What Does Fraud Mean? 

Fraud includes manipulating stock prices, covering up illegal acts and conducting fake purchases. Fraud and corruption can take many forms. Companies have had some idea and process awareness of fraud since SOX (The Sarbanes-Oxley Act of 2002) came into being, which requires public companies to evaluate their fraud prevention and detection controls. 

Companies must make understanding and detecting fraud a part of their corporate culture to combat fraud. Not having a culture related to fraud risks loses a company’s ability to remain profitable and competitive. 

Instances of fraud can generally be narrowed down to a failure of an organization’s internal controls. Specifically, companies that do not regularly test their internal and external motivational environment are more likely to have weak internal controls, and so entertain a higher risk of experiencing fraud and corruption. 

When companies have a culture of honesty and integrity, all stakeholders (from employees to members of the public) are more likely to voice their concerns when suspicious activities are noticed. In such corporate cultures, fraud and corruption are less likely to occur. Cultivating a fraudwise company culture means encouraging a culture committed to the highest possible standards of openness, integrity and accountability in everything it does. 

It's important to remember that, given enough time, all fraud can and often is uncovered through auditing techniques. 

Fraud Prevention Best Practices 

“Fraud” is defined as the intentional perversion of truth to gain value or to surrender a legal right. In the business community, the goal of fraud is usually money. 

To effectively combat fraud, organizations must adopt a multifaceted approach around best practices. They revolve around awareness, detection and prevention. Companies can reduce fraud risk in many ways, including educating audit committees on fraud intricacies, implementing detection and prevention methods, ensuring compliance with standards, and strengthening internal controls. 

Fraud Audits 

Companies must know who in their organization is responsible for monitoring fraud. Ensuring the established and formal presence of a fraud auditor reduces the risk of fraud and corruption. This position should be able to do the following: 

• Review internal controls and assess their strengths and weaknesses. 
• Design scenarios of fraud based on identified internal control weaknesses. 
• Identify irregularities in account balances and transactions. 

A fraud auditor seeks to identify and understand: 

• Weak links in company system chains of control 
• Gaps in systems that allow deviations from good accounting practices 
• Ways in which the system can be compromised, whether by employees or by those in positions of authority 

Strong fraud auditors balance intuition with analytical methodologies and can “think like a thief” and employ the eye of an opportunist to help find internal control weaknesses. 

Preventative Measures 

Implementing effective preventative measures is crucial in any comprehensive fraud prevention strategy. At the core of these measures lies a well-defined code of business conduct. This foundational document sets the tone for an organizational culture rich in integrity and ethical behavior. 

Many companies have long-established corporate compliance programs based on published codes of conduct and federal sentencing guidelines. Nevertheless, these company anti-fraud programs must reflect the unique aspects of each organization's culture and management style to be truly effective. 

Fraud Prevention Data Analysis 

Fraud detection and prevention in the digital age means leveraging powerful audit software and analytical techniques. One of the most effective approaches is the use of specialized audit software like ACL to perform various fraud detection tests on data files, which include: 

• Checking file sequences for out-of-order items 
• Identifying duplicates and gaps in data 
• Spotting out-of-period transactions 

Using data analysis as a best practice in fraud prevention helps companies discover irregular transactions. Whether in frequency, location, amount or timing, all incidents can be red flags for fraud. 

Fraud Prevention Tools 

The sharpest professionals are using a variety of fraud prevention tools. When used as designed, these tools can increase organizational profitability and competitive advantage in an arena where fraud and corruption are just one of an organization’s many challenges. 

Fraud prevention tools and procedures should be multifaceted, incorporating both traditional and modern approaches that include: 

• Internal controls, including separating duties and clear audit trails 
• Conducting regular financial and operational audits 
• Establishing channels for reporting suspicious activities or ethical concerns 
• Monitoring exceptions to prescribed controls and procedures 
• Regularly reviewing variances in operating performance against established standards and goals 
• Fostering a culture of awareness among management to recognize potential red flags 
• Having identified roles that are responsible for monitoring fraud 

Fraud Policy 

Organizations must have a fraud policy that lays out their fraud prevention process. An effective fraud policy will outline the principles the company is committed to for the prevention of fraud. 

