Stock market declines may consume most of the news cycle, but financial fraud may actually be the culprit of the costliest financial loss in any given year. Unfortunately, fraud is only measured when it is caught, and recovery can sometimes be difficult. Like many things, prevention is the best medicine and the best way to prevent fraud is to attack the risk of it occurring before it hits. The first step in prevention is to understand the main factors that contribute to small business fraud.
Motive
Fraud is most likely to be committed by a person that believes he or she has a financial need. Sometimes, the motive is a desire to “get back” at an employer, perhaps a perceived slight (failure to promote, for instance).
Opportunity
The person must be in a position that allows for an opportunity for fraud. This obviously means that the person has access to certain financial tools but also that he or she has been in that position for long enough to be the sole user of that tool.
Rationalization
The person almost always feels they can rationalize their actions, allowing them to take an action they otherwise would not. Although this can be tied to the motive (“getting back at the employer”), it can also manifest itself as an explanation that they are simply “borrowing” the money.
Small businesses more prone to fraud
According to the 2022 Association of Certified Fraud Examiners (“ACFE”) Report to the Nations, organizations with fewer than 100 employees had the highest median loss, over $150,000. By the time it is discovered, the fraud has been occurring for a median time period of 12 months.
Generally speaking, the lack of internal and anti-fraud controls in smaller organizations increases the risk for fraud by creating an environment of opportunity. Based on the study conducted by the ACFE, the top two exploits were lack of internal controls and the override of existing controls. That is why it is important for companies of all sizes to examine their risk and the controls already in place to identify or prevent fraud. Controls can run the gamut from formal and surprise audits to job rotation or whistleblower rewards. Generally – although prevention can be difficult to measure – these controls pay for themselves very quickly.
Smaller organizations are more at risk since they have a lower number of employees and do not have as many resources to implement some of the controls recommended to prevent fraud. However, not all anti-fraud controls require significant resources. Per the ACFE, nearly half of fraud cases were detected by tips, whether that be via email, an online form, or a telephone hotline. Creating a way for employees to report potential fraud within the organization and educating them about reporting suspicious activity can reduce the risk to a company. Additionally, companies can reduce opportunity through employee job rotation and mandatory vacations, both of which can be a cost-effective way to reduce fraud in your organization.
Organizations can reduce fraud risk by eliminating the ability of potential perpetrators to rationalize the crime. Often, perpetrators believe that the fraud is a victimless crime; regular education that includes the effect that fraud has on customers, the community, and colleagues can reduce risk by increasing the perceived costs of fraud.
While there is no way to be sure fraud will not occur in your organization, there are many ways to drastically reduce your risk. If you would like to assess what steps you could take – or if you suspect fraud in your organization – our fraud auditing and forensic accounting specialists have years of experience assisting clients with risk assessment and fraud mitigation.
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