"We have fraud in our cooperative industry, and it is happening at a record pace."
That's a bold statement, but as a certified fraud examiner and owner of Dawson Forensic Group in Lubbock, Texas, Steve Dawson has real-life examples to back it up.
Like the time a former co-op employee was wondering why his W-2 showed $50,000 more than he was paid. Turns out a co-op accountant changed the direct deposit routing number and account number to three of his own bank accounts on six previously terminated employees, collecting $250,000.
Then there's the co-op purchasing agent who stole $3.8 million using a simple shell company that he created and owned. He then submitted fictitious invoices for transformer purchases. They were paid—in no small part, Dawson says, because there were weak or no internal controls in the accounts-payable approval process.
"I see this one time and again," Dawson says. "This is one of the main ones we need to prevent."
Incidents like these beg the question: What is your co-op doing to avoid being a victim?
Dawson believes fraud prevention begins in the boardroom.
"As a board of directors, you have the No. 1 position, the No. 1 ability to affect fraud prevention, more so than any other position in the organization," he told the recent 2018 NRECA Directors Conference.
A Common Misconception
Think fraud will be found when the external accounting firm performs your co-op's annual financial statement audit? Don't count on it.
The Association of Certified Forensic Examiners (ACFE) asked victimized organizations what internal steps they had taken to prevent fraud. The overwhelming number— nearly 82 percent—cited an external audit of the financial statement. Yet fewer than 4 percent of frauds were initially detected that way in 2016, according to ACFE.
"An external audit of financial statements is not designed to detect fraud. That is not its purpose," Dawson says. "Its goal is to determine fair compliance and conformity with generally accepted accounting principles. In fact, accounting standards forbid your external [certified public accountant] firm from being a part of your internal controls."
So how is fraud uncovered? The old-fashioned way: a tip. Some 39 percent of frauds were initially detected through tips in 2016, according to ACFE data.
Different people have different ideas about what constitutes fraud, and Dawson says the most common type is misappropriation. He defines that as "the taking of company assets—whether that's inventory or cash—for personal gain."
"The most common rationalization I hear is, 'I was just borrowing this for a little while.'"
Then there's corruption, which Dawson says often involves two or more people at the co-op, sometimes colluding with someone on the outside.
"Bribery, kickbacks, bid rigging, collecting gratuities—those are ugly cases."
Also common: fraudulent financial statements, in which numbers are changed to make things look better.
Good People Gone Bad
So who's responsible? Dawson says it's probably not who you think. He estimates that 95 percent of the individuals he investigates and turns over for prosecution commit "need-based fraud."
"We have to adopt the mindset that it's the truly decent people that are doing it," Dawson says. "Truly decent people that have found themselves between a rock and a hard place, that can convince themselves that what they are doing is not wrong—'I'm just going to pay it back once I get past the financial crisis.' And they are in a position where there are weak to no internal controls."
As for the rest?
"Four-and-a-half percent of the people I investigate are what I would call truly greedy. They're the individuals that wake up every morning with the goal of getting as much as they can out of their employer. Plain and simple," Dawson says. "The other half a percent: pathological. Those are truly sad cases."
A Spelled-Out Anti-Fraud Program
Be sure your fraud policy dots every
I and crosses every
T, Dawson says. You don't want to be in a situation like the one where he thought conviction would be a "slam dunk," but jurors thought otherwise.
"We talked with the jury after wards and said, 'How could you have possibly come to the conclusion of not guilty?' And they said, 'Steve, the company didn't tell that employee— the defendant—that it was wrong to steal,'" Dawson recalls. "What is a fraud policy? A fraud policy tells the workforce, tells the employee, that it's wrong to steal."
What should a co-op anti-fraud program entail? Dawson says there are several elements, but for directors he has two biggies.
Atop his list is the anti-fraud environment. "What is the tone at the top of the organization? What does the board care about fraud and the risk of fraud occurring in an organization?" he says.
No. 2 for directors is monitoring and routine maintenance. "If nobody's watching, if nobody is monitoring and checking to see how it's going, then the program is really somewhat worthless," Dawson says.
See You In Court
If an investigation finds fraud, Dawson urges co-ops to do something: "Prosecute it."
"You said in your policy you were going to prosecute it to the fullest extent of the law. What if you don't? Let me tell you, everybody knows it. There's not many secrets in a co-op," he says. "Do it the same each time. Because if you don't, everybody knows that you didn't. And then your policies are worthless."
ACFE reports that in 2016, almost 60 percent of suspected fraud cases were referred to law enforcement. While that number might sound high, it's frustratingly low for fraud investigators like Dawson.
Of the cases referred, ACFE says nearly 57 percent ended with a plea of guilty or no contest; another 20 percent were convicted at trial.
But why are some 40 percent going unreferred? Fear of bad publicity is the most commonly cited reason, ACFE finds.
"I understand the political ramifications, the public relations issues that you as a cooperative have to deal with," Dawson says. "It's not pleasant. But I feel it's absolutely necessary because you said in the policy that you would."