Ethical or unethical theory (relate to the case) page 5
After Crazy Eddie went public, in order to keep posting impressive operating results to maintain upward trend in the stock price, Eddie asked Sam to help design, manage and conceal the company’s fraudulent schemes.
Crazy Eddie was an American retail store chain run by the Antar family, which was established as a private company in 1969 Brooklyn, New York by businessmen Eddie and Sam M.Antar. The fraud at Crazy Eddie was one of the longest running in modern times, lasting, from 1969 to 1987. Crazy Eddie became a known symbol for corporate fraud in its time, but has since been eclipsed by the Enron, Worldcom and Bernie Madoff accounting scandals. In the 1980s, Crazy Eddie was a growing electronics retailer and sought to inflate their books for a better IPO. The Crazy Eddie fraud is also an example of both fraudulent financial reporting and misappropriation of assets. The company skimmed cash, overstated inventory, and used a number of memorandum entries to appear more financially lucrative prior to the IPO, and then continued and even expanded the fraud to boost its CRZY stock price after going public. Eddie Antar grew up in his father’s retail business in a Syrian Jew neighbourhood in Manhattan. Eddie was destined to follow his father in the retail business. Antar dropped out of high school at age 16 and began peddling electronics in his neighbourhood. After dabbling in a number of sales positions on his own, Eddie teamed with his father and another family member to launch Sight and Sound, an electronics store. His aggressive sales techniques soon earned him the nickname “Crazy Eddie.” 29 Accompanying his odd behaviour, “his quick temper caused repeated problems with vendors, competitors, and subordinates. Antar’s most distinctive trait was his inability to trust anyone outside of his large extended family”.
Eventually, Sight and Sound turned into Crazy Eddie’s, a big box electronics retailer. Eddie’s exuberant personality and charisma guided the company, its culture, and fueled the business’s growth, known for their insane prices and their pledge not to be undersold. Even without the fraud, Eddie’s business was legitimately successful and he was the first to prove that a freestanding electronics store could work profitably. Despite the stores’ success, Eddie was compelled to steal from the beginning, just as his father and all the other Antars had done with their previous retail businesses. The fraud began simply enough, paying some employees off the books, just as one would do a babysitter. In fact, tax records show that one store manager, Allen Antar, claimed that his entire compensation was $300 weekly. Of course, he managed to drive a Jaguar, while supporting a wife and three kids, “two of whom were in private school with tuition of approximately $25,000”.
Eddie personally skimmed cash from the beginning, choosing not to report some sales and distributing the excess cash to his family members. The schemes grew as the company did. The company went public in 1984, garnering capital to finance an aggressive expansion plan. In its first year as a public company, Crazy Eddie’s sales grew by 55% from $29 million to $46 million. Net income soared from $538 thousand to $1.141 million. As a result, investors loved the 30 company and its 17-cent per share dividend. Its price-to-earnings ratio was the highest in the industry and not in 15 years had one single store in the company reported a loss. Yet the IPO came a full year late.
After discovering that the financial records were careless and incomplete, the underwriters delayed the IPO. The underwriters also expressed concern over the number of related-party transactions, amount of unqualified family members acting as executives, “interest-free loans to employees, and speculative investments unrelated to the company’s principal line of business”. The underwriters encouraged Eddie to hire a national accounting firm and an experienced CFO. Eddie hired the national accounting firm Main Hurdman as the auditors, but chose to tab his younger brother, Sammy, as the CFO. “Eventually, Antar’s father, sister, two brothers, uncle, brother-in-law, and several cousins would assume leadership positions with Crazy Eddie, while more than one dozen other relatives would hold minor positions with the firm”. Despite the concerns, the IPO was successful and, in fact, was even oversubscribed. By 1987, the company reported annual revenues of $350 million with 43 stores. Throughout the early 1990s, the VCR was fueling electronics sales. At the same time, “Antar blanketed this region with raucous, sometimes annoying, but always memorable radio and television commercials”. The consumer electronics industry experienced considerable growth between 1981 and 1984.
However, in 1986, the growth plateaued and sales dipped. As Crazy Eddie’s growth trend continued, the auditors should have grown increasingly suspicious. 31 A bitter divorce between Eddie and his wife divided the family and resulted in the forced removal of a number of executives. Additionally, the tripling of the sales volume in three years added significant complications to the company’s books and to the amount of work needed to maintain the fraud. In a fit of rage, Eddie relinquished his role as company president and then completely dropped out of sight weeks later. Larger companies began to catch wind of Crazy Eddie’s remarkable success and sudden organizational woes, and a number of takeover threats soon emerged.
Ultimately, a hostile takeover led to a proxy fight that resulted in the Oppenheimer-Palmieri Fund assuming control and immediately led to Eddie’s permanent ouster. CFO Sammy Antar, with the fraud becoming increasingly difficult to manage, left immediately and gave the new owners a prophetic greeting on his way out. The fraud was uncovered soon thereafter and the new owners, despite efforts to reform the troubled business, were forced to close the stores and declare bankruptcy. During this time, Eddie was on the run, using a number of aliases and the foreign funds he had accumulated over the years to maintain his prolific lifestyle overseas. However, he, along with several other Antars, was soon sentenced in a federal court.
