Occupational fraud can be defined as crimes committed by employees against the organizations that they work for. Perhaps its most dangerous variation is executive fraud — that is, wrongdoings by those in the C-Suite. Senior-level execs are in a prime position to not only inflict substantial amounts of financial damage, but also severely impair the reputation of the business in question.
While your leadership team is likely made up of trustworthy colleagues, it’s still a good idea to keep an eye out for executive fraud and set up defenses against wrongdoing.
3 points of the triangle
Forensic accountants use a paradigm called “the fraud triangle” to explain why occupational fraud occurs. It has three points:
- Pressure. Executives may feel they need to maintain a lavish lifestyle that involves things such as multiple real estate properties, expensive cars and exotic vacations. The resulting pressure can drive some individuals to overextend their personal finances until debts become insurmountable. Executives may also feel they have to pump up sales numbers or falsify financial statements to shore up their professional performance.
- Opportunity. As mentioned, these individuals often have the access and authority to commit fraud without getting caught immediately. This is particularly true when the company doesn’t implement or enforce strong internal controls.
- Rationalization. Dishonest execs may think “everybody does it” or that they “deserve” more than they legitimately earn. Substance abuse or a gambling problem can also impair judgment.
Beyond internal controls
There’s no doubt that internal controls are imperative to preventing and detecting any occupational fraud. However, to best prevent executive fraud, you may need to take extra steps.
At many businesses, senior managers have the authority to override internal controls. So, for starters, establish strict policies regarding when it’s permissible to do so. If an executive believes an override of internal controls is necessary, require a second opinion and thorough documentation.
Beyond that, mandate anti-fraud training for everyone. Sometimes executives are allowed to opt out of such training; this sends the wrong message to both the execs themselves and everyone else.
Also, set up reporting measures. An anonymous hotline enables rank-and-file workers to share concerns and suspicions about fraud without risking their jobs. Ensure the hotline’s integrity by providing only those who need to know, such as fraud investigators, access to the tips. In fact, to ensure a fair and unbiased investigation of any tip that comes in, consider engaging an external fraud expert to investigate every legitimate-seeming allegation.
In cases of verified executive fraud, don’t shirk your responsibility to prosecute. Many businesses are tempted to sidestep civil litigation or criminal prosecution for fear of bad publicity. But allowing executives to commit fraud with little to no real-world ramifications may only increase the likelihood that it happens again.
Transparency is key
In closing, we’d be remiss not to mention the importance of an empowered audit team. Whether your company uses internal or external auditors, or a combination of both, give them unfettered access to financial records and other pertinent information. If the audit team encounters a roadblock, they need to know whom to contact and how to proceed. Contact us for help preventing fraud at your business, whether from executives or anyone else.
This material has been prepared for informational purposes only, and is not intended to provide, and should not be relied on for, accounting, legal or tax advice. The services of an appropriate professional should be sought regarding your individual situation.