Chapter 13
Corruption & The
Human Factor
Critical Thinking Exercise
A woman had two sons who were born on the
same hour of the same day of the same year,
but they were not twins. How could this be?
Why is This Furniture Falling Apart?
• Waste, fraud and abuse in General Services
Administration (GSA)
• Furniture manufacturer churned out $200 million
worth of defective and useless goods
• GSA didn’t investigate despite years of complaints
from customers
– Complaints were ignored or rebuffed
Corruption Schemes
• Intent to give some advantage inconsistent
with official duty and the rights of others
• 4 classifications of corruption schemes
– Bribery
– Illegal gratuities
– Economic extortion
– Conflicts of interest
Bribery
• Something of value offered to influence business
decision or official act
• Under-the-table payments for the exercise of
influence over a business decision
• Just offering a payment can constitute as a bribe
• 2 broad categories of bribery schemes
– Kickbacks
– Bid-rigging schemes
Kickback Schemes
• Submission of invoices for goods and services that are
either overpriced or fictitious
– Involve collusion between employers and vendors
• Almost always attack purchasing function of the victim
company
• Diverting business to vendors
– Directing excess business to a vendor
– Ensure steady stream of business
• Vendor is no longer subject to economic pressures
Kickback Schemes
• Overbilling schemes
– Kickback schemes often begin as overbilling
schemes
– Vendor submits inflated invoices to victim
company
– Overstate cost of goods or services or reflect
fictitious sales
– Employees with approval authority
– Fraudsters lacking approval authority
– Other kickback schemes
• Slush funds
Kickback Schemes
• Preventing and detecting kickback schemes
– Separate purchasing, authorization, receiving and storing goods,
and cash disbursements duties
– Maintenance of updated vendor list
– Review and match all support in disbursement vouchers
– Routinely monitor prices paid for goods and services
– Monitor trends in the costs of goods and serviced purchased
– Establish price thresholds for material purchases
– Track purchase levels by vendor
– Check quality of goods delivered
– Compare actual expenditures to budgeted amounts
– Review organization buying patterns
– “Right-to-audit” clause
– Establish written policies prohibiting acceptance of gifts or
favors
Bid-Rigging Schemes
• “Inside influence”
• Competitive bidding
process
• Categorized based on the
stage in which fraudster
exerts his influence
– Pre-solicitation phase
– Solicitation phase
– Submission phase
Bid-Rigging Schemes
• The pre-solicitation phase
– Need recognition schemes
• Employee of buyer recognizes a “need” for a particular
product or service
• Victim company purchases unnecessary goods or services
– Specifications schemes
• Fraudulent tailoring of specifications to a particular
vendor
• “Prequalification” procedures
• Sole-source or noncompetitive procurement justifications
• Deliberate writing of vague specifications
• Bid splitting
• View specifications earlier than competitors
Bid-Rigging Schemes
• The solicitation phase
– Restriction of the pool of competitors
– Bid pooling
– Fictitious suppliers
– Other methods
• Restricting time for submitting bids
• Solicit bids in obscure publications
• The submission phase
– Sealed-bid process
• View competitors bids before submission
• Information on how to prepare their bid
Bid-Rigging Schemes
Preventing and detecting bid-rigging schemes
– Monitor price trends
– Change orders or amendments
– Very large, unexplained price differences among
bidders
– Patterns within bidding process
• Last bidder always wins
• Repeatedly winning by narrow margin
• Predictable rotation of bid winners
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Losing bidders appear as subcontractors
Bids from fictitious suppliers
Qualified bidders fail to submit contract proposals
Split large projects into several smaller jobs
Something of Value
• Several ways for a vendor to “pay” an
employee to aid the vendor’s cause
– Money
– Slush funds
– “Consulting fees” or “referral commissions”
– Promises of future employment
– Promise of part ownership
– Liquor, meals, free travel, cars, and sexual favors
– Transfer of property
– Paying off corrupt employee’s loans or bills
– Offering of loans on very favorable terms
Illegal Gratuities
• Similar to bribery schemes
– there is not necessarily intent to
influence a particular business
decision
• Example
– City commissioner accepted free
international vacation after
conclusion of deal
Conflicts of Interest
• Undisclosed economic or personal interest in
a transaction that adversely affects the
company
• Employee must have employment interest in
the vendor that submits the invoice
• Majority of conflict schemes fit into 2
categories
– Purchasing schemes
– Sales schemes
Purchasing Schemes
• Mechanics of billing scheme, conflict or fraudulent
disbursement, do not change
• Fraudsters also engage in bid rigging on behalf of their own
companies
• Not all conflict schemes occur in the traditional vendor–buyer
relationship
• Turnaround sales
– Employee purchases asset then resells it to employer at an
inflated price
Sales Schemes
• 2 types of conflict schemes associated with
victim company’s sales
– Under-billings
• Sell goods or services below fair market value to vendor
with a hidden interest
• Diminished profit margin
– Writing off sales
• Tamper with victim company’s books to write off
amount owed by an employee’s business
• Delay billing
Other Conflicts of Interest Schemes
• Business diversions
– Siphon employers clients for own business
– Steer potential clients away from employer
• Resource diversions
– Divert funds of their employers to the
development of their own business
• Financial disclosures
– Management obligation to disclose fraud
committed by employees in positions of trust
– Inadequate disclosure can be among the most
serious of frauds
Conflicts of Interest
Preventing and detecting conflicts of interest
– Specifically address conflict of interest
illegalities in company ethics policy
– Annual financial disclosure statement
– Communication with employees regarding
their other business interests
– Establish anonymous reporting mechanism to
receive tips and complaints
– Periodically run comparisons between vendor
and employee addresses and phone numbers
Proactive Computer Audit Tests for
Detecting Corruption
See details in text
The Human Factor
• Establish clear and reasonable antifraud
standards
• Human failings lead trusted people to violate
trust
• No one factor alone will deter occupational
fraud
• Greed
• Wages in kind
• Unreasonable expectations
Understanding Fraud
Deterrence
• Prevention
– Removing the root causes of the problem
• Deterrence
– Modification of behavior through the perception
of negative sanctions
• Fraud offenders are easier to deter than runof-the-mill street criminals
– Fraud offenders are very deliberate
– Fraud offenders’ conduct can be more easily
modified
The Impact of Controls
• Accountants and auditors expect controls to
do too much
• Many controls have nothing to do with fraud
• Some controls are only indirectly related
• Controls are only part of the answer to fraud
deterrence
The Perception of Detection
• Employees who perceive that they will be
caught engaging in occupational fraud and
abuse are less likely to commit it
• Deal with occupational fraud and abuse in an
open forum
• If not handled correctly, it can cause more
problems than it solves
The Perception of Detection
6 steps to increase perception of detection
– Employee education
– Proactive fraud policies
– A higher stance
– Increased use of analytical review
– Surprise audits where feasible
– Adequate reporting programs
Fraudster’s Perspective
The art of spinning
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Sell people hope
Make excuses as long as you can
“Take responsibility” but shift blame
Accept underlying facts as true but rationalize your actions
When you can’t defend your actions, attack the messenger
Always show your kindness by doing favors
Publicize good deeds
Build strong base of support
Take “high road”, have surrogates do “dirty work”
When you can no longer spin, shut up
Have selective memory under oath
Keep friends close and enemies closer
If under investigation always say you will “cooperate”