Catching a Snake in the Grass

Why an impulse reaction is rarely the best strategy

By Paul A. Rodrigues, CFE, CPA, MST, CGMA 

An employee exhibits certain behavioral red flags that puts him under suspicion for being involved in fraudulent activity against your (or your client's) organization. Now what? Because fraud is a highly emotional crime, the natural response for business managers and ownership may be to confront the suspect, terminate him, and contact law enforcement to assist with the investigation.

As fraud examiners, we know that as well-intentioned as these responses may be, acting on impulse is rarely the best course of action. Prematurely terminating the suspect or contacting law enforcement too early in the process could significantly impair the ability to build a case or identify the true nature and extent of fraudulent activity. For example, a terminated employee may decline to assist the investigation or otherwise invoke constitutional protections when law enforcement arrives.

Accordingly, the potential for such negative consequences should be communicated (and reinforced) to business leaders/clients before they are confronted with such a tense situation. They should be clearly informed that when they do suspect fraud, the urge to fire the suspect should be resisted, and concerns kept hidden from everyone associated with the organization – except for fraud examiners and outside counsel.

Once fraudulent activity is suspected, the first course of action for an organization should be to consult with an attorney and a Certified Fraud Examiner (CFE) with expertise in investigating and litigating white collar criminal matters. If this is your role, take the lead in advising the organization on the best way to move forward. Based on the nature of the allegations, counsel should identify the legal issues and coordinate with the CFE to determine the appropriate responses needed.

Unlike CPAs, CFEs are uniquely equipped to investigate allegations of fraud and possibly obtain a confession from the suspect. They are trained to properly collect and secure evidence; document means and motive; identify co-conspirators; and relate facts to the specific burden of proof to be met. They are also skilled in analyzing the financial controls of an organization and are able to recommend specific anti-fraud controls to limit future losses. In short, no economic crime investigation should be undertaken without the expert guidance of a CFE.

When a legal strategy is established and the nature of additional work is determined, the next call should be to the organization’s insurance carrier. Failure to notify the insurance carrier in a timely manner, or to understand the nuances of policy provisions, could significantly impair your ability to recover damages and thus may limit the victim organization’s ability to pursue civil remedies. Discuss the nature and extent of policy coverage, particularly as it relates to loss limitations, and whether the policy extends to fraud events occurring prior to the year in which the fraud is discovered.

After the insurance carrier is contacted, the appropriate bank officials should be notified of the suspected fraud. Failure to promptly notify the bank of suspicious transactions could also limit the ability to recover lost funds and hedge against future losses.

After counsel has been engaged and the insurance carrier and bank have been informed, the final course of action is to contact law enforcement representatives. However, this call should only be placed at the appropriate time, and after clear and compelling evidence has been collected to substantiate allegations that fraud has occurred. Although criminal prosecutions may be publicized, it is critical that your organization and/or clients take a strong position against fraud.

For one thing, if the business owner has insurance against employee theft, a failure to prosecute may prevent the organization from collecting insurance proceeds. But perhaps even more importantly, failure to prosecute sends a message that the organization ignores fraudulent activities, and, by extension, may invite future fraud to occur. Following a zero-tolerance policy toward fraud is part of an effective “tone at the top” that will help create a deterrent effect that can save money – and headaches – for years to come.