Commencement of fraud
The fraud began almost immediately, with the management of Crazy Eddie underreporting taxable income through skimming cash sales, paying employees in cash to avoid payroll taxes and reporting fake insurance claims to the company’s carriers. Eddie Antar, the CEO of the company who was the mastermind in the fraud, was skimming money from sales taxes that he only partially remitted to the government, while using part of his money to give steep discounts to customers. Much of the rest of the money he used to fund a partying lifestyle, while secreting a fortune at home and abroad. He also repackaged used and damaged electronics and resold them to customers as new. When electronics companies refused to supply him because he was selling the products to his customers below list price, he instead sourced the products from suppliers in other countries on the gray market. He used massive sales promotion strategy to promote his company’s name and products. The television ad of the company was very much popular that time. The company began to grow rapidly and had several branches across the country. As the chain grew in size, the Antar family started planning for an initial public offering (IPO) of Crazy Eddie and scaled back the fraud so that the company would be more profitable and get a higher valuation from the public market. This strategy was a success and crazy eddie went public in 1984 at $8 per share. The final phase of the crazy eddie fraud began after the IPO and was motivated by a desire to increase profits so the stock price could move higher and the Antar family could sell its holdings over time. Management now reversed the flow of skimmed cash and moved funds from secret bank accounts and safety deposit boxes into company offer, booking the cash as revenue. The scheme also involved inflating, and creating phony inventory on the books and reducing accounts payable to boost profits at the company.
Concealment of fraud
The electronics chain used the young, inexperienced, undereducated and under skilled auditors for the audit purpose. The chain was able to fool young auditors by showing them inventory stock rooms filled with empty boxes of electronics gear, while distracting them with attractive female workers so they wouldn’t bother to look at what was inside or behind the stacks of boxes. They had a concept that if the auditor was wearing a suit, it was sure he wasn’t going to get it dirty by moving the boxes. Eddie Antar was the mastermind behind the various schemes and hired his relatives to work at the electronics chain to help aid and abet the fraud. Eddie Antar paid for his cousin Sam. E Antar to learn accounting so he could eventually work at the growing company’s small auditing firm, Penn and Horowitz. In 1981, Sam passed the CPA examination with a 90% and scored in the top 1% in the country. He later became the Penn and Horowitz company’s CFO in 1986. All the family members were bound together by a culture of crime and were working as a team for commitment and concealment of crime.
Exposure of fraud
The company was making so much money that Eddie Antar was having trouble finding places to put it. He ran out of hiding places in his office and home, and eventually began travelling to Israel and Switzerland to stash the money in secret bank accounts. However, the scheme began to unravel when his wife found out he was cheating on her, and the family took sides in the dispute. The fraud was finally uncovered in 1987 after the Antar family was ousted from Crazy Eddie after a successful hostile takeover by an investment group. The acquirer found out how overvalued Crazy Eddie really was and hired another outside auditor to look closely at the book. Crazy Eddie limped along for another year before being liquidated to pay creditors. Eddie Antar the CEO of Crazy Eddie, was charged with securities fraud and other crimes, but fled to Israel before his trial. He spent three years in hiding until he was eventually tracked down by authorities in 1992 and extradited back to the U.S. to face criminal charges. Antar and two other family members were also convicted for their role in fraud. In 1997, Antar was sentenced to eight years in prison and paid large fines. He was later released in 1999.
CEO and CHAIRMAN (Pros and Cons splitting the roles)
Firstly, when the roles remain separate, people can address the practical and ethical demands of their unique positions. The CEO needs to spend time doing three things such as growing the business, making strategic decisions to grow the business, and developing the bench. When CEOs take their eyes off any one of these balls, dire consequences ensue. Arguably, with the exception of developing talent, two of the three responsibilities mirror the board chairman’s duties too, but chairmen have additional duties that create the conflict of interest. The function of the chairman is to run board meetings and oversee the process of hiring, firing, evaluating, and compensating the CEO. Clearly CEOs cannot perform these duties impartially. On the other hand, when chairmen can play the role of advisors, and the CEO can concentrate on delivering on the strategy, accountability stays clear, and the CEO can retain both the responsibility for results and the decision making authority to ensure success.
