June 19, 2007

I don’t hire criminals!
Never assume an employee won’t steal from you. Of those who perpetrate fraud and are caught, only 10% have a criminal background; most have never received anything more serious than a speeding ticket. In fact, the typical “fraudster” is generally a long-term employee who has built trust over years of service to the company and is often the kind of person colleagues go to for advice.

With time, such employees can earn an owner’s confidence. They may be allowed to make unquestioned decisions and often have access to company assets. An alarming finding of the 2006 Report to the Nation shows a direct correlation between fraud loss amounts and the fraudster’s length of employment: Longer lengths of employment equal higher fraud loss amounts.

Unique fraud risks
When it comes to employee fraud schemes, contractors are as vulnerable as companies in other industries. However, complex, multi-phase projects on multiple work sites is unique to construction, making it an easier target for certain types of fraud.

Without procedures to help prevent fraud, the following schemes can be easy for construction industry employees to perpetrate:

Bonuses and Incentives – Carefully monitor employee bonuses or incentive arrangements. Shifting costs away from projects that start to look less profitable (or even falsifying job profitability reports) can be very tempting for some employees, particularly if their compensation is strongly tied to project profitability.

To prevent this type of fraud, don’t allow project employees to assign costs to jobs if their compensation depends on meeting project profitability targets.

Kickbacks – Long-term employees often develop friendly relations with materials suppliers and subcontractors. In fact, some project managers may even agree to artificially inflate pricing in exchange for gifts or cash under the table.

To mitigate this risk, require your project managers to obtain competitive bids for materials or subcontractors over a specified amount, then periodically verify bids were obtained. A knowledgeable employee other than the project manager should also review supplier and subcontractor invoices.

Fictitious suppliers and subcontractors – Fictitious suppliers and subcontractors are common and often take the form of suspicious-looking services. For example, an employee might create fictitious invoices at home for project consulting services and submit them for payment to an unsuspecting bookkeeper. Checks are cut and mailed to a P.O. box (or home address) that the fraud perpetrator controls.

If you are an owner or manager, sign all checks and review supporting invoices for suspicious suppliers or subcontractors. In addition, always require approval for new suppliers or subcontractors to help prevent this type of fraud.

Fraud shows symptoms
Like a disease, fraud often has symptoms that are noticed long before it’s ultimately uncovered and exposed. Many companies could have uncovered fraud had they noticed the warning signs along the way, including the following red flags:

• Employees who refuse to take vacations or are very protective over their work
• Long delays in receiving regular financial reports or job profitability reports
• Bank accounts that go unreconciled for several months
• Employees who begin to work odd hours when fewer co-workers will be around
• Employees who improve or maintain their lifestyle despite personal hardships

Stopping fraud in its tracks
Whether you operate a large company or a small one, there are things you can do to reduce your company’s chances of being the victim of fraud. Following are a few basic fraud prevention tips you may have overlooked:

Establish an ethical culture – The foundation of fraud prevention is a company culture where ethics and integrity are highly valued. Without it, few other fraud prevention strategies will work.

Use anonymous reporting hotlines – Provide employees, suppliers and subcontractors an anonymous hotline to report fraud and abuse. This has proved to be one of the most effective methods of combating fraud, and a number of companies now offer hotline services.

Separate duties – No single employee should perform every accounting-related duty. Many frauds involve long-time bookkeepers whose work is rarely reviewed or questioned.

Make vacations mandatory – Because fraud is often discovered during an employee’s absence, require employees to take at least one full week of vacation and have another employee perform their duties.

Receive bank statements at home – Owners of smaller companies should consider having company bank statements sent to their home address. Review the statements and ask your accounting staff questions about various transactions. Potential fraudsters are less likely to commit fraud if they believe an owner or manager reviews their activities.

No one strategy is foolproof, but the more fraud prevention elements you introduce into your company, the better your chances are of stopping fraud before it starts.