Watchdogs: 'Shell' Schemes Are on the Rise

Two months ago, Agilysys, (AGYS) a small IT firm, shipped a dozen point-of-sale devices to a new customer called Manybol Enterprises in South Florida: cash registers, touch-screen monitors, receipt printers, and barcode scanners that sold for a total of $53,802. The order struck Agilysys' sales rep as strange, according to a Ohio police report the company filed later. After all, the customer bought it immediately after getting a price quote, whereas most companies take weeks or months to place such orders. The rep ran it by his managers, who approved the shipment because the information Manybol provided on its credit application checked out with Dun & Bradstreet (DNB), the main bureau for business credit reports. After the goods shipped, the sales rep tried to reach Manybol, but the phone, fax, and e-mail address he had stopped working. The invoice was never paid. On Oct. 9 Agilysys reported the fraud to local police in Solon, Ohio, where the 1,250-employee firm is headquartered. The con exploited what experts say is a gaping hole in the security net designed to thwart better-known scams such as stolen credit cards or fake checks: business-to-business frauds involving shell companies that appear legitimate on paper. The targets range from mammoth global banks to small trade suppliers. Firms that sell to other companies typically use trade credit agreements that don't require the buyer to pay until a set period after the sale, often 30 days. That, combined with the ease of setting up or buying shell companies—and the anonymity they provide—leaves manufacturers, wholesalers, and distributors vulnerable to shell company fraud. Disputed OwnershipManybol appears to have once been a legitimate sports collectibles dealer, based on directory listings and filings with the Florida Secretary of State. But by the time the entity placed an order with Agilysys, it had been dormant for several years. State records don't reveal the owners of corporations, but the officers listed on Manybol's filings had changed twice since 2005. The Fort Lauderdale company also falsely claimed to Dun & Bradstreet to be a branch of a St. Louis janitorial supply distributor, a claim that company's owner disputed and reported to Missouri authorities when he learned of it. Several calls to Manybol from BusinessWeek went to a voice mailbox that was full. Dun & Bradstreet declined requests for comment, as did Agilysys beyond the statements the company made in its police report. It is not clear how widespread shell company fraud is, although watchdogs say it is rising. "We are seeing more of a migration of fraudsters going from consumer type fraud to business type fraud," says Kristan Keelan, a product marketing manager for global credit bureau Experian, EXPN.L, that compiles data on business and consumer credit. "It's so much more difficult to verify and validate business information." That difficulty is a prime reason criminals find shell company schemes attractive. For one thing, thefts can be far larger than in consumer frauds because businesses have bigger credit lines. And with the time-lag for payment, perpetrators have weeks to disappear before their victims realize they've been conned. The cases are often low priorities for law enforcement when no consumers are directly harmed. What's more, some firms may not even recognize the loss as fraud and simply write it off as uncollectible debt, a cost of doing business. When they are reported as fraud, these crimes are tough to investigate because of the anonymity shell companies provide. Senator Carl Levin (D-Mich.) has introduced a bill, favored by financial crime authorities, that would force states to collect more information about the true owners of corporations.The bill is before the Senate Committee on Homeland Security & Governmental Affairs, which held a hearing on Nov. 5. There's a bustling online trade in shell companies. Dozens of Web sites offer to sell existing corporations or limited liability companies, typically registered in states like Delaware, Nevada, Wyoming, or offshore locations, all of which require little disclosure about the actual owners. These include real businesses that have closed but still exist on paper, as well as entities that never had any real operations or significant assets. Sometimes they're marketed as "aged shelf companies", firms that were registered several few years ago to make them appear more established to potential lenders or trading partners. Some sellers advertise that the companies already have credit lines. New shell companies can be had for a few hundred dollars, but buyers pay a premium for aged or off-shore incorporation. Two-year-old entities command over $1,000, and some sites list decades-old entities for sale for tens of thousands of dollars. Some Shells Are LegitimateBuyers might want shell companies for legitimate reasons. They're sometimes used in corporate restructurings, mergers, or other deals. But some buyers may seek to use an aged corporation to skirt guidelines that restrict lending to new businesses. In April, responding to concerns raised by the Better Business Bureau, the FDIC alerted bank executives to this risk: "Shell and shelf companies are often formed by individuals and businesses to conduct legitimate transactions. However, they can be and have been used as vehicles for common financial crime schemes such as money laundering, fraudulent loans, and fraudulent purchasing," the agency said in its alert. The regulator noted that sometimes sellers of shelf companies advised buyers to request credit lines under $150,000 to avoid heavy scrutiny from banks. Small and midsize manufacturers, wholesalers, and distributors are among the most vulnerable to shell company fraud, because they do business on trade terms but can't afford the risk management systems that larger firms and financial institutions use—nor can they absorb the losses. "Our members don't have the margins. They don't have the volume of business any more that they have the luxury of being ripped off," says Mike Mitchell, president and CEO of the Credit Management Assn., an information-sharing group that tries to help B2B companies in California and Nevada prevent fraud. "The risk has gone way up in this environment." Meanwhile, police in Solon, Ohio, collected the serial numbers for the dozen pieces of IBM (IBM) and Motorola (MOT) retail equipment Agilysys shipped to Manybol. It's likely, based on what fraud experts say, that those goods and untold other equipment the murky company may have ordered from suppliers across the country, are already being resold on the black market.

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