Secondly, splitting the positions guarantees a more reasonable span of control, which cannot happen when the organization relies too heavily on one person in the suboptimal combined leadership structure. When the two key roles are unified, the company loses its best shot at limiting one person’s power which can have positive or negative results, depending on the point of view. Some argue that many successful companies have a combined role, and that their performance exceeds that of competitors that have split roles. The reason is obvious: only those exceptional CEOs who have proven track records had been able to function effectively in the dual role. Less successful leaders have been eliminated. In the short run, therefore, top performing companies have reported that they remain more successful when one powerful, effective leader oversees both the management of the company and the functioning of the board. Proponents of this position also claim that splitting titles dilutes the power to provide effective leadership, creates the potential for rivalry between the separate title holders, and leads to confusion when the company has two public spokespersons. They further claim that CEOs have unparalleled specialized knowledge regarding the strategic challenges and opportunities facing their companies. Similarly, if one accepts the apparently reasonable assumption that the CEO has substantial specialized knowledge, indispensable to the chairman’s job, then separating the CEO and the chairman titles necessitates the costly, inefficient, unnecessary, and incomplete transfer of critical information between the CEO and the chairman. Eliminating the separate role of the chair subtracts the dispassionate evaluator from the equation. In other words, dual role CEOs, in essence, are left to grade their own homework.
The third reason that supports separation of the roles involves the critical role the chairman should serve as dispassionate outside advisor and advocate. Organizations usually choose experienced, seasoned industry veterans as their chairs. These chairmen bring a wealth of knowledge and proven track records to a sometimes underdeveloped and less experienced table of executives. When executives can rely on a strong chairman who is different from their CEO, the chair can act as a lubricant among all entities, especially when inevitable conflict occurs. In these cases, the symbiosis of quadruple mutualism can occur: CEOs perform more effectively; directors realize more success in their roles; the chairman can retain appropriate control; and executives in the firm can access the wisdom and counsel directors can provide.
Proponents of CEO and Chair independence base their view on the inherent system of checks and balances that the Board, and particularly the Board’s Chairman, is supposed to impose on management. Essentially, a firm’s Board and Chairman of the Board serve to hire, fire, evaluate and compensate management including the CEO based on performance. Clearly then, these proponents argue, a single CEO and Chairman cannot perform these tasks apart from his or her personal interests, making it more difficult for the Board to perform its critical functions, if and when the CEO is its Chairman. Accordingly, separation of the Chairman and CEO roles, can lead to better management and oversight because an independent Chairman is able to ensure that the board is fully engaged with strategy and to evaluate how well that strategy is being implemented by management. Importantly, appointment of an independent Chairman can also signal to all stakeholders that the CEO is accountable to a unified Board with a visible leader.
Apart from largely helpful from a corporate governance standpoint, one must note that the separation of CEO and Chair positions can impose several costs on a firm. First, while appointing an outside Chairman can reduce the agency costs of controlling a CEO’s behaviour, such an appointment introduces the agency costs of controlling the behaviour of the non-CEO Chairman. Essentially, the power associated with the Chairman position is extensive, and while CEOs generally have great reputational and financial capital risk in the future performance of the company, which incentivizes the single CEO and Chairman to act in the best interests of the firm overall, such may not be the case with an outside Chairman.
Furthermore, in light of the CEO’s usually unparalleled specialized knowledge regarding the strategic challenges and opportunities facing the firm, separating the CEO and Chairman titles necessitates the sometimes costly and generally incomplete transfer of critical information between the CEO and the Chairman.
Besides that, splitting the titles can possibly dilute CEO and Chairman power enough to affect their individual ability to provide effective leadership, to create the potential for rivalry between the separate title holders, and to lead to confusion over who is really in charge, both within and outside of the firm. Finally, and perhaps most important, separation of the positions might make it more difficult to pinpoint the source of bad corporate performance.
3. Identify the stakeholders and obligations:
(1)Sam: he should consider the consequences of his actions on others.
2) Eddie: Sam’s cousin, who hired him, trusted Sam and expected Sam to help him commit fraud.
(3)Investors: expect an earning from investment and hope the stock price of Crazy Eddie can rise. Investors are still kept in the dark. The company’s stock price may drop significantly when investors learn about the truth, company may face bankruptcy due to loss of public confidence. The wealth of Eddie’s whole family will shrink seriously.
(4)SEC: has a right to expect a reliable financial report.
(5)Customer- Eddie Antar repackaged used and damaged electronics and resold them to customers as new. Customer has a right to buy products with good quality and reasonable price.
(6) Government: Eddie Antar, the CEO of the company who was the mastermind in the fraud, was skimming money from sales taxes that he only partially remitted to the government, while using part of the money to give steep discounts to customers.
Who are the proprietors?
The shear magnitude of the Crazy Eddie fraud is daunting. Likewise, it took years for the federal government to build their case to prosecute the Antars after digging through the financial data. This case again shows the extent that fraudsters go to simply to cover their con. In June 1989, following the takeover, the new owners of Crazy Eddie filed for Chapter 11 bankruptcy. Eddie was finally arrested in June 1992 in Israel. He was convicted in July 1993 on 17 counts of financial fraud, including racketeering, conspiracy, and mail fraud. He was sentenced to prison and ordered to repay some $121 million to his stockholders and creditors. Likewise, Sammy Antar and several other family members and executives were also convicted. Years later, after being released early from prison, Eddie joined two nephews in reviving the Crazy Eddie business. The company largely operates through the Internet with telephone sales as well. For their involvement, both Peat Marwick and Crazy Eddie’s first auditor, the local firm, contributed to a $42 million settlement pool.