CHICAGO FUND: A BIGGER BOARD ISN’T THE SOLUTION TO FRAUD

Last fall, the Chicago Sun-Times reported that the Chicago Fund, a participant in Chicago's Meals on Wheels program, had been the subject of a fraud allegedly perpetrated by its former executive director. Today, the Sun-Times is reporting that the amount involved may be close to...

In our Guide, Avoiding Trouble While Doing Good, A Guide for the Non-Profit Director and Officer, we spend considerable amounts of time discussing  internal controls, and we do factor the board's role into that discussion.  If you want to avoid trouble in your organization, you should buy copy of our Guide today. Call us at 888.824.6706 for additional information. We also do on site training.

$200,000, double the amount originally reported. See, F. Spielman, Thefts from Charity May Have Reached $200,000 (May 13, 2005)

Chicago’s Aging Commissioner, Joyce Gallagher, once again demonstrates her naiveté when it comes to financial matters--although she is clearly well intentioned. The Sun-Times quotes Ms. Gallagher as having described some of the alleged activities as “Very clever ruses that weren't really uncovered because they looked legitimate -- until you dig deeper.” The alleged schemes may have appeared clever to Ms. Gallagher, but they are the sorts of practices that recur time and time again in non-profit fraud. Specifically, the alleged schemes included:

• Creating phony invoices for services that were never rendered and then cashing the checks; 
• Claiming contributed goods that were to be given out as prizes were purchased; 
• Cashing payroll checks made out to employees who were no longer employed by the agency; and 
• Applying for and receiving unauthorized credit cards.

With the exception of the alleged credit card scheme—which if true, is just plain identity theft--the other alleged schemes could have all been prevented through better internal controls. We don’t know the specific facts of this situation, but traditionally, payroll fraud is prevented through the use of a third-party payroll service and continuously updated employee lists; invoice fraud is prevented through a prescribed list of vendors; and phony service fraud is prevented through an authorization function that is independent of the person making the requisition.

The Chicago Fund’s primary solution to the problem, at least as reported by the Chicago Sun-Times, was to expand its board from 20 to 30 directors. You may recall that this was the same solution adopted by the Saratoga Performing Arts Center, a group we have reported on in past posts. If the board was the issue, its size should have been reduced rather than increased. In researching our forthcoming book, we encountered quote after quote from leading governance authorities indicating that in their experience, smaller boards are far more effective than larger boards. Why is that the case? Once a board becomes too large, it loses its cohesiveness. Each member loses a sense of personal responsibility. Discussions become unwieldy. William G. Bowen, in his 1994 classic, Inside the Boardroom: Governance By Directors and Trustees (John Wiley & Sons) lays out the case for boards with between 12 and 15 members. Mr. Bowen is the President of the Andrew W. Melon Foundation and former President of Princeton University. But you don’t have to go back eleven years to find support for relatively smaller boards. Much debate in the post Sarbanes-Oxley world has also focused on board size. And the conclusion of the experts has not changed in the ensuing years. While we have generally been critical of the proposals coming out of the Senate Finance Committee, we do note with approval their proposal to limit the size of charitable boards to 15 directors or trustees--although this is better left to the state arena.

Once again, we suggest to Ms. Gallagher that she focus her attention on things that really prevent fraud. If it has not already done so, the Chicago Fund needs to revamp its system of internal controls.

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