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Protect Yourself

Don’t be a victim of employee deceit.

Nelson Equipment Company (Shreveport, LA) has been a successful distributorship for over 35 years, but even we aren’t immune to shady unethical acts by employees. In fact, it has happened twice.

In the early 1990s, an outside sales representative, who had been with us for three years and was based in our Baton Rouge branch office, contacted some suppliers unbeknownst to Nelson Equipment’s management team. The salesperson told the suppliers that he had bought into the business and set it up, for accounting purposes, as Nelson Equipment of Baton Rouge. He bought equipment from suppliers and shipped it to customers, very much in the traditional way. However, the invoices were being shipped to his house. He paid the bills, invoiced the customer and kept all the money for himself. This went on for six to nine months before some suspicious signs began to appear. Finally, he sold a piece of equipment that required a service technician to complete a field service report to activate the warranty. When the customer called our office to inquire about that, we informed them that we did not supply that piece of equipment. That was when we officially knew something was up.

As we unrolled what was going on, we were able to document over $250,000 worth of lost revenue. Once we had conclusive proof, the employee was immediately terminated. It was certainly an unfortunate situation, particularly because the customer who brought the item to our attention happened to be a Fortune 500 company. We ended up on conference calls with hosts of corporate lawyers sitting on the other end. Not only did it cost a lot of money, but it was also very embarrassing. Eventually, the relationships we had with that customer and that vendor were severed.

Of course, my first response was to go after the lost revenues. Unfortunately, there was no satisfactory legal recourse to take beyond dismissal. Louisiana is a right-to-work state, and we had signed contracts in place. Litigation is very expensive and a small company like ours couldn’t really afford it. Also, customers don’t want to get involved beyond their particular scope. Dragging them through testimonies, particularly about problems that don’t directly affect their businesses, can strain your future relationship with them. They often don’t want to talk about it at all because they feel guilty by association. Plus, there is always some uncertainty in court proceedings. When you go to court, there are two sides to every story and victory often depends on who can spin the facts. The accused has the ability to deny. Our attorney suggested that the dollar amount we were seeking was significant enough that the ex-employee likely would have just filed bankruptcy, preventing us from getting anything anyway. After carefully evaluating all those factors, we decided we would not pursue any legal action.

Some changes were put in place to try to protect against such an event recurring. For example, we now make it very clear that all orders must be placed through our corporate headquarters. If a customer doesn’t receive a hard copy purchase order from us, then it’s not a valid order. We also put tighter constraints on outside reps who do not reside at our headquarters and have better communication with our suppliers to inform them who is authorized to place orders with them. No sales rep has the authority to order anything from anybody without a purchase order coming from the Shreveport office. Even for no-cost or demo items, we will generate a hard copy purchase order if there is equipment going out into the field.

Before, we were a little loose in our management methods. We do put a lot of emphasis on giving authority to our outside sales reps; they negotiate projects and have a lot of direct communication with our suppliers. But they do not have authority to spend money on behalf of the company and now our suppliers are aware of that. We have guidelines and procedures and nothing should be ordered or sold by Nelson Equipment Company without a purchase order attached to it from our office.

Lightning Strikes Twice
Since making those changes about 13 years ago, we haven’t had any similar issues with outside sales representatives. But we were victimized once more, again by an employee who did not work at our headquarters facility.

About three years ago, we became aware that the manager of a branch facility had started a company to compete against us while he was under our employ. Basically, he used us to fund him going into business on his own. He was negotiating kickbacks. An example is an installation of equipment we sold. He’d find a subcontractor to install it, but he would get the contractor to pay him kickback money for giving them the job. In effect, our customer was paying him but NECI wasn’t getting the profits. We found out that this was a fairly common practice for him. Because he also oversaw some sales reps, he got some of the newer employees to buy into his methods.

This particular employee was with us for five years, and we believe that he began his second business about 18 months before we found out and fired him. We found out because one of our competitors called and let us know. This particular competitor lost a project to our branch manager. In his due diligence of finding out why he lost it, he came to find out that he knew our employee, that he was under our employ, and that he wasn’t representing that project under NECI. So he called our general manager and laid it out for us. He made it very easy for us to substantiate it and find out when the company was actually established.

