, you may refer to wikipedia.

Sunshine Empire 3 - The law of Ponzi Schemes

If James Phang and company are found to have run a Ponzi scheme, what can they be charged with?

Under Singapore law, the law relating to Ponzi Schemes can be found under section 340 of the Companies Act which refers to the business of a company "being carried on with intent to defraud creditors or ... for any fraudulent purpose" . Phang and Jackie Hoo face 1 charge under this section.

Another relevant section is section 404, Companies Act which refers to fraudulent inducing persons to invest money. However, proving fraud is usually rather difficult and it usually requires proof as to the state of the defendant's mind - that he intended to defraud others. In some cases, the defendant might claim that he honestly believed in his company's business model (its revenue generation methods). In a crminal trial, the prosecution has to prove the charges beyond reasonable doubt.

It should be noted that the bulk of the charges against the Phang gang are in relation to falsification of accounts. This may require a lot of investigation work but may in the end be easier to prove. In many cases, the assets of the company are overstated. In the cases of fraud, it is often not just over optimistic valuations of the assets but rather including ficititious assets on the balance sheets.

Sunshine Empire trial

The trial of the bosses of the Sunshine Empire has just started. James Phang, his wife Neo Kuon Huay, and ex-direcror Jackie Hoo Choon Cheat have been charged with their roles in this affair.

The prosecution has alleged that they masterminded what is Singapore's largest Ponzi scheme involving more than $180 million. Ponzi schemes are a scam where monies from new investors is used to pay off previous investors, thus giving the appearance of a successful business model.In this way, more investments are attracted.

Ponzi schemes have been in the news in the last 12 months because of the enormous scam run by American Bernie Madoff. Please search this blog if you want more information on some of Madoff's tactics.

Bernie Madoff's fraud techniques

How did Bernard Madoff carry out his massive Ponzi scheme fraud for so long?

Press reports show that the scheme was quite sophisticated. Some of his techniques -

a) attention to detail - his company recorded millions of pages of non-existent trades that were reflected in customer cofirmations and account statements; trade prices were checked to ensure that they were not out of line to normal real prices at the relevant times;

b) keeping of old stationery - old letterheads were kept in case he needed to create records relating to earlier periods; and

c) fake counterparties - in case of surprise visits at his office by regulators, an employee was supposed to enter in fake trades on a computer, while another employee in a nearby office would play the part of counterparties using a linked computer. This would give the appearance of active trading at that particular time.

The scope of not just the fraud but the large scale of the fraudulent activities show that Bernie Madoff did not act alone. His right hand man Frank DiPascali has also pleaded guilty to his part in the fraud.

Unmarried couple in $1.7 million bank fraud

Couple Ragamahhhulla Meeran Gani and girlfriend Anita Said were involved in cheating her employer OBCB Bank of $1.7 million dollars in a fake invoice scam. Over 5 years, they used 750 fake invoices to obtain payment from the bank for fake courier services of bank brochures and prospectuses. This was easy as she was involved in processing payment to the bank's suppliers and service providers.

They were charged in court with 93 charges of cheating and 9 charges of moving the illegal proceeds to Malaysia where some of the money was used to pay for a house in Malaysia and renovation work on it. For their crimes, they were sentenced to 5 1/2 years jail each.

The bank would of course be able to sue them for the monies taken and perhaps for a share of the value of the house in Malaysia.

Digging through rubbish

One method used by business competitors to steal trade secrets is by digging through your trash or rubbish bin.
Is this allowed under the law? What can you do about such dirty tricks?

One possible response is to report to the police and claim that it is theft under the Penal Code. However, since a dishonest intention is required, it is unlikely that the police will take action. Of course, if you wish, your lawyer can help you start a private prosecution for theft.

A civil lawsuit agaisnt the rubbish takes is also possible in order to recover damages and perhaps obtain an injunction against the use of any information obtained.

An interesting case which did not come to a firm conclusion about the legal effect of what is sometimes called dumpster diving is

Obegi Melissa and Others v Vestwin Trading Pte Ltd and Another
[2008] SGCA 4.

Fraud prevention - division of duties

To prevent fraud, auditors and management consultants recommend divisions of duties or a system of checks and balances.

This means that as far as possible, no one person is in charge of a sensitive or important function. For example, a cheque book should not be left in the hands of an employee who has power to decide on payment who is the cheque signatory as well.

Another common example is found in the financial industry in relation to traders - allowing one person to be in charge of trading as well as back room operations (the paperwork involved in the trades). This is of course similar to the Barings Bank situation.

Forged cheques

Many cases of corporate fraud involve the use of forged cheques by company insiders. For example, an employee who is in charge of the company cheque book, may take a few cheques and forge the authorised signatory's signature to draw cheques payable to himself or his accomplices.

What is the legal position? Case law requires banks to know their customer's signatures. Therefore, a forged cheque is not valid and any withdrawal is not authorised. The bank would have to refund the monies drawn out.

However, banks have often reacted through using contract clauses in their agreements with their customers, to shift some of the risk to the latter. Customers may be required to take reasonable care of the cheques. More common is the clause that deems the regular statements of accounts sent to the customer as conclusive within a certain time period (usually 14 days). In other words, after 14 days, if the customer does not query the statement, all reported withdrawals will be deemed valid.

For corporate customers, case law has held such clauses to be valid. For individual customers, perhaps such clauses may be invalid under the Unfair Contract Terms Act, but this is highly arguable.