A Guide from Xero
It’s an uncomfortable truth for business owners, but fraud happens more often than you think. Most business owners say that they never thought it could happen to them, but it can. Here’s some advice from Xero, the accounting software on some things to think about and ways to manage the risk.
Business owners often underestimate the risk of fraud
According to the world’s largest anti-fraud organisation, the Association of Certified Fraud Examiners (ACFE), small and mid-sized businesses are the most common victims of organisational fraud. And the effects can be more damaging.
Small businesses with fewer than 100 employees reported over a quarter of all instances of fraud – a higher rate than for medium and large businesses – and suffered greater losses in relation to their size.
The types of fraud that business owners need to be aware of fall into three categories:
- theft
- financial statement fraud
- asset misuse
ACFE says theft is the most common, including:
- stealing cash
- claiming fake expenses
- taking property
Employees are the main culprits, which can be tough for a business owner to swallow. Business owners often consider their employees as friends or members of an extended family. Accounting software with data-integrity tools can help.
What makes a business vulnerable to fraud?
There are many conditions that increase the likelihood of fraud occurring:
- Employees perform multiple functions, allowing them to hide their actions
- Employees become too familiar and trusting with each other
- The absence of formal procedures means things don’t get recorded
- Employees and business owners lack the expertise to recognise fraud
It’s vital that small businesses take steps to deter fraud and detect it as soon as possible.
Here are 10 important things to consider:
1. “Don’t let one employee do all the accounting and bookkeeping”
Because of their size, many small businesses have one person that always handles bookkeeping functions like:
- client receivables
- processing client payments
- ordering stock and materials
- receiving goods, stock items
- paying bills
- managing petty cash and banking cash
- recording functions in the accounting system
This is called ‘segregation of duties’. Lack of segregation of duties makes it easy for cases of fraud to go unnoticed. For example, the same employee orders stock, receives the stock from the supplier and approves or actually pays the bill. . Businesses should have at least two people handling these functions – with accounting and cash-handling separated. A business owner might also have an independent person, like their external accountant, undertake some checks and balances regularly to track indicators that might alert to fraud.
2. “Make sure you know your employees really well”
Every business tries to hire honest employees. But hoping for the best doesn’t always work. Small businesses should have formal hiring routines to help prevent fraud. It’s important to check each new hire’s references, previous employers and – in some cases – criminal records. That’s especially true for employees who’ll be handling cash or managing payments and customer bank account information.
Don’t assume popular, long-serving or hard-working employees won’t commit fraud. Anyone can give into temptation when faced with financial pressures. And it’s the hard workers who’ll end up handling several duties, giving them more scope to commit fraud.
Make sure employees take their holidays. Fraud can be exposed when the perpetrator isn’t around to cover their tracks.
3. “Maintain robust internal controls and processes”
Small businesses often feel immune to fraud but they should consider what controls they could introduce that don’t redo everything that’s been delegated but keep an eye on the key risk areas. Controls can detect (and help prevent) fraud by:
- restricting employee access to financial account data – or only providing access to what’s appropriate for their role.
- limiting access to inventory or stock and, in particular, splitting the ordering and receiving and recording of stock.
- establishing multi-person sign-off for expense claims, overtime, bank batch payments, other accounting or payroll functions
- using audit logs or audit trails to track and trace all financial transactions
Modern accounting software logs user activity, allowing owners and accountants to identify suspicious activity.
4. “Watch your business bank accounts like a hawk”
Of all the fraud prevention tips, this one’s become really easy to implement. Online banking makes it quick and painless for business owners to check account activity whenever they like. It’s worth doing, to make sure that paper-based statements haven’t been manipulated.
The key items to look for are:
- review batch payments carefully before releasing
- If you are entering supplier bank accounts into Xero to create batch payments, be alert to changes (you’ll receive an email alerting you to the change)
- unknown payment recipients
- payments made to unrecognised businesses or personal accounts
Simply letting employees know that you’re reviewing account activity can help prevent fraud.
5. “Make sure you audit high-risk areas often”
Business owners should routinely audit areas of their business that deal in:
- cash
- refunds
- product returns
- inventory management
- accounting and bookkeeping functions
Employees should be told that audits will take place but there shouldn’t be a schedule. By making the audits random, business owners are more likely to dig out fraud.
The ACFE also offers a check-up to assess fraud prevention processes. Even if you don’t have anything in place, this check-up can be a good place to start.
6. “Train your employees to prevent fraud”
It’s really important that employees in fraud-prone areas of small businesses are taught how to:
- identify fraud
- prevent fraud
- report suspicious behaviour by coworkers and customers
Educate your employees about some of the common warning signs. Set up an anonymous reporting system, too. It’ll make it easier for employees to share information about suspicious activity.
It would be helpful to create an official code of ethics to demonstrate that fraud won’t be tolerated. This will also help reinforce that fraud is a crime, which is important. People sometimes kid themselves that unethical behaviour is victimless when they’re in a business setting.
7. “Protect your business’s credit card information”
It might seem like an obvious fraud prevention tip, but credit card security is very important. Business owners probably know they should be careful, yet they may still mix business and personal accounts when it’s convenient to do so. That can result in costly errors – such as tax fines or penalties.
Separating accounts also makes it easier to record business expenses.
Protect your credit card information and to use secure, online bill payment services wherever possible.
8. “Know who your business partners are”
You should record basic information about the people you do business with. This should include:
- physical address
- contact names and phone numbers (at least two)
- mutual business relationships or references that can be checked
For further peace of mind, look up the businesses you’re dealing with to check:
- they’re a legitimate business
- who the owners are
- how long they’ve been in business
9. “Check into every case – no matter how small”
These fraud prevention tips only help if business owners follow through. You must look into reports or suspicions, no matter how small or unlikely they seem. It’s important not to:
- become complacent with long-serving employees
- be distracted by the daily pressures of running a business
The earlier fraud is detected, the better the result for the business and the culprit.
10. “Get expert help if things don’t add up”
If you follow these fraud prevention tips and the numbers still don’t add up, you may need to get more involved in auditing the business. Visit the ACFE website for help with fraud detection or get in touch with us.
Talk to us if you think something doesn’t look right
If you think something doesn’t add up talk to us. As your accountant we’ll be able to review your accounts with you and provide recommendations on next steps.
Disclaimer
Xero does not provide accounting, tax, business or legal advice. This guide has been provided for information purposes only. You should consult your own professional advisors for advice directly relating to your business or before taking action in relation to any of the content provided.
