School Employees Embezzle Funds Even During Hard Financial Times: What Can You Learn for Your Organization?

Stealing company money.jpgWhen times are tough, shouldn’t everyone do their part to help out? Unfortunately, employees motivated to commit fraud jump on any opportunity to take advantage of lax financial controls within an organization. In a county in West Virginia, the school district had faced a budget deficit for many years. More than 70 employees had been laid off as the school administration struggled to find ways to balance the budget.

To add insult to injury, a recent news report revealed that school officials are now investigating a possible employee embezzlement scheme that has siphoned off more than $20,000 from the district, the biggest embezzlement case in Boone County, West Virginia, in more than a decade.  The Transportation Director and a school mechanic are accused of purchasing things for personal and business use with fraudulent invoices and charging them to the school transportation department over a two-year period.

How could these employees have gotten away with their scheme for so long? This happens across the country as trusted employees find themselves caught in a fraud triangle, with the opportunity, pressure and rationalization to steal from their employer.

Here are some takeaways we can learn from this employee embezzlement story to help your organization avoid a similar situation:

  • Vendor background checks. Know who your vendors are before doing business with them.
  • Review invoices. Implement procedures for reviewing and approving invoices. Different people should receive and pay the invoices.
  • Checks and balances. Even directors should have checks and balances. Ironically, the most trusted, high-ranking and long-time employees are typically the ones who commit fraud.
  • Surprise Audits. Perform surprise audits and let employees know that this is standard procedure. Fear of being discovered may effectively neutralize the opportunity component of the fraud triangle, preventing embezzlement schemes from happening in the first place.
  • Tone at the Top. Implement policy and procedures that everyone follows, starting at the top. Even the highest level official should be open and transparent about financial matters, allowing others to check and monitor their work.

High-ranking employees are trusted, but sometimes they abuse that trust and commit fraud. For more information on preventing fraud in your organization, contact Mike Rosten, CPA, CFE.

Advertisements

Employee Embezzlement – Is the Scrap worth it?

Scrap metal.jpgAll employers want to trust their employees, but once again we see a case of the employees giving employers a reason not to trust them. In this recent article (Four indicted with embezzling $380,000, Stacy Hairston, The Franklin News-Post, March 10, 2017), we read of  four men indicted on a total of 194 felony embezzlement charges.  Their scheme, which netted approximately $2,000 per charge, was uncovered when the company they worked for contacted the Franklin County Sheriff’s Office to look into discrepancies on deliveries made to a scrap company.  The investigation revealed evidence that the men would use company trucks to deliver the scrap, but receive checks for the scrap in their personal names, not that of the company.  The investigation also revealed that the scheme had been going on since 2013.  That’s a lot of scrap!

Luckily, the owner suspected that not all the scrap generated was being properly accounted for, resulting in either unexplained shrinkage of inventory or possible diversion of cash receipts.

Some lessons that can be learned from this case, and tips to prevent something similar from happening at your company, follow:

    • Only authorized personnel should be allowed to remove and deliver scrap. The person transporting the goods should not be in charge of selling them. Also, the duties involving buying and selling should be segregated.
  • Request signed delivery receipt from the scrap company. This would enable both parties to a scrap transaction to better control the purchase and sale, respectively.
  • Check and sales receipt returned to office, the same day. There is no reason for lost/misplaced checks or sales receipts, especially when affixing responsibility the day of each expected transaction.

 

  • Make employees accountable for company property by establishing expectations. Require that personnel record the date, time, employee and approximate weight of scrap taken to the scrap company and that they will be returning with sales receipts and/or checks received.
  • Keep a record of company property to be disposed of as scrap. Keep a control listing of those items identified for sale as scrap, based upon pre-established approvals. This could be more difficult based upon the definition of inventory versus parts or components. Controlling components may have less perceived benefits, particularly if leftover pieces and parts separated from bigger inventory items have only minor value.
  • Keep a designated area to track items waiting to be sold as scrap. By keeping all the scrap in one area, it is easier to gauge the quantity and enhance control efforts.

Diverting a revenue stream is not a common fraud scheme, but it does happen. In this case, the scrap was cumulatively significant in amount and the employees took advantage of the lack of company controls to make some money on the side.  If you think your company may be facing a similar revenue diversion scheme, contact Certified Fraud Examiner and CPA Mike Rosten.

Does Your Business Rely on Luck to Uncover Employee Fraud?

Lucky in Fraud-WordsIn celebration of St. Patrick’s Day and with a nod to the Emerald Isle, some will wear green, some will eat corned beef and cabbage and many will go to the pub for a pint of libation (preferably green in color). All will be hoping for some ‘luck of the Irish.’

