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The cost of being careless: JP Morgan loses millions in fraud case
We all like to trust big brands, and JP Morgan is one of the biggest. We think of big brands as safe bets. Think again! Big corporations make boneheaded decisions like the rest of us.
By most measures, JP Morgan is the largest financial institution in the world. It has more than 250,000 employees and does business in almost every country on the planet. JPM has successfully acquired and assimilated multi-billion acquisitions like Chase Bank and Bear, Stearns. But it is the relatively small acquisition of Frank Financial Aid that is instructive to examine.
Frank was built upon the fact that 85%+ of college-bound students apply for financial aid using the Free Application for Federal Student Aid (FAFSA). I’m sure you have heard of it. Frank’s primary service was simplifying the mind-numbing complexity of filling out the FAFSA accurately.
All colleges require the FAFSA as part of a student’s application for financial aid. Most say its worse than filling out 10 years of tax returns all at once.
For JPM, the rationale for the acquisition of Frank was that it provided JPM greater reach into the population of college-bound young adults. By acquiring this client base, JPM would have the opportunity to penetrate this Generation Z population and have them start using JPM’s credit cards, bank accounts, stock-trading functions, auto loans, home mortgages, and more. Seemed to make a lot of sense at the strategic level for JPM.
So what happened?
After the acquisition closed and JPM paid Frank’s owners $175 million, JPM discovered a disturbing fact about those 4.2 million accounts at Frank: more than 90% of them were fabricated. Oops.
It was, as the bank put it in its legal filing, “disastrous.”
As the JPM-Frank drama unfolded, it was discovered that the Frank CEO and Forbes Magazine 30-under-30-star Charlie Javice went to extraordinary measures to perpetrate the fraud at Frank. Javice hired a data-sciences professor to create the fake accounts. She paid the professor $18,000 to generate the data. You gotta be kiddin me!
Due diligence is essentially an investigation by the buyer (JPM) of the seller (Frank) conducted before the transaction closes. Having been part of many due diligence processes myself as a buyer and as a seller, I cannot imagine how JPM missed the most important piece of diligence: Let’s count the customers.
The JP Morgan-Frank Financial debacle is an example of Neglecting to Measure Twice, which is one of the Seven Deadly Stupidities. For other posts on financial failures, see below:
Key Takeaways
Any acquisition, no matter its size, is a risky move.
When studying a potential acquisition, focus on what could go wrong, not on the upside.
Use quality professional services firms to assist in diligence. Would you buy a house without a inspection done by a professional?
Strategic Insights
JP Morgan’s stock price was flat for almost a year at about $100 per share. It then did 45 acquisitions in the next year (including Frank) and its stock price doubled. A year after that, the stock price returned to $100. Acquisitions need to add durable value to your company, not momentary glory.
CEO Charlie Javice created a competitive environment when Frank was for sale. The company had many suitors bidding against each other. This was the smart way to sell a company. Create a frenzy of competition and let a winner emerge.
Javice was also an out-and-out fraud who flat-out lied to pump up the value of her company. She likely will face meaningful prison time for her misdeeds. That being said, shame on JP Morgan for being so sloppy in spending its shareholders’ money.
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This Month’s Top Book recommendations:
The Seven Deadly Stupidities: Using Other People’s Failures to Make Better Decisions
Learn from case studies of bad decision making and avoid the easy mistakes.
The Psychology of Money
Lessons on money and life. I have given this book to a dozen people.
Zero to One
Billionaire Peter Thiel on why the bulk of the value is created early in any venture
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