Fraud Triangle

Donald Cressey made the concept of the Fraud Triangle. The formulation of the theory required Cressey to interview about 200 convicted embezzlers around the Midwest, which he dubbed “trust violators.” The people that had entered the workplace with no intention of stealing picked his interest.

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What is fraud triangle
source- takepart.com

Businesses still need to work more to lessen the financial pressures and diminish the rationalizations that drive to fraud. The FERF (Financial Executives Research Foundation) recently published the results of its studies of financial officials, managers, and employees. The article, Breaking the Cycle of Fraud, recommends strategies and policies to mitigate the issues in two sections of the fraud triangle that is most closely connected to ethical matters: rationalization and financial pressure.

The fraud triangle was formed by criminology researchers Donald Cressey and Edwin Sutherland to explain the three elements that come collectively when an individual commits fraud:

  • Rationalization: People with weak ethics, has the mind-set of the fraudster that justifies the crime.
  • Opportunity: Weak internal controls support the fraud to occur.
  • Financial pressure: Is the recognized need for committing the fraud.

Fraud Triangle Definition

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fraud triangle
source- chamasoft

By imposing stronger internal controls and processes, organizations can take definite, visible action to lessen the risk of opportunity. However, rationalization and financial pressure together include individuals’ moral framework and organizational culture, and those are much more challenging to influence overtly and directly.

Financial Pressure

Breaking the Cycle reemphasizes the broadly described significance of a positive tone at the top of the company in mitigating financial pressure. The report details various historical examples where a pressured corporate culture brought to demolish. In such cases, managing short-term financial performance targets for bonus purposes was given far higher priority by senior managers than was acting ethically and considering the sustainability of the company.

There are few lower-level executives and employees in an organization that likely to do almost anything to please their managers and bosses even if it violates provisions in the company’s code of conduct as well as their own ethical standards.

However, it’s noted that businesses are expanding performance goals to avoid such kind of fraud.

FINANCIAL PRESSURE
FINANCIAL PRESSURE

In the year 2015, the SEC declared a proposed rule to require corporations to publish the connection between executive pay and an organization’s financial performance. The new law intends to support stakeholders to receive notifications clearly while electing directors and voting on proper compensation.

The metric defined to represent organization performance implies total stakeholder return calculated every year and compared to the total stakeholder return of a peer group of organizations. However, this rule will only reinforce the current focus on short-term financial targets and goals. Performance measurements for satisfying senior managers and others should expand to include and embrace the accomplishment of a more ethics-based subject.

Rationalisation

The FERF report lists a number of essential features of an efficient, ethical environment that strengthens and encourages efforts to avoid the rationalization of improper conduct.

It includes practical ethics training tailored to the organization, yearly surveys of workers’ opinions, and useful whistleblowing applications. The training should include all managers’ levels of the company. And include real-time world examples of the adverse outcomes of unethical behaviour. And also be based on the company’s code of ethics, and involve true-to-life applications. A few types of research have shown that face to face training is likely to be most effective and fruitful.

Rationalization
Rationalization

The year-end reviews of employee perspectives and evaluations of the noble spirit recommended by Breaking the Cycle must be professionally planned to avoid driving questions. Investigations must also be delivered anonymously to encourage accurate responses that will help assess the ethical environment of the organization and the effectiveness of the ethics program. Otherwise, the effort might not be sufficient.

If administered correctly, helpline programs or whistleblowers are compelling and essential in detecting and deterring unethical conduct in the company.

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Encourage Whistleblowing

In 2014, the Anti-Fraud collaboration reported that many employees are reluctant to report wrongdoing internally using their business reporting method.

The reason for not mentioning is the fear of retaliation. The reason for not saying is the fear of reprisals. In an organization, employees assume that senior-level management becomes connected and won’t take any effective action to prevent unethical conduct. There are few legal protections for whistleblowers in some states and some businesses. This is why the IMA Statement recommends that employees facing an ethical dispute should consult their own management.

Whistle blow
Whistle blow

Ethics training should involve motivation for each and everyone in the company. As well as distributors, to use the helpline when sanctioned. Some of the highlights of an adequately designed whistleblower helpline include comprehensive passage with worldwide language ability and adaptation to local cultures. And also protocols for handling any reports professionally, if necessary; a single helpline for all ethics-related concern; methods for confidential reporting of results; including documented formal processes for timely investigation and legal information security and document maintenance policies.

The IMA Statement of Ethical Professional Practice requires that all members shall encourage others within their company to act. In accordance with its stated principles: Fairness, Responsibility, Objectivity, and Honesty.

Combating Occupational Fraud

People will always continue to find ways to steal and deceive. But I genuinely think that all actions that take place in the dark will one day come to light. The best way to stop employee fraud is to embrace practices that will decrease or lessen opportunity and incentive. Lack of or readily overridden controls, absence of management review and strategy. And also incompetent auditing is a common factor that allows fraud to occur.

Have you done your share of encouragement lately? Let us know in the comments below.

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