Business Management Articles
Combatting employee theft and fraud
Jack Harris
BDO Dunwoody LLP
May 2, 2005, Okanagan Business Journal
There’s a tendency to think of theft and fraud as a problem for “Big Business”. That is probably because financial malfeasance in large organizations generally garners more publicity than in small, closely-held organizations. Smaller enterprises, the backbone of the Thompson/Okanagan/Kootenay economy, face the same problems as big businesses, but with another layer of risk. They simply have fewer human resources to deploy in asset protection activities.
Good internal financial controls require segregation of duties and hiring adequately trained – and then supervising them. Small business owner-managers generally have skill sets more in line with operating and marketing functions than with the financial overseer role . . . and that can be a formula for financial disaster, particularly when harried, overworked owner-managers place a high degree of trust in the hands of those charged with financial accounting responsibilities.
It generally doesn’t take long for a reasonably skilled accounting technician to gain the trust of an employer who has to present many faces to suppliers and customers. In such circumstances, many employers are simply relieved they don’t have to face the books anymore.
Once an owner-manager bestows trust, she often follows up with giving even more responsibilities and trust, perhaps even unjustifiably so, to the point where there is reduced, or even no, segregation of duties. . . and, because of the high degree of trust, no supervision. Sound familiar?
The British Columbia Crime Prevention Association notes that 40 to 50 per cent of retail business losses are due to employee theft, and 60 to 70 per cent of corporate business losses result from employee theft. Further, one third of all business failures can be linked to internal theft and related fraud, which generally takes the form of false and misleading entries intended to hide the loss and mislead the employer.
Heads Up BC Business Crime Prevention Program points to the 2000 Canadian Retail Security Report, which indicates that losses from employee theft and fraud, compared to losses attributable to customer theft, has soared in the past few years. Chain and department stores lost about $2.3 billion in 1999 to shoplifting, and employee theft and error, an increase of 21.5 per cent over 1997.
A consistent theme in theft and fraud cases today is that the culprit worked for the company for many years and the owner trusted him to do many different tasks – the owner even conferring unrestricted access to the premises and financial records of the enterprise. Unlucky employers are often heard to testify that “she never took holidays,” or, “he couldn’t trust anyone else to do it right.” In the end, thefts are frequently discovered “only by accident.”
There are policies and procedures that an owner-manager can adapt to her business that will reduce the risk of becoming a fraud statistic. The primary goal is to remove the temptation to commit theft in the first place. Deterrents include:
- Implementing internal controls, especially segregation of duties;
- following up on unusual comments or complaints from customers or employees;
- running background checks on new employees;
- adopting mechanisms for anonymously reporting fraud;
- providing ethics training for employees;
- establishing fraud policies;
- safeguarding assets by restricting access, locking doors/storage areas, etc.
installing workplace surveillance; and
- committing to prosecute offenders
Such policies and procedures have, in our experience, proven fruitless where they are not actively monitored by the owner-manager. In many theft and fraud cases that we have investigated and followed closely through the prosecution stage, we have noted that losses would likely not have occurred, or would have been significantly reduced, if the owner-manager had simply taken the time to do, or make it appear that she had done, a few simple tasks, even if only on a test basis, such as:
- reviewing all monthly bank reconciliations and questioning all reconciling items – finding out why the bank balance doesn’t agree with the book balance;
- Examining cheques returned with the bank statements at each month end – finding out who is getting money and why; examine endorsements on any unusual disbursements by cheque;
- Examining balances in “clearing accounts” – they should be clearing out to zero regularly throughout the month, not just at month end;
- Examining all adjusting journal entries – and then questioning them until the answers make business sense; financial entries are merely a reflection of an underlying business transaction – there is no excuse for having to listen to jargon.
Prohibiting payment from the till of operating costs, and, instead, setting up a fixed petty cash fund of minimum, reasonable amount (say, $200); the owner-manager will replenish the fund only when the custodian presents to her, for mandatory approval, invoices supporting amounts already expended – what is known as an imprest petty cash system.
We are not meaning to vilify accountants with these recommendations; we are merely advocating a reasonable monitoring system. Not monitoring an accounting system, with or without good internal controls, is akin to having a burglar alarm and then turning it off to save electricity.
There are many other areas where vigilance can be directed. For assistance in implementing a fraud-deterrent system in your workplace, consult with an investigative and forensic accountant. These professionals have the experience and training to prevent and detect fraud. They can assess your internal controls and develop a prevention system to minimize your risk of internal financial loss.
Jack Harris, CA·IFA, is a chartered accountant specializing in investigative and forensic accounting. He has qualified many times in court as an expert witness in that field. He investigates and assists in the prosecution of fraud and advises owner managers on critical risk areas within accounting systems. His clients include the RCMP, the Ministry of the Attorney-General, The Law Society of BC, various financial institutions, charitable organizations and private, owner-managed businesses. For more information you can reach Jack in our BDO Dunwoody Kelowna office at 250-763-6700 or email him at jharris@bdo.ca.
