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June 6, 2016

The 3 Main Sources of Fraud and How to Prevent Them (article)

As companies become more interconnected, the risk of falling victim to fraud increases. Fraudulent activity can cause devastating reputational and financial consequences for companies, especially if the activity occurs over longer periods of time. According to the ACFE’s 2016 Report to the Nations, the total loss caused by participating companies in the study exceeded $6.3 billion, with an average loss per case of $2.7 million.

There is a wide variety of fraudulent activity that can occur within a company from paying wages on misrepresented overtime hours to overstating revenues in financial statements by recording sales before the terms are completed. A majority of this fraudulent activity will fall within one of the three categories: asset misappropriation, corruption schemes, and financial statement fraud. Understanding these key risk areas and implementing the proper steps to control those areas can potentially save your company from significant hassle and expense.

Asset Misappropriation

Asset misappropriation occurs when the employees or key third-party vendors who are trusted to manage the assets of an organization, such as payroll or intellectual property, steal from it.

Cash is the asset most commonly misappropriated, and employees most often conduct these schemes. For example, an individual who is authorized to make and sign checks for the company may make checks payable to themselves and then change the payee’s name in accounting records. In another example, an employee could be submitting false receipts to overstate their expenses and receive larger reimbursements.

Although many smaller organizations have a limited number of employees that require oversight of day-to-day activities, it is important that no single employee is awarded too much authorization power. Divide duties among multiple employees, such as having one employee in charge of replenishing supplies and another who reviews the petty cash receipts or credit card expenses. Monitor employees for changes in behavior, such as becoming secretive and defensive or look for those who appear to be living beyond their means. If you notice unexplained changes in habits, double check expenses to make sure there is nothing out of the ordinary in the books.

Corruption Schemes

Corruption schemes tend to occur because of personal relationships between individuals and leave little or no paper trail. This type of fraud includes bribery, conflicts of interest or kickbacks related to your company’s business transactions. If one or more of your employees is accepting inappropriate gifts from your vendors or certain contractors do not have business addresses or telephone directory listings, your company may be the victim of a corruption scheme. Incorporating a Conflict of Interest Policy and requiring employees to sign off on it annually will create awareness throughout your organization. Review all invoice documentation submitted by your vendors before sending them any form of payment. Consider including clauses in your third-party contracts that allow you the right to audit their financial statements to provide further protection.

Financial Statement Fraud

Financial statement fraud is the deliberate misrepresentation or omission of data to create a false impression of your company’s financial strength. Most commonly, financial statement fraud involves manipulating revenue figures, but it can also include delaying the recognition of expenses, overstating inventory or disclosing improper information to the public. This particular type of fraud can have severe consequences for its victims, including bankruptcy, financial penalties or even delisting by national stock exchanges. To detect when this type of fraud is occurring, look to your company’s competitors to evaluate their financial performance. If your company is consistently growing while others in your industry have fallen stagnant or behind, there is a possibility that your financial strength has been overstated. Another indicator is an unexpected accumulation of fixed assets, which could indicate that your company has failed to recognize expenses. Instituting corporate governance and internal controls will minimize the likelihood that financial statement fraud will go unnoticed.

Protect Your Organization

Every business opens itself up to fraudulent activity when it fails to implement the proper reporting and controls. Hiring a third-party Certified Fraud Examiner (CFE) or a CPA who is Certified in Financial Forensics (CFF) can help your company better understand forensic analysis best practices and establish antifraud policies to ultimately protect your revenues.


Copyright © 2016, CBIZ, Inc. All rights reserved. Contents of this publication may not be reproduced without the express written consent of CBIZ. This publication is distributed with the understanding that CBIZ is not rendering legal, accounting or other professional advice. The reader is advised to contact a tax professional prior to taking any action based upon this information. CBIZ assumes no liability whatsoever in connection with the use of this information and assumes no obligation to inform the reader of any changes in tax laws or other factors that could affect the information contained herein.

CBIZ MHM is the brand name for CBIZ MHM, LLC, a national professional services company providing tax, financial advisory and consulting services to individuals, tax-exempt organizations and a wide range of publicly-traded and privately-held companies. CBIZ MHM, LLC is a fully owned subsidiary of CBIZ, Inc. (NYSE: CBZ).

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