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Crime Pays - A Conversation of Fraud and Recovery

Crime Pays - A Conversation of Fraud and Recovery

Occupational fraud and crime is a significant and growing exposure for all industries, including hospitality. In recent years, the challenging economy has helped to drive the incidence of these crimes.

A study by the Association of Certified Fraud Examiners (Association of Certified Fraud Examiners: 2012 Report to the Nations) found occupational fraud caused $3.5 trillion in losses. The typical fraud lasted two years. The median loss was $140,000 and one in five involved losses was $1 million or more.

However, the good news is that anti-fraud controls, including hotlines, surprise audits and anti-fraud training can significantly reduce a company’s exposure to loss.

With these crimes, literally anyone in an organization is a potential perpetrator. Criminals range from hourly employees all the way up to senior management, including the CEO. The size of loss correlates with annual income level, tenure, age, education, and the level of collusion involved in the crime.

Among perpetrators, 87% were first-time offenders; 36% were considered “living beyond their means,” and 27% had been experiencing financial difficulties. However, more often than not, the perpetrator has done the same thing at one or more former employers.

Perhaps the most significant potential  for occupational crime and fraud is crime insurance. If your company has insurance, review the adequacy of coverage and limits. In addition, see if you have “cost/fee coverage,” which can pay for the use of outside providers to help investigate a crime. Until they are victims, many businesses don’t realize they are woefully under-insured and lack cost/fee coverage

Fraud Risk Factors

To help organizations assess their potential exposure to occupational crime or fraud, the Association of Fraud Examiners has identified some key considerations, often called the “triangle” or “three legs of fraud.”

First, consider the impetus to perpetrate a fraud. The business driver having to “make a number” might lead one to manipulate transactions. And there’s the personal motivation, usually financial gain or desperation, to engage in theft against the employer.

Another factor is opportunity: Does a potential perpetrator have access to assets? Are controls inadequate or non-existent?

Corporate culture plays a part as well. Even in a strong outward culture of integrity, the feeling may be different within specific departments or functions. Is financial aggressiveness or risk-taking part of the organization’s culture or a desired attribute for a certain class of employees?

What to Do If Fraud is Suspected?

If occupational fraud is suspected, absent any exigent or life threatening issues, you might take the following measures:

      1. Locate and read the company’s crime or fidelity insurance policy.

      2. Conduct an investigation before notifying your insurer.

      3. Give proper notice to your crime and  property insurers.

      4. Note the time on your insurance policy to file “Proof of Loss.”

      5. Note the time to file suit against your insurer for non-payment of a loss.

      6. Conduct a thorough internal investigation.

          7. Work with your human resources, communications, operations, finance and other functions, employment attorneys                    and outside counsel to address potential employee issues.

      8. Consider civil litigation against perpetrators.

      9. Consider criminal prosecution.

The Loss Adjustment Process 

Crime claims are unlike other claims or property damage loss or business interruption loss, or simple accidental liability matters like car damage. They are conducted within guideline time restrictions. There is a frequently exercised provision for an extension, so, there’s no reason to rush. While claims may be paid as submitted, the norm is to be challenged and receive the carrier’s offer and negotiate. Here’s the typical sequence of events involved in filing an insurance claim:

      1. Your company and its support team conduct a preliminary investigation.

      2. You file a notice of a potential claim with your insurance company.

      3. Establish the facts (liability) and the amount of damages.

      4. File a sworn “Proof of Loss” with your insurer.

      5. The insurer conducts its own investigation and audit.

          6. Your team meets with that of your insurers to reconcile potential issues and differences that may arise with respect                  to your claim.

      7. These elements are negotiated and ultimately settled. While some points of difference between you and your insurer                 are inevitable, it generally makes the most sense to pick spots carefully for arguing with your insurer. You may                         not want to stall the overall negotiation and potential settlement by disputing smaller points.

      8. Understand potential subrogation, which typically takes place among insurers in situations involving overlapping                          coverages.

Managing the Internal Investigation: Who Does What? 

In an internal investigation, the principal leadership roles include:

     The risk manager, who oversees the process and communicates directly with the firm’s insurance broker and/or                       insurance carrier(s).

     The in-house counsel, who manages the internal audit, investigation, litigation, law enforcement activities, and controls           costs.

     The investigator and forensic accountant, who conduct the investigation under external counsel(privilege) umbrella,               working with in-house resources, such as internal audit.

Working with Law Enforcement

If there is any potential danger surrounding the circumstances of your loss, call the local police. In this context “police” refers to the appropriate law enforcement agency or the specificities of your loss. While some members of your firm may feel the police should investigate, it is not always in your best interest to call too soon.

Nonetheless, your insurance policy may contain a provision that dictates notifying law enforcement. Pay attention to whether it is simple notice or whether you must file a report and refer the matter. They are very different.

