In late 2012, Mehdizadeh transferred his Medbox shares directly to New-Age, without
registering this purchase. He created false paperwork documenting that New-Age had paid
$552,000 for the shares, when New-Age had paid nothing.
Over the next few months, New-Age illegally sold Medbox shares as restricted securities
in several private transactions, receiving millions of dollars in proceeds. To transfer these
proceeds from New-Age to Medbox, Mehdizadeh fabricated revenue transactions, making
Medbox’s financial performance appear much stronger than it was. The SEC claimed that
90% of reported Medbox revenues in Q1/13 were false.
When Medbox’s accounting department requested backup to support the transactions, Mehdizadeh provided false and misleading statements to both the accountants and
the auditors of the company. Eventually Mehdizadeh agreed to pay a $12 million fine in
response to a complaint from the SEC.
Following the financial crisis of 2008, Toshiba, one of Japan’s oldest and most respected
companies, exhorted the leaders of its many business units to meet aggressive targets for
revenue and profitability. When circumstances rendered those goals improbable, managers
of those business units altered the books to provide the illusion they had met their performance goals.
Once details of the extensive fraud began to surface, the company engaged an independent team to investigate the fraud. The findings were released in a report in July 2015.5
The accounting fraud took many different forms and occurred over a lengthy period of
time under the leadership of several CEOs. One of the primary ways the fraud occurred was
through the company’s accounting treatment under the percentage-of-completion method
for contract work. This principle is used in contracts for services related to civil engineering,
architecture, shipbuilding and manufacturing of machinery and requires any cost overruns
to be recorded in the period in which they occurred.
Nevertheless, from 2008 to 2013, the investigators identified multiple projects for which
expenses were not recorded until the project reached completion. In virtually every case,
the managers told the investigative team they hoped cost overruns would be offset by cost
reductions in subsequent periods.
When the targets were inevitably missed, the company was forced to make up for the
previously unrecorded expenses in the final period, which resulted in understating expenses
in earlier periods and overstating them in later periods. Over a period of almost seven years
(2008 to Q3/14), the company had inflated its net profits by a cumulative $1.3 billion.
Forewarned is Forearmed
Human ingenuity at committing fraud knows no bounds. Frauds are doubtless occurring
today that will shock us when they are ultimately revealed. Nevertheless, it is helpful to
understand how fraud has been perpetrated in the past and what ruses have been applied
to gain an understanding of the vulnerabilities inherent in the financial reporting process.
As consumers of financial statement information, there is nothing more essential than
a healthy dose of skepticism. There can always be a 17th floor. abfj
ANNE EBERHARD T is a senior director in the Valuation and Litigation Services Practice of Gavin/
Solmonese. She is a certified fraud examiner and a certified anti-money laundering specialist with
more than 18 years of experience.
4 SEC v. Notis Global, Inc. (f/k/a Medbox, Inc.), Vincent Mehdizadeh, et al., March 9, 2017, paragraph 6, pg. 3.
5 Investigation Report: Summary Version, 20 July 2015, Independent Investigation Committee for Toshiba Corporation (English
ring instances of improper accounting in three separate
areas…during a five-year period.”
3 These actions resulted
in inflated earnings and improper accounting for some
of its products, and two former executives were charged
with securities fraud. Among the accounting irregularities
was the company’s failure to amortize intangible assets
recorded at the time of the LifeSize acquisition. In early
2013, despite being informed of material errors in the
calculation of amortization of its investment in LifeSize,
senior accounting officials ignored the errors, continuing
to overstate the company’s investment by $1.87 million.
Tom and Gerry met in the early 2000s. Gerry was
wealthy, having made his fortune in an IPO during the
1990s. Tom was younger and developed commercial
real estate. Gerry liked Tom and agreed to enter into
a partnership to develop commercial real estate in
Florida and Nevada. Gerry preferred to stay out of the
daily operations of the partnership, letting Tom serve as
the operating partner. Tom picked the properties and
ultimately, Gerry’s pockets.
While Gerry provided some equity support, his most
significant backing came in the form of substantial lines
of credit based on the strength of his personal financial
position. Tom arranged for all of the credit line information to be sent to his Florida office, enabling him to draw
on the credit lines without informing Gerry, who lived
Instead of hiring a certified accountant, Tom
relied upon the help of a friend who was “handy” with
computers and who, under Tom’s direction, managed
dozens of accounts for each of the properties. At no time
were these records audited by an independent CPA.
After drawing down all of Gerry’s credit lines, Tom
sought additional credit. He prepared his personal
financial statements, listing his interest in the assets —
but not the liabilities — of his partnership with Gerry.
Tom obtained a significant loan from a local bank
based on the perceived strength of these deceptive
The properties’ cash flow disappeared after the
financial and real estate markets crashed in 2008, and
Tom defaulted on the local bank’s loan. In part because
this loan was material to the bank’s lending portfolio,
the bank itself was forced to close, and federal regulators pursued a bank fraud case against Tom for misrepresenting his financial position.
Between November 2011 and August 2012, Vincent
Mehdizadeh purchased a controlling interest in
Medbox, a company that sold vending machines
capable of dispensing legal marijuana products on the
basis of patients’ biometric information.
During this period, Mehdizadeh also set up a shell
company called New-Age Investment Consulting,
promptly installing his fiancée as CEO, corporate secretary and chief financial officer.
3 SEC Order Instituting Cease-and-Desist Proceedings Pursuant to Section
21C of the Securities Exchange Act of 1934, in the Matter of Logitech
International, S.A., April 19, 2016, pg. 2.
Human ingenuity at committing fraud knows no bounds. Frauds
are doubtless occurring today that will shock us when they are
ultimately revealed. Nevertheless, it is helpful to understand how
fraud has been perpetrated in the past and what ruses have been
applied to gain an understanding of the vulnerabilities inherent in
the financial reporting process.