First moves – how to respond to suspected fraud

Initial reactions to an allegation of fraud may well dictate the final outcome. This article explains the steps that Haymarket typically deploys in a corporate investigation.

This article originally appeared on Fraud Intelligence. 

Over the last 30 years or so there has been a visible shift in corporate thinking about fraud. Up to the 1980s, many corporate Boards were in flat denial - “we know our staff, fraud will not happen to us”, “we have no concerns, we have full trust in our auditors to find anything untoward” were typical comments, if the subject of fraud was even mentioned.

By the end of the 1990s, the internet had raised the visibility of catastrophic fraud, such as happened at BCCI, Barings Bank, Maxwell Communications and Polly Peck, and there was a dawning realisation that fraud can and does happen in every walk of corporate life. Anyone still in doubt or denial received a further rude awakening with the massive accounting scandal that brought down Enron and with it Arthur Andersen, at the time one of the world’s largest audit firms. Enron was followed by Worldcom and the Bernie Madoff Ponzi fraud, to name but two.

Only Board executives who have been shut off from the outside world over the last three decades could still genuinely believe that fraud is only a problem for others. With that realisation has come a corresponding acceptance that routine audit does not detect fraud; the reason for this can be explained very simply:

• Fraud is usually off-record or disguised within records and auditors almost invariably take these at face value, rarely questioning authenticity;
• Those corporate insiders who commit fraud are expert liars and make it their business to understand the control systems and how to circumvent them; and
• Auditors are often very good at audit but they are rarely trained in fraud detection techniques.

Who are you going to call?

Notwithstanding the above, when fraud is suspected, the most common first reaction is to call in the external auditors. However, this makes little sense. If auditors have failed to detect a fraud in an organisation are they really the people who should be relied on to investigate it? Furthermore, at the point of first suspicion, it will not be clear whether the fraud has been missed through negligence on the part of the auditors or if this has been a deliberate attack on the corporate control framework by person or persons unknown. If negligence is likely, are these very same auditors likely to hand you a dossier of evidence which supports an action against their own firm? Since there is a clear conflict of interest, I hardly think so. One often-suggested option is to use a different firm of external auditors, but this is a dwindling pool of resources with many “revolving door” accounting partners so conflicts of interest may still occur.

Another common mistake at this initial stage is to immediately call in external lawyers. Although wholly understandable, it is almost always premature as at that point it is unlikely you will have any useable evidence and it is not the role of lawyers to investigate these early suspicions. Far better to first initiate a discreet, covert investigation aimed at testing the allegations and assimilating supporting evidence, which can then be considered by suitably qualified fraud litigation lawyers.

Startpoints

In summary, the golden rules we recommend on first receipt of an allegation are:

1. Treat the allegation in absolute confidence and tell only those who absolutely need to know;
2. Unless there are compelling reasons not to, (e.g. potential for further massive losses, danger to life, etc) keep any internal suspect/s in place and unaware that they are under suspicion;
3. Consider whether you have internal resources that can covertly investigate the allegations;
4. If you do not (and it is rare for companies to have the full suite of resources in-house to address fraud allegations) then consider calling in an external corporate fraud investigation company (care needed here as your choice is critical);
5. Appoint an internal Project Manager to liaise with your chosen corporate fraud investigators;
6. Ask your chosen investigation company for a detailed proposal setting out their recommended steps and the associated cost of each - based upon this you should agree a budget for investigation;
7. Check whether your company has fidelity insurance, and what the notification period is. Where there is clear evidence of fraud your fidelity policy may present an avenue for financial recovery; however, failure to notify may allow the underwriters to reduce the financial assistance or, in the worst case, refuse to accept the claim; and
8. Initiate the covert investigation.

Discreet enquiries

The extent and nature of the covert investigation will, of course, depend upon individual circumstances but is likely to include:

1. Desk-based research on each named suspect - aimed at uncovering any undisclosed conflicts, e.g. covert shareholding in a competitor company or a preferred supplier, lifestyle beyond visible means;
2. Computer forensics - covertly imaging the desktop and laptop computers (and other digital media) of suspect/s for subsequent off-site analysis of the resultant images (using appropriate key words to flush out evidential documents - usually recovered from deleted files);
3. Discreet monitoring of office-based communications of suspects (care needed here – legality depends upon employees being advised in their contracts or in the company policy manual that the company reserves the right to monitor communications when fraud is suspected);
4. selective data mining to identify clues to fraud beyond what has been alleged (in every case we have dealt with the extent of fraud has always turned out to be well in excess of, and more diverse, than originally alleged. This is because the typical fraudster is continually looking for opportunities and is unlikely only to be engaged in one aspect at any one time. So testing to identify other, as yet undiscovered, fraud is an essential part of the covert investigation.