Remember: Once you refer your case, even though you may be the victim with certain rights, the investigators likely will make communication a one-way street. If the matter goes to a grand jury, you will be precluded from learning anything from law enforcement.

A crucial decision is when to call and, more importantly, whom to call. Mistakes in referring your investigation to the wrong agency or prosecutorial office can lead to significant frustration. Understand the complexity and reach of your loss. Consider that any investigation or search or assets may be outside the local jurisdiction. If all is in-state and you have a state police division with strong investigative acumen, they may be perfect. Some county sheriffs have excellent investigators. You need to know.

Often, the complexity and need to reach across state lines or outside the country will dictate that you seek federal assistance. The FBI, IRS, Secret Service,ICE, Marshal Service and the Postal Inspectors have different priorities, skill sets, thresholds and capacity. For example, the U.S. Attorneys’ Offices have different thresholds and priorities throughout the country. Know which agency best ts your loss.

Your forensic accounting and internal investigation will be important to law enforcement; it provides them with quantum of loss, witnesses, statements,evidence and a road map. A symbiotic rapport may develop between the investigators and your forensic team. A solid forensic investigation can also provide law enforcement with leads towards assets which may be vital towards alternative restitution.

Managing Civil Litigations

As a practical matter, investigative firms and risk advisors generally do not advocate law suits. However, there may come a time when those investigating the crime will need bank records and other financial information. Law enforcement will likely get them from search warrants and grand jury subpoenas. You will not be able to share in their good fortune.

The civil subpoena and civil discovery can be valuable tools used to establish the existence and amount of loss, including an examination of vendor business records, employee bank accounts, and shell company documents.

Typically, civil litigation follows the investigation in the form of a subrogation action by the carrier. If litigation is inevitable, getting the process started.

Sworn Proof of Loss

The proof of loss is a series of documents that will include a detailed narrative flow of what happened and who did what to whom. That is followed by a well-documented calculation of the loss. You will need to provide all source documents.

This is a standard insurance policy requirement. Note the time requirements or filing the proof of loss, as well as any possible suit against the insurance carrier. Also consider how much evidence is sufficient: Insurers will go to great lengths to validate and develop the facts.

When a loss occurs, insurance coverage attorney, David P. Bender, shareholder, Anderson Kill, Ventura, California, advises businesses to construct a team “consisting of forensic accountants with experience in these cases; an insurance coverage lawyer and other technical experts as necessary to prove proof of loss.

“Any insured that relies solely on the insurance company or even law enforcement to prove their loss will not get the full benefits due them under their insurance policy,” he warns.

Damages and Quantification of Proof

Keep in mind, proof of damages must be actual calculations and not estimates: Insurers have no incentive to pay “estimates.” You can use a variety of approaches to quantify damages, including historical trends or any statistical anomalies that you might be able to identify. In filing your claim, be prepared to defend any assumptions.

Conclusion

The hospitality industry finds itself constantly in the cross-hairs of employees and others who covet and criminally target the high volume of goods, foodstuff, liquor, valuables, and cash. The industry has incredible internal resources, such as security and audit, to fight fraud and theft. In spite of best practices, those who want to “take” and who have been in position to exploit flaws or openings or soft spots in the best controls will do so and you will sustain losses. Preparation is at least as important as prevention. Those responsible for risk management should recognize the potential of a loss due to employee malfeasance and external forces alike. There should be an exercise to quantify worst-case scenarios as is done typically for physical damage and business interruption losses. Then, spend the time to cultivate relationships within the organization and create a “go to” SWAT team for that moment when fraud is suspected or in fact substantiated. Be well read, provide proper notice, and recover your loss to the fullest extent.


 

Last modified on Monday, 02 June 2014 04:15

Christopher J. Giovino

Christopher J. Giovino is the Partner-in-Charge of Dempsey Partners' Forensic Analysis practice, which provides global investigative and forensic accounting services in the areas of occupational fraud and employee dishonesty loss quantification. A 28-year veteran of the U.S. Drug Enforcement Administration, where he rose to the position of Associate Special Agent in Charge of the New York Office and Chief of the Organized Crime Drug Enforcement Strike Force, Mr. Giovino brings unparalleled investigative capability to clients around the world. He helps bring to conclusion matters involving employee dishonesty, theft of trade secrets, computer fraud, third-party theft, and complex white-collar crime.

A magna cum laude graduate of St. Bonaventure University, Mr. Giovino also graduated from DEA's National Training Academy. He attended DEA, DOJ and OPM leadership and executive institutes in Washington and Denver, and completed the School of Business at Fuqua Duke University leadership training. Mr. Giovino also attended financial/asset money laundering (AML) training courses at Quantico and New York City. A frequent lecturer on fraud and security issues, he is based in Dempsey Partners' Wilton, CT office.

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