March/April 1997
The biggest financial threat to your business may not be plummeting markets or environmental compliance, but employees slowly stealing from the company. This advice will help you address this insidious problem.
By Eileen Zagone
Eileen Zagone is an associate editor for Scrap.
It’s an unseen threat that can go undetected for years. It can be perpetrated by an employee or employees from the lowest position to the highest. It can financially hamper, even ruin, your company from the inside out.
We’re talking, of course, about embezzlement, one of the most insidious and destructive threats to businesses.
Statistics bear out that embezzlement is a serious—and costly—problem. According to the U.S. Department of Commerce, internal theft costs U.S. companies $5 billion to $20 billion annually. And a 1995 study conducted by the Association of Certified Fraud Examiners (Houston) estimated that the average loss to businesses with fewer than 100 employees was $120,000 per major incident.
If you’re thinking it can’t happen to your business, think again. No matter how small or large your business, it is not immune to the threat of embezzlement.
The scrap industry, in fact, is particularly susceptible to embezzlement schemes due in part to the large number of daily cash transactions and the we-treat-our-employees-like-family intimacy of most scrap recycling facilities.
Even so, that doesn’t mean you have to lie down and become a victim. Fortunately, there are a number of steps you can take to prevent embezzlement from happening in the first place—or, for an unlucky few, stop it from occurring again.
The Many Shades of Deception
The verb “to embezzle” means to fraudulently appropriate property entrusted to one’s care—usually money—for personal use.
In a typical scrap processing business, there’s a continual flow of money and material through many different hands, so the opportunity—and the temptation—to “fraudulently appropriate property” can present itself at several points. Embezzlement schemes in the scrap industry, for instance, can range from one employee occasionally dipping into the cash drawer to a well-oiled group of employees working in collusion with outside parties, including customers.
Stealing cash is a relatively “clean” crime in that the theft can be difficult to trace and may not require any falsification of paperwork. The money, depending on the amount and circumstances, could simply be “lost.” Also, such schemes can be executed at random whenever an employee sees an opportunity, making such losses almost undetectable.
More intricate scams involve the intentional alteration of accounting records—the well-known “cooking-the-books” type of embezzlement—and all manner of checking account fraud, including the forging of checks, writing checks to friends or dummy organizations, and shifting funds between accounts to conceal pilfering, not to mention elaborate payroll schemes. Within the scrap industry, moreover, there’s the added potential for loss emanating from scale personnel who may be writing false purchase tickets and pocketing the cash, or who are working in cahoots with a customer with whom they share the monetary spoils.
Although most embezzlement involves stolen money, you can’t overlook the potential for the theft of physical property. In this case, anything of value can be considered up for grabs, including vehicle parts, small equipment, and, of course, scrap inventory, particularly high-value material.
As for recognizing a thief, there’s no profile of a “typical” embezzler, which makes it difficult to know which personnel positions or areas to focus on and safeguard.
Equally as varied as the types of employees who steal are the reasons they do it. For some, it may be necessity—to feed a drug or alcohol habit, for example—while for others it may be the thrill of seeing what they can get away with, and for still others it may be a way in which they can exact revenge on their employer.
But whatever underlying justification or cause is behind an embezzlement scheme, the effect is invariably damaging. The most tangible destruction is usually to a company’s financial well-being. Considering that it’s common for an embezzlement scheme to go on for years before the employee quits, stops embezzling, or is caught, it’s easy to see how the crime can add up to significant losses. In just one instance, a scrap executive reports that a former employee stole about $45,000 in cash in about two months. It comes as no surprise then that the financial fallout can bankrupt a business.
Perhaps even more destructive is the intangible and emotional toll this crime takes, such as the mistrust an experience with embezzlement engenders. While most employers want to—and can—trust their employees, being the victim of embezzlement can shatter their faith in their employees forever. When embezzlement is discovered, most owners understandably feel a considerable letdown when faced with the brutal fact that a trusted employee could hurt them and their business. This can be particularly intense in small firms since relationships tend to be closer and more personal. In such instances, the employer may be friends with the embezzler’s family and know what the loss of the job will do to them.
