Victimized by Fraud

2008 will go into the history books with great distinction. The United States (and the rest of the world) has experienced extraordinary financial stress. Most businesses, nonprofit organizations and local governments are overhauling their budgets and plans for 2009 in order to survive this financial storm.

This means that many of your employees are also under great financial stress. This type of employee stress can significantly increase the risk of workplace fraud. I recognize that you are very busy trying to manage the current financial crisis, but please take a moment to consider these additional risks…you don’t want to be a victim!

There is a little bit of good news. I believe that you can significantly reduce your workplace fraud risk and the end of the year is a great time to implement some simple, but very effective fraud detection procedures. But first, let me discuss why employees steal from their employer.

Donald Cressey, the famous criminologist developed the Fraud Triangle theory which states that three conditions must exist in order for fraud to occur:

1. Motive (he referred to this as an “unshared-able need”)
2. Opportunity
3. Rationalization

What is an unshared-able need? – Cressey maintains that some employees have a financial “need” in their life, but they are not willing to share this need or problem with their employer. This “need” could be anything from high credit card bills, delinquent mortgage payments, medical bills, a messy divorce or possibly a gambling addiction.

The second necessary ingredient is opportunity. Employers with weak internal controls create an opportunity for their employees to steal. Long-time employees and employees in high ranking positions almost always know where the controls are weak. They see opportunity every day.

Rationalization is the final ingredient. Cressey believes that employees are inherently honest, so it is against their basic nature to steal from their employer. They need to rationalize why it is permissible to steal. Unfortunately, there are many ways to rationalize - the employee might consider the fraud to be a loan that they will pay back some day, or they might believe that the company is so large that it won’t really hurt to steal or borrow a small amount. In some cases, the employee might feel that they have been mistreated so it becomes fair game to take a little bit of money as compensation.

Once an employee accepts the rationalization, they generally don’t look back.

Over the years, I have investigated more than 100 workplace fraud cases, and in many of these situations, executives and owners were shocked to discover that fraud happened at their business, nonprofit organization or local government.

There are, however, ways to manage workplace fraud risk that are simple and effective to implement. Here are my top 5 suggestions you can do right now:

(1) Create an Accounts Payable History Report:

During the year, you pay many bills which are generally processed through your Accounts Payable program. Most general ledger software packages will allow you to run an “Accounts Payable History Report”. Try to run the report that shows total dollars paid (or processed through accounts payable) for 1/1/08 -12/31/08 and sort the data from high to low, so you can easily see the top 25 to 50 vendors that you used. Or, another option is to do a review of all vendors with total payments above a certain dollar amount (possibly $25,000).

Once you’ve created the report, look at the top vendors for 2008. - every name on this list should be familiar. You should know the vendor and you should know exactly why they are on your Top Vendor list. Are there any surprises? If you see a vendor name that is not familiar, or the total annual expenditures seem too high, you must investigate this immediately.

Run the same report for 2007 and compare. In vendor fraud cases, the total dollars in 2008 will almost always be noticeably higher than 2007. If an employee stole money in 2007, they will almost always steal more money in 2008. That increase should be noticeable.

There are many, many ways to commit false vendor and accounts payable fraud. There could be fraudulent checks posted to a valid vendor. If the total payments to a valid vendor seem too high, investigate. If a vendor name is not familiar, pull the invoices and review them. Detailed invoices do not guarantee that the vendor is real. You should also try to do a Google search for all unknown vendors.

(2) Undertake a Credit Card Review:

Credit card fraud by company employees is very common. Most companies never take the time to look at how many dollars are spent through credit cards. We did a special review for a client (with annual revenue of about $15 million) and found that they had more than a dozen corporate credit cards with annual expenditures in excess of $500,000. This is much more common today, than it was 3-5 years ago.

If you pay your credit card companies through accounts payable, the same report mentioned above will also show you the total dollars for 2008 that were spent through credit cards. If this report is not available, develop a simple spreadsheet that lists total credit payments for each month during the year.

Compare the 2008 totals to 2007. Are credit card expenses growing out of control? Some companies have very strong controls over processing regular payment checks, but the controls over credit cards are not as strong. If someone is trying to steal, it might be much easier to do it through credit cards than requesting a check.

Based upon your review, you might want to investigate the primary user of each card. You should also review your controls over credit card purchases and approvals to make sure that these controls are as strong as your controls over accounts payable and check processing.

(3) Conduct an Employee Expense Account Review:

You may reimburse employee expense reports through accounts payable or you may process these reimbursements through your payroll system. Regardless of the method, find or create the report that shows the total dollars of expense reimbursement to each employee for 2008. Compare that to the same data for 2007.

Multiple studies have shown that a very large and surprising percentage of employees cheat on their employee expense reimbursements. It is wise to conduct a review that ranks total expenditures per employee, so you can determine which employees received the most expense reimbursement during 2008. This will allow you to assess whether their expense reimbursement makes sense based upon that employee’s job description. Carefully investigate any unusual patterns.

(4) Review Employee W-2 Amounts

Follow the same concept previously discussed and take a few minutes to review the final W-2 amounts for your employees. If possible, sort from high to low and focus on the largest dollars paid.

It may be worth looking at the W-2s for the people who work in the payroll department and/or HR department. There should not be any surprises or unusual fluctuations. If your business pays overtime, do you really know how much overtime each employee earns? The total W-2 amounts may quickly highlight this problem. If needed, compare the W-2 to the latest approved rate in the employee’s personnel file.

(5) Run Year End Variance Reports:

For many of us, 2008 was not a great year and you may want to quickly forget it and move on to 2009. But please take a few extra minutes to review your final 2008 profit and loss reports and compare them to your 2008 budget and/or your final 2007 year end reports. Fluctuations may be hiding fraud, and therefore merit investigation

Ask tough questions and make sure you fully understand the true reason for declining revenue or increasing costs.

In Conclusion

As you can surmise from the above tips, constant vigilance and data review is critical to preventing fraud.

If you have a large volume of transactions in accounts payable or payroll, or if your files are too large to review manually, you may want to consider investing in data extraction software that will allow you to download large files and run a variety of tests on a very efficient basis. Or, consider hiring a Certified Fraud Examiner to conduct an extraction and analysis on a regular, periodic basis – it’s an investment that many companies have found to produce an extraordinary return.

I hope that that these few tips will help you manage your fraud risk for 2008, 2009 and beyond. Best wishes for a prosperous and successful New Year!