Fraud detection and prevention

1. Shannon Haas, Senior Manager Fraud detection and prevention

3. Sign of the Times… Loyal employees have bills to pay and families to feed. In a good economy, they would never think of committing fraud against their employers. But especially now, organizations must be vigilant during these turbulent times by ensuring proper fraud prevention procedures are in place. ACFE President James D. Ratley, CFE

4. Economic Recession • Employees pose the greatest fraud threat in the current economy • Layoffs are affecting organizations’ internal controls • Fraud levels are expected to continue rising

5. Employee Fraud In How to Embezzle a Fortune, Bev Harris says that fraudsters and embezzlers are the nicest people in the world: • Wide-eyed mothers of preschoolers • People who profess deep religious commitments • CPAs with impeccable resumes • Loyal business managers who arrive early, stay late, and never take vacation • Your best friend • Your partner • Family members

6. Fraud Risk • Fraud Triangle: Incentive/Pressure Opportunity Rationalization

7. Association of Certified Fraud Examiners • The Association of Certified Fraud Examiners (ACFE) completes a report every two years summarizing the key characteristics of fraud. • The most recent report is from 2012. • 1,388 cases worldwide. • The following are excerpts from that summary.

8. 3 Major Types of Fraud • Asset misappropriations. • Corruption - bribery, extortion and a conflict of interest. • Financial statement fraud.

9. Most Common Fraud – United States Source: ACFE 2012 Report to the Nation

10. Magnitude of Losses – United States Source: ACFE 2012 Report to the Nation

11. Misappropriation Methods Source: ACFE 2012 Report to the Nation • Billing (fake vendors) • Skimming (cash is taken before recorded) • Expense reimbursements (inflated) • Check tampering • Cash on hand • Others

12. Misappropriation Ranking Source: ACFE 2012 Report to the Nation

13. Fraud Schemes – Financial Services Source: ACFE 2012 Report to the Nation

14. Duration Source: ACFE 2012 Report to the Nation

15. Fraud Detection Source: ACFE 2012 Report to the Nation Initial Detection of Occupational Frauds- U.S

16. Source of Tips Source: ACFE 2012 Report to the Nation

17. Impact of Hotlines Source: ACFE 2012 Report to the Nation

18. Presence of Anti-Fraud Controls Source: ACFE 2012 Report to the Nation

19. Median Loss Based on Presence of Anti-Fraud Controls Source: ACFE 2012 Report to the Nation

20. Duration and Anti-Fraud Controls Source: ACFE 2012 Report to the Nation

21. Primary Internal Control Weakness Observed by CFEs Source: ACFE 2012 Report to the Nation

22. Position of Perpetrator - Frequency Source: ACFE 2012 Report to the Nation

23. Position of Perpetrator - Median Loss- United States Source: ACFE 2012 Report to the Nation

24. Position of Perpetrator - Duration Source: ACFE 2012 Report to the Nation

25. Age of Perpetrator - Frequency Source: ACFE 2012 Report to the Nation

26. Age of Perpetrator – Median Loss Source: ACFE 2012 Report to the Nation

27. RED FLAGS Source: ACFE 2012 Report to the Nation

28. ACFE – Executive Summary • Asset misappropriation – 87% of all frauds. • More than 1/5 of frauds in study caused at least $1 million in losses. • Average life of a fraud = 18 months. • Tips continue to be the primary detection source. Source: ACFE 2012 Report to the Nation

29. ACFE – Executive Summary • Smaller organizations most susceptible due to lack of controls. • Banking industry once again at the top of the list. • Anti-fraud controls helped to lower overall loss and duration. Even as simple as employee education on fraud and tolerance. • Frauds by executives cause the most damage. Source: ACFE 2012 Report to the Nation

30. ACFE – Executive Summary • Organizations tend to over-rely on external audits as the fraud-prevention tool. • Surprise audits were underutilized. Less than 30% of victims actually performed these. These are key “perception” tools to rid of the “opportunity”. Source: ACFE 2012 Report to the Nation

31. External Auditor’s Consideration of Fraud • Discussion among engagement personnel regarding the risk of material misstatement due to fraud in the planning stages of the audit • Obtain information needed to identify risk of material misstatement due to fraud by: • Inquiring of management and staff about fraud and fraud risk • Analytical procedures • Considering fraud risk factors • Other input/observations

32. External Auditor’s Consideration of Fraud • Perform additional audit tests to detect fraud and perform tests to bring an element of unpredictability • Review of employee loan and deposit accounts • Review of bonus arrangements • Review approval of large loans • Review low interest rate loans • Review of travel expenses • Review of variable rate loans • Review of journal entries • Review and testing of expenses

33. Fraud Risk Factors • Lack of detailed formal written policies and procedures • Lack of segregation of duties • Member complaints • Unreconciled accounts and review of reconcilements • Recurring audit findings • Missing financial records

34. Fraud Risk Factors • Untimely preparation of financial statements • Lack of employee vacations • Lack of significant control over transaction cycles (LOANS) • Lack of management oversight • Excessive employee addictions, gambling, or drug addiction • Incorrect, incomplete, or erroneous financial reporting • Lack of internal control reports from data processing system

35. Fraud Risk Factors • Bonus or incentive plans • Complex transactions • Rapid growth • Corporate credit cards • Employee financial problems • Inactive Supervisory Committee • Lack of audit/verification • Lack of employee training • High employee turnover

36. Supervisory Committee Fraud Tips • Evaluate management’s assessment of fraud and mitigating controls • Evaluate the internal auditor’s testing of the effectiveness of each fraud control • Evaluate how management has “set the tone from the top” to promote ethical behavior • Communicate zero tolerance • Evaluate the tests of detection of fraud used by your external auditors

37. Supervisory Committee Fraud Tips • Ensure the internal audit function reports directly and candidly to you • Ensure that internal auditors continually conduct tests to detect fraud • Follow up on prior audit findings from the internal auditor, external auditor, and regulators • Evaluate the nature and cause of finding • Annual fraud policy signed by all employees

38. Basic Internal Control Safeguards • Tone at the top - diligence • Segregation of duties • Whistleblower policy • Rotation of personnel • Mandatory vacations • Reconciliation and review process • Setting of accounting system privileges • Access levels – review and adjust

39. Questions Shannon Haas Moss Adams LLP 415-677-8314 shannon.haas@mossadams.com