Are your employees stealing you blind?

Make your company fraud resistant      

It’s good to think the best of your employees and customers, but the reality is that people are not alwaysbusiness crime honest, and their dishonesty costs companies a great deal, Richard T. Balog, president of The ARC Consulting Group, Inc. told an audience at a recent Knowledge Is Power breakfast workshop.

He said a survey conducted in 2009 by the Association of Certified Fraud Examiners showed that employees, customers, and suppliers steal more than 7% of the average U.S.-based company’s revenues. That’s a lot of money, and it hurts your bottom line.

Rick Balog

Rick Balog

“It’s your money,” he said. “It’s important for you to take control of your business.” Although no organization or consultant can create a fraud-proof company, it is possible to make fraud more difficult to occur within your business. With consistent business planning, effective forecasting, a structured system of operational procedures, and diligent analysis of results, Balog said you can create a corporate culture and environment that significantly reduces the potential of devastating loss.

Set the tone

As a small business owner, you are the one to set the tone for your company, with a commitment to run an ethical company in which “doing right” permeates all facets of the business. The best “first step” toward minimizing the possibility of fraud within your organization is to be a good manager and set the right example with your words (messages) and behavior.

Put into place—and live by—good management practices that hold everyone accountable for their performance and behavior. “Demonstrate through your actions that you won’t accept fraud,” he said. Accountability in itself is a strong fraud deterrent. Send clear messages that honesty is expected and that fraud will not be tolerated.

Those management practices include:

• Hiring right (including doing reference and background checks on all new hires);

• Writing and maintaining current job descriptions;

• Orienting new employees and providing ongoing training to all employees

• Establishing and maintaining performance standards;

• Conducting periodic performance reviews;

• Maintaining open communications; and

• Developing and managing budgets, combined with effective variance analysis.

In addition to putting into place these basic management practices, convene a fraud-prevention task force. Doing so puts action to your words. Include on this task force members of every area of your company and have as its primary objective to identify potential fraud risks and possible solutions.

Finally, Balog stressed, develop—and communicate to employees, suppliers, and customers—your commitment to stop fraud, up to and including a commitment to prosecute. In your communication, outline acceptable practices and behaviors so that there is no room for misunderstanding.

Watch for ed flags

Your internal financial reporting structure is your first line of defense in minimizing the opportunity for fraud in your company, said Balog. Your accounting system shows the economic impact of management decisions and employee behavior.

Develop a realistic budget based on your operating plan and set accountabilities and controls. Watch for red flags, which could suggest fraudulent behavior.

Implement internal controls

Internal controls include any actions taken by management that enhance the probability of achieving the objectives of a specific process. Controls provide an environment to deter the commission of fraud. In addition, they assist the CEO and senior management in the detection and investigation of fraud. They give you and your forensic accountants the means to identify:

• How well employees are complying with established policies;

• Evidence of intentional circumvention of procedures;

• Where to look for evidence to find the perpetrators of a fraud;

• How fraud was committed.

Internal controls include procedures that:

• Restrict access to valuable and moveable assets;

• Provide accountability for deviations from established procedures;

• Require monthly analytical reviews and reconciliations of cash and other valuable and moveable asset accounts;

• Make sure deviations are reported in a timely manner to the appropriate level of management;

• Provide a structure so that material deviations can be easily identified; and

• Allow perpetrators to be identified promptly.

Balog said that controls alone cannot guarantee fraud prevention or detection. You must also conduct periodic audits that are reviewed by forensic accountants who have an understanding of your company’s industry as well as the environmental, institutional, and individual factors that increase the risk of the commission of fraudulent acts.

Investigate and prosecute

If your internal controls and/or audits raise red flags, don’t delay in conducting an internal investigation—or call in a professional to conduct a forensic audit especially if you intend to prosecute.

If a forensic auditor fails to perform the process correctly, the results can adversely affect the business owner. The best rule to follow when considering prosecution is to call a qualified, experienced forensic accountant to work with your legal counsel. Together, they can ensure the evidence is properly gathered and no one’s rights are violated.  

Richard T. Balog, CPA/CFF, CIA, CGFM, DACFE, is president and CEO of The ARC Consulting Group, Inc.(, which provides tax, accounting, and business consulting services, including forensic accounting. You can contact him at 904-268-1148. He spoke at a Jacksonville Small Business Advantage Knowledge Is Power workshop, sponsored by the University of North Florida Division of Continuing Education.