It will also reinforce a company’s approach to fraud by laying out how stakeholders, both internal and external, can voice their concerns about suspected fraud or corruption. When done right, a fraud policy will contain several important components, some of which include: 

• The definitions of both fraud and corruption 
• Examples of areas where fraud is likely to occur (issues in systems, finance, equipment, resources and other areas) 
• Examples of company irregularities that could indicate fraud or corruption 
• Safeguards for whistleblowers and victims of untrue allegations 
• Clear processes for those suspicious of fraud 
• A laid-out course of action when an allegation of fraud or corruption occurs 
• Clear assignment of responsibility for each step in the fraud or corruption process. 
• A defined and measured response involving HR and legal 

As with any policy process, constant monitoring and review of lessons learned is key to the success of a fraud policy. 

Fraud Prevention Procedures 

Fraud prevention procedures serve as a road map for employees and management, ensuring a consistent and appropriate response to suspected fraud. When it comes to the prevention and detection of fraud, effective procedures will cover the following: 

1. Clear Reporting Channels: Establish a dedicated fraud examination unit (FEU) or similar entity. Employees who discover or suspect fraudulent activity should have a direct line of communication with this unit. 
2. Confidentiality Protocols: Maintain strict confidentiality during investigations to protect both the organization and the people involved. Train employees to respond appropriately to inquiries, using neutral language such as, "I am not at liberty to discuss this matter." 
3. Investigation Guidelines: Develop detailed guidelines for conducting fraud investigations. These should outline steps to gather evidence, interview relevant parties and document findings without compromising the integrity of the investigation. 
4. Documentation and Record-Keeping: Maintain records of all fraud-related incidents, investigations and outcomes. This documentation can be valuable for identifying patterns and improving prevention strategies over time. 
5. Training and Awareness Programs: Regularly educate employees about fraud risks, red flags and proper reporting procedures. This helps create a culture of vigilance and integrity throughout the organization. 
6. Risk Assessment and Control Evaluation: Periodically assess fraud risks and evaluate the effectiveness of existing controls. This proactive approach helps identify vulnerabilities before they can be exploited. 
7. Collaboration With Legal and HR Departments: Establish clear protocols for involving legal and human resources departments in fraud investigations, ensuring compliance with relevant laws and regulations. 
8. Response and Remediation Plans: Develop plans for responding to confirmed fraud cases, including disciplinary actions, recovering losses and implementing additional controls to prevent future occurrences. 
9. Regular Review and Update: Continuously review and update fraud prevention procedures to address emerging risks and incorporate lessons learned from past incidents. 

These procedures, when used in concert with other fraud prevention tools and best practices, form a strong framework for managing fraud risks effectively. 

Fraud Detection Guides 

Internal audit groups and senior management can get ahead of fraud when they commit to understanding the common avenues by which it occurs. 

Often containing fraud prevention templates, fraud detection guides can be used by auditors to understand, identify and mitigate common fraud schemes. Professional guides, such as How to Detect and Prevent Fraud: A Practical Guide for Auditors, provide samples of schemes commonly attempted. There are various forms of fraud, with the following nonexhaustive list containing examples of some of the frequent flyers: 

• Benefits fraud 
• Bid rigging 
• Check fraud 
• Check theft 
• Disguised purchases 
• Earnings management smoothing 
• Electronic transaction fraud 
• Embezzlement 
• Employee fraud 
• Fictitious/nonexisting vendors 

Wrapping Up 

Effective fraud prevention is a multipronged endeavor that requires vigilance, strategy and continuous improvement. By understanding the conditions that enable fraud, recognizing trends and categorizing different types of fraud and corruption, organizations can build a strong defense against corruption. 

The key to this approach is the implementation of preventive measures and detection techniques, coupled with an awareness of common "red flags." Regular fraud audits and risk assessments, guided by established standards and best practices, form the cornerstone of a comprehensive fraud prevention strategy. 

Internal audit teams play a crucial role in this process, leveraging their expertise to evaluate fraud risks and ensure regulatory compliance. By embracing a wide-lensed approach that combines best practices, cutting-edge tools and well-defined procedures, organizations can effectively foster a culture of integrity and accountability that manages the risk of fraud and corruption, significantly reducing the frequency and severity of events. 

Learn more about fraud by exploring these tools on KnowledgeLeader:  

• Process-Level Monitoring Results Questionnaire 
• Educating the Audit Committee About Fraud Guide 
• Fraud Detection Guide