Corporate Fraud: Types, Causes, Detection And Prevention

  • Home
  • Q3 2020
  • Corporate Fraud: Types, Causes, Detection And Prevention

What Is Corporate Fraud?

Corporate fraud occurs when illegal activities are done by a person or a company in a manner that is dishonest or unethical. Some examples of cases of corporate fraud are complex, highly secretive, and when found out involve evasions of financial responsibilities or economic scandals.

In some situations, fraudulent activities begin small and are never intended to be ongoing. As a result, it is difficult to detect fraud early enough. Most times, fraud goes on uncovered for long periods of time before: the scheme is detected by a whistleblower, inabilities of the scheme to keep up with the demands of its expansion or the lack of planning on the perpetrators’ part.

Types of Corporate Fraud

1. Corporate Service Fraud

a) False Accounting Fraud: This involves the alteration of the way in which business accounts are presented in order not to show the true value or financial activities of the business. This type of fraud mostly includes the overstating of assets and/or understating of liabilities.

b) Procurement Fraud: Procurement which is the process of acquisition from third parties and which entails the acquisition of goods, services and construction projects. Procurement fraud mostly involves collusion to perpetrate a fraud covering tendering irregularities, the rigging of bids or claims for payment – mostly regarding goods that were not delivered or are inferior to what was stated in the order.

c) Payment Fraud: This has to do with falsely creating or diverting payments. Examples include the creation of fake records and bank accounts which enable the fraudulent payments to be made. Other examples include intercepting and altering payee details, making fraudulent payments to oneself or generating false payments

1.Institutional Investment Fraud

a) Pension Fund and Hedge Fund Frauds: This relates to fund managers targeting institutions and corporations to make financial investments that promise very high returns, but which often becomes “too good to be true”. For these types of frauds, investors are misled by fund managers by making false disclosures, or through failure to provide full information about the investment opportunity.
b) Pyramid or Ponzi Schemes Fraud: This involves a non-sustainable business model in which the investments of earlier investors are used to pay later investors, giving the appearance that the investments of the initial participants dramatically increase in value in a short amount oftime.

3. Business Trading Fraud

a) Long and Short Firm Fraud: This occurs when a legitimate business is started with the intention of defrauding its customers or suppliers. This fraud is a long-firm fraud if the business has developed a good reputation and credit history or a short-term fraud when the apparent business has only been in operation for a few months.

Causes of Corporate Fraud

1. Lack of clear moral direction from senior management: Leadership as it is known comes from the top. If the senior management indulge themselves in behavior that are ‘semi corrupt’ others in the organization will follow.

2. Non independent internal audit department: If an organization’s internal audit department is not independent, that is, where it does not report directly to independent audit committee. When there are signals that a fraud is occurring, they will more likely be ignored.

3. Excessively generous performance bonus payments: when bonus is very generous in addition to a demanding target; there will be more temptation to manipulate results, such as yearend sales figures, to reach that target.

4. Greed: Good old-fashioned human nature intervenes when an individual, or group of individuals see an opportunity to make quick money. For example, this can be seen in those cases where people ‘adjust’ their expense claims upwards.

Methods for Detecting Corporate Fraud

1. Fraud Detection by Tip Lines: Tip line is by far the most common method of initial fraud detection and it is one of the most effective ways to detect fraud in organizations.

It is desirable that these tips go directly to an organization’s Internal Auditor, Inspector General, Legal department, or even to outside Legal Counsel so they can be independently investigated. Also, for tip lines to be very effective, organizations should promote them and incorporate them into employee training.

2. Fraud detection by external auditors: Auditors of financial statement are to conduct their audits in such a manner to obtain reasonable assurance that financial statements are free from material misstatement, either caused by fraud or error. As a result, in some cases, especially those with large losses, an organization’s external auditors may detect fraud.

3. Fraud detection by internal auditors: Majorly, internal auditor is concerned with all fraud rather than just the fraud that affects the financial statements. Consequently, an internal auditor will likely uncover some frauds as a routine part of internal auditing work. Further, an internal auditor plays a key role in developing a system of fraud indicators, so that activities that are suspicious are flagged and investigated.

Finally, internal auditors may be concerned with violations of the organization’s policies and procedures even when they do not involve fraud.

4. Fraud detection by accident: This is also known as passive fraud detection and it refers to cases in which the organization discovers the fraud by accident, confession, or unsolicited notification by a n o t h e r p a r t y. F r a udsters most of the time do not cover their tracks adequately. Consequently, efficient organizations will train their employees to spot and report irregularities.

Prevention of Corporate Fraud

1. Know Your Employees and Partners

a) Employee Behaviours: An employee who for one reason or another has not missed a day of work might be considered a dedicated employee, but they might also have something to hide. When an employee never goes on vacation, never calls in sick, never goes for lunch and always works overtime. Such employee may worry that someone will detect their fraud while away from the office. It is important to monitor vacation balances, mandate days off and even rotating employees to other jobs in the department can assist in preventing (or exposing) corporate fraud.

b) Know Your Vendors and Partners: As much as you need to know your employees, you also need to know your vendors and partners. Conduct regular audits of new vendors and have some form of defense before getting into any relationship requiring trust. This can be as simple as having a person’s or company’s physical address or trustworthy references.

c) Formalize Hiring: A formal hiring routine is a must-have for large corporations to prevent fraud. A formal process which consist of background checks and scrutiny of past jobs will reduce the opportunities of bringing a former fraudster into the company. Truly getting to know prospective employees can prevent corporate fraud and other potential issues down the line.

2. Create and Use A Reporting System

a) Look into Every Report: It is important to follow up on and check into every report that are received from whistleblowing hotline. If you have implemented various reporting procedures but fail to follow up when whistleblowers report their suspicions, it will all be for nothing. When whistleblowers do their part by reporting fraud, you should do yours by following up.

b) Raise Awareness: As it is known that whistleblower tips are responsible for discovering 40 per cent of occupational fraud. Raising awareness about a fraud reporting hotline will improve the likelihood that employees will use it. For dishonest employees who are considering committing fraud, ongoing reminders about reporting suspicions activities will act as a deterrent.

3. Implement Internal Controls

a) Segregate Duties: The general best practice is to ensure no one person has control over all parts of a financial transaction. Segregating accounting duties is a great method of internal control. b) Limit Access: Transparency is important but giving employees unlimited access to financial information and physical assets is asking for trouble. Access to financial account data, inventory, assets and checks should only be given to appropriate people in the organization.

Leave A Comment

Subscribe to our newsletter

Sign up to receive latest news, updates, promotions, and special offers delivered directly to your inbox.
No, thanks