How to Spot Asset Misappropriation

​Asset misappropriation is a fraudulent activity that occurs when a company’s assets are stolen or diverted for personal use. Typically, misappropriation that involves cash is easier to identify while non-cash misappropriation is often harder for businesses to recognize. While all misappropriation can hinder cash flow, large-scale asset misappropriation can also lead to fines and penalties as a result of errors on financial statements and tax filings.

​Misappropriation is remarkably costly because it directly affects an organization’s bottom line, which means that to replenish lost income, substantially more revenue must be generated. For instance, if a company’s profit margin is 20%, it requires five times more revenue to replace the profits lost from fraud. Using this example, a $100K asset misappropriation scheme would necessitate that an additional $500K in revenue be created.
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In the case of small businesses, however, even a large upswing in ensuing revenue may not reverse the extent of the damage. Employees that were laid off during tough times typically do not get their jobs back, and the opportunity cost of making financial decisions with lower-than-expected cash flows can never be entirely recouped. Some companies cannot recover from the downward trajectory that fraud precipitates, resulting in its untimely demise.

​Misappropriation can occur at any stage of routine business operations:

• Before Assets are Recorded
  • Profit Skimming
  • Refund Theft
  • No Sale Transactions
  • Cash Larceny
• While Assets are being Retained
  • Pilfering Office Supplies
  • Taking Raw Materials
  • Using Equipment
  • Stealing Inventory
• As Assets are being Purchased
  • Payroll Scams
  • Fraudulent Expense Reimbursement
  • Billing Fraud

​Asset misappropriation during the purchase stage constitutes some of the most sophisticated fraud schemes that businesses encounter, making it the hardest to identify and prevent.

Payroll

Timecards
​While most employees consider themselves honest, many still cheat on their timecards. Because time is a non-cash asset, many employees view it differently than strictly cash assets. As a result, employees who would never steal money out of a register or bank account knowingly make personal phone calls, check personal email, and spend time on social media while on the clock. These behaviors are common amongst hourly and salaried employees alike, although hourly employees may utilize other tactics as well to get paid for time thy have not worked. Tricks like having fellow employees clock them in before they arrive for their shifts or failing to punch out for breaks and lunches are overt ways that hourly employees steal time from their employers.

How to Find It
Identify employees that are logging more hours than their peers in similar roles or employees whose billable hours have dramatically increased over the course of their employment. Employees and contractors may slowly ratchet up their fraudulent behaviors over time to avoid raising any red flags from a sudden change.

How to Avoid It
Create an employee code of ethics that outlines acceptable timecard practices and articulates consequences for failing to uphold these standards. Provide employees with a way to anonymously notify management that something unscrupulous is occurring if they see fellow employees cheating the company. Provide multiple avenues for whistleblowing, including a way to notify human resources or senior management directly, in case lower-level managers are involved in approving fraudulent timecards.

​Fake Employees
At larger companies or companies that employ a remote workforce, fraudsters can utilize fake employees to swindle company funds. These ghost employees can either be entirely fake or real former employees who remain on the payroll after they have left the company.

How to Find It
Compare employment documentation with payroll records and isolate any employees with suspicious-looking or incomplete employment records.
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How to Avoid It
Require regular all-employee gatherings and occasional face-to-face meetings to verify the existence of employees who would otherwise fly under the radar.

​Expense Reimbursement

​Unqualified Purchases
Expensing personal purchases is the most straight-forward form of asset misappropriation. While some misappropriation involves malicious intent, other instances result from an honest lack of understanding regarding what can and should be expensed. This is especially apparent with travel expenses. For instance, while an employee may be allowed to expense the cost of admission to a conference, other trip expenses (meals, hotels, rental cars, public transit tickets, etc.) may not be eligible or may be capped on a per day basis.

​How to Find It
Combing through expense reports is time-consuming, especially for companies with a large staff pool. Bringing in a third-party auditor to review all reimbursements and look for anomalies is the most efficient way to mitigate loss. Audits should be done regularly (monthly, quarterly, or annually) for maximum effectiveness.

How to Avoid It
Coach employees on what can and cannot be expensed. Provide thorough documentation on expense reimbursement eligibility and encourage employees to consult with management before submitting expense reports. To eliminate the risk that managers will be complicit in fraudulent activities, require multiple authorizations on expense reports. 

​Inflated Expenses
When the price of a legitimate business purchase is exaggerated and the difference is kept by the employee, another type of expense reimbursement fraud occurs. For employees who maintain a company credit card and must submit lengthy expense reports regularly, this type of asset misappropriation can add up to a hefty sum over time even with only slight expense increases on individual purchases.

How to Find It
Require original receipts for all expenses and compare them with the expensed totals. Do not accept photocopied, screenshotted, or altered receipts.
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How to Avoid It
Set thresholds for routine purchases and deny any expenses that are submitted in excess of those values. Keep a record of previous expense reimbursements to compare current expenses against for instances where fraud is expected.

Billing

​Shell Company
A shell company is a fake company that is created for the purpose of submitting invoices to the business. When these invoices are paid, the funds are then diverted to the fraudster.

How to Find It
Sudden cost increases or profit decreases can signal that billing fraud is occurring. Substantial changes that cannot be attributed to normal business factors like seasonality or long-term asset purchases should be investigated immediately.
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How to Avoid It
Establish an approved vendor list to confirm only legitimate vendors are being paid. Require a physical address and phone number on all vendor invoices and closely analyze any that are missing this key information (or where information has changed since the start of doing business). Among existing vendors, regularly check invoice numbers. Invoices that are inconsistently numbered or consecutively numbered should raise a red flag and trigger immediate scrutiny.  

​Non-Compliant Vendor
Credible vendors can unknowingly get caught in a billing fraud scheme when they are used by employees to hide unscrupulous activities. A non-compliant vendor is unaware of the fraud being perpetrated and would have no reason to suspect any foul play is occurring.

How to Find It
Established vendors typically have predictable invoices. If the invoice frequency or totals begin to increase, reach out to the vendor with timely communications to verify the legitimacy of these changes.
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How to Avoid It
Verify original invoices (not subsequent bills) to ensure the total amount and payment terms are correct. Check time periods to avoid paying duplicate bills and ensure billable time periods are not shrinking. Make it a regular practice to periodically check in with existing vendors to ensure invoices received match their records.

​We are available to assist you quickly and help you identify and provide solutions for fraud issues in a timely and efficient manner. It is important to address issues of fraud as soon as it is suspected or to minimize your losses. We can also help you assess your vulnerability.  Contact us here.