Barry Minkow
Barry Jay Minkow is a former American businessman, pastor, and a repeat convicted felon. While still in high school, Minkow founded ZZZZ Best, which appeared to be an immensely successful carpet-cleaning and restoration company. However, it was actually a front to attract investment for a massive Ponzi scheme. ZZZZ Best collapsed in 1987, costing investors and lenders $100 million in one of the largest investment frauds ever perpetrated by a single person, as well as one of the largest accounting frauds in history. The scheme is often used as a case study of accounting fraud.
After being released from jail, Minkow became a pastor and self-proclaimed fraud investigator in San Diego, and spoke at churches and schools about ethics. This came to an end in 2011, when he admitted to helping deliberately drive down the stock price of homebuilder Lennar and sentenced to prison for five years. Three years later, Minkow admitted to defrauding his own church and was sentenced to an additional five years in prison. He is subject to restitution requirements totaling $612 million.
Beginnings of ZZZZ Best
Barry Minkow was born in Inglewood, California and was raised in the Reseda area of the San Fernando Valley in a Jewish family. When he was nine years old, his mother got him a job as a telemarketer with the carpet-cleaning business where she worked. At the age of 16, while a sophomore at Cleveland High School, Minkow started ZZZZ Best in his parents' garage with three employees and four phones. In the early days, he had to rely on friends to drive him to carpet-cleaning jobs since he did not have a driver's license.At first, Minkow struggled to meet basic expenses. Two banks closed his business account because California law of the time did not allow minors to sign binding contracts, including checks. He was also plagued by customer complaints and demands for payment from suppliers. At times, he found it difficult even to make payroll. Faced with a shortage of operating capital, Minkow financed his business via check kiting, stealing and selling his grandmother's jewelry, staging break-ins at his offices, and running up fraudulent credit card charges.
Soon after, Minkow branched into the "insurance restoration" business. With the help of Tom Padgett, a claims adjuster, Minkow forged numerous documents claiming that ZZZZ Best was involved in several restoration projects for Padgett's company. Padgett and Minkow formed a fake company, Interstate Appraisal Services, that verified the details of these restorations to Minkow's bankers. Flush with loans from these banks, Minkow expanded ZZZZ Best across Southern California.
While most Ponzi schemes are based on non-existent businesses, ZZZZ Best's carpet-cleaning division was very real and won high marks for its quality. However, its insurance restoration division, which eventually accounted for 86% of company revenues, was fraudulent. Minkow raised money by factoring his accounts receivable for work under contract, as well as floating funds through several banks in an elaborate check kiting scheme.
After graduating from high school in 1985, Minkow devoted all of his time to ZZZZ Best. Short of cash despite the recent expansion, he got a loan from Jack Catain, a Los Angeles businessman who had ties to organized crime. Catain later sued Minkow for not paying him his share of the company's profits, but Minkow claimed Catain was a usurer. The suit was still working its way through the courts at the time of Catain's death in 1987. Other organized crime figures turned up as Minkow's advisers, which unnerved his employees. For instance, a major shareholder, Maurice Rind, had been convicted of securities fraud in 1976. Minkow was also a business partner with Robert Viggiano, a convicted jewel thief and reputed loanshark.
Going public
At the suggestion of a friend, Minkow took his company public in January 1986, garnering a spot on NASDAQ. The accountant who audited ZZZZ Best before it went public did not visit the insurance restoration sites himself. Had he done so, he would have discovered they were mailboxes located throughout the San Fernando Valley. Minkow retained a fifty-three percent controlling interest in ZZZZ Best, making him an instant millionaire on paper. Going public seemingly offered him a way to cover up his fraudulent activities. Under securities law at the time, he had to retain his personal shares for two years. He planned to sell a million shares to the public in January 1988, believing this would give him enough money to pay everyone off and go completely legitimate.In order to obtain more financing, Minkow was persuaded to raise $15 million of capital through an initial public offering of ZZZZ Best stock. When accountants wanted to inspect the company's operations, he borrowed fake offices for a tour of "Interstate Appraisal Services" and used an incomplete building to present a fake restoration job. Mark Morze, ZZZZ Best's financial consultant, tricked the accountants sent to perform the necessary due diligence by faking thousands of documents. The public offering closed in December and Minkow became the youngest person to lead a company through an IPO in American financial history.
Minkow launched a massive television advertising campaign portraying ZZZZ Best as a carpet cleaner that Southern Californians could trust. He owned a Ferrari and a BMW, and bought a mansion in the wealthy Valley community of Woodland Hills. He had ambitions of making the company "the General Motors of the carpet-cleaning industry."
