ethics- a new perspective and, conflicts of interest and fraud –government perspective emlyn...

Ethics- A New Perspective and , Conflicts of Interest and Fraud –Government Perspective

Emlyn Neuman-Javornik, Senior Manager

The Unique Alternative to the Big Four®

Member Horwath International ©2005 Crowe Chizek and Company LLC 2


Agenda for Managing Conflicts

• Ethics – A new perspective.

• Conflicts of interest – What are they and what is the cost.

• Fraud – How to Spot the clues, Where you can be taken, What to do to protect yourself.



Ethics – A new perspective to an old discussion

• Ethics• The discipline dealing with what

is good and bad and with moral duty and obligation. (Webster’s Dictionary)

• The struggle between right and wrong.

• Morals• Morals are the struggle

between good and evil.



Words That Help Define Ethics

• Integrity• Is a perception

• Objectivity• Is a state of mind

• Due Care• An action.



What influences a person’s ethics

• Social and Cultural Standards• Age• Gender• Many other factors

• Religious beliefs• Marital Status

• Professional Standards



Social and Cultural Standards

• Culture refers to the beliefs, social forms, and material traits of a racial, religious, or social group.

• Corporate culture is a social group.

• Know the strongest cultural influence on ethics around you!!!!



Corporate Social Cultural

• A set of shared attitudes, values, goals, and practices.

• Leadership is the strongest influence on corporate culture and thus ethics.

• The challenge is determining which structure in governments has the greatest influence on the group you are working with.



Professional Standards and ethics

• What does it mean to the individual

• Professional codes of ethics.• Illinois Institute of Technology (http://ethics.iit.edu/codes/)

• Doctors and the Hippocratic oath• Has changed over the ages.



Applying what we know.

• Determination of Risk• Is there a cultural disregard for security, compliance, or

established procedures.• Is the culture secretive? This may or may not increase risk

depending on how the culture

• Communication• When asking questions you may receive only the answer to the

question you asked and not the question you meant to ask.



Laws attempting to Govern Corporate and Government Ethics.

1> Sarbanes-Oxley for Government2> Ethics in Government Act 1978.



Sarbanes -Oxley

• Section 406 subsection C defines a code of ethics as a code promoting honesty.

• UNDERSTANDABLE disclosure



Government

• 1978 act establishes a standard for government officials.

• Little has changed in the law since 1978



Summary

Ethics are not absolute. There are factors and guide posts that we can use to predict or measure decisions against. What you hope for is to be aware of the factors that are involved and use those to provide a better service to your organization.



Conflicts of Interest



What is a Conflict of Interest

• Definition• Conflicts of interest arise when individuals in positions of

trust violate that trust for personal gain.

• The 2004 Law Encyclopedia defines a conflict of interest as:n. a situation in which a person has a duty to more than one person or organization, but cannot do justice to the actual or potentially adverse interests of both parties. This includes when an individual's personal interests or concerns are inconsistent with the best for a customer, or when a public official's personal interests are contrary to his/her loyalty to public business….



What is the cost of Conflicts

• COST$$$$$

• Inferior Goods or Services – Early replacement or reperformance

• Non Delivery of Goods or Services – Cost no benefit

• Increased Cost - Allowed Overruns



What is the cost of Conflicts cont.

• Public Confidence

• Doubt in current administrations and officials to manage.

• Taints all of government not just involved parties or groups.

• Reflected at the polls.



What is the cost of Conflicts cont.

• Unseen Victims

• Recipients of government goods or services

• Legitimate business person – Ethical.

• Other employees or officials - Demoralization



Managing Conflicts of Interest

1.Be Proactive!! Seek Conflicts out.2.Be aware of potential conflicts from the

beginning.3.Be open.



Finding existing Conflicts

• Compare vendor addresses to employee addresses.

• Payroll information, look for like addresses for employees in incompatible positions.

• Review of accounts receivable for unusual activity.

• Review of accounts payable



How to Manage Potential Conflicts

• Pre employment• Keep the conflicts out by having policy as part of pre-

employment process.• Have knowledge of the potential risk.

• Pre contract• Include certification as part of RFP process.• Recertify each year, each contract term, each project.




• WARNING:

• If you elect to implement a zero tolerance policy, have a plan in place to efficiently and effectively deal with conflicts prior to implementation of the policy.



The 3 Musts of Policies

• Must be Simply Stated• Use as few words as possible• Be direct

• Must be effectively communicated• Do not write it and then hide it.

• Must be acknowledged• Signatures




• CONFLICT OF INTEREST – Maricopa County

• It shall be a breach of ethical standards for any employee or agent acting in behalf of Maricopa County to directly or indirectly participate in or benefit from a procurement when employee, agent or his immediate family has a financial interest in the business or organization.

