Corporate Fraud Handbook

Prevention and Detection

Joseph T. Wells

• Publisher: Wiley
• Year: 2017
• ISBN:
  9781119351955
• Edition: 5
• Topic: Business
• Subtopic: Managerial Accounting
• Index: Business

Delve into the mind of a fraudster to beat them at their own game

Corporate Fraud Handbook details the many forms of fraud to help you identify red flags and prevent fraud before it occurs. Written by the founder and chairman of the Association of Certified Fraud Examiners (ACFE), this book provides indispensable guidance for auditors, examiners, managers, and criminal investigators: from asset misappropriation, to corruption, to financial statement fraud, the most common schemes are dissected to show you where to look and what to look for. This new fifth edition includes the all-new statistics from the ACFE 2016 Report to the Nations on Occupational Fraud and Abuse, providing a current look at the impact of and trends in fraud. Real-world case studies submitted to the ACFE by actual fraud examiners show how different scenarios play out in practice, to help you build an effective anti-fraud program within your own organization. This systematic examination into the mind of a fraudster is backed by practical guidance for before, during, and after fraud has been committed; you'll learn how to stop various schemes in their tracks, where to find evidence, and how to quantify financial losses after the fact.

Fraud continues to be a serious problem for businesses and government agencies, and can manifest in myriad ways. This book walks you through detection, prevention, and aftermath to help you shore up your defenses and effectively manage fraud risk.

• Understand the most common fraud schemes and identify red flags
• Learn from illustrative case studies submitted by anti-fraud professionals
• Ensure compliance with Sarbanes-Oxley and other regulations
• Develop and implement effective anti-fraud measures at multiple levels

Fraud can be committed by anyone at any level—employees, managers, owners, and executives—and no organization is immune. Anti-fraud regulations are continually evolving, but the magnitude of fraud's impact has yet to be fully realized. Corporate Fraud Handbook provides exceptional coverage of schemes and effective defense to help you keep your organization secure.

CHAPTER 1
Introduction

In the world of commerce, organizations incur costs to produce and sell their products or services. These costs run the gamut: labor, taxes, advertising, occupancy, raw materials, research and development, and, yes—fraud and abuse. The latter cost, however, is fundamentally different from the former: The true expense of fraud and abuse is hidden, even if it is reflected in the profit‐and‐loss figures.

For example, suppose the advertising expense of a company is $1.2 million. But unknown to the company, its marketing manager is in collusion with an outside ad agency and has accepted $300,000 in kickbacks to steer business to that firm. That means the true advertising expense is overstated by at least the amount of the kickback—if not more. The result, of course, is that $300,000 comes directly off the bottom line, out of the pockets of the investors and the workforce.

DEFINING OCCUPATIONAL FRAUD AND ABUSE

The example just given is clear‐cut, but much about occupational fraud and abuse is not so well defined, as we will see. Indeed, there is widespread disagreement on what exactly constitutes these offenses.

For purposes of this book, occupational fraud and abuse is defined as “the use of one's occupation for personal enrichment through the deliberate misuse or misapplication of the employing organization's resources or assets.”¹

This definition's breadth means that it involves a wide variety of conduct by executives, employees, managers, and principals of organizations, ranging from sophisticated investment swindles to petty theft. Common violations include asset misappropriation, financial statement fraud, corruption, pilferage and petty theft, false overtime, use of company property for personal benefit, and payroll and sick time abuses. Four elements common to these schemes were reported by the Association of Certified Fraud Examiners (ACFE) in its first Report to the Nation on Occupational Fraud and Abuse, released in 1996: “The key is that the activity (1) is clandestine, (2) violates the employee's fiduciary duties to the organization, (3) is committed for the purpose of direct or indirect financial benefit to the employee, and (4) costs the employing organization assets, revenues, or reserves.”²

An employee, in the context of this definition, is any person who receives regular and periodic compensation from an organization for his or her labor. The term is not restricted to the rank‐and‐file staff members; it also includes corporate executives, company presidents, top and middle managers, contract employees, and other workers.

Defining Fraud

In the broadest sense, fraud can encompass any crime for gain that uses deception as its principal modus operandi. Of the three ways to illegally relieve a victim of money—force, trickery, or larceny—all offenses that employ trickery are frauds. Thus, deception is the linchpin of fraud.

However, while all frauds involve some form of deception, not all deceptions are necessarily frauds. Under common law, four general elements must be present for a fraud to exist:

1. A material false statement
2. Knowledge that the statement was false when it was uttered
3. Reliance of the victim on the false statement
4. Damages resulting from the victim's reliance on the false statement

The legal definition is the same whether the offense is criminal or civil; the difference is that criminal cases must meet a higher burden of proof.

Let's assume an employee who worked in the warehouse of a computer manufacturer stole valuable computer chips when no one was looking and resold them to a competitor. This conduct is certainly illegal, but what law has the employee broken? Has he committed fraud? Has he committed theft? The answer, of course, is that it depends. Employees have a recognized fiduciary relationship with their employers under the law. Let's briefly review the legal ramifications of the theft.

The term fiduciary, according to Black's Law Dictionary, is of Roman origin and refers to

One who owes to another the duties of good faith, trust, confidence, and candor.

The term fiduciary relationship is further defined as

A relationship in which one person is under a duty to act for the benefit of the other on matters within the scope of the relationship. Fiduciary relationships—such as trustee‐beneficiary, guardian‐ward, agent‐principal, and attorney‐client—require the highest duty of care.³

So, in our example, the employee has not only stolen the chips; in so doing, he has violated his fiduciary duty. That makes him an embezzler. Embezzlement is defin...