approaches to fraud prevention
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Approaches to Fraud Prevention
Bill Brown: Partner – Forensic & Litigation Services Tel: 972-448-6966
E-mail: Bill.Brown@Weaver.com
Overview
• Introduction: Padlock vs. Bolt cutter• Goal of Fraud Prevention• Internal Controls, the “Conventional
Wisdom”• Fraud’s Impact on Prevention• The “People” Approach
Padlock Theory
Padlock Theory
• Basic internal control• Controls physical access• Safeguards property/assets• Will keep 95% of “honest” people honest
Bolt Cutter Theory
The Bolt Cutter Theory
• Will not deter the “other” 5% • The dishonest people will find a way to
“beat” the internal controls• They have time and energy on their side• They know where to find the bolt
cutters!
Fraud Prevention Goal
The Goal of Fraud Prevention
Fraud Prevention Goal
Anti-fraud programs should be aimed at reducing the likelihood that if fraud occurs, it will not go undetected for an unreasonable amount of time.
Internal Controls
The Conventional Wisdom Re: Controls
Internal Controls: Assumes
• Careful consideration & design• Proper implementation• Effective compliance/monitoring• Appropriate corrective remediation• Reliance on routine auditing procedure
So What’s the Problem?
Bolt Cutters
Problems w/ Internal Controls
• Intimate knowledge of controls exposes weaknesses
• Collusion will circumvent most controls• Flawed design• Ineffective implementation• Auditing procedures are very predictable
& easily fooled
Case Studies
• Energy Exploration Co.– Circumvent disbursement authorization controls
• Security Co.– Ghost employees/payroll distribution controls
• Altered bank statements– Copies of altered bank statements provided
auditors/tax preparers
Fraud’s Impact on Prevention
What is Fraud?
A generic term, embracing all multifarious means which human ingenuity can devise and which are resorted to by individual(s) to get advantage over another byfalse suggestions or suppression of truth, and includes surprise, trick, cunning, and any unfair way by which another is cheated
Nature of Fraud
• Intentional Act • Ingenious schemes based upon intimate
knowledge of controls• Concealment: – Anticipation– Manufactured evidence
• Test crash dummy! “Observe & Adapt”
“Anticipation”
Volume of
Knowledge
Forensic AuditNarrow Scope
Depth
Routine AuditBroad Scope
A/P
A/PMinimal Depth
*An increased depth results in increased costs
Fraud Engineering
Fraudulent schemes are “engineered” (meticulously designed) to perpetrate and conceal the theft, including an exit strategy complete with “fall guys” and “alibis”
Fraud’s Impact on Approach to Prevention
Detection is Difficult
• Fraud is an “intentional” act, often involving detailed planning and concealment
• Crooks “anticipate” the routine audit procedures, audit evidence is often fabricated
• Exploits weaknesses in routine audit procedures or internal controls
• Breach of trust
Initial Detection
• Tip 43.3%• Management Review 14.6%• Internal Audit 14.4%• By Accident 7.0%• External Audit 3.3%• IT Controls 1.1%
Source: 2012 ACFE Report to the Nation
Tipsters vs. Controls
Why are tipsters, management, and internal auditors the most effective sources for the detection of fraud?
Inside Info• Intimately familiar with “detailed”
information• First-hand knowledge: know the entity, live it
daily• See and hear what other employees say and
do• Understand the control systems and how to
circumvent
Motivation: Financial Duress
• Bankruptcy• Foreclosure• Legal troubles• Divorce• Medical issues
Prevention: The Approach
Goal of an Anti-fraud program
Cost vs. Benefit – You can’t completely prevent fraud.
Anti-fraud program should be aimed at reducing the likelihood that if fraud occurs, it will not go undetected for an unreasonable amount of time.
The “People” Solution
REMEDIATION95%
INVESTIGATE
EDUCATE EMPLOYEES
REPORTING MECHANISM
TONE at the Top
REDUCE DETECTIO
N TIME
Tone at the Top
• Establishes standards for ethical behavior• Affixes responsibility for maintaining
ethical culture• Sets positive example for others to follow
Informed Employees
• Informed employees will be more likely to act ethically
• Raises awareness of potentially fraudulent conduct by other employees or vendors
• Encourages reporting of fraudulent conduct (early detection)
Reporting Mechanism
• Commitment to non-retaliation• Anonymous reporting extremely
important• Appropriate response (part of the
solution or part of the problem)• Reduces detection time• Cornerstone to enterprise-wide anti-
fraud system
Investigation
• Objective/probing• Identify stakeholders/isolate interested
individuals• Utilize appropriate investigative
personnel (appropriate skills)• Timely conclusion/recommendations
Remediation
• Report to appropriate level within entity• Report facts upon which appropriate
action can be taken• Detailed recommendations for corrective
actions• Inform affected (especially the tipsters)
of investigative results and corrective actions taken
Reduce Detection Time
Common Red Flags
• Living Beyond Means 35.6%• Financial Difficulties 27.1%• Close Association with Vendor 19.2%• Control Issues 18.2%• Divorce/Family Issues 14.8%• Addiction Problems 8.4%
Source: 2012 ACFE Report to the Nation
Observe Lifestyle Changes
• Spending habits: people generally spend what they steal. The more they steal, the more they spend. Fraud almost always starts small and grows.
• Behavioral changes: look for signs of drug abuse, gambling or other patterns (dress, work habits, or attitude toward others)
Smell Test
Sometimes “things” just don’t seem right. The Smell Test is based on a hunch, feeling or instinct.
Hotline
• The most effective crime detection device is the Hotline.
• Expands your view to all the “eyes” in your organization.
• Cost effective• Provides a vehicle for honest employees
to contribute to the well being of the organization
95% Solution
• Your people are the best control system!–Encourage–Empower–Enlist
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