July 12, 2010

The Association of Certified Fraud Examiners (ACFE), the largest anti-fraud organization in the world with over 50,000 members, recently published the results of its biannual study on occupational fraud (also known as employee fraud).  

With millions of people facing financial hardship, the odds that someone at your company may steal increases.  Reading the report will serve as a wake call to business owners who haven’t actively addressed the issue of employee fraud.

Three types of employee fraud

ASCE classifies employee fraud into three types:

1.  Asset misappropriation

Asset misappropriation covers stealing or “borrowing” resources for personal use without permissions.  Examples include check forging, skimming cash from the register and using company vehicles for personal gain.

2.  Corruption

Corruption occurs when an employee inappropriately uses their position in the organization to benefit themselves.  Examples include accepting bribes from a potential vendor or accepting kickbacks from customers in exchange for offering unwarranted discounts.

3.  Financial statement fraud

Financial statement fraud involves “the intentional misstatement or omission of material information in the organization’s financial reports.”  This may occur to cover up incompetent decisions by mangers or to hide the existence of other types of fraud or both.  Examples include recording fictitious revenues, hiding expenses or artificially inflating assets.

How much do companies lose to fraud?

According to respondents to the ACFE survey, losses to fraud average around 5 percent of revenues.  For a company that sells $20 million annually, this would represent a loss of $1 million ($20 million x 5 percent = $1 million).  If this same company generates $2 million in pre-tax profits, even a modest reduction in fraud would significantly improve the bottom line.  Not only is fighting fraud the right thing to do, the return on investment is justified.

How can you minimize employee fraud at your company?

Foster an ethical organizational culture

An organizational culture is defined as “the specific collection of values and norms that are shared by people and groups in an organization and that control the way they interact with each other.”  An important part of building the right culture is defining the values and norms by example.  If the owners and top managers act ethically and reward ethical behavior, it sets the tone for everyone else.

Train everyone on detecting fraud

There are a number of resources available to help train you, your managers and your employees on detecting occupational fraud.  First perform a fraud prevention checkup.  This will help you determine how seriously you are taking the threat and what actions should be taken to better prepare your organization.  Also consider sending key employees to fraud prevention and detection training seminars.  By training all employees, everyone becomes a second set of eyes and ears for the company, making it more difficult for fraud to take place undetected.  It also sends a message to those considering fraudulent activity that they should think twice before going through with it.

Launch a whistleblower hotline

A hotline is one of the most effective and least expensive ways to detect employee fraud.  Section 301(4) of the Sarbanes Oxley Act requires that all publically-traded companies offer one.  But even for small organizations, it is an important tool for fighting fraud. A long-term study conducted on the detection of financial fraud titled “Who blow the whistle on corporate fraud?” confirms the importance of anonymous whistleblowers in detecting fraud. There are many independent providers of hotline services like Report It and Fulcrum Inquiry.

Implement effective monitoring systems

The Committee of Sponsoring Organization of the Treadway Commission (COSO), a leading organization dedicated to the development of comprehensive frameworks and guidance on enterprise risk management, internal control and fraud deterrence, recently conducted a study on the implementation of effective monitoring systems.  A great summary of the study was published recently on the fraud files blog.  An important component of effective monitoring systems is the perception by employees and managers that monitoring is taking place.  This helps deter fraudulent behavior.

Hire a fraud examiner

If you believe your company has been the victim of occupational or employee fraud, then you should consider hiring a certified professional to assist you in the investigation.  ACFE offers a free online directory of fraud examiners.

Join the conversation ( 3 )

• Mike Periu 1 year 5 months and 30 days ago

  

  Thanks Jonathan for your comment. Absolutely agreed. There are many resources available. The limited investment required is worth the potential benefit. Most employees are good, hard-working, honest people. Its a shame that a few "Bad apples" can ruin it for everyone else, but all the same the issue must be addressed.
  
  @Andrei - your comment didn't come through.

• Andrei Vorobiev 1 year 6 months and 17 days ago

  

  It's cute: the system flagged (***) the word h*te (add an "a" there) in my post. I guess system designers didn't realise that this word is usually used in the most polite figurative speech possible.:)

• Jonathan Nystrom 1 year 6 months and 18 days ago

  

  One of my biggest struggles is helping executives see the ROI of proactively finding and stopping fraud in their companies. Mr. Periu's article does a great job explaining that ROI. This should be required reading for any executive or board member trying to eke out a few more points of profit in the next 12 months.