Occupational Fraud: Asset Misappropriation, Skimming and Cash Larceny

  • By William Kelting, Ph. D

The Association of Certified Fraud Examiners (ACFE) 2002 study of occupational fraud revealed that 85.7 percent of the fraud cases reported fell into the category of asset misappropriation. Corruption schemes and fraudulent financial statements accounted for the other types of occupational fraud. The most common type of asset misappropriation involves cash theft schemes. Non-cash asset misappropriations, although less frequent, were reported to be more costly per occurrence.

The ACFE study divided cash schemes into three categories:

• Skimming

• Cash larceny

• Fraudulent disbursements

According to the study, fraudulent disbursements accounted for 71.1 percent of the frauds, skimming for 31.8 percent and cash larceny 8.9 percent. This article will focus on skimming and cash larceny schemes.

Skimming: A major difference between skimming and cash larceny or fraudulent disbursements is that skimming involves the theft of cash before it is recorded on the entity’s books. For that reason, it tends to be the more difficult to detect. The most basic type of skimming involves taking cash from the sale of goods or services and making no record of the sale. For example, a bartender in a busy restaurant may not “ring up” all of the sales and pocket customer cash payments. In situations involving the sale of goods, regular monitoring of gross profit margins may be effective in detecting significant skimming activity. Computation of the gross profit percentage (Net Sales – Cost of Goods Sold/Net Sales) should be done on a regular basis and comparisons made to previous periods as well as to industry averages. Unexplained declines in the gross profit margin could be an indicator that an employee or employees may be engaged in skimming.

A more sophisticated skimming scheme involves employee theft of payment by customers on accounts and the subsequent cover up of the theft using a process known as lapping. In this case sales have been recorded and credit extended to the customers. Long-time, trusted employee Steve is responsible for receiving customer payments on account and for making sure that customer records are updated. Customer Marie pays $500 on her account, Steve pockets the money and makes no record of the receipt. Sometime later, Jack pays $500 on his account. Steve records Jack’s payment and credits the amount to Marie’s account, thus covering up the shortage in her account. Lapping schemes such as this eventually involve several customer accounts and cover long periods of time. Steve, the perpetrator, must continually monitor the situation and ensure that customers are never aware of the inaccuracies in their accounts. Despite this pressure on the perpetrator, lapping is still one of the most used methods to cover up cash shortages.

Other methods used to cover up the skimming of customer payments on account include (a) embezzling a customer’s payment and issuing a credit memo to cover the amount or (b) misappropriating a customer’s payment and then writing off the account as “un-collectible”. These methods, as well as lapping, only occur because the perpetrator has the opportunity to commit the fraud. As mentioned in the first article, the separation of duties is a particularly important internal control designed, in part, to prevent this type of activity. As stated in that article, “Duties involving the authorization of a transaction, custody of the assets involved in the transaction and record keeping required should be vested in different employees.” In other words, Steve should not be responsible for receiving cash from customers and for also keeping the customer records. Similarly, employees receiving customer payments should not be able to authorize credit memos or the write off of customer accounts.

Other measures that may be effective in preventing or detecting lapping include a policy of mandatory employee vacations and periodic rotation of duties among employees. It is not likely that loyal and trusted employee Steve will take a vacation and run the risk of having his lapping scheme uncovered.

Perhaps the best way to prevent skimming of payments from customers is to not have customer payments pass through employee hands at all. This can be done effectively through the use of cash lockboxes where payments are sent directly to a post office lock-box. Another approach that has become more viable as technology advances is to receive payments from customers electronically.

Electronic payments and the use of lockboxes not only significantly reduce the opportunity for misappropriation but are also ef-fective in speeding up cash flows for the entity. Utilization of either of these methods requires a good means of identifying customer remittances so that payments are applied to the correct invoices. The transfer of remittance information in conjunction with electronic funds transfer (EFT) payments poses some problems, however as financial electronic data interchange (FEDI) capability expands, this problem will be alleviated.

Cash larceny: Cash larceny involves the theft of cash by employees after it has been recorded on the entity’s books. For this reason, it is easier to detect larceny than it is to detect skimming. This is probably the reason that the ACFE study found that cash larceny only accounted for 2.95 percent of all frauds. Cash larceny involves the theft of cash from cash boxes, cash registers and from bank deposits. Employees may only take relatively small amounts as some cash shortages may be expected. Over time, the amounts can be significant. It is important to attempt to track such shortages by employees in order to detect potential abuse. Em-ployees may attempt to cover up shortages by taking from other employee registers or temporarily covering shortages with personal checks or bogus voids. Cash receipts should be deposited regularly and intact. Cash counts should be carefully controlled and done by independent employees. Occasionally, cash counts may be done on a surprise basis. Opportunity for cash larceny should be minimized through proper segregation of duties and supervision.

As discussed in the first article of this series, “Occupational Fraud: An Introduction,” occupational fraud generally has three con-tributing factors: incentive, opportunity and rationalization. Opportunity is the factor over which the employer has the most control. The other factors should not be ignored however and can be favorably impacted by policies including careful employee screening and keeping lines of communication open.

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