Are you at risk?

* Kevin Phillips

Most accountants and auditors know the “fraud triangle”, the combination of incentive, opportunity and rationalisation that creates a risk that an employee will attempt to defraud their company.

But the fraud triangle alone isn’t enough. In the wake of Enron and other high-profile corporate disasters of the past decade, there has been a new focus on how factors at the organisational level, not just the individual level, can increase the risk of fraud. Chief among these is that nebulous thing called “organisational culture”.

Putting the pressure on

One of the enduring mysteries of Enron is how a company that boasted a highly-regarded set of management controls could implode so spectacularly. The consensus is now that under the leadership of charismatic CEO Jeff Skilling those controls were systematically undermined and subverted. Employees were under immense pressure to deliver more and more spectacular results or face losing their jobs, bad news was not allowed, information was strictly controlled and feedback was restricted.

In a culture like this, honest people can quickly lose their moral bearings and may commit fraud without even knowing it.

In a culture like this, honest people can quickly lose their moral bearings and may commit fraud without even knowing it. If your entire organisation is united in praising you for delivering profits no matter what it takes, making subtle adjustments to the numbers – booking that sale a bit early or offering an “incentive” for the deal – can soon come to seem trifling and routine.

The lesson of all history, from Stalin’s Russia to Enron and beyond, is that if the boss makes massaging the numbers a condition of staying alive or keeping your job, you will massage the numbers.

Unrealistic targets set you up for fraud

So an organisational culture that sets unrealistic targets, and punishes people for failing to meet those targets, is already setting itself up for fraud. But the crucial ingredient, as at Enron, is that information flows must be compromised: Something must happen which makes the official story diverge dangerously from reality.

Maybe those at the top are so removed from the original source of information they have no way of checking it; maybe the information is so complex it defies proper understanding; or maybe there’s just so much of it there is no way to separate the signal from the noise.

Ensure transparency

The antidote to all of this is transparency. The larger the number of people who can see and understand what’s going on, the lower the chance that any one of them will step out of line. When less is hidden, you get better information available for decision making.

To achieve this transparency, relevant financial information needs to be freely shared not just among the few in the organisation who are trained in accounting, but among everyone who is responsible for a budget. That means making it easy to understand and easy to access. Accurate reports, available on time and in a format that makes sense to most people, are crucial.

Even ten years ago this was hard to achieve, but with online access to central data stores there is no longer any excuse. It’s now easy to give everyone an intelligible view of the numbers that matter to them, up to date and in a way they can understand. If your organisation isn’t already doing this, how much longer can you afford to wait?

* Kevin Phillips is an entrepreneur who has built a successful business, and so has a solid understanding of the challenges and questions business owners face. He has degrees in Commerce and Accounting, and started idu Software with partners James Smith and Wayne Claasen in 1998. Kevin is fast becoming a thought leader in his field and makes regular comment in the media about current affairs affecting business as well as accounting, finance, budgeting and software.