The fight against fraud—Knowledge is power

By Janice T. Jasinski, CPA, CFE, CGMA, SSB CPAs

Occupational fraud can happen anywhere and at any time. Unfortunately, small businesses and organizations are particularly vulnerable to occupational fraud because they lack the resources to properly implement internal controls and segregate accounting duties among their limited number of employees. Many small businesses and organizations often adopt an “it can’t happen here” mindset, which could prove to be costly.

The Association of Certified Fraud Examiners (ACFE)publishes a biannual study detailing the costs, schemes,perpetrators and victims of occupational fraud. "Occupational Fraud 2022: A Report to the Nations" (Copyright 2022 by the ACFE) was recently released covering 2,110 real cases of white-collar crime occurring in 133 countries and 23 industries. The report estimates that organizations lose 5% of revenue to fraud each year with a $117,000 median loss per case and a staggering $1,783,000 average loss per case. However, the study recognizes that the 5% benchmark is a conservative estimate because many frauds go undetected or unmeasured. As a result, the true losses from occupational fraud are probably much higher than the study suggests.

Following is a recap of various statistics and other information from "Occupational Fraud 2022: A Report to the Nations" (Copyright 2022 by the ACFE):

Median losses

The top five median losses by industry were in real estate ($435,000), wholesale trade ($400,000), transportation and warehousing ($250,000), construction ($203,000) and utilities ($200,000). The study further indicated that organizations with the fewest employees had the highest median loss ($150,000).

Perpetrators

Fraud losses tend to be larger in schemes committed by high level executives/owners and typically take longer to detect (median duration of 18 months compared to only 8 months where fraud was committed by employees). Frauds committed by high level executives/owners are challenging because these individuals often have the ability to evade or override controls that would otherwise detect fraud. Furthermore, these individuals are often in a position of authority that intimidates employees from reporting suspected wrongdoings.

The study also pointed out that only 6% of perpetrators had a previous fraud-related conviction while 85% of the fraudsters exhibited classic red flags prior to being caught, such as living beyond their means, having unusually close ties with vendors or customers, unwillingness to share work duties and experiencing personal financial difficulties.

Tenure

There is a strong correlation between a person’s tenure with a company/organization and the size of the fraud. Typically, this is due to the amount of trust that employers place with employees with long tenure. These employees are often thought of as family members or longtime friends. The study also suggests that the longer a person works for a company, the better they become at fraud. In the study, employees with at least ten years of tenure caused median losses of $250,000, which is five times the median loss caused by employees with less than one year of tenure.

Categories of occupational fraud

The study identified three primary categories of occupational fraud: asset misappropriation is the most common with 86% of the cases, followed by corruption with 50% of the cases and, finally, financial statement fraud with 9% of the cases. Of the cases in the study, 40% involved more than one of the three primary categories of occupational fraud.

Fraud concealment

Knowing the methods fraudsters use to conceal their crime is beneficial to companies in effectively detecting and preventing similar frauds going forward. The top five concealment methods identified by the study were:

1. Creating fraudulent physical documents

2. Altering physical documents

3. Creating fraudulent electronic documents or files

4. Altering electronic documents or files

5. Destroying or withholding physical documents

Ironically, in 12% of the cases studied, there was no attempt made to conceal the fraud.

Fraud detection

Fraud detection methods play a big part in the length and dollar amount of the fraud. A company that utilizes proactive detection methods tends to detect frauds more quickly and have lower losses than companies that become aware of the fraud through no effort on their own, including notification by the police or by accident.

The top three methods of detection identified by the study were:

1. Tips (42% of the cases)

2. Internal audit (16% of the cases)

3. Documentation examination (6% of the cases)

Of the fraud tips received that led to fraud detection, 55% came from employees and 18% from customers, while 16% were from anonymous sources. Per the study, given that the percentage of fraud detected by tips are almost three times the percentage of frauds detected by the second top method (internal audits), companies should target both their employees and outside parties with fraud education and communication of any designated reporting mechanisms. Fraud training coupled with reporting mechanisms sends a powerful message about a company’s intent to fight fraud and, often, the perception of detection is enough to dissuade any potential fraudsters.

In past ACFE studies, telephone hotlines were the most common mechanism used by whistleblowers. However, in recent years, email and web-based/online reporting have become more common than telephone hotlines. Also, not all tips about suspected fraud are reported through a formal reporting mechanism. The study makes clear that whistleblowers may reach out to a wide variety of parties, such as executives, internal audit, direct supervisors and coworkers. Therefore, companies should maintain multiple ways for reporting fraud and provide guidance to employees on how fraud allegations are handled within the company and what to do if they receive a report about suspected fraud.

Fraud Prevention

Strong internal controls practices are the best defense against fraud. However, even in organizations with strong internal controls, fraud can and does happen. Conversely, having weak internal controls often provides dishonest people with opportunities to commit fraud.

As previously stated, small businesses/organizations faceunique challenges, such as limited financial resources and asmaller number of employees that require many individuals toperform numerous functions. Unfortunately, this means thatmany of the internal controls that large businesses implementare simply not enacted within smaller businesses; thus,smaller businesses need to evaluate the areas of riskthat they are most susceptible to and implement othersafeguards accordingly.

Occupational Fraud Trends from 2012 through 2022

The "Occupational Fraud 2022: A Report to the Nations"(Copyright 2022 by the ACFE) revealed the following keytrends from 2012 through 2022:

1. Frauds are being caught faster. The median duration for fraud schemes fell from 18 months in 2012 to 12 months in 2022.

2. Frauds are causing smaller losses. As the result of faster detection, the median fraud loss fell 16% from $140,000 in 2012 to $117,000 in 2022.

3. Over the last decade, fraud training for employees and managers/executives has increased 14% and 12%, respectively.

4. Implementation of hotlines increased 16% from 2012 to 2022 as more companies are recognizing the importance of reporting mechanisms to encourage tips from employees and other outside parties.

5. The percentage of men perpetrating fraud increased to 73% in 2022 compared to 65% in 2012. While the percentage of females perpetrating fraud decreased to 27% in 2022 compared to 35% in 2012.

6. The gender gap in losses has narrowed. The median loss from male and female perpetrators in 2012 was $200,000 and $91,000, respectively. In 2022, the median loss from male and female perpetrators was $125,000 and $100,000, respectively.

7. Frauds perpetrated by high level employees increased to 62% in 2022 from 56% in 2012.

8. The percentage of cases involving corruption increased to 50% in 2022 compared to 33% in 2012.

9. Frauds involving collaboration of two or more perpetrators have increased to 58% in 2022 compared to 42% in 2012.

10. Fewer organizations are pursuing criminal prosecution but more are taking civil action against the perpetrator. In 2012 companies in 23% of the cases pursued civil action, rising to 29% of the cases in 2022.

11. Implementation rates for 17 of the 18 analyzed anti-fraudcontrols have increased over the last decade.

Fraud experts and advisers in public accounting can helpcompanies reinforce their internal controls and investigateif fraud is suspected. Doing so can potentially save anorganization thousands, if not millions, of dollars in losses andput everyone on alert that fraud will not be tolerated.

Janice T. Jasinski, CPA, CFE, CGMA is a principal with SSB CPAs.

Occupational Fraud 2022: A Report to the Nations. (Copyright 2022 by the Association of Certified Fraud Examiners, Inc.)

For additional learning on this topic, attend OSCPA's Fraud & Forensic Conference on December 20, 2022.