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Article published in Issue Number: 061201

Supplement marketer's alleged fraud schemes had many casualties

FTC must do's for processors:
  • Look for inconsistencies in the merchant application.
  • Pull the owner's credit report.
  • Verify a claimed lack of banking relationships.
  • Google the owners' names.
  • Get copies of a marketer's solicitation materials.
  • Review the merchant's Web site for unusual promises or promotions.
  • Verify that promotional promises are being kept.
  • Review telemarketing sales scripts for suspicious or "too good to be true" claims.
  • Investigate suspicious chargeback or return ratios, especially those that consistently come in just below the processor's threshold for account deactivation.

Breaking off is hard to do. Just ask some of the former customers as well as card processors and merchant acquirers working with Berkeley Premium Nutraceuticals. The company was indicted recently on charges of mail, wire, bank and credit card fraud, and money laundering.

Allegedly, under President and Owner Steven E. Warshak, BPN asked customers to give card account numbers to cover shipping charges for free samples of its nutritional supplements. However, customers quickly found themselves receiving and paying full price for monthly shipments, according to the Federal Trade Commission.

Caveat emptor - Let the buyer beware

"There are times when we've got 300 people on the phone and 400 waiting," Warshak, boasting of the popularity of his products, was quoted as saying in a Feb. 22, 2004, article in the Cincinnati Enquirer.

It turns out many of those on hold may have been merely trying to get refunds for unauthorized card charges on those products. "Consumers attempting to cancel often encountered busy telephone lines, Web sites that did not work, and were put on hold indefinitely," the FTC said in February.

Warshak, 40, faces 107 counts. All six defendants, including in-house attorney Paul J. Kellogg, have pleaded not guilty. The company itself was indicted on 15 counts.

The Justice Department is going after $100 million in ill-gotten funds and property, some of which Warshak is alleged to have transferred to relatives and trusts in an effort to guard it from seizure.

Four other BPN executives pleaded guilty in recent months to fraud charges. They await sentencing. The FTC civil case against company executives is proceeding, said Allison Brown, an Attorney with the FTC's Division of Financial Practices.

BPN did not respond to The Green Sheet's e-mails or phone messages requesting information on the status of the company or the name of the company's current legal counsel. Telephone sales and customer service representatives were still taking calls prior to press time. An attorney identified in some news reports as representing Warshak did not return a phone message.

"Steven Warshak is a colorful character," said Attorney Theodore F. Monroe. Monroe once sued BPN on behalf of a publishing client with whom BPN had placed ads. Monroe said he was not at liberty to discuss that case. He represents processors and merchants involved in credit card and FTC cases.

Chargeback ratio scheme

Many of the counts outlined in the new indictments describe alleged fraud committed against BPN's card processors and acquirers. "The victims also included various merchant banks who handled customer payments for Berkeley," stated U.S. Attorney Gregory G. Lockhart in a press release announcing the indictment.

Because BPN feared losing its merchant accounts, the company devised a "chargeback ratio scheme," according to the Justice Department's indictment.

BPN often exceeded a 1% chargeback ratio and feared losing its merchant accounts, the grand jury found. So the company is alleged to have programmed its systems to split or divide sales into multiple transactions, a practice Warshak called double or triple dinging.

Processors should always monitor for red flags, according to Brown. Yet, "splitting is a hard one to detect on its own," she said.

BPN may have also debited unauthorized small-dollar amounts, followed by identical credits, to card account numbers in its database. The practice would lower the ratio because credits are not included in the chargeback ratio, according to the 84-page indictment.

In June 2002 alone, the company is said to have charged the total package price plus an extra shipping fee to 6,660 customer cards, and then credited the extra shipping fees in separate transactions.

In another effort to manipulate the ratio, Warshak is alleged to have repeatedly charged transactions on his own cards, usually for $1 to $5, to increase the number of transactions, according to the indictment.

This type of manipulation is a violation of card Association rules, Monroe said.

Although repeated charges of $1 would not automatically indicate fraud, it should be a red flag to the acquirers, Brown said. In such cases, they should ask what is being sold at that amount.

Snared in BPN's alleged ratio-manipulation was processor Cardservice International, and acquiring institution First Financial Bank, both subsidiaries of First Data Corp. Warshak submitted an application to Cardservice and FFB in June 2001 under another business name, according to the indictment.

The application claimed Warshak had never processed with the major card Associations, nor had processing services terminated. Cardservice closed the account within a week when Warshak turned up on its match list.

Warshak resubmitted multiple applications to Cardservice and FFB between July 2001 and November 2003, giving Warshak six new merchant accounts under a variety of company names, according to the indictment. First Data declined to comment.

Processor TransFirst (identified in the indictment as TransFirst ePayment Services), through its subsidiary DPI Merchant Services, and acquirer Provident Bank (now known as National City Bank) also provided merchant accounts to Warshak from April 2002 to January 2004. TransFirst declined to comment. It acquired DPI in March 2002.

Several of these merchant account applications claimed Warshak's mother, Harriet Warshak, 72, was the sole owner of the companies named on the accounts. She has been indicted on nine counts. Warshak's sister Susan E. Cossman has already pleaded guilty to one count of conspiracy to commit fraud.

Processors: Be alert, 'know your merchant'

The FTC encourages processors to verify all information on merchant applications and to look for inconsistencies, such as customer service numbers located in a state or country different than the owner's place of residence, Brown said.

"We see a lot of cases where the company can't provide other bank history," Brown said. Then, processors should consult outside databases, searching for evidence of past banking relationships. Credit reports should be pulled, and googling the owners' names is also helpful.

"The lesson from this is that processors must know [their] merchant and look at what he's doing," Monroe said. "Monitoring [Warshak's] account closely would have revealed a number of the fraud chargeback reduction schemes that he employed, including using his own credit cards to reduce chargebacks."

In December 2003, Warshak directed staff to make unauthorized charges on 6,000 consumer credit cards in the company's database, to manipulate the company's chargeback ratio at its Provident Bank merchant accounts, according to the Justice Department. Those charges included both debits and credits for products that were never ordered or shipped, the document states. National City Bank did not respond to a request for comment.

Revolving need for new accounts

The indictment reveals BPN's revolving need for new merchant accounts - allegedly obtained fraudulently - to spread out chargebacks.

In September 2003, for example, Warshak and his mother are alleged to have fraudulently obtained a merchant account at Silicon Valley Bank through processor Ginix Inc. Through this account, Warshak's staff made unauthorized $1 charges and credits on consumers' cards, according to the indictment.

SVB Financial Group spokeswoman Meghan O'Leary said the corporation does not comment on legal proceedings. The Green Sheet was unable to find a working telephone number for Ginix.

Caveat emptor redux

The Justice Department also alleges that BPN repackaged a prostate product called Rovicid, mislabeling it as a supplement for heart health, with falsified ingredients. Kellogg had the misbranded product removed from the warehouse, allegedly to hide it from Food and Drug Administration inspectors.

Brown suggested processors protect themselves by verifying claims merchants make in their marketing materials. For example, telemarketers' scripts should be read for overly generous terms, and processors should verify that promises are being kept.

Criminal liability for processors tangled in a fraudulent merchant scheme is not out of the question, according to Monroe. They could also face class action suits by consumers and state attorneys general. He predicted the federal government will someday hold processors working with high-risk merchants responsible for merchant fraud.

Note: An indictment is an accusation. The government must prove in a court of law that the named defendants actually committed the crime.

Article published in issue number 061201

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