It’s deeply personal.
Discovering employee theft can be infuriating. After all, you hired, trained, and trusted the worker to help you grow your business, and that trust has been violated. This situation may be the most difficult issue that a business owner faces.
Regardless of how much time you invest to learn about a potential employee, you can’t predict whether or not a worker is going to steal from you. (Curious how much your employees really cost? Check out our employee cost calculator.)
While you can’t change the past, you can take steps to reduce the risk of employee theft moving forward. Use these tips to protect your firm’s assets from theft.
How theft occurs
Employee theft occurs when workers bypass management’s internal controls. Internal controls are rules put in place to prevent the theft of assets, and to ensure that the accounting process generates accurate financial statements.
Protecting tools and equipment
Assume, for example, that a construction firm provides tools and equipment to workers. When an employee needs a tool to complete a job, he or she must sign a form when the tool is removed from the warehouse. When the tool is returned, the worker signs in, using the same form.
Each month, the warehouse manager performs a physical count of tools and equipment, to ensure that every item in the accounting system can be located. If an item is not in the warehouse, and not signed out by a worker, the manager speaks with the last employee who signed out the item.
This internal control is in place to prevent the theft of tools and equipment, and a business should have controls over every type of asset that is subject to theft.
While it’s possible for an individual employee to steal assets, the more serious risk of loss occurs when staff members decide to work together.
Workers can steal assets by working together and bypassing internal controls. The act of working together to commit fraud is defined as collusion, and most controls are not designed to prevent collusion.
The warehouse manager, for example, could collude with the accountant. If the accountant removes several expensive pieces of equipment from the accounting system, the warehouse manager can remove the same tools from the warehouse listing. The two employees could sell the stolen tools, keep the money, and the theft may not be detected for some time.
Perhaps the most common form of employee theft is a fictitious payee. In this situation, a business pays a vendor that isn’t legitimate. This “fake vendor” has a company name, address, and bank account controlled by an employee who is committing fraud.
Joe manages Twin Rivers Tree Services, a company that provides tree trimming and tree removal services.
After a big storm in a nearby town, Joe sends a foreman and a crew to perform tree service work. There’s a lot of damage, and the crew is kept busy for three weeks. Shortly after the work ends in the town, the foreman quits, and Joe starts to notice that no customer payments are coming in.
The foreman was given a printed pad of invoices to fill out and hand to customers, so Joe is confident that customers were billed. He talks to the crew and then takes a crewmember back to the town to visit some customer job sites.
Joe knocks on some doors and the customers tell Joe that yes, the invoice has been paid. He asks a customer to show him the invoice. As it turns out, the name on the invoice is slightly different than his company name, and the address is also different.
The foreman created a company name and address that he controlled. Once he handed out all of the fictitious invoices, he quit the company.
In most cases, the dollars lost are never recovered. The individual who committed the fraud may be located, but the time and effort to recover the money through criminal penalties or a civil suit may take years.
How to prevent theft
If you’ve experienced employee theft, the best thing you can do is to prevent it from happening again. Worker collusion can’t be prevented in every case, but you can put controls in place to stop most types of theft and to uncover theft faster.
Segregation of duties
The segregation of duties concept is the most important internal control that you can use to prevent fraud.
To reduce the risk of theft, segregate duties between different employees. The most common thefts involve cash, so consider how these duties related to cash must be segregated:
- Custody of assets: The person who has physical custody of the checkbook should not have any other duties related to cash processing. Assume, for example, that the administrative assistant has the checkbook in his desk.
- Authority: Who has authority to sign a check? If you own a restaurant, for example, your manager may have the authority to sign checks for purchases of food received at the restaurant. That same manager should not have access to the company checkbook.
- Recordkeeping: This duty refers to posting accounting entries and reconciling the bank account. The role of the accountant must be segregated from the other duties, and accountants should never be authorized to sign checks.
