Dirty Deeds
By Mell Duvall
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(Photo by Per Breiehagen) |
These days, theft and fraud know no bounds—even in companies with small staffs. If you think your business is immune, think again. We give you a primer on how to protect your business from the devastating impact of felony. Even on the Internet.
After weeks of fruitless
searching for a bookkeeper/receptionist for their picture-framing shop
in St. Paul, Minn., business partners Janet Hawn and Roger Nielsen couldn’t
believe their luck when Nancy Cobb [not her real name] walked through
their door.
None of the other applicants for the job measured up. Either they were
strong in bookkeeping but lacked customer relations skills, or they
were good with customers but had no experience managing the books.
Then in April 1998, Cobb blew into the shop. The divorced mother of
a terminally ill teen-age daughter, she was articulate, charming and
had glowing recommendations from previous employers that quickly convinced
the business partners they’d struck gold. “She appeared
to be everything we were looking for,” says Hawn.
Cobb was good, all right. Good at bilking her employers—and just
about anyone else she came across—out of their hard-earned money.
Unfortunately, it took two years and the near collapse of their business
for Hawn and Nielsen to figure that out. Over an 18-month period, Cobb
embezzled roughly $200,000 from Master Framers. In December 2001, she
was sentenced to three years’ probation and ordered to pay $123,295
in restitution.
| CHECKS
AND BALANCES We asked Washington, D.C.–based accounting firm Beers and Cutler (www.beers andcutler.com) for quick tips to prevent fraud: |
| •
Make sure every bill has a purchase order, which is signed by the
person who authorized the purchase. • Limit the number of people who can authorize purchases, and establish the amount. • Maintain control over the stock of blank checks. • Always use sequentially numbered checks, and review numbers to see that none are missing. • Sign all of the checks yourself unless you authorize someone to sign them. • If you’re signing a check to an unfamiliar company, call the company to make sure that it’s real. • Have statements sent to your home. This allows you to review the statements for any irregularities before anyone in the office sees them. • Make sure that someone other than the person keeping the books reconciles the bank accounts. • Conduct occasional surprise counts of petty cash. • To improve controls over cash, have someone other than the bookkeeper open the mail and prepare the deposit slip. A copy of the deposit slip should be kept and compared to the records. • Periodically review the payroll register for accuracy of wage rates and hours worked and to check that no fictitious or terminated employees are included. |
In the end, the
business owners discovered that nearly everything about their employee
was a fantasy. Cobb had a string of nationwide arrests and convictions
for theft, forgery and other crimes stretching back to her teens. She
might have continued to steal from Master Framers, but authorities walked
into the shop one day to charge her with an unrelated drug-related offense.
The owners then learned of Cobb’s checkered past and began looking
into their own books. That’s when the nightmare began.
“When something like this happens, you never get over it,”
says Hawn. “We were doing really well, and it hit our business
hard. The money we can recover over time, but we can’t recover
our sense of trust.”
If you believe that a felony committed by an insider couldn’t
happen at your company, thousands of business owners nationwide would
beg to differ. Once upon a time, they thought the same thing. For reasons
that range from loose company security to the dissolution of business
and personal ethics, fraud is on the rise. Fortunately, business owners
can do something about it—from recognizing the warning signs to
better securing their assets.
With more than 20 years’ experience as a business fraud investigator,
Jim Baker has seen just about every form of theft, swindle, fraud and
embezzlement committed against employers. But he thinks what is happening
in workplaces now is especially disturbing.
Fraud is becoming more prevalent, Baker believes, because the societal
and cultural conditions that once formed a natural layer of trust between
employers and employees are breaking down. Now, he says, the only shame
associated with fraud in the workplace is the shame of getting caught.
“Clearly, something is broken in the system,” says the former
Dallas homicide detective turned owner of a fraud investigation firm.
“What kind of an example are Enron, WorldCom and the other corporate
scandals setting for society?”
Baker’s sense of what’s going on in the workplace is more
than just a feeling. In one of the largest studies ever conducted on
the problem, the Association of Certified Fraud Examiners, or ACFE (www.cfenet.com),
determined that fraud cost the U.S. economy about $600 billion in 2001.
Small businesses, which are the most vulnerable to attack, will be the
hardest hit. In its 2002 “Report to the Nation,” the association
found that the average fraud scheme in a small business will result
in $127,500 in losses. That compares with $97,000 in losses for the
average scheme committed against a large company.
John Warren, associate general counsel for ACFE, says small businesses
are more vulnerable to fraud because they typically lack the secondary
controls and procedures that are in place at larger corporations. In
a smaller business, it’s not uncommon for one person to be in
charge of a certain function—such as writing checks—with
no oversight. The business owner is usually too busy to check up on
employees, and owners often feel they don’t need to question the
honesty or loyalty of their staff.
