With businesses scrambling to survive as the recession dampens revenues, freezes credit and stalls growth, employee theft may serve as an increasing drag on profitability that risk managers cannot afford to ignore.

In fact, a report issued by the Association of Certified Fraud Examiners puts the cost of occupational fraud from 2006 and 2007 at 7 percent of annual revenues–with more than a quarter of cases involving losses of at least $1 million. Small companies with fewer than 100 employees saw a median loss of $200,000, according to the report.

In another survey, about 20 percent of firms polled by the Institute for Corporate Productivity and HR.com said they had noticed a recent rise in theft by employees.

Underwriters can play a key role by addressing the issue of employee theft as they evaluate businesses. They can point out a particular firm's exposure and urge these potential customers to adopt more stringent financial control practices.

Critically important for both underwriters and risk managers is recognition of the most common types of loss involving employee theft, and understanding of the most effective strategies for its prevention. There are five types of fraud most commonly used by workers to steal from their employers:

o Embezzlement: Employees who simply siphon off money from a business usually accomplish it in one of two ways–reaching into the till to take cash directly, or forging signatures on company or customer checks that they can then deposit in their own accounts.

o Phantom vendors: Employees may set up a fictitious vendor, produce fake invoices and begin sending payments to themselves. A variation is for an employee to form a partnership with an actual vendor to split money that is paid for work that is not performed or supplies never delivered.

o Vendor kickbacks: A business may overpay for its supplies or services if a vendor is providing payments to an employee so that its bid will be accepted over other more competitive bids.

o Padded expense accounts: Employees may charge the company for personal items or may inflate the cost of legitimate expenses through fake receipts or lax protocols for payment.

o Theft of inventory:Companies that sell goods or buy materials to use in the course of business may see “shrinkage” as employees take items home, either to use or resell.

LOSS CONTROL

Experts who study employee theft often talk about the “fraud triangle” that is involved in losses–motivation, rationalization and opportunity.

Employees may be motivated by events going on in their own lives, such as a gambling or drug problem, threatened foreclosure on their home, or a greedy desire for a different lifestyle. They may rationalize their theft by deciding their employer has treated them poorly, that the business will continue to be profitable despite their thefts, or that a kickback is not “really” taking anything away from the firm.

While organizations may have limited control over motivation or rationalization, they can make a difference by cutting down on opportunities for theft to occur.

For example, employees may feel safe stealing because they know their firm's weaknesses, can figure out a way to take advantage, and believe they won't be detected. Those organizations with careful controls in place that are rigorously followed send a deterrence signal to employees that theft will be discovered.

Business owners should consider taking these important steps:

o Isolate duties: Even in a two-person or three-person office, splitting up the job of taking money in and sending it out for deposit at a bank is critical. The person authorizing expenditures should not be the same person writing the check to pay for them. Books kept by one person should be reconciled by another.

o Scrutinize processes and decisions continually: Once a system of controls is in place, make sure it is followed by checking every business transaction, new vendor and bank statement.

o Perform thorough background checks: Those hired to handle financial matters should be thoroughly checked. The Association of Certified Fraud Examiners study found that 12 percent of those involved in fraud had been previously fired by an employer for fraud-related conduct.

Underwriters who emphasize the importance of these steps during their evaluations can help risk managers protect their bottom line.

In addition, an effective risk management partnership between insurer and customer can pay off for both by lowering loss claims and reversing the upward trend of employee theft.

Steve Balmer is the product manager for crime-related insurance products for Travelers' Bond & Financial Products in Philadelphia.

Special Reports /

Employee Theft On The Rise In Recession

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