In the wake of an embezzlement scam, many business owners also feel a strong sense of shame and blame themselves for “allowing” it to happen.
A Few Ounces of Prevention
When people think of embezzlement, they frequently think of it happening only in large, faceless corporations where workers drone the day away for an unseen and disliked boss. But never could it happen in the scrap recycling industry, with its many small family-owned and -operated plants in which employees are treated like family.
As it turns out, not only are small businesses particularly prone to embezzlement, but the effects of embezzlement are felt more acutely by smaller businesses than larger ones. Why are small firms more susceptible? Because large companies tend to have more checks and balances in place to prevent embezzlement from happening in the first place. Fortunately, by implementing some of the internal control measures of larger firms, any company can minimize its chances of internal theft.
The golden rule to preventing embezzlement is to limit or completely eliminate the opportunity for employees to embezzle. While that may sound simplistic, the truth is that by limiting access to certain sensitive areas of your business, you can effectively prevent employees from accessing some of the most common avenues of embezzlement.
Lay Down the Law. First, make sure employees know you have no tolerance for theft and that violations will be punished to the full extent of the law. Let them know you have the right to examine all files and financial records, but be sure to emphasize that tight security is to the benefit of all employees. These benefits include trusting your coworkers and ensuring the financial health of the company—and, thus, the continued financial health of all employees.
It’s important, however, to avoid making employees feel as if they are all automatically suspected of wrongdoing. In fact, such a suspicious attitude is bound to engender bad feelings and low morale.
Cover Yourself. Right up front, it’s always a good idea to make sure your theft insurance coverage is adequate. You may also consider bonding employees who have access to sensitive areas of the business. The bonding process is fairly simple and inexpensive and will pay off in the long run, say experts.
Maintain Checks and Balances. One of the principal routes of embezzlement in a small company is through key personnel who have exclusive control of and unlimited access to the company’s finances. A lot of businesses, particularly small ones, entrust one employee to handle all aspects of their bookkeeping and accounting, a scenario that practically cultivates embezzlement. Many employers think they’ve found a jewel in an employee who is willing to take care of these aspects of the business and may consider them beyond suspicion, particularly if the person has been with the company a long time. No matter how much you trust your employees, however, it’s prudent to have some system of internal accounting and bookkeeping controls. At the very least, you should divide tasks among two or more employees and look over the books regularly yourself.
A related area of embezzlement prevention deals with check-writing and general banking policies. Experts note that they are continually surprised by the number of employers who allow the company bookkeeper to write and reconcile checks, as well as balance cash transactions. To prevent fraud, most experts and victims of embezzlement suggest taking three steps: Make sure all bank statements come directly to the president, check that all checks jibe with the books, and verify check endorsements to make sure payments aren’t going to phantom organizations.
With regard to accounts used to purchase scrap, some companies that have been burned in the past suggest maintaining a low balance in these accounts and giving access to the primary account only to the owner and one or two key executives with the authority to transfer funds to the accounts as needed.
Other safeguarding tips include requiring two signatures on checks over a certain amount or imprinting a “void over” line on checks to limit the amount that can be drawn on a single check. Also, to prevent forgery, it helps if you always use the same pen to sign checks. Experts also recommend always signing checks while sitting—preferably at your desk—so that your signature is consistent and so you can examine what you’re signing carefully enough to prevent a sham check from slipping through. It’s also wise to make a habit of looking over payroll information to make sure you’re not paying any fake employees and that what you’re paying in federal taxes each pay period makes sense and is consistent.
To help control cash embezzlement, evaluate your entire cash handling procedures regularly to ferret out weaknesses. One recommended practice is to balance the cash drawer daily and maintain a strict cash limit of no more than $100.
