Report: Red Flags Overlooked in Most Corporate Fraud

By Pamela Babcock Aug 22, 2011
Employers can detect employees stealing or diverting funds more quickly if they look not only at the books but also at behaviors, a recent study found.

An analysis of corporate fraud investigated by KPMG International’s member firms found that red flags that could have indicated something amiss were overlooked in more than half of fraud cases.

The August 2011 study Who is the typical fraudster? paints a portrait of a potential fraudster. It’s often a stressed-out senior manager who works all the time and rarely takes vacations. The person might shun promotions and be excessively secret about his business unit while wanting to work only with certain vendors.

And it’s typically a 36- to 45-year-old male in finance or a finance-related function who has been at the company more than 10 years.

Phillip D. Ostwalt, who leads the U.S. Investigation Services Network for audit, tax and advisory firm KPMG, said recognizing the warning signs can help organizations become more alert and responsive to fraud. But that’s not enough.

“Companies should step back and assess their internal processes around ethics and compliance so that when a matter does come to their attention it is quickly paid attention to and investigated to the full extent necessary,” Ostwalt said.

More on the Study

The report analyzed 348 white-collar cases in 69 countries in 2008-10. Among them were material misstatement of financial results, theft of cash or other assets, abuse of expenses and other fraud.

While 56 percent had one or more red flags that should have tipped off management, only 10 percent of the cases had been acted on before a full investigation was required, the study found.

This is the second fraud analysis survey for KPMG. A February 2007 analysis, Profile of a Fraudster Survey 2007focused primarily on fraud in Europe, the Middle East and Africa. The more recent study encompasses cases worldwide, including the U.S.

As in 2007, most people are motivated by greed and pressure to reach tough profit and budget targets.

The recent study found that investigations resulted in disciplinary action in 40 percent of cases; enforcement (including regulatory, legal and police) in 45 percent of cases; civil recovery in 23 percent of cases; resignation or voluntary retirement in 17 percent of cases; out-of-court settlements in 6 percent of cases, and no action in 3 percent of cases.

Business-Related Red Flags

A number of things make a company ripe for fraud. A business unit might thrive despite competitors struggling with declining sales and/or profits. There might be undue pressure on managers and employees to achieve “unusually tough” profit targets and business goals, the study found.

Other tip-offs include complex or unusual payment methods and agreements with suppliers or rising profits with no increased cash flows.

The study found that fraudsters are more likely than other employees to:

  • Be volatile and melodramatic, arrogant and confrontational, or threatening or aggressive when challenged.
  • Have new employees whose performance or skills don’t match what they say they’ve done on their resumes.
  • Be unreliable and prone to mistakes and poor performance. They’re more likely to cut corners or bend rules, but they often try to shift blame and responsibility.
  • Surround themselves with favorites who “will just agree with them,” Ostwalt said. “They tend to not be challenged a lot.”
  • Be rumored to have—or show signs of having—a drug, alcohol or gambling addiction. The person’s lifestyle might seem excessive, or they might appear overextended financially.

Taking Longer to Detect

The 2011 study found that fraud now takes longer to detect—3.4 years—compared with an average of 2.9 years in the 2007 study.

In addition, it found fraudsters more likely to have been with the company for a long time. People on the payroll 10 years or longer were responsible for fraud in 33 percent of cases in the 2011 study, up from 22 percent in the 2007 study.

“Don’t get comfortable necessarily with the people who have been around for a while,” Ostwalt said. He recommended conducting updated background checks on employees, even when they move to the C-suite.

Don't Exclude 'A Bad Guy'

Christopher Bauer, a licensed psychologist and certified fraud specialist in Nashville, Tenn., said the findings weren’t surprising because they mirror much of what’s in the Association of Certified Fraud Examiners’ 2010 Report to the Nations on Occupational Fraud and Abuse.

He noted that while the KPMG analysis might help catch someone engaged in major fraud, a significant percentage of fraud comes from the “slow drip” of tiny transgressions that accumulate, sometimes quite significantly, over time.

“Organizations need to be equally attuned to discovering and correcting the legion of minor problems, as well as being focused on catching the big-time thieves,” Bauer said.

Ken Stalcup, a CPA, certified fraud examiner and manager at Somerset CPAs in Indianapolis, Ind., added that while recognizing the signs of a potential fraudster might not help detect “a specific instance of fraud,” tips catch most frauds.

The key is not to “profile” a person and ignore other possibilities or exclude “a bad guy” improperly, Stalcup said. “Information like this does help us focus on the risky areas. And to some extent, we have to play the odds and look at the areas most likely to produce problems.”

Study: Reporting Relatively Stable

Another recent study, by The Network Inc. and BDO Consulting, found that corruption and fraud-related incident reporting for 2010 remained steady relative to all compliance hotline-related activity it received, at 19.6 percent, down from 20.4 percent in 2009.

The 2011 Corporate Governance and Compliance Hotline Benchmarking Report, released Aug. 23, 2011, attributes that to slow growth of the U.S. gross domestic product total, along with high unemployment and legislation such as the Dodd-Frank Act, the U.K. Bribery Act and the U.S. Foreign Corrupt Practices Act.

The study analyzed 564,438 incidents reported by clients of The Network, a governance, risk and compliance software and services company, since 2006. Key findings include:

  • In 2010, 68 percent of incidents reported warranted an investigation, and three out of five of those cases resulted in corrective action.
  • Web reporting is up. In 2010, about 8.3 percent of all incidents were submitted using an Internet-based form, up from about 5.6 percent in 2008.
  • While trends show an increase in anonymity over the past five years, the percentage of anonymous tips—about half—remained the same in 2009 and 2010.
  • Industries with the highest incident rates continue to be transportation; communication and utilities; retail trade; and service.
  • Personnel management, which covers HR issues such as wages and management interaction, remained the leading incident category for the fifth straight year. The next most commonly reported incident types in 2010 were corruption and fraud; employment law violations; and company/professional code violations.

Pamela Babcock is a freelance writer based in the New York City area.


CA Resources at Your Fingertips

View all Resources Now

Job Finder

Find an HR Job Near You


Find the Right Vendor for Your HR Needs

SHRM’s HR Vendor Directory contains over 3,200 companies

Search & Connect