Fraud Investigations: Final Signs to Look For

Fraud Investigations: Final Signs to Look For


Wrapping up our discussion of fraud investigations (which were prompted by this article in Fraud Magazine), here are some additional signs of deception to watch for when investigating potential fraud.

Lack of Detail
Truthful statements usually contain specific details, some of which may not even be relevant to the question asked. This is because truthful subjects are recalling events from long-term memory, and our memories store dozens of facts about each experience. At least some of these details will show up in a truthful subject’s statement.

Those who fabricate a story tend to keep their statements simple and brief. Few liars are able to invent detailed descriptions of fictitious events. Furthermore, a deceptive person wants to minimize the risk that an investigator will discover evidence contradicting any aspect of his or her statement. That means the fewer facts that might be proved false, the better.

Narrative balance
A narrative consists of three parts: prologue (history leading up to the critical event), critical event (the main story) and aftermath (what happened after the critical event). In a complete and truthful narrative, the balance will be approximately 20 percent to 25 percent prologue, 40 percent to 60 percent critical event and 25 percent to 35 percent aftermath. If one part of the narrative is significantly shorter than expected, important information may have been omitted. If one part of the narrative is significantly longer than expected, it may be padded with false information.

For example, consider this account from a hit and run insurance claim investigation:
“I was driving east on Elm Street at about 4:00 on Tuesday. I was on my way home from the A&P supermarket. The traffic light at the intersection of Elm and Patterson was red, so I came to a complete stop. After the light turned green, I moved slowly into the intersection. All of a sudden, a car ran into me. The other driver didn’t stop, so I drove home and called my insurance agent.”

The subject’s statement contains four sentences of prologue, only one sentence describing the critical event, and only one sentence of aftermath. The prologue contains a credible amount of detail: the day and time of the accident, the driver’s destination, and the location of the accident. But the description of the critical event (i.e., the alleged accident) and the aftermath are suspiciously brief. A claims adjuster receiving such a statement would be wise to investigate whether the claimant made up a story to collect for damages caused by the driver’s own negligence.

Mean Length of Utterance
The average number of words per sentence is called the “mean length of utterance” (MLU). The MLU equals the total number of words in a statement divided by the number of sentences:
According to research by the Association of Certified Fraud Examiners, most people tend to speak in sentences of between 10 and 15 words. When people feel anxious about an issue, they tend to use significantly more or less words per sentence than the norm. Investigators should pay particular attention to sentences whose length differs significantly from the subject’s MLU.

More Tell-Tale Signs of Deception

More Tell-Tale Signs of Deception


Continuing from our last post which focused on this article in Fraud Magazine, here are some additional signs of deception to watch for when investigating potential fraud.

A deceptive subject may try to avoid an interviewer’s questions by qualifying statements with expressions of uncertainty, weak modifiers, and vague expressions. Investigators should watch for clues such as: “I think,” “I guess,” “sort of,” “maybe,” “might,” “perhaps,” “approximately,” “could have been,” etc. Vague statements and expressions of uncertainty provide some leeway to modify assertions at a later date without directly contradicting the original statement.

Deceptive subjects try to give interviewers as little useful information as possible, while also trying hard to convince interviewers that what they say is true. Deceptive subjects often use mild oaths to make their statements sound more convincing. Be on the lookout for common expressions such as: “I swear,” “on my honor,” “as God is my witness,” “cross my heart.” Truthful witnesses are more confident that the facts will back up their account and thus may feel less need to bolster their statements with oaths.

Statements made by guilty parties often include mild or vague words rather than their harsher, more explicit synonyms. Euphemisms tend to portray the subject’s behavior in a more favorable light and minimize any harm the subject’s actions might have caused. Investigators should look for euphemistic terms such as: “missing” instead of “stolen,” “borrowed” instead of “took,” “bumped” instead of “hit,” and “warned” instead of “threatened.”