• Independence in fact and appearance.



Disclosure

• Policy allows for disclosure of conflicts arising in the course of business without fear for position.

• Policies must contain a mechanism whereby individuals can remove themselves from conflicted situation.• How to notify• When to notify• What happens if there are tie votes.



Found a conflict -- Now what?

Get the facts• Objectively determine who is

involved. • What area does the conflict

encompass.• The amount of activity affected.

• Do not automatically terminate employee

• Seek legal counsel’s advice

• Make a decision about what resolution would be.

• Prepare a public statement and have a designated spokesperson.



Resources

• National Association of Counties http://www.naco.org

• Center for the study of Ethics in The Professions – Illinois Institute of Technology

http://ethics.iit.edu/codes/gov.html



Fraud and Government



Fraud Definitions

• Webster’s Dictionary: “deceit, trickery; cheating, intentional deception to cause a person to give up property or some lawful right.”

• AICPA EDP Fraud Review Task Force: Any intentional act, or series of acts, that is designed to deceive or mislead others and that has an impact or potential impact on an organization’s financial statements.

• Institute of Internal Auditors: An array of irregularities and illegal acts characterized by intentional deception.



Who is Fraudster?Report to the Nation

Perpetrator’s Profile Male – 61% Age 41 – 50 years old As the longevity of an employee increases, so does the cost of

the crime. Median loss for employees with 10+ years is $263,000

A Bachelors Degree

Source: “2006 Report to the Nation on Occupational Fraud and Abuse” by the Association of Certified Fraud Examiners (ACFE)



Cost of Operational Fraud

• $652 billion in revenues are lost annually to fraud, or over 5% of total revenues

• Average scheme lasted 18 months before detected

• 15% of frauds caused losses of over $1 million, while one in five cost over $500,000

• Source: “2006 Report to the Nation on Occupational Fraud and Abuse” by the Association of Certified Fraud Examiners (ACFE)



Cost of Occupational Fraud

Cost to Government• 12% of frauds are perpetrated against

Governments. Median Loss $82,000.

• Billing and Non-cash schemes combined are 35.2%

• Conflicts of Interest account for 61.6% of Corruption cases.




What is the True Cost?

• Inability for business or program to continue

• Increased Insurance Premiums

• Loss of Jobs

• Reputation Risk



Who Commits Fraud

• People more readily commit fraud when all above elements are present. All elements are not a requirement

• Most frequent cause of fraud: situational pressures combined with a rationalization of one’s honesty standards

• Individuals committing fraud do not necessarily view themselves as stealing

Opportunity

Motive

The Fraud Triangle

Rationalization



Elements of Fraud

Motive + Opportunity + Rationalization

Motive – reason to commit a crime

• Individual motivations• Gambling, extramarital activity, alcohol/ drugs• Unexpected expenses – illness, etc.• Resentment – against company, boss, etc.• Living beyond means• Mental defect

• More dissatisfied the employee, the more likely he/ she is to commit fraud



Motives to Government

• Employee Motivation

• No chance for advancement• Advancement not based on merit• Limited number of positions• Fence Sitters

• Low Wages• Do more with less



Management Motivations

• Position security depends on performance• Budget requirements

• Federal revenue flow• Federal Reporting • Cash flow management

• Bond Issuances and indenture requirements• Bond Ratings Revenue Reserves



Opportunities


Opportunities – Attributes or policies that allow fraud to occur or decrease probability that fraud will be disclosed or punished

• Personally created opportunities• Familiarity with operations, including cover-up capabilities• Position of trust where employee is left on their own• Close association with suppliers and other key people (Conflicts of

Interest)• Collusion



Opportunities (cont.)

• Organizationally created opportunities• Lack of adequate administrative, operational, processing or

documentation controls• Political turnover of key employees (Appointments – Exempt Positions)• Inadequate personnel screening policies• Constantly operating under crisis conditions• Impersonal relationships and low morale• Absence of policies and procedures



Rationalization


• Rationalization – End Justifies the Means• Owed to me • Just borrowing• This is a big organization and a little won’t matter to them• Everybody does it• The employer deserves it• I’ll stop when…• Employee still thinks of themselves as honest



Red Flags (Indicators) of Fraud

Tone at the Top

• Weak Corporate Culture and Ethics• No Code of Ethics• No policy on Conflict of Interest

• Weak leadership/Dominant top management• Ineffective Board or Audit Committee• Audit not reporting to highest level



Red Flags (Indicators) of Fraud (cont.)

