4 Keys to Preventing and Detecting Fraud in Small Businesses

Simple strategies to stop fraudsters from running away with your company’s assets

Posted by Dawn Lomer in Code of Conduct, Ethics & Compliance, Fraud, Human Resources on November 8th, 2012

It may be the high-profile fraud stories that dominate the headlines; Bernie Madoff, Martha Stewart and Raj Rajaratnam are household names because of their crimes. But the biggest fraud stories are really the millions of smaller fraud schemes being perpetrated every day in small businesses. These are the meat and potatoes of fraud, the crimes that have the most devastating effects on those companies and people they touch.

Fraud and the Small Business

According to the ACFE Report to the Nations on Occupational Fraud and Abuse 2012 Global Fraud Study, smaller businesses are more vulnerable to fraud because they typically employ fewer anti-fraud controls. There are, however, some cost effective measures that can be taken to greatly increase a company’s ability to prevent and detect fraud.

“The number one fraud detection method is a tip,” says Thomas Molitor, CFE and Founder of the Fraud Academy, a company that specializes in anti-fraud training for small business.  “It’s either an anonymous tip or a direct tip and can come from inside a company, a fellow employee, or [outside] from, let’s say, a vendor,” he says.

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Making it easy for employees, suppliers and customers to blow the whistle on fraud is a critical element of any fraud prevention plan. These can include an anonymous hotline, an e-mail address for sending tips and an open-door policy on the part of company executives so that employees feel comfortable coming forward with concerns.

Red Flags of Fraud

The ACFE has established a list of behavioral red flags for fraud and, according to the 2012 Global Fraud Study, one or more red flags were identified in 81 per cent of the fraud cases in the study.

Employees who are living beyond their means should set off some alarms with coworkers who are properly trained to watch for signs. “You’re at the same pay scale as the person in the cubicle next to you and they’re driving to work in a Ferrari Testarossa,” says Molitor. “Typically that is the number one red flag.”

Other red flags include:

  • Financial troubles
  • Working excessive overtime
  • Never takes vacation or sick days
  • Protective of tasks related to financial transactions

Employees and managers should be trained to recognize the behavioral red flags and keep an eye out for the possibilities of internal fraud.

4 Keys to Prevention and Detection

“It starts with financial pressure, then the opportunity – because a person knows the system – and then the rationalization,” says Molitor. This is the Fraud Triangle, developed in the 1950s by famed criminologist Donald R. Cressey. His simple framework incorporates three key elements of opportunity, motivation and rationalization.

Of the three elements in the fraud triangle, opportunity is the one area in which employers have the most control. A wise employer pays particular attention to eliminating the opportunities for employees to commit fraud by taking the following preventative measures:

  1. Implementing mandatory vacations, so that fraudsters must relinquish control of their computers and files.
  2. Segregating duties, so that one person is not responsible for all aspects of the accounting function.
  3. Rotating jobs, so that employees don’t get too comfortable with systems and suppliers.
  4. Random audits, so that a fraudster doesn’t have the luxury of time to cover his or her tracks

Training and Awareness

Small businesses seem to be most vulnerable to fraud because they are not required to have compliance and reporting,” says Molitor. “Typically everybody knows each other and so they trust each other and wouldn’t suspect each other of fraud.”

But when management demonstrates a commitment to fraud prevention by implementing training and awareness programs, it sends a message to potential fraudsters, says Molitor. “The perception of detection is a powerful deterrent.”


Dawn Lomer
Dawn Lomer

Managing Editor

Dawn Lomer is the managing editor at i-Sight Software and a Certified Fraud Examiner (CFE). She writes about topics related to workplace investigations, ethics and compliance, data security and e-discovery, and hosts i-Sight webinars.