Alluding to rather than admitting actions
People sometimes allude to actions without saying they actually performed them. The author gives an example of the following statement from an employee who was questioned about the loss of some valuable data: “I try to back up my computer and put away my papers every night before going home. Last Tuesday, I decided to copy my files onto the network drive and started putting my papers in my desk drawer. I also needed to lock the customer list in the office safe.” Did the employee back up her computer? Did she copy her files onto the network drive? Did she put her papers in the desk drawer? Did she lock the customer list in the office safe? The employee alluded to all these actions without saying definitively that she completed any of them. An attentive investigator should not assume that subjects perform every action they allude to.

Protect Yourself from Fraud: Watch for Signs of Deception

Protect Yourself from Fraud: Watch for Signs of Deception


Following up on our previous post from guest blogger Eric Williams about the devastating impact of financial fraud on small businesses, Eric sent me a link to this article in Fraud Magazine. According to the author, Paul M. Clikeman, who is a certified fraud examiner and a professor of accounting at the University of Richmond, fraud suspects and witnesses often reveal more than they intend through their choice of words. The article goes into some detail about ways to detect possible deception in written and oral statements. Here are three signs of deception:

Lack of self-reference
Truthful people often use the pronoun “I” when describing their own actions. For example, a truthful witness might say: “I arrived home at about 6:40 p.m. After I walked into the living room, I noticed that my flat screen TV was missing and I saw a lot of my business papers scattered on the floor.”

Deceptive people often use language to minimize reference to themselves. One way to reduce self-references is to describe events in the passive voice. For example:
• “The back door was left unlocked” rather than “I left the back door unlocked.”
• “The payment was authorized” rather than “I authorized the payment.”

Another way to reduce self-reference is to substitute the pronoun “you” for “I.” Consider the following response to the investigator’s question:
Question: “Can you tell me about reconciling the bank statement?”

Answer: “You know, you try to identify all the outstanding checks and deposits in transit, but sometimes when you’re really busy, you just post the differences to the suspense account.”

Verb tense
Truthful people usually describe historical events in the past tense. Deceptive people sometimes refer to past events as if the events were occurring in the present, which suggests that the speaker is rehearsing the events in his or her mind rather than recalling from memory. Pay close attention to the narrative if the speaker shifts to inappropriate present tense usage.

For example, consider this response from an employee being questioned about an alleged theft of a daily cash deposit:

“After closing the store, I put the cash pouch in my car and drove to the bank. It was raining hard. I drove around back to the night depository slot. When I stopped the car and rolled down my window, a guy jumps out of the bushes and yells at me. I can see he has a gun. He grabs the cash pouch and runs away. After he was gone, I called the police and reported the theft.”

The first two sentences describe an employee’s drive to the bank in the past tense. But the next three sentences with italics describe the alleged theft in the present tense. An alert investigator might suspect that the employee stole the day’s cash receipts, then drove to the bank and called the police from the bank parking lot to report a phony theft.

Answering questions with questions
Even liars prefer not to lie. Outright lies carry the risk of detection. Before answering a question with a lie, a deceptive person will usually try to avoid answering the question at all. One common method of dodging questions is to respond with a question of one’s own. Investigators should be alert to responses such as:
• “Why would I steal from my own brother?”
• “Do I seem like the kind of person who would do something like that?”
• “Don’t you think somebody would have to be pretty stupid to remove cash from their own register drawer?”

Financial Fraud: How it Can Cripple Small Businesses

Financial Fraud: How it Can Cripple Small Businesses


Today’s post comes from my friend and guest blogger Eric Williams, a business broker with Codiligent, LLC. Eric wrote the following:

“I’d like to share a cautionary tale about financial fraud – something that is more prevalent than many people believe. I have a friend who owned a second-generation, multi-state-location manufacturing company and after decades of successful operation he needed to replace the business’ retiring controller. He was very excited about the new controller – someone with impeccable credentials and experience. One of the first things the new controller suggested doing was to replace their old accounting and operations software, with a fully integrated Enterprise Resource Planning software program. The implementation was complicated, took months to get people fully trained, and my friend never became comfortable with the data he was getting from the financial reports.

