The prospect of being on the wrong end of a fraud is an unnerving one for businesses at any time. In turbulent times like these though, the impact that a fraud may have can be far more marked than under happier economic conditions. Unfortunately, the probability of a new fraud being perpetrated — or of a longer running fraud finally coming to light — is far higher in a recessionary climate.
To make matters worse, the well-intentioned cost cutting programs which many corporates are putting into place might reduce the efficiency of anti-fraud measures — just when they’re needed the most. Richard Powell of KPMG’s Advisory practice elaborates on the recessionary fraud ‘double whammy’.
It’s a sad fact of life in recessionary times that instances of fraud will be on the rise. Pick up any newspaper and you’re far more likely to find yourself reading about a fraud coming to light than you were a couple of years ago. There also seems to be no limit to their scale — with some frauds being sizable enough to bring down whole companies.
Why is this? Is it because fraud and impropriety are inextricably linked to an economic downturn? To some extent, yes — as all sorts of personal, financial and workplace pressures can build on an individual, prompting him or her to commit a fraud.
There is another aspect though; the surfacing of the long-running fraud. When economic circumstances are far friendlier and corporate profit margins are healthier, some frauds can go undetected. Now that these margins are diminishing, so the likelihood of seeing what is actually going on under the skin is increased.
Therefore, what we are seeing are the results of historic fraudulent actions only now coming to the surface. In the normal course of events, such frauds may only come to light for unusual reasons such as the perpetrator being off ill or on holiday (with their stand-in being alert enough to realize something is amiss). However, recessionary pressures tend to shine a light on even the darkest corners of a business as management renew their efforts to tidy up the organization and squeeze out every penny of available liquidity.
The worrying consideration for many businesses right now should be this: if we’re hurt by the impact of the frauds only now coming to light, how much more pain could we take from other — as yet uncovered — frauds?
If you can rely on one thing during a recession, it’s the fact that more people could find themselves committing fraud — so the volume and value of those newly perpetrated frauds could potentially be significant. Before unfairly painting every citizen as a potential criminal mastermind, it should be noted that many frauds start by accident. An employee may commit an error which no-one ever spots. What can then happen is that, emboldened by ‘getting away with it’ once, the employee continues to deliberately make that same error, realizing that there could be some personal gain in it for them, or they simply fail to own up to the initial accident and seek to cover it up.
This is where a company’s anti-fraud measures, whistle-blowing hotlines and management checks and balances should kick in to unearth such frauds. However, with management’s current focus on reducing costs, there is a possible risk, unless appropriate steps are taken, of some of those controls – or the personnel who make them work — being trimmed back, thus rendering them less efficient than they should be. The net result is that there is a far greater chance of fraudulent activity – howsoever it started, deliberate or otherwise – going undetected at exactly the most inopportune moment as far as a company’s bottom line is concerned.
Cost reduction and optimization are clearly important tools in the business armory right now but it is important is to ensure that they do not materially weaken the operational effectiveness of the key controls required to reduce the probability of frauds being perpetrated and / or remaining undetected. Appropriate steps should be taken in this area if businesses are not to leave themselves open to fraud and error.
Many people would agree that our global recessionary concerns are set to deepen still further before we see any signs of an upturn. That’s potentially a further one or two years during which the risk of fraud and impropriety is at its cyclical peak; a time during which I believe there could also be a veritable explosion in reported fraud.
In that time, it’s worth remembering that fraud is no respecter of market sectors. For sure, the financial sector generates its fair share of fraud stories — but we’re just as likely to see fraud in the manufacturing, service or construction sectors for example and in small as well as medium or large businesses.
When contemplating the fraudster’s rationale, we often think of the under-pressure middle management employee, siphoning off cash to help deal with personal credit issues and cash flow problems. However, there are other scenarios - such as the employee who massages the numbers so that the company looks far healthier to investors, bankers and employees alike; or the employee who manipulates the figures in order to secure one last big bonus or out of a belief that it may assist in job preservation.
All of which helps to make this an awkward time for businesses, needing to strike a balance between being extra vigilant for the signs of fraud whilst also cutting costs across their business which, if executed without appropriate thought and oversight, may lead to heightened risks and less effective controls. The very thought of defrauding our employers, even in such times of great need, would be anathema to almost all of us. Sadly, it only takes one bad apple to spoil the barrel. With the fat currently stripped from corporate bones, the potential impact of a sizable fraud could be shattering, possibly even terminal. It’s for that reason that the fraud ‘double whammy’ currently casts a lengthy shadow over the corporate landscape.
Richard Powell is a Forensic Investigations partner with KPMG in the U.K.
