Business owners have learned to be leery of fraud, thanks to the high-profile cases of Enron, Tyco and WorldCom and the resulting increase in accountability via the Sarbanes-Oxley Act. Despite heightened awareness, fraud remains all too prevalent in today’s business world.
The Association of Certified Fraud Examiners’ 2008 Report to the Nation on Occupational Fraud and Abuse reports that U.S. organizations lose 7 percent of annual revenues to fraud. That translates to approximately $994 billion in fraud losses as applied to the projected 2008 U.S. gross domestic product.
And don’t assume that major corporations are the most affected. The same report cited that businesses with 100 or fewer employees post a median loss of approximately $200,000 each year.
“Fraud affects all companies, and it’s not going away,” says Ed Gojara, CPA, CFE, an audit manager with Briggs & Veselka Co. “It is imperative that companies implement fraud prevention programs that feature thorough auditing procedures and frequent communication with employees.”
Smart Business spoke to Gojara about the types of fraud companies face and what measures can be taken to reduce risk.
What are the main types of fraud?
There are three primary types of occupational fraud: asset misappropriation, corruption and fraudulent statements.
- Asset misappropriation involves the theft or misuse of a company’s assets. For example, an employee opens an account and subsequently forges company checks payable to the account. Reduce the risk by mandating a review of every endorsed check. Also, be sure sensitive job duties, such as accounts receivable and accounts payable, are not assigned to the same employee.
- Corruption involves the wrongful use of influence in a business transaction to procure some benefit for the perpetrator or someone else, contrary to his or her duty to the company. For example, one of your employees is in cahoots with one of your vendor’s employees to retain or increase assets purchased. They work together to perpetrate the fraud and then split the funds. To reduce your risk, rotate purchasing responsibilities among employees or appoint someone outside the purchasing department to frequently review invoices.
- Fraudulent statements are the falsification of a company’s financial statements, either for personal gain within the business or to deceive external parties for the company’s gain. For example, an employee reports revenue sooner than it’s realized or fabricates it to qualify for an incentive. Reduce your risk by conducting thorough background checks and hiring a qualified professional to regularly perform a full-scale audit of your company. The auditor will closely study your finances and recommend specific internal controls.
Besides those specific methods, what other ways can a company avoid fraud?
You’ve got to build fraud prevention measures into your company policies. Implement a code of conduct and organizational protocols that explicitly define the company’s policies as well as the penalties for violating them. With policies and procedures in place, you’ll show employees that the organization is serious about fraud. You’ll also remove the excuse, ‘I didn’t know I couldn’t do that.’
Create a code of conduct handbook that every employee must read and sign. You’ll have legal documentation that employees know the rules and the consequences of breaking those rules. Also, address fraud issues with your employees regularly. Show your employees the challenges the company faces through an annual presentation. Help your employees understand that if the company is hurting, the employees will be hurt, as well. Don’t forget that honest employees are your best assets. Create an anonymous tip line so employees can report wrongdoers.
Finally, assign someone, preferably someone in a senior management position, to have the responsibility of assessing fraud risks throughout the company. This person may or may not delegate some of his or her responsibilities, but in the end, he or she has the ownership.
Should companies seek outside assistance in preventing fraud?
Your CPA firm and attorneys should have experience with fraud risks and can help you identify issues. No matter how strong you believe your internal control system to be, outside assistance is advised. Think about the locks on your doors. You can have the most sophisticated locks and security systems, but if someone has the key and knows the codes, he or she can get inside.
Remember, too, that people in your organization can get too friendly with one another. As a result, checks and balances may be overlooked. Even honest people can do dishonest things if put in the right situation. An outsider can help you examine your company’s structure and suggest the segregation of duties where appropriate.
ED GOJARA, CPA, CFE, is an audit manager with Briggs & Veselka Co. Reach him at firstname.lastname@example.org or (713) 667-9147.