Hoping for luck on St. Patrick’s Day is one thing, but planning to rely on luck is especially unwise in the business world.

Luck doesn’t help you determine your marketing plan, your operating budget or your growth strategy, so why should it be the main method of detection for employee fraud schemes?

In the 2016 Report to the Nations, the Association of Certified Fraud Examiners (ACFE) estimates nearly half (approx. 45%) of the initial detections of fraud by employees is a matter of luck. This occurs in many ways, including happenstance, mistakes by the employee and unsolicited tips. While tips were the largest category reported by the ACFE, most tips were unsolicited and unanticipated – a lucky break for an employer losing money to a motivated employee with the opportunity to embezzle funds.

How could luck play a role in discovering employee fraud? In one case, an employee’s primary responsibilities included posting time and preparing payroll disbursement summaries. Because of weak internal controls, he was able to create non-existent employees (aka “Ghost Employees“), which would appear as actual employees on the company’s records and were issued paychecks. The fraudster would direct the checks to P.O. boxes he controlled; thereafter, he would retrieve and cash the Ghost Employee checks.

The fraud was uncovered during a testing of the payroll account. The fraudster had buried the Ghost Employees deeply into the system and consequently he was comfortable they would not be discovered. During the testing, the reviewer “got lucky” and discovered some phony documents created by the fraudster for filing in the Ghost Employee files. However, after the phony document discovery, it was realized that clues had been everywhere, such as arbitrary employee names, mis-matched social security numbers, and no taxes withheld for the Ghost Employees.

There are numerous ways to prevent and/or uncover employee fraud in the workplace which do not rely on luck. Many of these methods are free or cost very little for the company to implement.

One of the most important fraud deterrence methods is the “tone at the top.” The tone at the top has been described an “ethical atmosphere that is created in the workplace by the organization’s leadership.” Typically whatever tone is set by management will ultimately become the tone of the company and many of its employees. A groundbreaking study commonly known as the Treadway Commission found that “tone at the top plays a crucial and influential role” in creating the environment regarding fraud within a company. Whether highly ethical or not at all, employees will typically follow the lead.

Generally, in setting the proper tone, owners/managers should take, at a minimum, the following four steps to create an ethical climate within the organization:

  • Communicate what is expected of employees
  • Lead by example
  • Provide a safe mechanism for reporting violations
  • Reward integrity

The resulting ethical climate should minimize occupational fraud risk, and simultaneously increase the likelihood of discovering the occurrence of occupational frauds.

Having a plan to detect fraud within your company is always better than hoping a lucky break or tip reveals the problem. If you’d like help with a fraud checklist, contact Mike Rosten, CPA, CFE at mrosten@pbtk.com or 702-384-1120.

Cooking the Books

Businessman cross finger .conceptWhat’s the most costly type of white collar crime? On average, a company is likely to lose more money from a scheme in which the financial statements are falsified or manipulated than from any other type of occupational fraud incident. The costs frequently include more than just the loss of assets — victimized companies also may suffer lost shareholder value, lower employee morale, premature tax liabilities and reputational damage. Let’s take a closer look at what’s at stake when employees “cook the books.”

Low Frequency, High Cost

The Report to the Nations on Occupational Fraud and Abuse published in 2016 by the Association of Certified Fraud Examiners (ACFE) found that less than 10% of the fraud schemes in its survey involved financial statement fraud. However, those cases clocked the greatest financial effect, with a median loss of $975,000. Compare that amount to the median losses for asset misappropriation ($125,000) and corruption ($200,000).

What makes financial statement fraud especially problematic is that the costs can quickly snowball out of control. For example, when an executive fudges the numbers to make a company appear more profitable, the company will likely incur greater liability for taxes or dividends.

Plus, it might be necessary to take on debt to make those payments, leading to higher interest costs. Or an acquisition of a healthy company might be pursued to hide the actual underperformance. In the end, more fraud may be necessary to pay for the original scam.

Common Schemes

The ACFE defines financial statement fraud as “a scheme in which an employee intentionally causes a misstatement or omission of material information in the organization’s financial reports.” Common ploys include:

  • Concealed liabilities,
  • Fictitious revenues,
  • Inflated asset valuations,
  • Misleading disclosures, and
  • Timing differences.

Revenue recognition is a particularly ripe area for financial statement fraud, especially as companies start to implement the new revenue recognition guidance for long-term contracts. Early revenue recognition can be accomplished through several avenues, including 1) keeping books open past the end of the accounting period, 2) delivering products early, 3) recording revenue before full performance of a contract, and 4) backdating sales agreements.

