TECHNIQUES FOR FRAUD Detection & Prevention

by Bob Sprague Forvis Mazars

The story of Mary is an all-too-common narrative that organizations across the globe face every day. A long-term employee everyone trusted had been given a key role in an accounting function where opportunities existed. When facing financial pressure, the employee resorted to occupational fraud to escape her financial situation. Management is left searching for answers on how they fell victim to the fraud and wondering how they could have prevented it.

The Association of Certified Fraud Examiners (ACFE) estimates that organizations, just like Mary’s company, lose approximately 5% of revenue to fraud annually. In its most recent biannual study on occupational fraud, the ACFE examined 1,921 cases of occupational fraud across 138 countries and territories, which led to total losses of $3.1 billion to the organizations included in the survey.1 Among the fraud schemes that led to these losses, the most common types fell into the category of asset misappropriation—theft of a company’s assets by its employees—like the fraud that Mary perpetrated.

As the underlying facts of these types of fraud develop, management, like the CEO of Mary’s organization, asks the types of questions posed here. How could this have happened? Where were the auditors? Auditors are specifically hired to prevent issues like this, aren’t they? These last two questions expose a common expectation gap that many have about the role of an external audit and the responsibilities of the external auditor.

The roles and responsibilities of the external auditor are defined in AU Section 110, Responsibilities and Functions of the Independent Auditor. Auditors have “a responsibility to plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement, whether caused by error or fraud.”2 Reasonable assurance is not the absolute assurance that some expect from an auditor creating this gap between expectations of management and other stakeholders as it relates to auditors identifying fraud during their work. As much as organizations and other stakeholders may want to rely on external auditors to identify fraud, the reality is that organizations need to put in place multiple controls and processes to help fight fraud. An external audit is just one of many anti-fraud controls that can help with the battle.

THREE RECOMMENDATIONS FOR COMBATING FRAUD – BE PROACTIVE

Confidential Reporting Tool

If an external audit is not the silver bullet for detecting fraud, how else can organizations better combat the issue of occupational fraud? One of the areas the ACFE examines in its biannual study is how frauds are initially detected. Each year the ACFE study is published, the most common detection method by far is via a tip. In the 2024 study, 43% of all frauds studied were detected by a tip from an employee, customer, vendor, or other tipster.3 No other method was even close, with internal audit following at 14%, and management review at 13%.4 Surprisingly, only 3% of the cases studied were initially detected by the organization’s external auditors.5 This statistic provides a compelling argument for companies to bring about a confidential reporting mechanism that can be used by employees and others, including external third parties, to confidentially come forward with a tip if they witness a fraud. Would-be tipsters are more likely to come forward if they can do so confidentially, as many may fear retribution if their identity is known. Further, tipsters are better equipped to help fight fraud if there is a formal mechanism they can use to report. The ACFE found that organizations with hotlines are almost twice as likely to uncover fraud via a tip than organizations that do not have a hotline.6 A proactive tool such as a hotline may not prevent fraud from occurring, but it will help organizations identify an issue earlier to mitigate possible losses.

Surprise Internal Audits

It is difficult to dissuade a fraudster if they believe nobody is looking. External audits may fail to detect a fraud if fraudsters are able to know where the auditors are looking, or the fraudulent transactions are not selected in a random audit sample. A more effective approach is to go looking for fraud. A broad fraud detection program should include a risk assessment to help identify the areas most susceptible to fraud risk. Once those areas are identified, surprise internal audits can be a highly effective tool for detecting and deterring fraud. A well designed internal audit process that focuses on fraud risk areas can allow organizations to complete a more in-depth audit, specifically searching for indicators of fraud. Fraudsters will be less likely to commit fraud if they fear detection, but, at a minimum, when fraudsters know the organization is monitoring activities, they may be deterred.

Proactive Data Monitoring

Every day, organizations generate vast amounts of data that can be analyzed for potential indicators of fraud. In an increasingly more complex and digital world, the amount of data available for analysis continues to explode. However, with complexity comes opportunity for fraudsters. Organizations should use the available data at their fingertips to help with fighting fraud. There are numerous data analytic tools on the market that organizations can purchase that are specifically designed to search for potential fraud indicators. Alternatively, many organizations develop their own tools to assist with this effort. Regardless of whether organizations choose to purchase or develop their own fraud-fighting tools, cost should not be a deterrent. Organizations are prone to waiting until they have had an issue because they do not want to spend the money to be proactive. They wait until they have lost $5,000,000 to Mary.

If you have questions or need assistance, please reach out to a professional at Forvis Mazars today.

This article is for general information purposes only and is not to be considered as legal advice. This information was written by qualified, experienced professionals at Forvis Mazars, but applying this information to your particular situation requires careful consideration of your specific facts and circumstances. Consult a professional at Forvis Mazars or legal counsel before acting on any matter covered in this update.