To Receive CPE Credit

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1 Fraud Prevention Strategies for Financial Institutions: A Forensic Accountant s Top 20 List Presenter Photo Angela Morelock Partner amorelock@bkd.com August 15, 2013 To Receive CPE Credit Participate in entire webinar Answer polls when they are provided If you are viewing this webinar in a group o Complete group attendance form with Title & date of live webinar Your company name Your printed name, signature & address o All group attendance sheets must be submitted to training@bkd.com within 24 hours of live webinar o Answer polls when they are provided If all eligibility requirements are met, each participant will be ed their CPE certificates within 15 business days of live webinar 2 1

2 Agenda Explore various strategies & controls that can help mitigate risk of fraud & embezzlement Discuss how certain strategically placed controls can help mitigate fraud risk Provide examples of what happens when these controls are missing Provide information that links certain controls with fraud losses 3 The Impact of Anti-Fraud Controls Can t create completely fraud-proof Can take preventative anti-fraud actions Decrease duration of schemes that occur Decrease dollar amount of losses Insurance as a backstop 4 2

3 Association of Certified Fraud Examiners, Inc Association of Certified Fraud Examiners, Inc. 3

4 1. Know Relationships Between Insiders & Loan Customers Strict policy regarding conflicts of interest o Disclosure o Non-involvement o Annual written certification Keen awareness & monitoring where conflicts are known to exist Be aware of relationships & ask questions where you are unsure Push back on things that seem unusual 7 2. Make 2 nd Sign-Off a REAL Control Issue is unique to the banking industry Second person often signs off based on trust & doesn t actually review the transaction Train employees to understand before they sign off & make this control more effective 8 4

5 3. No Cash Transactions Outside Presence of Customer Balance between security & customer service Processing of transactions as a favor to customer Backbone of many fraud schemes Stopping this practice can prevent many schemes we have seen over the past five years o Lapping in customer accounts o Fictitious loans o Theft from customer accounts o Unauthorized draws on lines of credit 9 Fictitious Loans Bond Claim Tracking spreadsheet Affidavit 10 5

6 CD Lapping Schemes Steal customer money at CD opening or after opening When money is needed, replace from another CD Requires aid of tellers Can be focused on most unwary, but not always Good Controls Around ACH & Wires Follow the controls religiously Don t make exceptions Train employees to protect bank credentials If you aren t sure your controls are good enough in this area, have an assessment done Corporate account takeover has become a big problem Many mistakes being made in this area 12 6

7 13 See the full alert at 5. Make Sure Your Correspondent Account Really Balances Several internal embezzlements present themselves as reconciling items on the correspondent account Theft directly from the correspondent account has become more common 14 7

8 Theft from Correspondent Account Bank exam getting ready to wrap up Examiners discover missing data Discrepancies seemed innocent at first A little digging reveals big problems Over $5.0 million difference b/t deposit subsidiary records & general ledger control accounts 15 What Was Going On? Wires Transfers to personal accounts at other banks Transfers not shown on wire log Phony backup to make wires look like routine investment transactions Checking Account Nominee checking account used to withdraw $$ 16 8

9 The Damage Scheme Amount Wire transfers to personal accounts $2,549,000 Wires to phony company 1,520,000 Withdrawals through nominee account 891,000 Documented loss $4,960,000* *Losses believed to exceed this amount. This is what could be documented. 17 How Did it Happen? Lack of controls over wires early on e.g. complete control over FedLine system Controls got better but so did the scheme Fraud the old fashioned way: Began using scissors, tape & copy machine to create phony s, confirmations & other records Provided phony docs to employees & auditors Scheme lasted for over 15 years 18 9

10 6. Surprise Cash Counts Do them regularly Two tricks o o Must be a surprise Must count everything Officer, Director & Employee Account Review Don t let this fall to the back burner Doesn t have to be 100% coverage Must include officers & directors Make sure someone qualified is performing the review What to look for o Unusual levels of cash transactions o Non-payroll deposits o Bank journal entry credits o Deposit of loan proceeds or cashiers checks 20 10

11 8. Fraud Awareness Training Targeted training for employees & managers Can t solve fraud from the accounting or internal audit department Organization-wide awareness is critical Lower losses & shorter duration can be correlated to awareness training for employees 21 At a minimum, staff members should be educated regarding what actions constitute fraud, how fraud harms everyone in the organization & how to report questionable activity. --Association of Certified Fraud Examiners 9. Confidential Hotline Single most cost effective anti-fraud action Tips are number one way that frauds are detected Most tips come from employees Both a deterrent & a detection method Lower losses are observed where a hotline is present Puts employees on notice that you want to know Must train bank employees not to process unusual transactions & what to do when it happens 22 Providing individuals a means to report suspicious activity is a critical part of an anti-fraud program. --Association of Certified Fraud Examiners 11

