Fraud in umbrella contracts

Case study shows missed major conflict of interest


By Paul Catchick, CFE

Top management at Quoteron Inc. thought it was increasing efficiency when, at the urging of one of its procurement officers, Ken, it gave its hardware supplier, Donlane Supplies, an "umbrella contract." However, Ken secretly owned Donlane and fraudulently reaped the profits of an illegal exclusive deal. Here's how to detect and deter fraud in the procurement process.

Ken, a procurement official for Quoteron Inc., had a conflict of interest. He secretly owned a company, Donlane Supplies, which sold hardware materials to his employer. Ken convinced Quoteron to bypass normal procurement procedures and enter into a monopoly agreement with Donlane. For several years, Quoteron followed this anti-competitive arrangement, while all the time believing it to be good practice! The company believed this because its internal auditors had encouraged Quoteron to implement a number of "umbrella contracts" to reduce fraud and increase efficiency. Although umbrella contracts can indeed be beneficial when implemented properly, their blanket use without regard to consequences can perversely facilitate fraud — something that companies often overlook.

BENEFITS OF UMBRELLA CONTRACTS

Umbrella contracts (a predominantly European term), known also as umbrella agreements or framework agreements, are overarching contracts that set out the terms of future business with a supplier, such as price of goods, quantities, delivery times, etc. They're typically used when there's an ongoing need for particular goods or services. If companies implement them properly, they can minimize the potential for procurement fraud because the supplier has already gone through an approval process. However, a poorly executed umbrella contract might have the opposite effect.

Umbrella agreements can be attractive to both the purchaser and the supplier. The advantages to the buyer include:

  • The procurement department doesn't have to request multiple quotations or conduct a tender (bid) exercise for each purchase.
  • Fewer administrative hurdles can mean reduced time between requisitioning and delivery.
  • Pre-agreed conditions can enhance certainty and security in the supply chain, thus helping management planning.
  • The prospect of being selected as a long-term provider can encourage suppliers to offer lower prices.
  • Flexibility is retained because umbrella agreements don't usually bind a purchaser to buy from a particular vendor in all circumstances.

This last point is important. Umbrella agreements shouldn't create an obligation to use a designated vendor. Buyers might set up any number of agreements so they can have a choice between suppliers. The option should remain for the buyer to go elsewhere for individual purchases — umbrella agreements should be designed to facilitate business, not to dictate it.

These advantages provide sound reasons for establishing umbrella agreements. However, companies must be careful implementing them because they might incur unnecessary exposure to increased fraud risk when a buyer places undue reliance on a single vendor. Indeed, fraud risks tend to parallel those inherent in procurement processes generally.

 


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By Philippe_Lascar
 
By Timour_Bariev
Few things don't add up. "Quoteron's business expanded over time, so did the volume of purchases," but later "Demand for hardware supplies had remained stable over the preceding years, and there was no clear business or operational need for an umbrella contract." "Quoteron already had a small number of umbrella agreements in place for other services such as vehicle repairs and plumbing/electrical services," but later "the company didn't consider other goods or services similarly, and the special treatment of common domestic supplies should have raised questions."
 
By Donald_27
The ongoing "red flags" of this magnitude are often overlooked in smaller firms. The real fraud occurred with the opening of the bids, and the lack of professional analysis of the bid amounts.