Preventing and Detecting Fraud in Your Organization

According to the Association of Certified Fraud Examiners’ 2014 Fraud Study, Report to the Nations on Occupational Fraud and Abuse, of the 1,483 cases reviewed, 29% percent of the victim organizations had less than 100 employees, and 52% of those who committed fraud had been employed longer than 5 years at the organization.¹

In order to prevent and detect fraud, you should be aware of the underlying factors of how fraud can occur. There are three main factors that set the stage for fraud: opportunity, pressure and rationalization. This is commonly known as “The Fraud Triangle.”

Opportunity
Opportunity relates to an employee’s access and ability to commit and conceal fraud. Of the three parts of the Fraud Triangle, organizations have the most control over opportunity. A strong internal control structure, including adequate segregation of duties, is the main focus when limiting opportunity. However, for a small organization, segregation of duties is not as easy.

The challenge faced by small organizations is that it’s impractical to hire individuals just to segregate duties. However, just because an organization is unable to establish a Fortune-500-level internal control structure does not mean internal controls should be disregarded.

Small organizations can establish the following controls to minimize the risk of fraudulent cash disbursements:

• Review check signing authority and consider a dollar threshold to require dual signatures. Do not authorize the same person who opens the mail to prints checks.
• Establish a vendor approval policy. This is can mitigate checks written to fictitious vendors.
• Request banks to send statements and cancelled checks directly to a business owner or board member for review.

Pressure
There are two types of pressures employees may face that trigger them to commit fraud: external and internal. Organizations generally have little or no control over external pressures, such as personal financial hardship. Internal pressures are created at the organization. Examples of internal pressures include:

• Budget and Earnings projections – If budgets are not realistic or punishment for not meeting goals is excessive, an employee may feel pressure to commit fraud.
• Incentive Compensation – Consider how an employee can manipulate information to receive a larger amount of compensation. For example, if total sales are a primary driver in the incentive compensation, an employee may be motivated to create fake sales invoices to inflate total sales.

Rationalization
Rationalization pertains to an employee’s ability to justify the fraud. Many organizations may initially believe this factor is an area they cannot control since the thought process is performed internally by the fraudster’s mind. However, it is not uncommon for an employee to rationalize fraud with “they owe me” or “I deserve this.”

One of the main areas to focus on when mitigating rationalization is to look at the overall work environment. Some key areas to consider include:

• Are my employees stressed or overworked?
• Do employees feel like they can take a vacation, and are they taking vacations? Is overall employee moral happy or sad?
• Are compensation packages competitive for the employee’s job title and industry?

If you have any concerns with these questions, the work environment may foster fraudulent behavior.

The examples explained here are just the beginning of how to prevent and detect fraud. If you have any questions on internal controls at your organization, please call me at (805) 963-7811 or email me at npisani@bpw.com.

¹2014 Report to the Nations on Occupational Fraud and Abuse. Copyright 2014 by the Association of Certified Fraud Examiners, Inc.