Average Losses From Fraud Increased by 40% in Two Years

Despite heightened efforts at regulation and control, fraud remains a major
threat to companies around the world. Nearly half of all organizations, about
the same level as in 2005, reported they were victims of some form of economic
crime in the past two years, according to PricewaterhouseCoopers’ 2007 Global
Economic Crime Survey. The average direct financial loss to companies rose
nearly 40% to US$2.4 from US$1.7 million during the period.

The biennial survey of 5,400 global companies, the most comprehensive study
of its kind, conducted in association with Germany’s Martin-Luther University,
Halle-Wittenberg, revealed that of the 43% that experienced economic crime in
the last two years, the total direct losses exceeded US$4.2 billion. The losses
arose from a variety of economic crimes, including asset misappropriation,
accounting fraud, bribery and corruption, money laundering and intellectual
property infringement.

In addition to the direct financial costs of fraud, companies also reported
suffering significant "collateral damage" to the day-to-day operations and
success of their businesses. Of those reporting fraud, 88% reported the fraud
had damaged their brand and impacted staff morale, 84% said it had harmed their
relations with other companies and increased the costs of dealing with
regulators and 69% said it had negatively affected their share price.

The survey, entitled "Economic Crime: People, Culture and Controls," found
that economic crime is all but universal, affecting companies of all sizes, on
all continents and in all industries. And while fraud remains intractable—fraud
levels have not dropped in the eight years since PwC initiated the survey—most
companies are confident that their control measures will limit their exposure to
fraud in the future. Only 11% consider it likely they will be the victims of
fraud in their country during the next two years.

"It is simply impossible to eliminate economic crime. It’s like fighting the
mythical Hydra, cutting off one form of fraud merely allows another to grow,"
said Steven Skalak, global investigations and forensics leader,
PricewaterhouseCoopers. "Controls alone are not enough. The answer lies in
establishing a culture that supports control efforts and whistle-blowing with
clear ethical guidelines. Companies need to build loyalty to the organization
give employees the confidence to do the right thing and identify clear sanctions
for those who commit fraud, regardless of their position in the company."

The 2007 survey revealed a direct correlation between the size of a company
and the prevalence of fraud. Among companies of 5,000 or more employees, 62%
reported being victims of fraud. That number dropped to 52% for companies with
1001 to 5000 employees and to 32% for small companies of less than 200
workers.

No industry is immune to fraud. Fraud was most prevalent in the insurance and
retail sectors, where 57% of companies reported fraud, followed by the
government and the public sector, with 54%, financial services, 46% and
automotive, 44%. The types of fraud most common to each industry, varies due to
their unique operating characteristics.

Theft was the most common type of fraud, reported by 30% of those who said
they had experienced economic crime. Intellectual property infringement was
reported by 15%, corruption and bribery by 13%, accounting fraud by 12% and
money laundering by 4%.

Of those responsible for committing fraud, 85% are male, most often between
the ages of 31 and 50, with half having college educations or advanced degrees.
More than half were employed by the defrauded company, 26% in senior management
and 43% had more than five years with the company.

"Two elements are need for fraud to occur—motive and opportunity," Skalak
said. "The most common motives for fraud are simple—need and greed.
Opportunities for fraud arise as a result of a weak control environment and from
a corporate culture that does not engender loyalty, ethics and compliance."

According to the survey, reasons cited to explain why individuals committed
fraud included financial incentives, 57%; expensive lifestyle, 36%; and career
disappointment, 12%. Weak controls were cited in about a third of cases, a low
level of commitment to the company, 34%; relative anonymity, 17%; lack of
clarity about the company’s ethics, 14%; and temptation, 44%.

For frauds to continue for extended periods, the executives involved must be
able to rationalize their behaviour, which can include justifications like "it’s
really for the company’s benefit" or "it’s a gray area." In 40% of reported
frauds, employees lacked awareness of wrongdoing and 26% denied the financial
consequences to the company.

Forty-three percent of fraud was initially detected via a whistleblower
hotline or other tip off—while the most effective control measure—internal
audit—was the initial detection method in 19% of reported cases, highlighting
the importance of a transparent corporate culture that enables employees to
recognize and expose improper conduct.

Companies that experienced at least one significant structural change—a
merger, acquisition, reorganization, or staff reductions—reported increased
levels of fraud. "An acquisition, creation of a new venture, combining processes
and IT systems, changes in personnel, the interaction with new customers and
suppliers and dealing with new cultures or foreign countries all create a
fertile environment for fraud to flourish," Skalak said.

Fraud was as prevalent in the fast-growing E7 emerging economies (Brazil,
China, India, Indonesia, Mexico, Russia and Turkey) as in more developed
countries, but the cost of fraud was significantly higher in emerging economies.
In total, the E7 countries accounted for more than 45% of the $4.2 billion in
financial losses reported globally. Companies with operations in E7 countries
reported average losses from fraud of $5.1 million; more than double that of
companies not operating in such territories.

In the E7 markets, at least one in four companies, and in some countries half
of all companies, reported they had been asked to pay a bribe. Corruption and
bribery and intellectual property theft are the major concerns of corporations
establishing operations in emerging markets. Although companies have implemented
control measures, many remain uncertain of how best to address such risks.

"Companies doing business in emerging economies need to understand the fraud
risks they will face in different cultures and anticipate that they may be asked
to participate in inappropriate schemes. Resisting corruption may be especially
difficult in the face of market competition and internal pressure to deliver
results," Skalak said. Companies need to understand how they will deal with
fraud and corruption before they invest. Controls that work in developed
economies may not be as effective in emerging markets."
Source:
PricewaterhouseCoopers

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