The covert phase may also include a period of surveillance to identify extra-curricular off-site meetings or other activity relevant to the investigation. In some cases, carefully structured undercover approaches may be considered to uncover information not otherwise available to the investigation team.

Strictly legal

It is absolutely essential that the investigation team you select is fastidious in ensuring that all techniques to be used are within the law of the relevant jurisdiction (legal requirements vary not only from country to country but even from State to State in the USA). So, where there is any doubt whatsoever, prior written legal advice is an essential to ensure the integrity of the investigation and its findings.

Once the first phase of covert investigation is complete, the investigation company should submit a detailed interim report of findings supported by appended evidence. The report should also include recommendations as to next steps. The recommendations may include seeking Legal Orders that can complement the investigation, e.g. a Freezing Order to freeze the assets of a suspect or a Search and Seizure Order, often loosely referred to as a Civil Search Warrant (although there are differences). It is also likely that the report will recommend simultaneous unannounced interviews with all suspects (internal and external) and potential witnesses.

At this point, or indeed earlier, but in any case prior to investigative interviews, it is vital that the victim company retain a law firm with genuinely experienced fraud litigation lawyers. Consideration should also be given to contingency planning, i.e. if key people are likely to be suspended it is important to ensure that there is appropriate cover to allow the business to continue.

Reputation management

Another important consideration is publicity. Whilst it may be the company’s intention to keep the matter under wraps, it is impossible to control all those who may be interviewed (particularly external parties, suppliers and so on) and the possibility of a leak to the press cannot be ruled out. In that regard, it is wise to have a press statement prepared and ready should there be a press enquiry. It is also worth remembering that the press can present an opportunity to make a clear statement that your organisation does not tolerate fraud and, should it arise, it will be dealt with firmly and positively. In other words, a strong message can be sent out to employees and external parties who may have hitherto mistakenly seen your organisation as a soft touch.

First hand accounts

Each of the simultaneous interviews has to be carefully planned in advance. In this regard, the case manager should prepare a briefing folder containing a detailed interview plan for each interview team; this should include:

• A copy of the interim report of findings and any relevant evidence;
• A dedicated brief, which sets out the objectives of each interview;
• A dedicated interview plan specific to each suspect; and
• Contact details of the Control Point which receives and disseminates relevant evidence or information from and to interview teams throughout the duration of the interviews.

Each briefing folder should be provided to the interview teams at a case briefing in a secure and confidential location where the Case Manager should set out an oral background to the case and go over the objectives of the simultaneous interviews.

Unless otherwise directed, all interview teams should, at the conclusion of their interview, return to the Control Point where all interview teams will be de-briefed. Statements, supporting evidence and file notes should be supplied by each interview team to the Case Manager, who will then be responsible for preparing a detailed report, which explains any subsequent findings and includes appended copies of all statements and exhibits.

Once the investigation is in the open, it is almost inevitable that disciplinary processes will be initiated and this should be prepared for in advance. Also, when external parties are involved in the fraud, how they are to be handled will be very much at the forefront of discussions with the company lawyers.

Fraud is never easy but it is always better to be prepared and to handle any suspicion of fraud in a positive way. Refusing to believe it can happen or sweeping it under the carpet is just not an option.

In support of secrecy

Finally, a word to the cautious HR managers of the world who may cry foul, saying a covert investigation is unfair and the suspect should simply be asked if there is any truth in the allegations. The answer to such a question, be they guilty or otherwise, will almost always be “no”. In the case of the guilty, that will be followed by warnings to other parties involved and mass shredding of evidence and your case will falter before it gets off the ground. Worse still, in the case of the innocent, with no covert investigation to test the allegations, a cloud of suspicion will inevitably remain. For that reason alone, companies owe it to their employees to fully investigate and test any allegations against them, as that is the only way that the innocent can be fully exonerated.