12 Detection of Fraud Schemes Initial Detection of Occupational Frauds Association of Certified Fraud Examiners, Inc. Detection of Fraud Schemes Source of Tips Association of Certified Fraud Examiners, Inc. 12

13 10. Solid Budget-to-Actual Process Reliable budget Examine variances monthly Understand what is REALLY causing variances Identify & follow up on any unusual trends Log Customer Complaints Complaints about payments, timeliness of posting, statements, etc. Often complaints are directed to perpetrator o Allows scheme to continue Patterns in complaints are seldom recognized until it s too late A lot can be learned by knowing about complaints 26 13

14 12. Good HR Practices Background checks Credit checks Performance evaluation processes Exit interviews Mandatory Vacations Someone must fill in for employee on vacation & perform their duties Job rotation can also be used Many problems are identified during perpetrator vacations 28 14

15 14. Data Mining & Continuous Auditing Especially related to loan master & maintenance files Pattern recognition Identify patterns indicative of fraud schemes Find things you ll never find by looking at documents o o o o Fictitious loans Rolling loans Undisclosed conflicts of interest Manipulation of loan maintenance files Segregation of Duties Custody vs. Authorization vs. Recordkeeping Objective is more than one pair of eyes Oversight & monitoring A few to focus on (there are many more) o EFT origination, processing, confirmation & recordkeeping o Lending relationship management, underwriting, processing, disbursement & recordkeeping o Independent reconciliations o Dual control over cash & collateral 30 15

16 16. Know When to Ask for an Audit Internal financial statements carry higher risk of manipulation Working capital lending When do you require an audited financial statement? Hard assets as collateral is different Compilation vs. Review vs. Audit Go Get Your Collateral Large losses where customer absconds with collateral Sometimes shouldn t just take the hit Understand where your collateral went & go looking for it if you don t 32 16

17 Bankruptcy/Loan Fraud Investigation Hired by large national bank Publicly traded manufacturer of printing presses Bank loans total approx. $5 mil. Value of assets approx. $2.5 mil. 33 Bankruptcy/Loan Fraud Investigation Told June 2000 bank won t renew LOC Volatile earnings (losing money) Negative retained earnings of $14.9 million Declining industry On COD with most vendors Officers poor reputation in community Change in auditors due to disagreement over going concern modification from Andersen to local firm 34 17

18 Borrower Monthly Financial Data $4,500,000 $4,000,000 $3,500,000 $3,000,000 Sales Cost of Sales Net Income $2,500,000 $2,000,000 $1,500,000 $1,000,000 $500,000 $0 ($500,000) 35 Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec Borrower Monthly Financial Data $4,500,000 $4,000,000 $3,500,000 $3,000,000 Sales Cost of Sales Net Income $2,500,000 $2,000,000 $1,500,000 $1,000,000 $500,000 $0 ($500,000) 36 Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec 18

19 18. Don t Forget About These Accounts payable o Fake vendors o Kickbacks o Fraudulent disbursements Expense reimbursement & corporate credit cards o o o Policies business purpose not good enough Get the support for transactions Solid review process Prosecute If you are a victim, please prosecute Huge deterrent impact Criminal record for perpetrator Lack of enforcement undermines all your anti-fraud efforts 38 19

20 20. Create the Right Culture Tone at the top Positive workplace environment Culture of honesty & high ethics Emphasis on doing the right thing Management must walk the talk Code of ethics & fraud policy o Annual acknowledgement & disclosure

21 41 Ethical Culture Excerpt from Enron s Business Ethics Policy o Employees of Enron Corp., its subsidiaries, & its affiliated companies (collectively the Company ) are charged with conducting their business affairs in accordance with the highest ethical standards. An employee shall not conduct himself or herself in a manner which directly or indirectly would be detrimental to the best interest of the Company or in a manner which would bring to the employee financial gain separately derived as direct consequence of his or her employment with the Company 42 21

22 Angela Morelock Partner Continuing Professional Education (CPE) Credits BKD, LLP is registered with the National Association of State Boards of Accountancy (NASBA) as a sponsor of continuing professional education on the National Registry of CPE Sponsors. State boards of accountancy have final authority on the acceptance of individual courses for CPE credit. Complaints regarding registered sponsors may be submitted to the National Registry of CPE Sponsors through its website: The information in BKD webinars is presented by BKD professionals, but applying specific information to your situation requires careful consideration of facts & circumstances. Consult your BKD advisor before acting on any matters covered in these webinars

23 CPE Credit Up to 1 CPE credit will be awarded upon verification of participant attendance; however, credits may vary depending on state guidelines For questions, concerns or comments regarding CPE credit, please the BKD Learning & Development Department at training@bkd.com 45 23