Employee fraud the red flags

In 2012, Australian businesses lost over $372 million to fraud, 75% of which was committed internally1.  It is estimated, however, that the true cost of employee fraud to the economy could run into billions of dollars.

Many businesses, both large and small, overlook basic control procedures, leaving the door open for opportunistic employees. Recognising the most common types of fraud and how to spot them could save your business a lot of time, money and heartache.

The most common types of fraud include:

  • Manipulation of source data including pay rates, new suppliers or employees and bank accounts.
  • Falsifying invoices and expense claims.
  • Electronically transferring funds into personal accounts.
  • Receiving ‘kickbacks’ from suppliers.
  • Creating unauthorised accounting adjustments to the financial statements.
  • Misappropriating company assets or inventories.

A typical fraudster

Unfortunately, due to the nature of employee fraud, the typical fraudster is usually a long-term employee who is in a position of trust. Often the business owner or management team do not adequately oversee or are unaware of what the individual’s duties involve.

In harder times we tend to see an increase in fraud as fraudsters find it easier to rationalise their actions and are more motivated to engage in misconduct to maintain their own lifestyle requirements.

Preventing fraud

The best way of managing fraud is to prevent it.

When a fraud is detected, there is generally a flaw with the business’ internal controls. Authorisation processes are either inadequate or not enforced, duties are not segregated and restrictions are too lax.

If we take the payroll function as an example, segregation of duties becomes exceptionally important.  If we assume that a payroll officer is able to create employee records in the accounting system, input their pay rates and process payroll electronically through the business’ bank account, then the door is open for this employee (if so inclined) to commit fraud.

He or she could simply adjust their own pay rate or create a false employee with their own bank account.

A more robust system would involve a segregation of duties.  For example, the human resources manager may be responsible for creating new employees and the finance manager may be responsible for approval of all bank transactions.

Some simple measures to enhance you internal controls include:

  • Ensuring that employees processing transactions are unable to access, create and amend source data within the system and are unable to access and process physical payments.
  • Enforcing independent authorisations and approvals specifically around the bank reconciliation process, creditor payments process, credit note issuance and expense claims.
  • Ensuring physical restrictions are in place with regard to accessing cash, cheques and valuable assets or inventories.

Moreover, having a well communicated and clear fraud policy in addition to procedures to detect fraud is paramount to prevention. Employees are less likely to commit fraud if they know that the business undertakes regular monitoring of their records such as:

  • A regular review of source data.
  • Intermittent review and sign-off on departmental staff details and supplier details by operational managers.
  • Regular analysis of management reports.
  • The use of computer based audit techniques that can identify discrepancies within your accounting system and source data.

Red Flags

Some of the red flags that business owners should look out for include:

Key people never taking leave
The majority of fraudsters work alone. Many are afraid to allow another staff member to take-over their responsibilities for fear of being caught out.

Results that don’t meet expectations or trends
It’s important to be aware of trends in your industry and to stay on top of forecasted results. Where there is no reasonable explanation for a fall in results a fraud may have been committed.

Poorly documented transactions
Poorly documented or delayed reporting could be indicative of the misappropriation of assets.

Late bank reconciliations
Some cases of fraud may be particularly complex, involving the creation of false suppliers or manipulating underlying payment details. Where bank statements are reconciled late, matching transactions can be more difficult.

Keeping on top of reconciliations will allow you to more easily detect a fraud before it runs out of control.

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1 A survey of fraud, bribery and corruption in Australia and New Zealand 2012