Feeling the pinch

It is well known that incidences of fraud increases during a recession. For businesses, this includes fraud perpetrated by external parties and fraud from within. Helen Yates reports

The trial of a former General Motors employee and her husband, accused of stealing and attempting to sell trade secrets to the Chinese, has highlighted a growing exposure for many businesses – intellectual property fraud. Shanshan Du and Yu Qin face up to ten years in jail. It is alleged they copied private GM documents detailing the motor control of hybrids and attempted to sell these sensitive documents to Chinese manufacturers.

Intangible assets including intellectual property (IP) are becoming more and more important for many companies with studies suggesting they make up as much as 70 per cent of a firm’s stock market value. While statistically, the theft of commercially sensitive data is very low in the UK, it is likely this is probably because the unlawful obtaining or disclosure of commercial data is difficult to detect.

“This isn’t just limited to manufacturers, which is why this is a fascinating example of a risk that’s real and is seen across the sector,” says Dan Trueman, lead underwriter for enterprise risk at ANV. “An engineering firm might be developing specific designs for a new item and it wants to keep that private, as much as an architectural firm might want to keep blueprints of a sensitive building private or even a new way of putting together a design that’s key to it and its future success. We see these breaches more and more.”

“The classic one is every time a new i-device is about to come out the internet lights up with pre-photos of the design and pre-specifications,” he continues. “There’s an obvious market for this data.”

It is well known that the incidence of fraud increases during a recession. For businesses, this includes fraud perpetrated by external parties and fraud from within, ie staff defrauding the company they work for. Various surveys on fraud have uncovered startling statistics, including the fact that organisations may be losing as much as seven per cent of its annual turnover as a result of fraud. Only a small percentage of these are recovered by organisations.

According to the UK’s fraud prevention service CIFAS there was a 52 per cent increase in the number of insider frauds recorded in the first half of 2012, compared with the same period of 2011. Analysis also reveals a 53 per cent surge in theft of customer data by employees. Evidence points to networks of individuals increasingly joining forces to try and “spread the load” in terms of data theft, helping criminals avoid detection. In 74 per cent of these cases, data was handed over to third parties, highlighting the risk of organised criminal involvement.

Economic and employment worries play a part in this. “As people feel the pinch, organisations must be aware that staff are working harder than ever, often for smaller rewards; going without recognition or adequate recompense,” says CIFAS staff fraud adviser Arjun Medhi. “This can create resentment and some people will eventually resort to fraud out of a sense of entitlement or misguidedly perceiving no other way to support themselves.”

Employees typically commit fraud as a result of three key factors that make up a “fraud triangle”: motive; opportunity and rationalisation. Both motive and rationalisation tend to go up during a recession as staff come under pressure to hit targets or financial pressure at home. In the UK, fear of losing jobs (46 per cent) is cited as the main reason why fraud is committed, followed by targets being more difficult to attain (40 per cent) and difficulties reaching the performance numbers to achieve bonuses (28 per cent), according to a Global Economic Crime Survey carried out by PricewaterhouseCoopers.

“The pressure on inividuals in businesses is pretty heightened right now,” says John Smart, head of the fraud investigation and dispute services team at Ernst & Young. “Not just because of recession and the challenges people are having in making ends meet. There are smaller pay rises and challenges in keeping a job so a much greater incentive on individuals if they see the opportunity to take some money.”

While internal fraud is perpetrated in all industry sectors, some – such as the retail and restaurant industries – lend themselves to a much wider incidence of low-level theft. The UK has become the shoplifting capital of Europe, with nearly £5bn of goods disappearing off retailer shelves of which over a third is attributed to employee theft. “In the retail sector where the product is relatively easy to run off with, compared to a service sector business, the opportunity to commit fraud is much higher,” states Smart.

There is clearly a wide spectrum in the scale of internal fraud, ranging from small sums taken as employees fiddle their expenses to large-scale asset misappropriation. Seventy-seven per cent of UK organisations that were victims of economic crime reported falling prey to asset misappropriation. There can also be a difference in motivation for this type of crime, thinks Smart.

“Some are clearly for personal gain from a financial basis, whereas the rogue trader activity tends not to be diverting money to their own account,” he explains. “Although clearly they will get bonuses but they’re different in nature, it’s comparing straight theft to something more complex.”

In November, the FSA fined Swiss banking giant UBS nearly £30m for not having the right controls in place to prevent one of the UK’s largest-ever frauds. Rogue trader Kweku Adoboli was jailed for seven years after he lost £1.4bn. The UK watchdog, which has hit a new record in fines for 2012, said the bank’s controls were “seriously defective” which allowed Adoboli, a relatively junior trader, to take vast and risky market positions.

A ‘typical’ fraudster

While it is easy to assume that more junior staff with lower salaries might be more inclined to defraud their employer, statistics suggest it is in fact senior management and executives who commit a high percentage of fraud. Nearly half of all fraudsters are well-educated, middle-aged middle managers who are more likely to be presented with opportunities to steal at a time when they may be under pressure financially. By contrast, over 80 per cent of those guilty of the disclosure of personal data are under 30 years of age, according to CIFAS. In many organisations, fraud is most likely to occur in the finance department.

“The biggest frauds tend to be carried out by senior management,” says Smart. “There’s a lot of focus on the shop floor and every day workers and this may well miss some of the really big ones that have happened. Chief executives and finance directors have the most power and opportunity and the least likely to be caught. Companies should focus on everybody, including the most senior people in the real positions of trust.”

Setting the right tone is important, making it clear that everything from fake taxi receipts to invoices for fictitious work will not be condoned and that everyone will be treated in the same way, regardless of rank. Internal audits can help root out potential weaknesses while technology is getting better and better at detecting potential fraud.

“The banks and credit card companies use a lot of technology which is all based on looking at patterns and seeing when something does not fit a pattern,” says Smart. “That works for credit card payments as much as it does for expense claims and invoices being submitted or even in a trading environment to spot anonymous patterns by rogue traders. These days we’re using technology in ways that it hasn’t been used in the past, to spot fraud by correlating activities. That might be transactions together with things like telephone or email information – and saying this type of activity points to a potential fraud that needs to be investigated.”

While the recession may be responsible for driving a greater incidence of fraud, it is also more likely to be uncovered. With companies cutting costs and scrutinising overheads more closely, over-inflated expense claims and missing inventory are less likely to go unchecked. Internal controls and monitoring were the main ways staff frauds were uncovered in 2011 (for 44 per cent of cases according to CIFAS) but the low rate of whistle-blowing by staff suggests further improvements could be made.

“Companies are being more proactive, but one of the challenges right now with costs being cut is that some of those activities you might pursue around preventing fraud are not happening in all areas,” says Smart. “One of the problems right now is layers of management is being removed from organisations to save costs and sometimes they were performing valuable fraud prevention functions, such as checking suppliers. If they are being cut out there’s a chance fraud is increasing.”

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