Occupational Fraud Research Paper
Occupational or employee fraud is when an employee knowingly lies, steals, or deceives a company with the intent of personal gain or compensation. Fraud falls into three categories: misappropriation of assets, corruption, and financial statement fraud. “CFEs estimate that organizations lose 5% of revenue to fraud each year” (ACFE). The effects of fraud extend beyond the financial losses, it also affects a company's reputation. Which could lead to issues of retaining employees and business partners. Strong internal controls are most important to prevent and detect fraud before it becomes detrimental to a company.
The ACFE (Associations of Certified Fraud Examiners) conducted a study and published Report to the Nations to highlight what companies should do to detect, prevent, and handle fraudulent acts committed by employees. “A typical fraud case lasts 14 months before detection and causes a loss of $8,300 per month” (ACFE). Preventing fraud is the goal but making sure to detect fraudulent activity that has already occurred is critical to minimizing the effects it may have on the company.
Asset misappropriation is the most common type of fraud committed. While being the most common it is the least costly compared to financial statement fraud or corruption. Sub schemes of asset misappropriation may include check and payment tampering, billing, payroll, or expense reimbursements. Companies tend to catch noncash fraud more efficiently than cash fraud. “On average, payroll fraud lasted for 24 months (about 2 years) before being detected versus noncash fraud being detected within 13 months on average” (ACFE). Knowing how fraudsters cover up their actions gives companies the knowledge needed to implement proper internal controls. The top four concealment methods used by fraudsters are creating fraudulent physical documents, altering physical documents, altering electronic documents and files, and creating fraudulent electronic documents and files. Maintaining a hotline or employee reporting system in combination with fraud awareness training speeds up fraud detection and reduces losses. More than 40% of fraud cases in the Report to the Nations study were uncovered by tips submitted by other employees.
Employees commit fraud for many reasons, but all typically fall under a category of the fraud triangle. The fraud triangle originated from Donald Cressey’s hypothesis, “Trusted persons become trust violators when they conceive of themselves as having a financial problem which is non-shareable, are aware this problem can be secretly resolved by violation of the position of financial trust, and are able to apply to their own conduct in that situation verbalizations which enable them to adjust their conceptions of themselves as trusted persons with their conceptions of themselves as users of the entrusted funds or property” (Cressey, Other People’s Money). Outlined in the triangle are three components: Opportunity, Pressure, and Rationalization. Pressure refers to the motivation behind the act of committing fraud and including personal life financial struggles or high demands from superiors to meet financial targets. Opportunity relates to the risk factor of committing fraud. Employees may see heightened opportunities if internal controls are weak. Rationalization is how a perpetrator justifies their fraudulent actions. Many employees believe what they are doing is permissible due to feeling undercompensated, or that the company is unethical and does not deserve the money or would not miss the money being taken.
The Coronavirus (COVID-19) pandemic has affected millions of individuals and families across the globe. It also has driven many companies to make a shift to remote work positions. The economic impact of COVID-19 has pushed employees and given them pressure to commit employee fraud. “For example, sales personnel at a given client may have struggled to meet their targets. If their compensation was tied to meeting those targets, they may have had an incentive to inflate their sales figures.” (Journal of Accountancy). Working from home has also fed into the opportunity channel. More unusual behaviors can go unnoticed with the lack of face-to-face interactions and check-ins. In addition, many companies have found it hard to retain and hire employees shifting workloads to one person rather than separating duties.
Corporate and management should take several measures to detect and prevent fraud. A fraud risk assessment can be performed to identify exposures and weaknesses to mitigate. Proper internal controls that include physical security of assets and records, authorizations for disbursements, journal entries, timely account reconciliation and review, segregation of duties, and surprise audits. A careful review of financial statements with a particular focus on the underlying revenue recognition, credit memos, accruals, and budget-to-actual comparisons. Zero tolerance for fraud combined with swift action toward its perpetrators.
Potential perpetrators can be any employee. There are certain demographics, prior misconduct histories, and behavioral warning signs that can make an individual more likely to commit fraud. “41% of cases in this study were committed by employees while executives only accounted for 20% of cases” (ACFE). Employees in a lower paid and titled position are more likely to commit fraud, however fraud cases committed by higher positioned employees ended up costing the company more money. Executives are in a better position to override internal controls and have better access to a company’s assets. An individual’s department also makes their risk of committing fraud differ. Someone in accounting is more likely to commit fraud than someone in human resources because they have better access to assets. The top three behavioral red flags include: living beyond means, financial difficulties, and unusually close relations with vendors or customers.
Organizations can respond to fraud internally, through civil litigation, and by referring the case to law enforcement. “80% of perpetrators received some punishment” (ACFE). Termination is the number one action in response to fraud, however lower status employees are 31% more likely to be terminated than an executive. Many companies never report their cases to law enforcement. “46% of victims determined that their internal discipline was sufficient” (ACFE). One of the main reasons a company may choose not to report to law enforcement is to prevent bad publicity. They may also view legal action to be too costly to proceed with a suit and would rather just absorb the losses.
Fraud is an unfortunate situation all companies must address at some point. Therefore, they must ensure that the correct internal controls are being implemented. Employee tip hotlines have become more popular over the past 10 years, approximately “49% of companies have now incorporated an employee hotline to report fraud” (ACFE).
https://www.raconteur.net/business-strategy/covid-19-the-perfect-storm-for-employee-fraud/
