The 2014 edition of the Association of Certified Fraud Examiners (ACFE) report on occupational fraud confirms and extends previous findings that fraud is a persistent threat across time and borders. Extrapolating the incidence of fraud from the 1,483 cases included in the study to the estimated world GDP, ACFE estimates that occupational fraud cost as much as $3.7 trillion in 2013.
The report classifies occupational fraud into three broad categories:
- Corruption—such as bribery, conflicts of interest, and extortion
- Asset misappropriation—such as theft of cash, fraudulent disbursements, and inventory manipulation
- Financial statement fraud
Of these, asset misappropriation is the most common, but results in the smallest median loss of $130,000 per case. Financial statement fraud is relatively uncommon, but results in a median loss of over $1 million.
The Hidden Fraudster
The pattern of results reinforces the hidden character of occupational fraud. In the cases reported to ACFE, 18 months passed between the inception of the fraud and its detection. Only 5% of the fraudsters had been convicted of a fraud-related offense prior to committing the fraud in the study, and another 7.2% had been charged but not convicted. Although criminal background predicted frauds committed by first year employees, fraudsters who had been employed longer than one year did not have backgrounds that would trigger suspicions. Many of them had been employees for longer than 5 years before initiating a fraud.
Behavioral Red Flags of Fraud
Given the importance of detection in limiting total losses, employers have a strong interest in identifying individuals who might be susceptible to perpetrating one of these crimes. The survey respondents indicated that they should have identified at least one red flag in 92% of the cases, and in many cases, two or more red flag employee behaviors were apparent.
The most common red flags were:
- Living beyond means: 44% of perpetrators during the commission of the fraud
- Financial difficulties: 33%
- Unusually close association with vendor or customer: 22%
- Control issues, unwilling to share duties: 21%
- “Wheeler-Dealer” attitude: 18%
- Divorce or family problems: 17%
The report analyzes the incidence of red flags by position (employee, manager, owners/executives). Employee fraudsters are much more likely to have financial difficulties than managers or owners/executives, as might be expected by income differences. However, people in all positions were about equally likely to be living beyond their means.
Managers and owners/executives were more likely than employees to have a “wheeler-dealer” attitude, have an unusually close association with a vendor or customer, or to have control issues over their duties. The red flags associated with these upper positions may be especially important because the losses to frauds committed by these kinds of individuals tend to be larger than for employees, and in the case of owners/executives, much larger.
From Behaviors to Fraud Prevention
Employers are always well-advised to establish effective internal controls to help prevent fraud. But controls may or may not illuminate the behavioral red flags that can predict fraud. Vigilant employers and managers need to combine effective controls with observation of peoples’ behaviors in order to intervene before fraud takes place.
And remember that one of the best surveillance techniques available is a tip line. The ACFE report points to the internal tip as the overwhelmingly best detector of fraud—over 40% of the reported cases were detected that way. Just like neighborhood crime prevention, the more eyes there are in the case, the more likely the opportunity for crime will be observed and the crime prevented.