Why executives pose the greatest occupational fraud risk
In its 2014 Report to the Nations on Occupational Fraud and Abuse, the Association of Certified Fraud Examiners (ACFE) reported that organizations lose an estimated 5% of annual revenues to employee fraud.
Although they aren’t the most likely people to commit occupational fraud, owners and executives can cause the most damage. So spotting the signs of executive fraud and nabbing these high-placed thieves is critical.
Greater authority equals greater damage
According to the ACFE study, a fraud perpetrator’s level of authority generally is proportional to the company’s fraud losses.
This happens because higher-level employees have greater access to assets and can more easily override internal controls. Owners and executives only accounted for 19% of all cases in the study, but they caused a median loss of $500,000. By contrast, rank-and-file employees committed 42% of fraud schemes but caused a median loss of only $75,000.
Executive fraud schemes also tend to continue for longer periods before detection. Where the primary perpetrator was an owner or executive, schemes ran a median duration of two years — twice as long as those involving lower-level employees.
So what’s a company to do when it suspects executive fraud? Some businesses conduct extensive background checks, but their effectiveness is limited when it comes to occupational theft because most fraudsters are first-time offenders.
Fortunately, executive fraud raises a few red flags. Perpetrators often are reluctant to cooperate with internal investigations and outside auditors and may show disrespect for regulators. They may offer unreasonable responses to reasonable questions or become agitated or annoyed when probed about financial discrepancies.
Their lifestyles also might betray them. A thieving executive may begin spending extravagantly on expensive cars, jewelry or vacations. Or a formerly fiscally healthy individual may appear to be mired in debt and have credit problems. In some cases, the motivation for fraud is a substance abuse or gambling problem, so signs of addiction merit immediate attention.
Vulnerabilities create opportunities
Certain management and operational factors make executive fraud easier to perpetrate. Primary among them is weak internal controls. But more specific issues include little or no segregation of duties, little or no external audit oversight, a lax or inexperienced accounting staff, excessive trust in key executives, and an environment where all decisions are made by an individual or small group.
Companies in financial distress, in particular, can provide opportunities for dishonest executives. If the business sells assets for less than their market value, executes an excessive number of year end transactions, routinely rolls over loans or loses important financial documents, it could signal more than inept management. Other warning signs include significant downsizing in a healthy economic environment and a high turnover rate for employees leaving voluntarily.
Some executives commit fraud for what they believe is the benefit of the company. Financial weakness, out-of-control expenses, tax adjustments by the IRS, credit difficulties and pressure to meet budgets and earnings projections can all motivate an executive to do “whatever it takes” to prop the company up. So when bottom-line results seem too good to be true, that just may be the case.
Tone at the top
Executive fraud can have devastating financial consequences and harm a company’s reputation with shareholders and the public. But fraud at the top is dangerous for another reason: It sets the ethical tone for the entire organization. Employees who know or suspect their superiors are dishonest are more likely to cut corners — or commit occupational fraud — themselves. If your clients believe an executive is cheating, don’t hesitate to call in a fraud expert to investigate.