Get a Grip on Inventory. Since many of the fraudulent schemes in scrap recycling operations involve tampering with inventory, it’s essential to have a vigorous inventory control system. Such a system can not only help prevent theft, but it can also draw attention to a problem before it snowballs into a significant loss for your company.
Scrap companies that have been victims of embezzlement have found that keeping a watchful eye on inventory and matching purchase records is the most effective means of identifying a problem. They recommend comparing year-to-year statistics of inventory and purchasing margins and conducting both scheduled inventory and even surprise spot-checks. To make the task easier, keep on-hand scrap inventory as low as possible so discrepancies are difficult to hide.
Know Who You’re Dealing With. Since your susceptibility to embezzlement depends to a large degree on the character of each employee, it’s essential to hire the most ethical people as possible.
In this regard, your first line of defense is making sure you check a prospective employee’s references. Since few firms follow through with prosecuting suspected or known embezzlers, culprits frequently move on to implement the same schemes at other companies. Since it can be difficult to get honest information in this regard from previous employers, some scrap companies have taken to hiring only office personnel who are inexperienced in the industry. The way they figure it, someone with a lot of industry knowledge is more likely to know about embezzlement schemes that might work in a scrap business.
As for existing employees, there are some cues that could point to potentially troublesome individuals. Some red flags include employees with suspected or known drug abuse problems, those who are avid gamblers, and those who seem to live above their means. CNA Insurance Cos. (Chicago) counts among admitted scrap company embezzlers those who’ve held positions as plant managers, bookkeepers, scale masters and operators, and foremen—and these are just those who were caught and reported to CNA.
Ironically, one of the many masks embezzlers wear is that of an “ideal” employee. Experts have shown that employees who seemed the most dedicated were often the very ones perpetrating the most significant scams. Such committed employees rarely take vacations and when they do, they limit them to short breaks to prove their loyalty. The reason behind this “loyalty,” however, is that the intricacies of many embezzlement scams require significant daily upkeep to prevent discovery.
Experts across the board agree that imposing mandatory vacation policies for employees with bookkeeping and accounting responsibilities—even going so far as to require a vacation of at least two contiguous weeks—can be instrumental in revealing patterns of embezzlement. During the employee’s absence, put someone you trust in the job, and if the vacationing employee has an embezzlement scheme under way, it will likely unravel in the course of their absence. Also keep an eye on employees who arrive early and leave late without necessity, as they could be up to something they’d rather you not know about.
The gist of these recommendations is simply this: The most effective preventive measure is to know your business inside and out and make yourself conspicuous in all areas of your operation. If your management style brings you into contact with all facets of your business, anything unusual will be easily noticed; moreover, your very presence can serve as a deterrent to would-be embezzlers.
Minimizing the Threat
In the unfortunate case that you do uncover embezzlement, CNA recommends that you go to the police or consult a security expert immediately so that proper documentation can be secured to prove and prosecute the violation.
Be careful, however, not to violate your employees’ rights. Never accuse someone without proof, for instance, as this could lead to a myriad of other problems. The best course is to talk to authorities first.
The last word of advice from experts is simply this reminder: Don’t ignore the possibility that embezzlement could exist in your business. While many in the scrap industry are reticent to discuss the issue of embezzlement, all too many have learned the hard way how destructive this internal scourge can be.
Preventing the opportunity is not as hard as it seems, and there is plenty of advice and guidance to get you started. A security consultant or certified public accountant, for instance, can help you establish an internal control system to reduce the chances of embezzlement casting its shadow over your business.
Editor’s note: For a firsthand account of embezzlement in a scrap recycling company, attend the New Executive Council meeting March 16 from 1 to 2 p.m. during the ReMA national convention in Las Vegas. Angelo Medico of Louis Cohen & Son Inc. (Wilkes-Barre, Pa.) will discuss his firm’s experience dealing with accounting embezzlement. •
The biggest financial threat to your business may not be plummeting markets or environmental compliance, but employees slowly stealing from the company. This advice will help you address this insidious problem.