After about another year, the owner still wasn’t getting information from his controller that he could understand, particularly given that their numbers seemed different than he expected based on his experience with the company’s production level. The owner assumed that he simply was not sophisticated enough to understand the controller’s financial explanations, so he brought in an outside consultant to help him understand things better. To his shock and dismay, the outcome of hiring that consultant was that fraud was discovered. After a lengthy secret review they determined the source of the fraud was the controller, who was promptly fired and prosecuted.

Unfortunately, terminating the controller didn’t immediately solve the problem. Untangling and correcting the problematic financials and operating system required significant time, effort, energy, and focus. When combined with the time necessary to implement new systems, hire a new controller, and prosecute the former controller it required about one-and-a-half years during which time the business would not have been very marketable. After they corrected the problem and had another two years of problem-free operations they sold the business.

The problem with fraud is that victims assume it isn’t happening to them, or that their trustworthy employee would never do such a thing.”

Four More Key Metrics to Measure and Manage

Four More Key Metrics to Measure and Manage


This post continues our discussion of key metrics that business owners should focus on to increase profitability. The information in this post comes from a newsletter published by Bill Billingsley, a business broker and owner of The CBB Group, Inc.

Below the Line Expenses
In the accounting world, expenses that occur as a result of a company’s major or central operations are classified as operating items. Items such as revenues and costs of goods sold fall under this category and are considered as “above the line” expenses. Expenses from peripheral or incidental transactions (such as gains and losses from asset sales, lawsuits, changes in market values, etc.) are classified as nonoperating items and are reported as “below the line” expenses below the EBIT line (termed simply “below the line”).

For business owners, measuring your below the line expenses as a percentage of revenue serves two purposes. First, it allows you to determine if your expenses are in line with current revenue levels and second it can be used as a supplemental measure of efficiency.

Customer Concentration

Business owners should measure the percentage of revenue that each customer represents. If any one customer occupies more than 10% of your company’s revenue, this can pose a risk to continued profitability. Buyers are particularly sensitive to this issue unless they are industry buyers who are knowledgeable about the customer base.

Customer Profitability

Understanding how profitable your customers are can take time and effort to determine, but doing so can lead to immediate increased profitability. An added benefit is the ability to build an ideal customer profile that allows you to better focus your sales and marketing efforts.

Product Profitability

Like customer profitability, understanding the profitability of your products and services is essential to driving long term success for your company. Firing a customer or discontinuing an underperforming product or service can be difficult but may be far more profitable in the long term.

The metrics discussed in the last two posts may not all apply to your business, but measuring the ones that do matter can be the key to increasing short term profitability and long term success.

If You Don’t Measure It, You Can’t Manage It: Key Metrics for Every Business Owner

If You Don’t Measure It, You Can’t Manage It: Key Metrics for Every Business Owner


Management consultant Peter Drucker famously said “If you can’t measure it, you can’t manage it.” Bill Billingsley is a business broker and owner of The CBB Group, Inc. After years of working with small business owners, Bill has found that owners often get caught up working in their business rather than on it. As a result, he says, most owners don’t take the time to look at the metrics that drive their business and how they affect the value of the business.

Bill has identified seven key metrics that are common to most businesses. These are the metrics that every business owner should be managing because they are also what business buyers tend to focus on. We’ll discuss each of those metrics and explain why they matter in the next two posts.

Here are the top three metrics for business owners to measure and manage.

This is the metric that most business owners looks at each month. Buyers also look at profitability as a percentage of revenue. This allows a buyer or an owner to evaluate and compare the company against its competitors in the same industry niche regardless of size.

Gross Margin
Knowing what your gross margin is on a monthly basis and the major components that make up that margin allows business owners to remain focused on managing the costs of goods sold (or services provided). Having a gross margin that meets or exceeds industry averages is one of the top drivers for increasing value that a buyer will pay for.

Tracking revenue month over month versus the same month in prior years is essential to evaluating your current marketing and advertising strategies as well as sales force performance. Buyers will look for positive trends, seasonality and size when valuing a company.