Small Business Embezzlement: Could It Happen to You?
Embezzlement is defined as "the fraudulent appropriation of property by a person to whom it has been entrusted." Unfortunately, embezzlement is more prevalent than you may have considered and is a fact that can't be ignored by any business owner. While news outlets report of fraud that has occurred in Fortune 500 companies, the median loss from fraud is actually greater for small businesses based on the 2008 Report to the Nation on Occupational Fraud and Abuse by the Association of Certified Fraud Examiners, Inc.
According to the U.S. Small Business Administration, small businesses represent 99.7 percent of all employers and employ just over half of all private sector employees. These small business owners work hard and invest not only their money, but also themselves. Due to the nature of operating a small business, many times there's a small staff that have multiple roles within the operations of the business. For example, the office manager of a small business may open the mail, prepare deposits of customer payments, post the payments to the customer accounts and reconcile the bank statement. It is this lack of segregation of duties that puts small businesses at greater risk for fraud or embezzlement.
You may be surprised to know that, according to the U.S. Chamber of Commerce, one-third of all business bankruptcies are due to employee theft. The American Management Association reports that 20% of all business failures are the direct result of employee theft. The 2008 Report to the Nation on Occupational Fraud and Abuse by the Association of Certified Fraud Examiners, Inc. reported the following selected information:
- U.S. businesses lose 7% of their annual revenues to fraud
- Median loss suffered by organizations with fewer than 100 employees was $200,000
- Check tampering and fraudulent billings were the most common small business fraud schemes
- Lack of internal controls was the primary contributing factor
Statement on Auditing Standards 99 states that three conditions are generally present when fraud occurs. First, employees have an incentive or are under pressure which provides a reason to commit fraud. Second, circumstances exist that provide the opportunity for the fraud to occur. Third, the individual possesses an attitude, character or set of ethical values that allow them to rationalize the act of committing fraud. The greater the incentive or pressure, the more likely an individual will be able to rationalize committing fraud.
With that said, here are some of the behavioral red flags: living beyond means; financial difficulties; divorce, alcoholism or other family problems; control issues or an unwillingness to share duties; unusually close relationship with a vendor or customer; past legal problems; past employment-related problems. Additional warning signs could be an increase in overall sales returns; unusual bad debt write-offs; bounced checks; decreased profit and/or increase in expenses; slow accounts receivable collections. This is not an exhaustive list, but provides some things in general that should be considered.
The first embezzlement scheme I was ever involved in discovering was in a small ophthalmology practice. The employee that had embezzled the funds had worked with the doctor for many years and had the doctor's complete trust. The employee was under considerable financial strain due to issues that can arise when you have an alcoholic spouse. When the employee was confronted with the embezzlement, it was stated that the intent was only to borrow the money and repay it quickly. Unfortunately, as time went on the sum became much too large to repay. The point of the story is that many times fraud is perpetrated by someone that the business owner has known a long time and trusts which make the fraud easier to perpetrate.
In order to protect your business, here are some anti-fraud measures that you may want to implement: perform civil and criminal background checks on employees; require two signatures on checks; open and review bank statements yourself; require employees to take vacation each year; properly segregate duties; submit accounting system to outside review by having an independent CPA firm evaluate your internal controls and audit your books.
While the risk of fraud can't be eliminated, the measures identified above are a good start in terms of reducing the likelihood of being a victim of fraud as well as the potential median loss suffered in the event of a fraud occurrence.
Republished by the Daily Record: http://www.dailyrecord.us/Story.aspx?id=3739&date=6%2F27%2F2011
