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The Construction Industry Advisor

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Don't let them walk all over you

6 steps toward preventing employee fraud

The average U.S. business loses 5% of its annual revenues to occupational fraud, according to the Association of Certified Fraud Examiners (ACFE). Construction companies are no exception. But, for contractors with close profit margins, losing 5% of profits to employee fraud could mean the difference between red or black ink on the financial statements.

Although there's no sure-fire protection against employee theft and fraud, here are six steps you can take that will make wrongdoing harder to carry out and deter would-be perpetrators.

1. Set ground rules

Add a chapter to your employee manual describing your company's policies on employee theft and fraud. Be specific, too. If you consider using company office or construction supplies for personal use as theft, spell it out.

Make sure your policy also explains that all violators will be terminated, and, if the crime deserves it, prosecuted. In addition, inform employees that they need to be aware of what is going on around them and to alert a supervisor when they believe foul play is going on.

2. Implement an anonymous reporting system

Telling employees to report any wrongdoing is one thing. But you need to protect those who do. Provide a confidential mechanism, such as a toll-free "hot-line," through which a worker can communicate concerns or "blow the whistle" on perpetrators.

Taking this step will increase the likelihood that fraud will be exposed before it seriously harms your company.

3. Hire wisely

The best way to nip fraud and theft in the bud is to weed out the crooks before they start working for you. So, make sure you conduct thorough background checks on prospective candidates -- even ones who have come highly recommended from a trusted source. Although you may need to hire an outside firm to search for previous criminal convictions, this extra up-front expense can save you money, hassles and your reputation down the road.

Moreover, be wary of job applications and resumés that show frequent job changes, and make sure any gaps in employment history are reasonable or fully explained.

4. Segregate job duties

Smaller contractors may rely on one or two employees to handle several critical duties. For example, one employee may be responsible for both accounts receivable and accounts payable. This type of situation invites fraud.

To make it harder for workers to dip into the till, divide accounting and finance-related responsibilities among several employees. For example, have someone independent of the purchasing or vendor payment functions review all new supplier entries.

5. Audit early and often

Ask your CPA to perform regular financial audits. In addition, random, unannounced audits can help identify potentially dangerous gaps in your controls and procedures. Such surprise audits will also put your employees on notice that fraud prevention is a high priority.

Your CPA is also a good resource for uncovering fraud and embezzlement. He or she can assist in creating an effective internal control environment, and help monitor bookkeeping records, invoices, bank statements, payments, journal entries, financial reports and other documents with an eye toward identifying red flags.

6. Foster a healthy corporate culture

Be a good example to your employees and avoid falling into traps such as failing to report income, padding expense accounts or taking home office supplies for your kids. If workers see such behavior at top levels, they may develop a sense of entitlement that could lead them down the slippery slope of occupational fraud.

In contrast, an honest, positive work environment encourages employees to be ethical and act in the best interests of the company.

Sound advice

Although it's impossible to completely "fraud-proof" a construction business, setting out certain ground rules in an employee manual, implementing an anonymous whistle blower hotline, hiring wisely, segregating job duties, having regular audits and fostering a healthy corporate culture will go a long way toward protecting your company's assets.

Sidebar: The usual suspects: Typical forms of construction fraud

Construction companies often find themselves victims of the following types of fraud:

Cash. Stealing cash on hand, diverting cash receipts and altering bank deposits.

Inventory/fixed assets. Stealing company assets, diverting and selling shipments, and using the company's job materials, tools or other assets for personal use.

Accounts receivable. Forging checks, granting bogus credits and taking fraudulent write-offs for bad debts.

Accounts payable. Accepting kickbacks, paying bribes, paying personal bills with company funds, and creating and billing fictitious suppliers.

Payroll. Paying nonexistent employees, padding time records, falsifying salaries and committing withholding fraud.