(wIth Daven Morrison, Joe Koletar, and Jack Bigelow) So wrote the finance chief at Dewey & LeBoeuf LLP to the Chief Operating Officer at the prestigious law firm in New York in 2008, according to an SEC complaint and 106-count indictment mentioned in the Wall Street Journal account of the indictment of the fallen firm’s leaders. It’s what fraud investigators often call the “smoking email.” And it points to a scandal now rocking the legal profession—a scandal amplified by the pristine reputation of a law practice going back to a New York governor, two-time presidential candidate, and more than a century of practicing law.
The article traces the impetus for fraudulent accounting when the firm’s leaders discovered they were about to violate the terms of a bank loan requiring certain cash flow levels. The indictment states that in 2008, the firm was $50 million short of the required cash level. From then on, the firm “lived at the edge of disaster for years, resorting to increasingly desperate measures to keep existing creditors happy and entice others to give fresh injections of capital.” One cited instance describes how the firm classified as a client payment what was really a partner’s $1,080,000 check to cover his equity stake, to inflate the firm’s reported income. Alleged tactics include:
• Inflating 2008 profits by $36 million with this and other improper accounting entries;
• Recording simple reimbursements from clients as income;
• Understating expenses;
• Asking clients to backdate checks in payment;
• Characterizing millions of dollars in credit card debt as disbursements owed by clients.
SEC Enforcement Director Andrew Ceresney described these moves as “pulling dollars out of thin air” to keep from violating the loan agreement with a consortium of banks.
Our book, A.B.C.’s of Behavioral Forensics (Wiley, 2013) examines the psychological drivers of behavior at the C-Level suite that encourage highly-positioned executives such as those just indicted to put their firms in such extreme jeopardy. These drivers are both motivational for planning and implementing such accounting shenanigans and rationalizing to allow themselves to keep doing it, with the consequent, inevitable erosion of moral beliefs and values. The Wall Street Journal article dismisses “greed” as a driver: “The fraud didn’t appear to have grown out of individual greed, but was perpetrated by people ‘who succumbed to the pressure of running a large law firm,’ according to a person briefed on the probe.” This assessment is not inconsistent with the major theme in A.B.C.’s of Behavioral Forensics that very often greed is not the key motivator, and provides precious little in terms of insight into the fraud perpetrators’ underlying motivation. Instead, other factors are at play.
The fraud-initiating and sustaining factors discussed in our book may be related to what happened at Dewey & LeBoeuf. The many examples of fraud listed underscore a group dynamic consistent with the irreversibly shifted moral compass of a street gang: all options are open to keep threats to the organization at bay (“whatever it takes,” or, “the end justifies the means”). This is just one of several motivations highlighted in our book as we explore causes of fraud beyond greed. In this case, when the Dewey & LeBoeuf partners apparently decided to circumvent the accounting rules, they must have also resorted to rationalizations around several other thoughts, such as:
• The Short-term Fix: “Is this a game we can use for escape, short-term, and then back out of it?”
• Continuity and Survival: “Is doing this a service to our clients, allowing us to continue serving them?”
• The Noble Cause Argument: “Might this be a noble cause to preserve our organization?”
“Noble cause” is a rationalization based on the belief that because one’s goal is a very worthy one, some cheating is justified because of that larger agenda. The Dirty Harry movies portray noble cause thinking. In the academic world, teachers might self-justify cheating on standardized tests so that “the kids will have a chance for a better life.” But in the business world, “noble cause” quickly degenerates into ignoble cause—plain old corruption. The top brass may have thought they were fudging just a bit to save the firm to protect the livelihoods of employees and to protect the services valued by their clients. As time went on, more and more fudging was required until they crossed the point of no return and it all collapsed under its own weight. This scenario parallels the anecdote recounting that a frog placed in boiling water will immediately jump out, but if it’s placed in cold water that is slowly heated, it won’t perceive the danger and will be “cooked to death.” Prosecutors will most likely focus on the noble cause reasoning from the viewpoint that the book-cooking allowed them to keep their own jobs, salaries, and bonuses. And it did. Psychologically, noble cause is seductive in convincing fraudsters that their illegal actions are really acts of heroism. It’s a mental trick that translates these actions into something akin to being a modern day Robin Hood, stealing from the rich to give to the poor or the moral ambivalence of robbing Peter to pay Paul. Or considering their actions to be heroic vengeance against large, faceless organizations that they believe are harming people (a conveniently twisted David vs. Goliath interpretation).
But organizations can feel under assault as well, and law firms have definitely been under fire. They are under extreme financial pressure as internet resources become more available to clients, freeing them from seeing the need for expensive attorney consultations. The web also communicates more options from competing firms and suggestions for strategies to reduce legal fees. Established partners who “grew up” with one business model (investing selves in its values and standards) become entangled with newer partners sensitive to the new reality of shrinking revenues (offering conflicting values and standards). In this new reality, what we observe is a game of chicken and the leaders are left waiting to see who will blink first. In some ways, this mirrors the factor outlined in A.B.C.’s of Behavioral Forensics that’s related to the challenge of late adulthood: “I’ve come too far not to get mine.”
Finally, there’s the challenge of the organization’s leadership being competent with emotions and the guidance that this competence provides for navigating the inevitable ethical questions. Organizations find themselves in significant and potentially self-destructive binds when they cannot openly admit to themselves and others the setbacks that always occur. They work harder to save face when they are incapable of experiencing the embarrassment of reality, convincing themselves that no morals and values have been sacrificed. In their closed-system logic, the temptation to commit fraud becomes self-reinforcing and inexorable. And consider the ultimate cost—financial and otherwise—to this once-storied law firm: a cost far greater than the short-term impact of some minor public embarrassment. Incompetence in managing shame can thus lead to fraud perpetration. The case of Dewey & LeBoeuf illustrates this cause-effect link powerfully.