As the legal battle between McElroy, Deutsch, Mulvaney & Carpenter and two former administrators over the $3 million fraud nears its conclusion, many details about the scheme that rocked the firm remain unclear.
Dunlea, the firm’s former Chief Financial Officer, was accused of paying himself more than was authorized by the firm’s executive committee, from 2011 to 2023, in some years overpaying himself by $200,000.
So, how did he get away with it for so long? Calibrate’s David Schaefer offers that a lack of internal controls within the firm could have been a key factor.
“It does sound like they were definitely not following the rules of good governance and management for this to happen. The best systems can be undone by very clever people. But it’s hard for me to imagine this level of fraud could happen without some breakdown internally,” said David S. Schaefer.
Schaefer, a former managing partner at Loeb & Loeb in New York, said law firms need a system of internal controls, to create a series of checks and balances internally between senior management and the members of the finance team, and to some extent, the external auditor of the firm.
“So it would seem to me for this to have gone on as long as it did, either they didn’t have internal controls, which is hard to believe, or they had internal controls, and either they were very weak, or there was no compliance review or check, either by senior management or the or the accounting firm,” Schaefer said.
In a law firm, senior executives shouldn’t have sole authority to both initiate and approve payments, Schaefer said. There should be multiple people involved in the process, with one person dealing with payment approvals, another focused on accounting entries, and yet another dealing with bank account balances.
Some transactions that are cited in the McElroy Deutsch case would typically require two-person approval, Schaefer said. “Wire transfers would require, usually, two-person approval, or ACH transactions, or if there were new vendors or unusually high dollar amounts. When I was the deputy chair of Loeb & Loeb, I couldn’t just write a check for an amount in excess of a certain amount, unless I had a second signature on it, and I was one of the highest ranking people in the firm,” he said.
According to Schaefer, the ideal internal control system should also provide for bank accounts for someone other than the CFO, and there should be monthly reports and reconciliations that would typically be done. McElroy Deutsch is big enough to have an audit committee made up of senior firm leaders who would interact with an outside accounting firm.
“This is just good financial hygiene to do this, to make sure that there aren’t inadvertent double payments to people. These are real things, and that’s why internal controls and audits and checks are supposed to if not, catch it before it happens, find it when it does, and take corrective measures so it doesn’t happen again,” Schaefer said.
“So it sounds like there must have been some kind of breakdown in all of this. Now, maybe the CFO was considered a trusted adviser and people didn’t check on him, they were lax on enforcement or oversight or something. I mean, I think something went sideways,” Schaefer said. While Dunlea was found guilty of wrongdoing, “you also have to kind of wonder if it was just too easy to do that because the internal controls were not up to best practices.”
The $3 million that was lost in the episode “is certainly not chump change…but for a firm of its size, I would imagine that the financial hit is not meaningful,” Schaefer said. “The adverse publicity surrounding the situation is probably a little a little more damaging, but certainly something that they can overcome.”