Preventive Medicine

Victims of financial statement fraud often find their long-term survival severely threatened in a relatively short period of time. Hiring an outside forensic accounting specialist to evaluate internal controls can help identify red flags, ferret out ongoing schemes and deter would-be fraudsters. Also, an awareness of the actual reasons and methods for manipulating financial statements would likely be important. Contact Mike Rosten, CPA, CFE for more information on how to evaluate your internal controls to help prevent employee fraud.

Mike Rosten Promoted to PBTK Shareholder

Mike Rosten-SmallFebruary 23, 2017 – Piercy Bowler Taylor & Kern (PBTK), a full-service accounting firm based in Las Vegas, is pleased to announce that Michael Rosten, CPA, CFE has been promoted from Principal to Shareholder. Rosten is the first shareholder in the firm’s 26-year-history to come from outside the traditional tax and audit departments.

“Mike is an integral part of our forensic accounting and litigation support practice,” said Tom Donohue, PBTK President. “He has been with PBTK for 12 years, and has been a consistently solid performer. He is a team player that has earned the respect of staff and his peers alike.”

Outside of work, Rosten is an avid mountain climber who excels at pushing himself to surpass personal records and summit times. Just like his accomplishments in hiking, he set his sights on becoming a shareholder and he surpassed his new business goals to make it happen.

Rosten is often called upon by attorneys or the courts to be an expert witness in cases involving employee fraud investigations, loss profit analysis, damages calculations, and divorce proceedings. He can be reached at mrosten@pbtk.com.

About Piercy Bowler Taylor & Kern

Piercy Bowler Taylor & Kern is a full-service accounting and business advisory firm that provides accounting and auditing, tax, consulting, valuation and litigation support services. Founded locally in 1990, the firm specializes in the casino gaming and leisure time industries, governmental and not-for-profit organizations, real estate development and construction industries and the legal and general business communities. Now with offices in Salt Lake City, Reno and Las Vegas, PBTK is one of the few independent accounting firms in its local markets to perform SEC audits. For more information on PBTK, visit pbtk.com or call Shannon Hiller at 702.384.1120.

Original Document

The Cumulative Cost of Embezzlement: Two Real Life Cases of Employee Fraud

Embezzlement-handcuffsEvery single day we may become victims of fraud, whether due to irreparable harm done to businesses in our communities or in the more subtle ways that corporate fraud trickles down to the consumer. For example, higher prices on goods and services, mistrust in elected officials or public employees, or an increase in government red tape. Regardless, the cumulative cost from fraud is enormous, whether from corruption, financial statement fraud, or asset misappropriation. The Certified Fraud Examiners (CFEs) that participated in the 2016 Global Fraud Study estimated that the typical organization suffers loses equal to 5% of revenues in a given year due to occupational fraud.

Two recent cases of embezzlement covered in the media have involved a trusted, long-time employee with jobs in a financial position. Both parties in each case pled guilty, though the fraud perpetrators themselves may have unintentionally been encouraged by the good intentions and optimistic outlooks of responsible parties, leading to ineffective or complete absence of oversight mechanisms and internal controls that could have prevented or detected the employee fraud.

  • The first case comes out of Alabama where a former Chief Financial Officer and CPA diverted customer payments for nine years, embezzling $11.2 million from his employer, Strickland Trading, a scrap metal brokerage company.
  • The second embezzlement involves check disbursements and credit card abuse within the Welcome Fire Department in North Carolina. A trusted member of the community and the department’s former treasurer stole $353,000 in government funds over a five-year scheme.

The common thread between these two embezzlements is that the perpetrator was situated in the finance or accounting department, which jointly account for 21% of the cases reported in the 2016 Report to the Nations on Occupational Fraud and Abuse by the Association of Certified Fraud Examiners (ACFE). In addition, each of the perpetrators was in a position of trust within the victim organizations, with the former Strickland Trading CFO having a 25-year tenure with the victim company and the former Welcome Fire Department Treasurer having a 30-year tenure as a teacher in the community.

Effective oversight may have acted to prevent these asset misappropriations, thereby limiting or preventing financial losses to the victims and protecting the perpetrators from their own unfortunate tendencies.

As reported in the news, here are brief summaries of the embezzlement investigations with suggestions for how each organization may have added additional controls to help prevent these cases of employee fraud:

Strickland Trading: In 2007 the former CFO formed an entity with a very similar name to his employer, but this company was an LLC instead of an Inc. He also distanced himself through an associate who was involved with the LLC. This enabled him to intercept 225 checks from the true Strickland Trading Inc. and deposit them into a bank account for the LLC, which was under his separate control. He used those funds for personal purposes including buying real estate and automobiles, and concealed them with false entries into the accounting records.

