Although a glimmer of hope might suggest that the economy is inching back upward after the economic downturn of the past six years, classic fraud schemes remain prevalent; because most professionals are focused on servicing their clients, they might not be scrutinizing a company's inflow and outflow of funds. Fraud has always colored the business landscape and probably always will; thus, business owners must understand the red flags of classic fraud schemes and know when to turn to professionals who can perform fraud risk assessments and conduct investigations if financial fraud is suspected.
On the Lookout for Fraud
The same red flags indicating potential fraud exist in both vibrant and stagnant economies. Fraudsters' motivations might differ in varied economic climates; typically, such individuals are trying to obtain more money to pay for an enhanced lifestyle or to fund a habit that requires cash support. Regardless of the state of the economy, financial fraud has the same negative impact on business owners: less money in the bank translates into lower bonuses for employees, less capital available for business expansion, and lower profits for the owners.
Which types of fraud should business owners remain on the lookout for? The most common fraud scenario is misappropriation of assets, more commonly referred to as embezzlement, where employees who are experiencing personal financial pressure steal cash or other company assets. Such employees usually know the threshold amounts that require a higher level of approval for funds to be disbursed, and they know which amounts internal and external auditors review to form opinions. Thus, they might believe that they have the tools necessary to commit fraud. Asset misappropriation takes place whenever assets are readily available and controls are relatively loose.
Another increasingly common form of fraud involves stealing an employer's intellectual property or confidential financial information. There is currently a major push by federal law enforcement to crack down on such identity theft. Business owners or medical professionals who maintain clients' or patients' Social Security numbers should take extra precautions to protect this confidential information from internal employees who could sell it to criminal enterprises. The explanation of why employees take advantage of such situations is simple: They are under financial pressure. They have lost hours or benefits and their spouses have lost jobs. They have a strong incentive to try to make up their losses by taking readily available cash and other assets.
Fraud Prevention Steps
In light of these examples, what should business owners do? The first step is to recognize that fraud is common and that it can be orchestrated or perpetrated even by the most trusted employee. The second step is to understand the impact of fraud on the bottom line. Statistics have shown that a business loses approximately 5% of its gross revenue to fraud schemes per year (Report to the Nations on Occupational Fraud and Abuse: 2012 Global Fraud Study, Association of Certified Fraud Examiners [ACFE], http://www.acfe.com/rttn-highlights.aspx).
Assets disappear readily. In more than 20% of 2012 cases, the cost of each fraud exceeded $1 million; in another 68% of cases, it ranged from $1 to $400,000 (ACFE 2012). Many of these losses-particularly in the tier of $400,000 or less-were for very basic crimes. Billing fraud (i.e., creating false vendors, submitting personal invoices for payment) accounted for nearly one quarter of the cases. Check tampering (i.e., taking blank checks or diverting checks to a personal account) and skimming (i.e., accepting payments from a customer and not reporting them) followed close behind, as well as noncash theft (of inventory).
After recognizing the risks and the stakes involved, business owners should perform a fraud risk assessment. The key components of such an assessment are as follows:
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