Phar-Mor Fraud Scandal: Monus, Coopers & Lybrand, and Aftermath

The Phar-Mor fraud scandal was a roughly $500 million accounting fraud at the deep-discount drugstore chain Phar-Mor, Inc., carried out between 1989 and 1992 by co-founder and president Michael “Mickey” Monus and chief financial officer Patrick Finn, who hid mounting losses by inflating store inventory on the company’s books and diverted close to $10 million in corporate funds to a minor-league basketball venture Monus owned. When the scheme collapsed in August 1992, Phar-Mor filed for bankruptcy, 16,000 employees lost their jobs, Monus was eventually convicted on all 109 counts of a superseding indictment, and the company’s auditor, Coopers & Lybrand, was found liable by a federal jury for failing to catch the fraud.¹

Phar-Mor had been founded in 1982 as an affiliate of Pittsburgh grocer Giant Eagle, Inc., with Giant Eagle heir David Shapira as chief executive and Monus as president. By 1992 the chain operated more than 300 stores across 34 states and reported annual sales of about $2 billion.²³ The numbers were a lie.

How the Fraud Worked

Phar-Mor was losing money, not making it. Between 1989 and 1992, Monus and Finn concealed the company’s true financial condition using what they internally called the “subledger” or “bucket.” Losses were absorbed by false entries that inflated the recorded value of inventory at Phar-Mor’s stores, making the chain appear profitable when it was not.⁴¹⁵ The inflated figures were used to attract hundreds of millions of dollars of outside investment.

Alongside the inventory scheme, Monus siphoned somewhere between $8.8 million and $10 million from Phar-Mor to the World Basketball League, a minor professional league he owned. The payments were made with typewritten checks that bypassed the company’s computer accounting system, leaving no trail for auditors to follow. Those diversions were tracked in a “dead account” inside the subledger, which Monus and Finn eventually erased by inflating store inventory accounts further.⁴ When Phar-Mor’s funding dried up, the WBL ceased operations in mid-August 1992.⁵

How the Fraud Was Discovered

A travel agency that received one of the WBL checks had a landlord who happened to be a Phar-Mor investor. The landlord noticed the payment, grew suspicious, and brought the check to CEO David Shapira. Shapira confronted Finn about the WBL expenditures, which touched off a series of cover-up attempts inside the finance department.⁶

By mid-1992, Finn and controller Stan Cherelstein had concluded the fraud could no longer be hidden. They consulted an attorney. Finn ultimately confessed and turned evidence over to federal authorities, including a tape recording of Monus. On August 4, 1992, Phar-Mor announced that it had fired Monus and Finn for “criminal activity” and disclosed a $350 million accounting charge.⁶⁷ The company filed for Chapter 11 bankruptcy on August 17, 1992.⁸

What Happened to Mickey Monus

Monus was indicted in January 1993 on 129 counts of fraud, money laundering, and conspiracy, and pleaded not guilty.⁴ His first trial began May 31, 1994, before U.S. District Judge George White. Prosecutors told the jury Monus had diverted more than $10 million to the WBL, taken over $500,000 for personal use, and swindled investors out of more than $1 billion through inflated inventory and false financial statements. Defense attorney Gerald Messerman called no witnesses and argued that Finn and former finance vice president Jeffrey Walley, both of whom had already pleaded guilty and testified against Monus, had carried out the fraud without Monus’s knowledge. On June 23, 1994, the jury deadlocked on all counts and Judge White declared a mistrial.⁹

A 109-count superseding indictment was returned on July 21, 1994, adding charges that included conspiracy, bank fraud, wire fraud, mail fraud, interstate transportation of property obtained by fraud, filing false income tax returns, and obstruction of justice. The obstruction count rested on Monus shredding WBL documents on December 18, 1992, while a grand jury investigation was pending. After a one-month retrial, the jury convicted Monus on all 109 counts on May 26, 1995.⁴¹⁰

The district court initially sentenced him to 235 months in prison and a $1 million fine. In October 1997, the Sixth Circuit affirmed all 109 convictions but vacated the sentence, finding errors in the loss calculation used to set the prison term.⁴¹¹¹²

In June 2005, Monus was transferred to a Salvation Army halfway house in West Palm Beach, Florida, to serve the final five and a half months of his sentence, with a required full-time job within 15 days and five years of supervised release to follow. His federal commitment ended December 19, 2005.¹² He served roughly 10 years and has been reported to live in Florida.¹⁰

What Happened to Patrick Finn

Finn pleaded guilty on March 2, 1993, to 14 counts covering money laundering, wire fraud, mail fraud, bank fraud, and aiding in the preparation of false income tax returns.¹³ His cooperation was central to the government’s case against Monus. He faced a guideline range of 33 to 41 months¹⁴ and was sentenced to 33 months.¹

