Fraud is increasing. That’s the bad news coming out of a recent PriceWaterhoueCoopers’ survey on economic crime. The good news is that the detection of fraud may be increasing also. More bad news: Companies may be underestimating their vulnerability and are not anticipating ways to foster corporate integrity and fraud prevention. In addition, despite the success of whistle blowing programs in detecting fraud, relatively few companies have implemented them.

According to the widely reported PWCs’ Global Economic Crime Survey 2005, rising economic crime poses a growing threat to companies. Nearly half of all organizations worldwide, including U.S. companies, report that they’ve been the victims of economic crime in the past two years. Globally, the number of companies reporting fraud increased from 37% to 45% since 2003, a 22% increase. The cost to companies was an average U.S. $1.7 million in losses from tangible frauds, those that result in an immediate and direct financial loss, such as asset misappropriation, false pretences, and counterfeiting.

The survey also showed increases in the various types of fraud that can affect a company, from asset misappropriation to counterfeiting. Globally, there has been a 140% increase in the number reporting financial misrepresentation, a 133% increase in the number reporting money laundering, and a 71% increase in the number reporting corruption and bribery.
According to PWC, the 22% increase in companies reporting economic crime since 2003 may be attributed to:

• More incidents of economic crime being committed
• Increased economic crime reporting due to tighter regulations requiring increased transparency
• The introduction of risk management controls to detect economic crime
• A “confess and remedy” environment among regulators that encourages economic crime reporting

Regardless of size, no company or industry, regulated or unregulated, was found to be immune to fraud. (Surveyors focused on a random selection of the largest thousand companies in a country.)

Economic crime detection

Internal controls fail to detect economic crime 60% of the time in the United States; however, internal audit is cited as the single most effective control mechanism, detecting just over 30% of the reported cases in North America and 26% of the reported cases globally.

A false sense of security?

Despite the growing number of companies reporting fraud around the world, nearly 80% did not consider it likely that their company would suffer fraud over the next five years. “Companies may have a false sense of security when it comes to fraud. More companies are reporting financial crimes, they’re reporting a higher number of incidents, and most cases are detected by accidental means,” said Steven Skalak, PWC’s Global Investigations Leader,

Contrary to the optimistic view of the 80% of PWC respondents, the 2005 Oversight Systems Report on Corporate Fraud concludes, “while most fraud examiners view the Sarbanes-Oxley Act of 2002 (Sarbanes-Oxley or SOX) as an effective tool in fraud identification, few think it will change the culture of business leaders.” A further conclusion of Oversight Systems’ survey of fraud examiners is, “although respondents agree that SOX serves to identify fraudulent activity, they do not believe that the recent cultural change among U.S. business leaders toward institutional integrity and fraud prevention in the wake of accounting scandals will stick.” Only 17% of respondents believed that business leaders will maintain interest in company integrity and fraud prevention. (The Oversight Systems report is available on the AICPA Web site’s AICPA Antifraud and Corporate Responsibility Center. Click here for the Web address.)

PWC’s conclusions that a “confess and remedy” culture contributes to fraud detection and that most cases are detected by accidental means are supported by the results of a 2004 study conducted by the Association of Certified Fraud Examiners (ACFE). The study involved 508 cases investigated by certified fraud examiners (CFE), many of whom are CPAs. In a presentation at the AICPA National Fraud and Litigation Services Conference in Dallas on September 29–30, 2005, Toby Bishop, CPA, CFE, FCA, president and CEO of ACFE discussed the role of whistleblower programs in contributing to corporate environments that may foster fighting fraud or other wrongdoing. Citing the “ACFE 2004 Report to the Nation on Occupational Fraud and Abuse,” Bishop reported that the method of initial detection of occupational frauds was most frequently an employee tip. Such tips accounted for 39.6% of initial detections. Other detection methods included internal audit (23.8%), accidental discovery (21.3%), internal controls (18.4%), external audit (10.9%), and police notification (0.9%). Bishop also cited evidence that employee hotlines and other means to report fraud anonymously can reduce fraud losses by half. According to the survey, in 2004, the median loss in organizations without a hotline was $135,500, more than twice the median loss of $56,500 in companies with hotlines.

Implementation of hotlines lags

Despite the effectiveness of anonymous hotlines as an anti-fraud or fraud detection method, only 36.8% of companies surveyed in 2004 had an anonymous hotline. An effective whistleblower program, according to Bishop, requires, in addition to the hotline itself, educating employees, vendors, customers, and others about the hotline and its purpose. Inclusion of others in a comprehensive ongoing education program results in 50% more calls. Other channels for reporting wrongdoing should also be available, such as the organization’s Web site or a post office box.

Another critical element is a program for evaluating the calls received. Such a program should include a case management tracking system and established protocols for investigating complaints, as well as protocols for distributing reports of action, and a system for automatically informing the board and the audit committee of major issues.