Fraud: Bringing light to the dark side of business!
By Buckhoff, Thomas A.
The CPA Journal
The Association of Certified Fraud Examiners (ACFE) estimates that employee fraud costs $400 billion annually-or about 6% of an organization's total revenues. A 1998 KPMG LLP survey of 5,000 leading U.S. publicly held companies, not-for-profit organizations, and governments indicated that the average fraud loss per incident was $116,000. Furthermore, 62% of respondents reported losses due to employee fraud in the past year.
By any measure, employee fraud is an enormous and intolerable financial drain on business. The following were the costlier fraud schemes reported in the survey, and the annual loss attributable to them:
* Medical/insurance claims fraud ($3,177,000)
* False financial statements ($1,239,000)
* Credit card fraud ($1,126,000)
* Check fraud ($624,000)
* Inventory theft ($346,000)
* Bid rigging and price fixing ($346,000)
* False invoices and fictitious vendors ($256,000)
* Expense account abuse ($141,000)
* Purchases for personal use ($63,000)
* Conflict of interest ($38,000)
* Kickbacks ($35,000)
* Payroll fraud ($26,000).
The Fraud Triangle
To effectively detect and prevent fraud, one must first understand what motivates people to commit fraud. Three essential elements are common to all types of fraud schemes: opportunity, pressure, and rationalization. These three elements comprise the fraud triangle.
The first and most critical element of the fraud triangle is opportunity. Many organizations unwittingly and unwisely provide their employees with a variety of opportunities to commit fraud. The most common factor is the lack of adequate controls for monitoring employee behavior. For example, a bookkeeper in a clinic was given the responsibility to prepare checks, sign checks, and record the payments in the cash disbursements journal. The bookkeeper discovered the opportunity for fraud and embezzled almost $1 million in cash. Adequate internal controls require-at the very least-that these three responsibilities be segregated among at least two or more employees. Employees possessing such "incompatible responsibilities" have an easy opportunity to commit fraud. They can simply make out the checks (to themselves or to pay their own bills), sign the checks, and then hide the fraud by charging it to a variety of expense accounts.
Not all employees will exploit the opportunity to commit fraud. What is it that induces one employee to commit fraud and another to remain honest? The answer is pressure, the second element of the fraud triangle. Financial pressure can come from a variety of sources, including:
* Lifestyle, including the perceived need to maintain a high standard of living
* Personal debt, from credit cards, gambling losses, substance abuse, or poor investments
* Business losses, caused by inflation, high interest rates, poor economy, or lack of demand.
Employees burdened with financial pressure may search for ways to relieve that pressure. Consequently, they should not be put in a position that would provide them with the opportunity to commit fraud. Doing so would be an unwise decision with predictable results.
The third and final element of the fraud triangle is rationalization, the means by which the fraudster psychologically justifies the fraud. Common rationalizations include the following:
* "They owe it to me. I deserve to get paid more."
* "I'm only borrowing the money. I'll pay it back."
* "Nobody will miss it. The company can afford it."
* "Everyone does it. I'm not hurting anyone."
Those with low integrity generally have little trouble coming up with rationalize tions for defrauding their employers.
An analysis of personal bankruptcy filings from 1970 to 2000 reveals much about financial pressure and personal integrity. …