For a very small business, it may not be possible to segregate these duties, and the owner may handle two or even all three of these tasks. A growing business, however, needs to separate these duties.
In Joe’s case, the foreman didn’t control the checkbook, but he did control the invoicing process. He was able to create his own invoices without being detected.
To prevent this type of theft, require that all invoices must be numbered, and ensure that invoices are sent to customers from your accounting department. Each month, your accountant should generate a report that documents each invoice in numbered order.
Create a procedures manual
It’s important to have written procedures for every possible task you perform in the business, and this is particularly important for routine tasks that are performed every week or month.
For example, assume that your firm has a specific procedure for generating invoices. The accounting department gets information from the sales department and the shipping area and uses that documentation to generate an invoice. You need to document what records are required to generate an invoice, and who performs each task.
Maintaining an accurate procedures manual helps clarify your business operations, and eliminates any confusion about who performs a certain task. A procedures manual is also a great training tool for new employees.
If everyone follows the steps in the manual, you’ll know exactly how a task is performed and who does the work. If someone tries to commit fraud, however, they’ll have to deviate from your written procedures. Any variation from the normal procedure is a red flag and may help to detect fraud faster.
Timely bank reconciliations
Reconciling your bank account quickly after month end is another critical tool for preventing theft.
Ideally, you should reconcile within 4-5 days of getting your bank statement. Since statements are now available online, you may be able to download your statement on the first day of the next month.
A great deal of fraud can occur through the cash account, and the cash account may have lots of transactions involving different people in your company.
The accountant performing the reconciliation should look carefully at the vendors who were paid. Did each vendor provide a legitimate product or service, and are there source documents (purchase orders, shipping receipts) for the transaction? You should insist that supporting documentation is attached to each check request.
Don’t put off this important work. Reconciling your bank account does not help you find new business, but it can help you detect fraud.
(Want to see how your accounting procedures measure up? Check out our accounting guide for small businesses.)
Performing inventory counts
If you’re a retailer, inventory may be your biggest asset, and you need to take steps to reduce the risk of inventory theft.
The bank reconciliation is the best way to confirm your cash balance. In a similar way, an inventory count confirms that your accounting records agree to the physical inventory items you have on hand.
You can’t detect an inventory theft unless you confirm the inventory balance.
Here are some tips for performing an inventory count:
- Frequency of your counts: Counting inventory can be a huge investment of time and money. However, confirming such a large balance is important, and you should perform a physical inventory count at least monthly. If any inventory has been stolen, you’ll catch the theft during the count.
- Performing your count: The accounting department prints a list of each item in inventory. The list includes a description of the items, the number of items and the cost. Each inventory item is given a tag. During the count, your staff (and possibly your outside CPA firm’s staff) agrees the detail from the inventory reports to the information on each tag.
- Security: On the day of your count, no inventory should be moved in or out of your warehouse (or retail location). If you’re counting inventory on September 30th, for example, you must seal off access to the warehouse on the night of the 29th. Once your warehouse is closed and inventory activity stops, you generate your accounting reports.
Based on your count, you may increase or decrease your inventory account balance. The goal is for your accounting records to match the physical inventory on hand.
Growth increases theft risk
Growing your business is exciting, and adding new customers validates your business plan. Your product or service must be helping customers solve a problem, which is satisfying.
Growth, however, makes everything more complicated. You’ll have more accounting transactions, more sales, and more products to ship. A growing business may also hire more employees.
Obviously, you can manage growth by hiring more people, or by outsourcing tasks to a third party vendor. Before you hand off work to a staff member, however, you need to have internal controls in place. If not, your business will have a higher risk of employee theft.
Move forward with confidence
Growing your business can be exciting, but you’ll also face some risks along the way. Take the time to set up procedures to prevent employee theft. You can grow your business and have some peace of mind.
This article originally appeared on the Quickbooks Resource Center and was syndicated by MediaFeed.org.
Featured Image Credit: SeventyFour.