byline: Jennifer L. Todd, CPA, CGMA

Since the onset of the 2007 recession, there has been a significant rise in deviant employee behavior. Several of our firm’s customers experience losses due to embezzlement by trusted employees. In their 2012 Report to the Nations, the Association of Certified Fraud Examiners (ACFE) disclosed the following key findings about employee fraud:

• Organizations lose an estimated 5 percent of revenues annually to fraud
• The median loss is $140,000 per occurrence, with more than one-fifth of losses at $1 million or more
• Frauds lasted a median of 18 months before detection
• The smallest organizations suffered the largest median losses
• Nearly half of victim organizations do not recover any of the losses
• Most occupational fraudsters are first-time offenders with clean employment histories

Small organizations are especially susceptible to losses from employee embezzlement. Often we see these problems in cash-heavy businesses or those with large inventories. But employee embezzlement is most frequently experienced in organizations lacking owner oversight of financial processes, usually due to placing far too much trust in employees and having no internal controls. Unfortunately, with the state of the current economy, more and more otherwise honest employees feel compelled to commit fraudulent acts.

There are several low-cost internal controls that organizations can implement to curb employee theft. In a recent article, liability insurer CAMICO suggested that merely educating employees on the detrimental effects of employee fraud can reduce an organization’s risk. Business owners should not rely solely on management to oversee the finance function. Implementing a regular review of bank and credit card statements can catch or deter a would-be thief. The company owner needs to look at the cleared transactions to determine legitimacy of payees. This important task cannot be done effectively by reviewing the accounting software, but instead, actual cancelled checks should be examined for both payee and endorser.

It is very easy for transactions to be changed in the accounting system after the deed is done. For instance, we recently had a customer discover that their bookkeeper was getting paid once by a regular paper check and then again via direct deposit. Since the owner was not reviewing the bank statements, or the actual transactions, the embezzlement was not caught until months after the employee quit. If owners do not feel they have the time or expertise to oversee their finance department, they should invest in the services of a qualified CPA to perform these important checks and balances. Our firm offers outsourced controllership services for this very purpose — to give busy owners peace of mind that there are controls in place that otherwise would not be there.

There are inexpensive physical barriers that should be used to deter criminal activity. To protect cash, organizations can buy a $200 drop slot safe to securely house the night’s deposit until it is taken to the bank. Similarly, security cameras deter misbehavior and can be the source of valuable evidence in case an incident occurs. We recently had a customer install both a drop slot safe and a hidden camera only to learn that a long-time and trusted employee was stealing both cash and inventory after hours.

Finally, recognizing behavioral “red flags” as outlined in the aforementioned ACFE report can help prevent occupational fraud. These “red flags” include:
• An employee living beyond their means (expensive cars, pricey jewelry or clothing, frequent dining out or lavish vacations)
• Financial difficulties (due to drugs, gambling, marital or other family problems)
• Unusually close association with vendors or customers (giving kickbacks)
• Excessive control issues (employee is secretive or possessive about their work, sometimes refusing to take time off due to a fear of being caught)

While no amount of safeguarding can effectively deter every instance of employee theft, using a combination of the above methods can certainly help lessen the problem. It’s most important that business owners invest their own time or enlist the help of a qualified professional to provide oversight to the financial process of their organization. In every case that we have seen from our customers, the owners were detached from the accounting process and had very few internal controls in place allowing for dishonest employees to take advantage of the situation. Ultimately, it is up to the business owner to take the first step in deterring employee fraud by simply educating themselves on the risk factors and properly overseeing their finance and accounting function.

http://www.acfe.com/rttn-highlights.aspx
http://www.camico.com/portal/server.pt?open=512&objID=470&PageID=0&cached=true&mode=2

Jennifer L. Todd, CPA, CGMA is the managing partner of Todd & Price, PLC, a certified public accounting firm in Newport News, Va. Jennifer specializes in strategic business planning, income tax consulting and IT solutions for businesses of all sizes. You can view her bio and connect with her via social media here.