What Could Have Prevented the Fraud? Suggested general preventative internal controls include those over sales entries, general ledger access and physical safeguarding; including proper segregation of duties and independent reconciliation processes. Additionally, the incoming mail could be opened by a neutral party and checks independently listed to establish the existence of customer payments received. Other effective procedures may involve analysis of unusual/unexpected gross profit and cost of goods sold ratios, along with identification of bad debt write-offs of accounts receivable and corresponding confirmation with customers.

Welcome Fire Department: The former Treasurer wrote over 100 checks made out to herself or members of her family and misused credit cards during her tenure, which she attempted to conceal in the accounting records. She used the funds to pay bills, student loans and credit cards, and to take multiple vacations and “shopping sprees.”

Since the perpetrator apparently prepared and signed checks herself, there arguably would not have been a need to conceal the payee or forge an authorized signature on the issued checks. Further, she failed to enter the “personal” checks into the accounting system or the checks entered did not match up with monthly reconciliations presented to the accountant or the Board.

What Could Have Prevented the Fraud? In these situations, performing or reviewing bank reconciliations may be an effective preventative measure. Further, to make it more difficult to hide the embezzlement, companies can trace monthly disbursements between the bank statements, cancelled checks and general ledger/bank reconciliation, including propriety of the payee, amount and endorsement. Anomalies arising from such verification procedures would likely have led to more thorough analysis and investigation, resulting in earlier fraud detection. Other effective procedures may involve review of credit card statements and underlying support to identify personal transactions.

If your organization is currently not using the suggested internal controls suggested in the two cases above, talk to an accountant about how you can create an environment that fights fraud. If you suspect a problem with an employee who has the access, ability and motivation to commit fraud, you may contact me, a CPA and CFE, to investigate potential employee fraud.

Forensic Accounting Case Study: Divorce Case

A forensic accountant is often called in on a divorce case to assess income and assets, especially when one or both spouses is a business owner. Here is a case study where PBTK was the court-ordered accounting expert in a divorce:Divorce forensic expert

PBTK was engaged in a Court-ordered divorce matter to conduct a forensic analysis of all the businesses, separately owned and operated by the husband or wife (the “Parties”), for the purpose of determining the available income and earnings. Marital discord had heightened over multiple years, providing the spouses with ample time and opportunity to engineer their reporting of business operations, but also significantly raising the level of distrust.

The businesses consisted of medical and retail operations, including entities established before, or received by gift during, the pendency of the marriage and entities formed during the marriage, presumptively establishing separate and community property interests.

Procedures:

PBTK’s forensic accountants performed procedures that included assessing reported business operations to determine the level of reliability, using QuickBooks reports, annual income tax returns and bank account records. They also evaluated expenses to determine whether personal benefits were received by the Parties even though they may have been deducted as ordinary and necessary business expenses.

Planning Phase:

Planning for this engagement included evaluating and understanding the financial and accounting of all the businesses, identifying areas of possible risk, conducting interviews with the Parties, accountants for the businesses and office/administrative personnel. Further, PBTK’s forensic accountants performed analytical review of business operating activity (revenue and expense) and year-end balance sheets for 3-5 previous years, both horizontally from year-to-year and proportional/common-size evaluation for each year.

Investigative Accounting Procedures:

Initial procedures concentrated on assembling complete accounting records for the scope period, by scheduling of deposits and withdrawals from bank account statements and supporting records. This resulted in portrayal of business revenues and expenses on the cash basis of accounting. Then, our forensic accounts performed analysis of the new customer acquisition process and related costs thereof, including internet based presence. Monthly revenue trends were identified and evaluated based upon the customer acquisition process, in addition to year-to-year revenue proportional change analysis by month.

Quantify the Income:

After analyzing the financial data, we determined the cash flow for the scope period to be substantially higher than the income reported on QuickBook reports or income tax returns. Necessary adjustments included: 1) add back of expenses that we determined personally benefitted the owner/manager spouse, 2) add back of non-cash expenses and 3) add back of costs incurred for overall overhead and administration of a group of entities, not just the paying entity.

PBTK adjustments were made to reflect stand-alone operations of each entity independently, which entailed shifting of expenses between entities to properly match revenues and expenses. Also, PBTK adjustments were made to reflect tens of thousands paid toward significantly past due credit card balances incurred primarily for business purposes, but with commingled personal charges that required separate efforts to isolate.

The Court-ordered Accounting Report added clarity to the businesses aspect of this protracted divorce battle, which allowed the Parties to effectively settle the dispute at mediation.