David Shapira and Giant Eagle

Shapira said the board had been “duped” by Monus and pointed to the auditors. “I always thought the reason you hired auditors was so they could tell you about things like this,” he told the New York Times. “To miss something of this size is hard to understand.”¹⁵ Federal investigators concluded Shapira knew nothing about the fraud, and no criminal charges were brought against him. He remained chief executive of Giant Eagle.¹⁶ He was named, along with 12 other former Phar-Mor officials, in an October 1992 class-action shareholder suit filed in U.S. District Court in Pittsburgh alleging a fraud involving inflated earnings and net worth.¹⁷

The Case Against Coopers & Lybrand

Coopers & Lybrand was Phar-Mor’s outside auditor throughout the years the fraud occurred and did not detect the inventory inflation. The audit partner on the account, Gregory Finerty, was under pressure to cross-sell consulting services to audit clients, and his performance reviews and compensation were tied to those sales. A 1991 review noted that Finerty had “cross-sold $2.5 million in Special Services” and “penetrated 18 of his 21 clients.”¹⁸

Four major investors sued the firm: Sears, Roebuck & Co.; Westinghouse Electric Corp.; DeBartolo Realty; and the Equitable Life Assurance Society. On February 14, 1996, a jury found Coopers & Lybrand liable for failing to uncover the $500 million fraud. Firm chairman Nicholas Moore said the “real villains” were Phar-Mor’s former senior management and announced an appeal.¹ The firm, which later merged into PricewaterhouseCoopers, eventually settled with plaintiffs for an undisclosed amount.¹⁸

What Happened to the Company

In the immediate wake of the disclosure, Phar-Mor closed 200 stores and laid off 16,000 employees.¹ After three years in bankruptcy, a federal judge approved a reorganization plan and the company emerged from Chapter 11 in September 1995 as a publicly traded company, operating about 100 stores in 19 states.⁸

The second life was short. On September 24, 2001, Phar-Mor filed for Chapter 11 again in the Bankruptcy Court in Youngstown, Ohio, citing heavy debt, a slowing economy, and competition from larger chains. It listed $345 million in assets and $300 million in debts and operated 139 stores across 24 states under the Phar-Mor, Pharmhouse, and Rx Place names.¹⁹ After continuing losses, the case shifted to a full asset sale. A July 16, 2002, auction was won by a joint venture of Giant Eagle, CVS, and liquidation firms Hilco Merchant Resources and the Ozer Group, whose all-cash bid exceeded $141 million and was accepted over a competing $145 million offer from Snyder’s Drug Stores.²⁰ The 73 remaining stores began going-out-of-business sales that summer, and about 3,500 more employees lost their jobs.²¹ The last remnant assets of the bankruptcy estate were acquired by Oak Point Partners in December 2015.²²

Why the Case Still Matters

Phar-Mor landed in the middle of a national argument about auditing standards. In August 1992, as the losses were still being counted, the House Energy and Commerce Committee unanimously approved a bill that would have imposed civil penalties on auditors who failed to alert company executives, directors, and federal regulators to evidence of fraud, and members cited Phar-Mor in making the case for tighter rules.¹⁵ The case also became an early example of how cross-selling consulting services to audit clients could compromise independence, a question that returned with greater force a decade later during the Enron and WorldCom scandals and the passage of the Sarbanes-Oxley Act of 2002.

1
Roanoke Times. Jury Finds Coopers and Lybrand Liable
2
Company-Histories.com. Phar-Mor Inc. Company History
3
Tedium. Phar-Mor Retail History
4
FindLaw. United States v. Monus, No. 95-4326
5
UPI. Problems at Phar-Mor Could Hurt City
6
PBS Frontline. Phar-Mor Fraud Transcript
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UPI. Coopers Lybrand Defends Itself Against Phar-Mor Suit
8
Chicago Tribune. Phar-Mor Reorganization
9
Deseret News. Jury Disagrees on All 126 Counts Against Fired Phar-Mor President
10
Business Journal Daily. Phar-Mor Reorganizes as Monus Goes to Prison
11
Justia. United States v. Monus, 356 F.3d 714
12
Vindicator Archives. Monus Is Moved to Fla. Facility
13
Chicago Tribune. Ex-Phar-Mor Exec Pleads Guilty
14
New York Times. Phar-Mor Case: Guilty Plea
15
New York Times. Phar-Mor and Its Ex-Auditor Clash on Fraud Case
16
Bloomberg. Who Knew What When
17
UPI. Class-Action Suit Filed Against Phar-Mor
18
CS Trinity (Washington Post reprint). After Enron, New Doubts About Auditors
19
New York Times. Phar-Mor Drugstore Chain Files for Bankruptcy
20
Vindicator Archives. Phar-Mor Auction: Closings Loom for Stores
21
Star-News. Phar-Mor Sold to Group Led by CVS, Giant Eagle
22
Oak Point Partners. Phar-Mor Inc.