I contacted the Louisiana Secretary of State’s office and verified if and when the business entity was established. Evidently, it had been going on for months, and once he built up enough business, he saw it was time to get his business legitimized. All of this while under our employ. Once we were able to substantiate it, we immediately terminated his employment. Two salespeople were also involved, one whom we released. The other resigned and went to work for the branch manager’s business.

There is no way to accurately measure, or even begin to estimate, how much money we lost as a result of the behavior of this one employee. We do know that we lost some accounts because of it, so the damage is almost certainly more than the first situation mentioned above.

Another thing we found out as we investigated was that suppliers (not MHEDA suppliers) were sending our salespeople gifts for generating business. It might have been something as simple as a gift card or dinner certificate. That seems pretty innocent, but that is money that should really go to enhance the profitability of NECI, not into a salesperson’s pocket. Even though it is a small amount of money, it isn’t part of a publicized, stated sales campaign and it isn’t right to accept that. We have since changed some suppliers to remedy those situations and are still trying to rebuild our company and our image.

The Fallout
Consequently, we no longer have any mid-level management. When we had a branch manger, he was responsible for both sales and service and then reported to me. But now, all employees answer to our headquarters. Field technicians answer to our vice president, Kurt Nelson, and outside sales representatives answer to me. We can get away with it because we’re a small company. This structure does require more travel, but it is making the business more profitable.

If we decide to re-introduce that position, I will definitely do things differently in the hiring process. There will be a much more detailed analysis—personality testing, extensive background checks and references—before hiring anyone. I used to be more concerned about ability, but now I am more inclined to look at background and character, which is hard to do these days because people are less willing to give references. You need to do your own covert background check and sniff out little snippets of information. That’s the approach I’ll be taking in the future to try to choose the next person a little better.

Five Ways to Mitigate
Employee Fraud

Tighten Internal Policies. Procedural paperwork will verify orders and indicate to customers what is official.
Improve Supplier Communication. If suppliers are aware who is authorized to spend money, they can help police the situation.
Trust, but Use Caution. Employee empowerment is good. But don’t get lazy. Be sure to check up on and balance your off-site managers.
Hire Right. Background and reference checks can help weed out any sketchy character issues up front.
Get Lucky. Even with the proper controls, employees who want to cheat you will cheat you. Hopefully, you’ll be fortunate enough to avoid the problems.

From a legal standpoint, iron-clad sales agreements can be hammered out. Something we started doing after the branch manager situation is having our sales reps annually sign a document. It’s not a really tight contract because things change and incentives are given for both short-term and long-term. It basically gives an overview of territory responsibility, sales objectives and compensation. Usually there are very few changes from year to year, but it does protect us to have something in writing with their specific expectations and that they agreed to it. That’s a subtle change that our attorneys recommended to avoid getting into full-blown non-compete sales agreements. As a full-line distributor, it’s very difficult to enforce a non-compete agreement because we sell so many different types of products. A court of law will rarely uphold such a case because it restricts the person’s ability to make a living.

In many respects, it’s unfortunate that, again, we didn’t have much legal recourse. One thing we found out is that people are willing to help—but only to a point. Most don’t want to testify or get caught up in court proceedings. Another interesting thing is that other employees in the office see these things going on. Most of them get suspicious, but few will say anything. Even your most loyal employees may never bring it to your attention, for a variety of reasons.

I don’t know what the motives were for these two individuals. Both were involved with sales and knew the profit margins of certain projects. Maybe they were greedy. Maybe they don’t like to share the wealth. Regardless, I do blame myself on one level. Obviously there was no loyalty or commitment from these employees. Truly happy employees don’t do things like this.

There is no real solution to this problem; you can only try to minimize the damage by doing your homework on the front end and establishing solid business relationships. You cannot put procedures in place that will stop employees who want to cheat you or steal from you. If you try to do that, you are going to shut down your ability to grow your business because you’ll be too paranoid to take risks. You must have trust. It is a risk-reward issue that just goes with the territory.

Situations like this happened to Nelson Equipment Company, and without the proper diligence (perhaps even with it), it can happen to any distributorship. Take the proper precautions to make it difficult for employees to commit fraudulent acts against your company.

Material Handling Equipment Distributors Association
Meet the Author
Mark Nelson is president of Nelson Equipment Company, located in Shreveport, Louisiana, and on the Web at www.nelson equipment.com.

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