Watch for these red flags

Deviations from the norm should raise red flags to you and your accountants. Here are some that can signal potential fraud within your organization.

Among employees watch for:

• Significant observed changes from past behavior patterns,

• High personal debts or financial losses,

• Living a lifestyle above their income level,

• Extensive speculation in the stock market or other areas,

• Excessive gambling,

• Excessive use of alcohol or drugs,

• Disgruntled behavior,

• Emotional trauma in home life or work life.



How fraud happens

Fraud is not a random act. It occurs when three elements of the fraud triangle come together for a perpetrator:

• incentives or pressures. The person committing the fraud typically has a financial problem and decides your money can solve it. He may need the money because of a gambling debt, a substance abuse, problem, looming foreclosure of a home, or out-of-control spending. In contrast, the organization may be placing unrealistic objectives on the employee, driving the employee to resort to illegal acts to “make the numbers.”

• Rationalization. The perpetrator may feel you don’t pay her enough; he may dislike his employer; she may feel her value to the organization is under appreciated; he sees others performing similar fraudulent acts. What the rationalization comes down to is “getting even.”

• Opportunity. Finally, people commit fraud because the opportunity exists. Poor internal controls, the ability to override existing controls, a poor or non-existing system of internal financial reporting, or ineffectual variance analysis all give a perpetrator opportunity to commit fraud.

When people commit fraud, they usually also go to great lengths to hide it. They may develop false invoices, doctor receipts for an expense report, or destroy files. The act of intentional concealment is what differentiates a fraud from a mistake.



Profile of a potential fraud perpetrator

People who commit fraud come in both genders, in all races, and are of all ages. That said, some employees raise ref flags about their possible propensity to defraud. You may be at risk if you have employees who:

• Tend to place extraordinary high personal value on material things;

• Tend to treat people as objects for exploitation;

• Are highly self-centered;

• Tend to be conspicuous consumers;

• Appear to be reckless or careless with facts and often enlarge on them;

• Spend most of their time scheming and designing shortcuts to get ahead of or beat the competition;

• May gamble or drink a great deal;

• Feel like they are above rules and regulations;

• Have few real friends within their own industry or company;

• Are hostile toward those who don’t agree with them; and

 • Are disliked by colleagues and competitors.



Test your fraud IQ

Before you can prevent fraud in your company, you have to understand fraud. Take this quiz and test your fraud IQ. Answers are given at the bottom of the quiz.

1. The top reason employees commit fraud is:

            a. Weak internal controls

            b. Greed

            c. Personal financial problems

            d. Dissatisfaction with the employer

2. If a company adds fictitious sales to boost revenues, the cost of sales as a percentage of revenues will increase.

            a. True

            b. False

3. On average, employees steal most through:

            a. Inventory theft

            b. Cash theft

            c. Fictitious third-party billing schemes

            d. Business expense reimbursement schemes

4. The common way employees steal cash from the company is:

            a. Fictitious third-party billing schemes

            b. Check tampering

            c. Payroll schemes

            d. Business expense reimbursement schemes

5. Large companies are more likely to be a victim of fraud than small and mid-sized businesses.

            a. True

            b. False

6. On average, the age range of most fraud perpetrators is:

            a. <26

            b. 26-30

            c. 31-40

            d. 41-50

            e. 51-60

7. How long do the top perpetrators work for the company from which they steal?

            a. <1 year

            b. 1-3 years

            c. 4-6 years

            d. 7-10 years

            e. >10 years

8. Fraud is most frequently found through:

            a. External audits

            b. Accidental discoveries

            c. Tips and complaints

            d. Internal audits

9. The annual income of the typical fraud perpetrator is:

            a. $200K–$500K

            b. $150K–$199.9K

            c. $100K–$149.9K

            d. $50K-$99.9K

            e. <$50K

10. Most frauds are committed by: 

            a. Managers

            b. Employees

            c. Executives

Answers: 1. (c); 2. (b); 3. (c); 4. (a); 5. (b); 6. (d); 7. (d); 8. (c); 9. (e); 10. (b).

Source: Report to the Nation, Association of Certified Fraud Examiners, 2009

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