Fall 2006 issue of Horizons

Six Myths About Fraud

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Myth 5 “Between our external audits and/or Sarbanes-Oxley (SOX) compliance, fraud is adequately addressed in our organization.” Fact: Neither financial statement audits nor SOX compli- ance are a substitute for active risk assessment and monitoring the ongoing effectiveness of fraud deter- rence programs. External audits are the most commonly reported anti-fraud measure, ahead of internal audits and anonymous reporting mechanisms. However, external audits are cited as the detection method in only 12 percent of reported fraud cases. Internal audits have a greater impact on mitigating fraud loss- es than external audits alone. Internal audits are the third highest reported method for detecting fraud and are reported as the initial fraud detection mechanism in approximately 20 percent of reported cases. Companies with anonymous reporting mechanisms show half the losses due to fraud compared to those that do not. It is troubling to note that even though tips are reported to be the most effective method of detecting fraud, less than one- half of organizations have hotlines. SOX compliance includes elements of an anti-fraud program but primarily focuses on the risk assessment process, estab- lishing a code of ethics and whistle blower programs. Implementing these controls and anti-fraud programs help in establishing the proper “tone at the top,” but it remains unclear what impact SOX has on detecting and preventing corporate fraud of the sort that caused the collapse of Enron and WorldCom.

Myth 6: “Our aggressive stance of prosecuting fraud is our best protection.”

Fact: A zero-tolerance policy is important, but companies must recognize it does not always provide absolute fraud protection. Employees who feel pressure to commit fraud likely will do so if they can rationalize their actions and if they perceive they have the opportunity to get away with it. One employee may be dissuaded from committing fraud if he/she has witnessed the consequences another perpetrator faced. Another employee, however, may just believe that per- son was not resourceful or clever enough not to get caught - and may have even learned a few ways to conceal his own fraud along the way.

15 • summer 2006 issue