Fraud & Forensics
Fraud: Safeguards Can Help Mitigate Risks
by James Leisner, CPA
Director, Corporate Services
StoneBridge Business Partners
Reprinted with permission from Fraud Matters Newsletter of CPA America.
You may think your company is protected against fraud, but statistics say that as much as 10 percent of all fraud in the nation takes place in manufacturing companies. Approximately one-third of these cases involved fraudulent billing, according to the 2006 Association of Certified Fraud Examiners’ Report to the Nation on Occupational Fraud and Abuse.
Expense reimbursements and noncash schemes each represented another 28 percent. Distributors made up a smaller percentage but faced similar exposure.
There are a number of ways your company can implement safeguards against these common frauds facing manufacturers and distributors.
Fraudulent billing Fraudulent billing is the dishonest submission of invoices for payment for goods or services.
Examples
- Purchasing agents create a shell company that bills the organization for products or services never provided.
- Employees order and obtain products that are then converted to personal use.
- Employees collude with a supplier to overpay for goods or services and share in the proceeds.
Safeguards
- Know your suppliers and what you buy from them.
- Know the items you purchase, what reasonable quantities are, and what their approximate cost is.
- Require and review supporting documentation before processing payments.
- Monitor gross profit margins closely and analytically review expenses and purchases.
- Segregate duties. Those responsible for purchasing should not be in a position to approve invoices for payment.
Expense reimbursement fraud This type of fraud involves improperly seeking reimbursement.
Examples
- Employees seek reimbursement for personal expenditures, e.g., treating their family to dinner, not the customers they claimed.
- Employees overstate expenses, for example, mileage.
- Employees alter invoices.
- Employees fabricate receipts.
Safeguards
- Clearly state the organization’s policies regarding appropriate conduct, travel and entertainment guidelines, as well as reimbursement policies.
- Scrutinize expense reports for reasonableness and authenticity. Do the dates, locations, amounts and personnel involved seem appropriate?
- Insist on original documentation.
- Analytically review expenses by type and by individual.
- Require supervisors to approve expense reports.
- Periodically audit expense reports. As a deterrent, communicate to employees up front that their expense reports will be audited.
Noncash schemes The theft of assets other than cash often includes theft of inventory and tools.
Safeguards
- Maintain inventory in a secure area with access limited to authorized personnel.
- Secure doors, shipping bays, windows and ceilings.
- Consider installing security systems.
- Limit hours of operation and access to the warehouse for shipping and receiving.
- Segregate high-value and marketable inventory in a secure area, such as a caged area or locked closet.
- Provide adequate lighting.
- Conduct periodic inventory counts, with an emphasis on higher value and marketable items, whether raw materials or finished goods. Look inside containers and verify the contents. Compare counts to perpetual inventory records. Investigate differences and adjustments to inventory records.
- Prominently place surveillance cameras to deter and record theft. Periodically test the video record to make sure it provides adequate coverage of the area and is intelligible.
- Maintain shipping logs. Compare this information to invoices.
- Have employees verify and initial each other’s work before shipping.
- Limit the number of shippers you use to deliver goods.
- Have more than one employee in the warehouse at all times.
- Limit what employees can bring into the warehouse and what they can remove. Keep meal containers in lockers or the lunchroom; restrict clothing that could conceal items; prohibit the use of personal tool boxes that enter and leave the premises.
General safeguards General safeguards include:
- Prominently post the organization’s policy on theft and dishonesty.
- Establish a means for employees to report theft and dishonesty, whether a telephone hotline, drop box or person to contact. Prominently display notices throughout the facility.
- Prohibit employees from leaving the facility with any organization assets, including tools, scrap items, equipment, etc.
Financial statement risk Another form of theft can occur without inventory being stolen. When employees are compensated based on production or profitability, overstating inventory can overstate profits and the financial incentives paid to employees or management. Inventory can be misstated by quantity, value or both. Management staff may overstate inventory to support borrowing dependent on inventory collateral values.
Review these safeguards with management and your accountant and determine risk areas and possible improvements in your business. Consider additional testing at year-end or surprise audit procedures during the year. Our firm ca help you assess fraud risks and implement safeguards.
James K. Leisner, CPA
Jim is a partner at EFP Rotenberg. He works with the management of privately owned businesses and not for profits to provide traditional accounting services and also provides assistance with business acquisitions/dispositions, expansion, financing, and the safeguarding of related assets. Read more about Jim. Article republished with the permission of CPAmerica.