“When you’re in a small business where people know each
other really well, there’s a built-in level of trust,” Warren
says. “Business owners often like to say that their employees
are like family. But that just creates more opportunity for fraud.”
| OUT
OF BOUNDS We asked Washington, D.C.–based accounting firm Beers and Cutler (www.beers andcutler.com) for quick tips to prevent fraud: |
| The
most common types of fraud committed against small businesses fall
into five categories: Skimming: This is most commonly committed in retail or restaurant settings, where a clerk will make a sale but fail to record it, and simply pocket the cash. Fraudulent disbursements: This typically involves payments made against false invoices. Jim Baker, a fraud investigator based in Dallas, recalls being called in to investigate a dental practice, which discovered that it was paying thousands of dollars a month for gravel. It turned out the office manager’s husband operated a gravel business. Checkbook fraud: This typically occurs when an employee has sole control of the company’s checkbook, with no oversight. Payroll fraud: This often involves filing for fake overtime. In another investigation, Baker was called in to find out why a school bus company was paying its drivers more than twice their yearly wages in overtime. “I knew there was trouble when I arrived at the company and saw 60 new pickup trucks sitting in the parking lot,” he says. It turned out the drivers were filing for fake overtime and paying their supervisor a cut for his participation in the scheme. Inventory fraud: While it may be as simple as pens and paper walking out the door, small businesses often lose thousands of dollars a year in missing parts, machinery and sales merchandise. —M.D. |
Fraudsters can
catch even companies that should know better. A Washington, D.C., law
firm recently began to suspect that its bookkeeper was siphoning funds
from the company account. An investigation showed that the woman, who
had been given control of the company checkbook after demonstrating
exemplary service, was writing checks to cover her personal expenses.
A private investigator found that several other companies had fired
the bookkeeper for the same reason, but her previous employers decided
not to prosecute her. “It demonstrates the importance of following
through with prosecutions,” says Warren. “When you catch
someone, he or she has to be punished.”
The
Fraud Triangle
In looking at how employees commit fraud, Warren says to take a step
back and consider the factors that lead to fraud. In the 1940s, renowned
criminologist Donald R. Cressey developed what has become one of the
most widely respected theories on the conditions that lead to workplace
fraud. His so-called fraud triangle consists of several key elements.
The first is opportunity. For an employee to even consider
fraud, the opportunity must be there to commit a fraud—and perhaps
more important, believe he or she can get away with it.
Cressey’s second factor is a financial problem that is
non-shareable. Employees can run into financial difficulties
through no fault of their own or for reasons such as a gambling addiction.
The bottom line is that the employee has a need that he can’t
meet within his own financial means. (Of course, you can’t overlook
simple greed, either.)
The third factor is the ability to rationalize the fraud.
“They have to be able to convince themselves that what they’re
doing is ethical and not illegal,” Warren says. “The amazing
thing about people caught committing fraud is that few of them believe
they were doing anything wrong. They often say, ‘Everyone else
was doing it, and I was just getting my share,’ or ‘I’ve
been here for 10 years without a promotion, and I deserved it.’
They have some way of rationalizing what they’ve done.”
Surprisingly, employees caught committing fraud are often the ones least
suspected. While not always the case, they often work long hours, come
in on weekends and will skip vacations. The reason is simple. It takes
work to cover up fraud. They may work on weekends to maintain a second
book and will skip vacations because they’re afraid that their
replacement will discover what has been going on.
Take
Control
What can you do? The first and easiest step a business owner can take
is to keep control of the checkbook. Write and reconcile
all checks yourself. If the business is too big, have one employee write
the checks and have another reconcile the accounts.
The second thing to do is establish a clear separation of duties
in the business. This ensures that several employees would have to collude
before a fraud can be committed, and the odds against this happening
are much greater.
Another possible option is to bring in an auditor.
Warren says this can be a difficult step for many business owners to
take because of the impact it can have on employees. After all, most
employees don’t want to think they’re being investigated.
Warren says the business owner must simply bite the bullet. Tell employees
that from time to time an auditor will be brought in to audit the books,
with no warning. And don’t make the threat—do it. If they
ask why, tell them that it’s smart business. If you need to blame
someone, say that the Association of Certified Fraud Examiners recommends
it as a standard business practice.
“Be honest: Say you don’t suspect fraud, but these are the
types of steps any small business needs to do to protect its operation,”
says Warren. “If employees become overly upset or take offense—that’s
usually a good warning sign.”
Mel Duvall has been a writer and editor at Interactive Week and Financial Post.