ZZZZ Best's chief financial officer, Charles Arrington, was accused of running up $91,000 in fraudulent charges against customers of his florist business. When the Feshbach brothers, a pair of short-sellers, learned that Minkow still stood behind Arrington, they did further investigating and discovered ZZZZ Best's claimed $7 million contract to clean carpets in Sacramento was likely a fraud. This prompted the Feshbachs to short ZZZZ Best's stock, anticipating that it would fall. Additionally, none of the company's four outside directors had any experience running a public company.
Downfall
By February 1987, ZZZZ Best was trading at $18 a share on NASDAQ, valuing the company at $280 million. Minkow's stake was worth $100 million. The company now had 1,030 employees with offices in California, Arizona and Nevada.Despite its growth, the company was still facing severe cash flow shortages from paying investors for the non-existent restoration projects. Minkow believed he'd found a solution when he learned that KeyServ, the authorized carpet cleaner for Sears, was being sold by its British parent. He began merger talks with KeyServ, as the cash infusion would solve ZZZZ Best's immediate cash flow issues. Additionally, Minkow thought that KeyServ's Sears business would give ZZZZ Best enough cash to end the Ponzi scheme sooner than originally planned. Drexel Burnham Lambert offered to finance the deal with a private placement of junk bonds.
Although KeyServ was twice ZZZZ Best's size, the two companies agreed to a $25 million deal in which ZZZZ Best would be the surviving company. The merger would have made ZZZZ Best Sears' authorized carpet cleaner, and also would have made Minkow the president and chairman of the board of the largest independent carpet-cleaning company in the U.S. Soon after the KeyServ deal was announced, Minkow began making plans to become even more powerful, planning to raise $700–800 million to buy ServiceMaster in a hostile takeover and intending to expand to the United Kingdom. Outside of carpet cleaning, he had begun preliminary discussions to buy Major League Baseball's Seattle Mariners.
Just as the KeyServ merger was about to close, the credit card fraud that helped keep ZZZZ Best afloat in the early years proved to be Minkow's undoing. Minkow had blamed the fraudulent charges on unscrupulous contractors and another employee, and paid back most of the victims. However, he had not paid back a homemaker who had been overcharged a few hundred dollars. When he ignored her requests to pay her back, she tracked down several other people who had been defrauded by Minkow and gave a diary of her findings to the Los Angeles Times. The Times then wrote a story revealing that Minkow had run up $72,000 in fraudulent credit card charges in 1984 and 1985. The story, which ran just days before the merger was to close, sent ZZZZ Best stock plunging 28 percent.
Within hours of the story's publication, ZZZZ Best's banks either called their loans or threatened to do so. Drexel postponed closing until it could investigate further. Later that day, at a press conference, a reporter revealed evidence that the Sacramento carpet-cleaning project didn't exist. More seriously, she'd discovered that ZZZZ Best did not have the contractor's license required for large-scale restoration work. To calm nervous investors, Minkow issued a press release touting record profits and revenues but did so without notifying Ernst & Whinney, the firm responsible for auditing the company prior to the KeyServ deal. The press release also implied that Drexel had cleared ZZZZ Best of any wrongdoing, briefly stopping the decline. However, Drexel abruptly pulled out of the deal a few days later, causing the stock price to fall again. Drexel's withdrawal stopped the deal four to seven days before it was due to close.
The day after this press release, Ernst & Whinney discovered that Minkow had written several checks to support the validity of the non-existent contracts. Many of them had been written to an associate who later told Ernst & Whinney officials about the fraud. Minkow denied knowing the man, but shortly after the checks were discovered, Ernst & Whinney discovered that he had cut two checks to the associate for an unrelated matter. When Minkow could not explain the checks, Ernst & Whinney resigned as ZZZZ Best's auditor. However, it did not inform the Securities and Exchange Commission of its suspicions until a month later.
On July 2, 1987, Minkow abruptly resigned from ZZZZ Best for "health reasons". By this time, his company's stock had fallen to $3.50 a share—an 81 percent drop from its high in February. Minkow later revealed that on June 27, six days earlier, an independent law firm the company had retained to investigate the allegations asked for the addresses for all of the company's restoration jobs. Minkow knew that those projects did not exist and decided to resign. Later, he reportedly told a member of his board that the insurance restoration business had been a sham from the very beginning.
ZZZZ Best's new board conducted an internal investigation that largely substantiated the fraud allegations. On July 6 it sued Minkow, alleging that he had absconded with $23 million in company funds. ZZZZ Best claimed that its assets had been drained to the point that it was forced into Chapter 11 bankruptcy. Two days later, the Los Angeles Police Department raided ZZZZ Best's headquarters and Minkow's home, and found evidence that the company was being used to launder drug profits for organized crime.