Gate open to fraud in industrial markets

KPMG New Zealand 28 June 2005

Competitive pressures leaving gate open to fraud in industrial markets

Large manufacturing sector companies are increasingly exposed to the risk of fraud according to KPMG Forensic director, Mark Leishman

“The highly competitive nature of doing business in industrial markets means that many companies are trying to reduce staffing levels while at the same time maintaining or increasing outputs. Reduced staffing mean that the organisation can no longer ensure adequate internal controls are in place to manage the risk of fraud.

“In addition, an increasing trend towards linking remuneration to financial performance in this tough environment is driving financial statement fraud at the divisional level,” said Mr Leishman.

In one case of financial statement fraud within industrial markets, an executive director who had been in the position for only a short time, manipulated the company’s financial statements in response to ‘pressure from shareholders to achieve results’. The fraud involved creation of false revenue valued at more than $10 million.

“Financial pressure is a particularly strong motivator for fraud in industrial markets. It was the second highest motivation associated with fraud in the sector nominated as the primary motivation in 23 percent of incidents reported. This compares to Australian business in general where financial pressure was cited as the main motivation in only three percent of cases.

“With the increase in performance-based remuneration, we believe there will be a commensurate increase in related fraud,” said Mr Leishman.

Companies in industrial markets are prone to false invoicing by external parties as well as the organisation’s own staff. Invoices received by these organisations are sometimes paid without being adequately verified because of the cost pressures and the pace of business within the sector. Sometimes these invoices are totally fictitious or the pricing may have been loaded by a genuine supplier.

“One large fraud we encountered in the industry involved a case of false invoicing by two male management employees in their late thirties who colluded to steal $800,000 from their employer.

“These types of fraud can be relatively easy to perpetrate in large organisations that are effectively operating on minimal staffing. In highly competitive industries, one person is often responsible for multiple tasks and there is no-one to check their work,” said Mr Leishman.

The most common type of fraud in industrial markets, according to the 2004 KPMG Fraud Survey, was theft of inventory and plant by employees. On average, fraud in the sector is uncovered by internal processes 15 months after commencement but only after warning signs, which were ignored for a period of time, are finally recognised and acted upon.

Some of the warning signs that industrial markets respondents indicated were not acted upon include:

- Taking telephone calls while on leave;
- Failing to take annual leave;
- Implausible reasons given for stocktake variances; and
- High wastage rates in production.

ENDS

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