Small Business Fraud, Part 1

The statistics are staggering…

  • $150,000 is the average loss from fraud for businesses with less than 100 employees.
  • $80,000 is the average loss from fraud for businesses with more than 100 employees.
  • 50% reduction in loss from fraud for businesses that implement basic internal controls.
  • 95% of losses generate from the following five departments: Accounting, Sales, Executive Management, Customer Service, or Purchasing.
  • 18 months is the average duration of a fraud.
  • 85% of perpetrators have no prior criminal history.
  • Most fraud is committed by long-time, trusted employees.

Fraud is a very significant challenge for small businesses. We tend to think of our businesses like family, as a tight knit group who all work for the common good of the business. Unfortunately, statistics prove that portrayal to be false.

The financial loss resulting from fraud can be destructive for a business. By way of example, a business with 15% net operating margin that realizes an “average” loss of $150,000 has experienced a loss equivalent to $1,000,000 in top line revenues.

The emotional loss associated with fraud is not to be underestimated either. Fraud, by definition, is a violation of the inherent trust between a business owner and its employees. An incident of fraud results in not only financial loss but also the loss of the corporate culture that made the business special in first place. In some instances, the financial loss may be recoverable, but the intangible damage from fraud can destroy a business that took decades to build.

Typically, fraud occurs in one of three basic scams:

  1. Misappropriation of Assets: Cash is the most common asset stolen. Collections, payroll, accountant payable, and bank reconciliation processes are all accounting functions that require special process, internal control, and separation of duty to decrease the opportunity for fraud.
  2. Corruption: Kick-backs, inappropriate financial transactions, bribes, and gratuities all present opportunities for an employee to act in their self-interest instead of representing the business’s interests.
  3. Financial Statement Fraud: Most commonly committed by high-level managers, financial statement fraud is typically committed by individuals with a financial incentive driven by the performance of the company (i.e. “cooking the books”).

In future blog postings, I will highlight important areas of focus and key questions to ask. Until then, it is important to remember that no one is immune from fraud, especially when the thought process is… “All of my employees have clean records and have been with me for years.” Remember, fraud is one of the most expensive bills a business will ever pay, and the expense is funded not only with cash but the intangible aspects that make a business valuable in the first place.

Written by:
Andrew Ruff
TGG Accounting
 
 
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