4 Ways to Protect Your Business Against Employee Fraud and Theft

4 Ways to Protect Your Business Against Employee Fraud and Theft
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Q: Which internal accounting controls can help prevent fraud?

A: This is a vast topic covered by countless books and consultants, so let’s narrow it down to employee fraud and theft. Aside from the obvious—conducting regular inventory checks and book audits, reconciling cash daily, and personally reviewing financial statements each month—there are several actions you can take to protect yourself and your business.

1. Establish a code of conduct.

Did you know that Walmart employees are not allowed to accept a bottle of water or cup of coffee from a vendor at a meeting without paying for it? That’s what I mean by a code of conduct. It’s a statement that you will not tolerate unethical or illegal behavior toward anyone—customers, suppliers, employees or the company itself.

While you may not be as strict as Walmart, you should write and post a code of conduct that clearly spells out the rules for employees and the repercussions for not following them. Give the code to everyone upon hire, and periodically thereafter, and require written acknowledgement that they have read, understand and agree to comply with it.

Now look in the mirror. It’s one thing to demand honesty from your employees, but the code of conduct goes both ways. So you, as the enforcer of the code, need to follow it to the letter. If employees see you take home merchandise or use company property for personal reasons, they may follow your lead—or worse. If you treat employees with respect, compensate them appropriately and offer opportunities to advance their careers, they’ll have less motivation to steal or cheat.

2. Set up organizational checks and balances.

In a small business, one person may wear many hats. But the most dangerous multitasker is a solitary administrator/bookkeeper who opens the mail, handles deposits and payments and files transaction documents. No one person should control that many aspects of the business—it’s asking for trouble.

At one of my companies that processed a high volume of mail, we convened a dozen senior managers and their assistants to open the mail every day. With all those hands, the task took about 15 minutes. All checks were set aside, with a tape of their total run. When the day’s bank deposit was prepared, the total had to match the tape run earlier. 

Also avoid assigning the same person to handle purchasing and vendor payments, or allowing the same employee to manage accounts payable and accounts receivable. If you’re a manufacturer or distributor, you should have separate people managing receiving, warehousing and shipping.

At the very least, set up an operation in which one person controls what comes in (cash, checks, merchandise, supplies) and another handles what goes out (payments, orders, finished products).

3. Institute policies and procedures.

Someone other than the bookkeeper should settle bank and credit card statements every month—and the person who reconciles the bank statements should not have the ability to enter or modify transactions in the accounting system. 

Here’s why: One of my partners started working with a new client and began routinely looking at their credit card statements. For one card, there were no records of purchases that matched the charges. An investigation uncovered that the client’s former controller had taken a company card with him when he left and had run up more than $200,000.

Another way to rein in fraud is to have payroll prepared and authorized by HR but entered by accounting, then checked by management before the funds are sent to the payroll company. 

Also, keep everything locked up that should be locked up, and enforce rigorous key control and computer-system access, especially for departing employees. Changing locks and passwords company-wide when someone leaves or is dismissed is not an overreaction—it’s smart.

4. Watch employees’ behavior. 

If you notice changes in an employee’s behavior—files have been misplaced; they don’t want help with a project; they’re giving a customer excessive attention—look into it. The same goes for an employee with access to critical parts of the company’s operations or finances who never takes vacation time, or who routinely works early or late when no one else is around. 

Trust me, they’re not working those extra hours because they love their job. It might be because they don’t want anyone else to see what they’re doing. Insist that people use their vacation time and stick to regular business hours. 

Pay attention to any blips in your operation, no matter how minor. At one manufacturing company I worked for, a customer sent back an expensive item for warranty repair. We couldn’t find any record of the sale. Upon further inquiry with the customer, we discovered that our vice president of manufacturing and a foreman were building equipment inside the company, then shipping units out the back door along with their own company’s invoices. We were able to recover hundreds of thousands of dollars in losses before turning the two over to the police.

The key in all this is to trust your gut and recognize that no one knows your company as well as you do. If something doesn’t look or feel right, it’s probably not. By all means, investigate.