Stop Fraud Before It Starts


My idea of a good time: Digging through boxes of documents for hours on end, looking for that smoking gun that proves an employee was stealing from a business.

An attorney’s idea of a good time: Going to court with the expert witness who proved the employee was stealing, and burying the guilty party with a verdict in favor of the client.

The client’s idea of a good time: Having employees who don’t steal from the business in the first place.

Let’s face it, dealing with employee theft is no picnic. And while I certainly don’t mind making a living busting thieves, it’s always disheartening to see business owners put in a bind because of someone’s sticky fingers.

Fraud prevention costs a fraction of fraud losses. The majority of companies will recover 25% or less of funds stolen by employees. That’s for the frauds they discover. They recover 0% on all the frauds that are never uncovered. Wouldn’t it make more sense to spend money on fraud prevention?

A company truly committed to proactive fraud prevention should have three major components in place. Naturally, counsel should advise the company throughout the process of implementing these components to ensure compliance with labor laws and other applicable regulations.

The Right Employees

The best way to protect a company against internal fraud is by hiring the right employees. Companies need to have employees with appropriate backgrounds, as well as ones who fit with the company’s culture. Hopefully, that is a culture of integrity across the board.

Hiring the right employees includes some basic steps that, unbelievably, many companies are skipping. Verification of past employment and contact with references can yield valuable information. In addition, background checks (as legally permitted) can reveal information that may strongly suggest that a potential employee is not trustworthy.

One phone call by my client could have saved them a million dollars. How? The CFO they entrusted with all their money was believed to have stolen a significant sum from his previous employer. A call to that employer may have yielded information that would have caused the company to hire someone else. Instead, they hired him and he ran off with over a million dollars.

A small investment of time and money up front can save the company lots of heartache down the road. Again, attorney involvement is critical in this stage, as the employment process is not one to mess with.

Policies and Procedures

The heart of fraud prevention in companies lies within the company’s policies and procedures. These are often found under the heading of “internal controls”. In short, this area includes everything that dictates how business is done and how employees must conduct themselves.

“Tone at the top” may seem to be just another overused cliché, but it really is a critical component of effective fraud prevention. A company cannot expect lower-level employees to act with integrity if its management employees are engaging in shenanigans.

An organization can hardly expect its employees to act with integrity, when the president of that organization is adding “ones” in front of the numbers on his cab receipts, turning eight dollar cab rides into eighteen dollar cab rides. Other employees are probably aware that the president is submitting personal meals on his expense report. How can we expect them to act with integrity when their leader is so blatantly cheating the company?

Proactive fraud prevention procedures are at the heart of internal controls. While compliance with current regulations is important, having substantive controls that actually prevent fraud is even more important. Implementing a control just to say “we’ve done something” makes no sense. It is important that each control have a true purpose relative to the prevention of fraud.

For maximum effectiveness, a fraud expert needs to be involved in the development of control procedures. Those experienced with fraud are in the best position to recommend the most valuable controls.

When developing policies and procedures, it is important to be aware that the “perception of detection” is one of the most effective anti-fraud controls. That is, less fraud occurs when employees believe that the company is finding frauds and punishing offenders.

It is therefore critical to dish out punishment when fraud is discovered. Otherwise, you risk employees believing that fraud can be committed with impunity. Coming up with an appropriate punishment and delivering it are best accomplished with the involvement of counsel. Complying with those pesky laws and regulations is important throughout the fraud prevention process.

Employee Awareness
Studies have found that employees can be the company’s best watchdogs. As you might expect, most employees are generally honest, and they don’t like to see someone else on the take. Couple that with the fact that confidential reporting mechanisms are believed to cut fraud losses in half, and a company has a huge anti-fraud opportunity.

The first step is educating everyone on staff about what fraud looks like, feels like, and costs. Most employees haven’t come into contact with fraud on the job, or they just didn’t know that they were in contact with fraud. Provide basic training for all employees to introduce them to the concept of internal fraud, and give them a foundation for on-the-job watchdog duties.

Then educate employees about your “fraud hotline”. This would be the aforementioned “confidential reporting mechanism”. Employees should know that their identity will be completely protected, and that they are encouraged to use the hotline even when they only suspect a problem. Most companies outsource the fraud hotline function to help control costs and ensure the confidentiality of employees.

Had the employees of a client been aware of fraud and had a way to report it without fear of reprisal, they might have stopped the vice-president in her tracks. Instead, the president of the company is left wondering how hundreds of thousands of dollars got away without anyone mentioning anything to him.

Involving employees in the development of anti-fraud policies and procedures is a critical part of the fraud prevention process. It makes sense to gather information from those who do the jobs daily, since they will be aware of weaknesses in the system. The involvement of front-line employees also enhances the “team” attitude, which is always a good thing.

Foster a Culture of Integrity
An ethics policy that is monitored and enforced across the board is the first critical step in preventing fraud. Corporate culture is highly correlated to the fraud risk of a company, and good corporate governance is just good business.

Fraud prevention is good for the company as a whole, but what’s in it for the attorneys? Whether the attorneys are in-house or not, there is plenty of work to go around. Why not focus their time on things that will enhance the business, rather than chase after thieves who have likely spent all the ill-gotten gains?

All in all, the cost to implement effective controls to prevent fraud is small in comparison to potential (and actual) fraud losses. My idea of a good time may be investigating fraud, but my idea of a better time is helping companies save money through effective anti-fraud measures.

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