Management

• Overly optimistic budget and/or results• Lack of planning, training, hiring and organizational policies• Insufficient management depth or succession (Difficult to

plan in Government.)• No or inadequate personnel policies and/or evaluations




Employees• No rotation of duties/employees

(only person who can perform duties)• Lack of accountability• Defensive attitude, Secretive• Living beyond means• Lack of vacations/leave or unusual work hours• “Holding” work during vacation• Never out of balance—balancing perfectly all the time




Other• Frequent overrides of internal controls or policies• Unresolved exceptions, frequently recurring items,

or stale items on exception reports and reconciliations• Large numbers of items on reconciliations• Missing documentation• Photocopies vs. originals• Cash shortage/overage patterns• Customer complaints



Red Flags of Fraud

Caution: existence of one or more of these red flag items does not mean fraud exists.

These are indicators that fraud might exist, and the area or issue may warrant further

attention from the auditors



Fraud Deterrents

Strong Tone at the Top!Strong culture based on integrity

• Code of conduct with annual training and recertification

• Strong Board of Directors and Audit Committee

• Recognition and reward systems in tandem with long term goals and results

• No deviations from legal or ethical standards accepted

• Ability to confidentially communicate sensitive items without fear of retribution

• An environment in which employees believe that dishonest acts will be detected, are not tolerated, and are punished



Internal Controls and Perception

• Internal Controls are meant to keep honest people honest.

• Most important is the monitoring of the controls.

• Audits are designed to test internal controls not monitor.



Most Common Sources of Fraud Detection

Category Fraud Anti-FraudNotification Measure

• Hotline Tip 34% 45%• Internal Audit 20% 59%• Accident 25%• Internal Controls 19%• External Audit 12% 75%• Notified by Police 4%

• Source: “2006 Report to the National on Occupational Fraud” by ACFE



Schemes

• How can you be a victim?

• Cash

• Non-Cash



Schemes

Cash• Skimming – mail rooms, cash intake points.• Petty Cash, Cash Change funds, Employee Supported Funds,

and/or Off book funds• Fiduciary Funds

• Child support• Foster care accounts• School activity accounts

• Payables• Pay and return• Fictitious vendors• Inferior products or incorrect products



Schemes (cont.)

Non-cash• Unauthorized computer usage

• E-bay• Personal business• Other illegal uses

• Sale or non-business use of telephones• Sale of confidential data• Identity theft• Federal reporting fraud



Fraud Detection Techniques

• Establish Tip Hotlines

• Consider:• Conducting specific fraud audits• Utilizing specialists

• Complete “Fraud Prevention Check-Up” (Download free at CFEnet.com)• Helps Identify entity’s vulnerability to fraud• Helps increase confidence AC and others have in integrity of

financial statements



Fraud Related Best Practices• Internal Audit

• Reports directly to highly ethical Audit Committee • Builds fraud detection into routine activity• Conducts or sponsors fraud training for employees

• Organization has written fraud policy outlining responsibility for detection and investigation and how to handle fraud suspicions

• Employees and others are encourage to report suspected wrongdoing directly to investigators w/o fear of retribution

• Rules are enforced without regard to position in organization

• Investigations beyond capability of IA are referred to and handled by outside professionals.

• Management has created an environment in which employees, vendors and customers positively identify with the organization



Things to Remember

• 5% will look for a way

• 15% would never do it under any circumstance

• 80% would do it given the opportunity and under certain circumstances

• Be on guard and know this can happen to your organization

Good Luck!



Fraud Websites to Consider• Organizations

American Institute of Certified Public Accountants Anti-Fraud Resource Center: www.aicpa.org/antifraud

American College of Forensic Examiners – www.acfe.com Association of Certified Fraud Examiners – www.cfenet.com Institute of Internal Auditors – www.theiia.org Society of Professional Investigators – www.spionline.org Crowe Chizek and Co LLC – www.crowechizek.com Committee of Sponsoring Organizations – www.coso.org

• Report Scams Here - www.fraud.org• Beware of Identity Thieves - www.consumer.gov/knowfraud• Fight Fraud with Pros - www.usdoj.gov/criminal/fraud/idtheft.html• Fraud Detectives – www.frauddetectives.com• Know Your Rights - www.investment-fraud-recovery.com• “Scams, Shams, and Spams” - www.fraudbureau.com



Cost of Operational Fraud

• 12% of frauds are perpetrated against Governments. Median Loss $82,000.

• 30.8% from Corruption. Violation of public trust for dishonest gain.

• Conflicts of Interest account for 61.6% of Corruption cases.




Questions and Answers

Emlyn Neuman-JavornikSenior Manager

[email protected]

ethics- a new perspective and, conflicts of interest and fraud –government perspective emlyn...

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