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Even your most-trusted employee may be dishonest. Watch for warning signs and take precautionary measures to ensure your business runs as it should. You may even want to purchase an insurance policy to protect you from losses due to employee dishonesty.

One of the most significant crime loss potentials is that of employee dishonesty. Yet many business owners are not aware of just how vulnerable they are of financial loss caused by employees' fraudulent acts.

"They all think it will never happen to them," said Peter Kelley of Kelley's Insurance Associates in Fairbanks.

Lori Wing, senior vice president at Brady & Co. in Anchorage, agreed. "Business owners need to understand it's not just about money," she said. "It can be theft of any kind, including patents, trade secrets, and so on."

Perhaps part of the problem is that business owners are just not aware of the magnitude of the crime. Employee theft is ranked as one of the most underreported crimes in the United States today. Estimates vary, but experts believe it's safe to say that millions of business owners' dollars are siphoned off by dishonest acts of employees every year. "It could put you out of business," Kelley said.

Many are one-time or occasional thefts. However, most large-term losses are caused by long-term schemes, usually committed by a trusted employee, often one who's considered like family. Of course, these are the people usually placed in the best position to steal from your company.

"You want to trust people," said Dan Graves, co-owner and general manager of Valley Sentry Lumber in Juneau. Nevertheless, a sales manager-a 10-year employee described as Graves' right-hand man--was found guilty of second-degree theft in June. Second-degree theft refers to property or services valued at $500 or more and less than $25,000.

The sales manager was helping Graves track down fraudulent credit transfers made by other or former employees. During that time, Graves discovered credits transferred to cards that did not involve those employees. The affidavit alleged this sales manager fraudulently transferred Valley Lumber money to his personal debit or credit card for two-and-a-half years.

It's not unusual for employee dishonesty losses to go undetected for several years. When the Valley Lumber story became public knowledge, Graves said several business owners came forward and said it had happened to them, too.

Valley Lumber can't change its system, according to Graves, but management can monitor staff and assets more closely. "When it gets to the point where you have 30-plus employees, you can't micromanage," he said. "You have to trust someone sometime."

Depending on your type of business, losses of nonrecorded assets resulting from activities such as theft from a cash register, pocketing money for which a receipt has not been given, padding of expense accounts, overcharging of fees for services and/or walking off with assets could eventually exceed the value of recorded assets.

In one sense, Valley Lumber was fortunate. Because the loss involved credits instead of cash, the company could track it, and the court ordered restitution. Other problems remain, however. The theft caused some resentment among other employees and has made everyone suspicious. "The money can be replaced," Graves said, "but attitudes are tougher to fix."

Watch for Motivating Factors

Be aware of the causes behind most employee dishonest acts. It's proven that key factors are opportunity, financial or emotional pressure and employee attitude.

If proper controls are not in place, even the most honest employee might be tempted to steal. "Some employees are not intentionally dishonest," Kelley said, "but money is a temptation."

Pressures caused by things like substance abuse, divorce, excessive debt, extravagant living standards, gambling and/or serious illness might make an otherwise honest employee desperate enough to steal, as well. According to a July 20, 2000 report in the Juneau Empire, when questioned by police, the Valley Lumber employee confessed he'd gone through a divorce and had financial problems.

Furthermore, some employees might feel the company owes them. Perhaps they believe they've been treated unfairly in some way, didn't get the raise or promotion they felt they deserved, and/or think their job is in jeopardy.

Employee theft warning signs include unexplained fluctuations in inventory, employees who ask for a lot of overtime or turn down vacation time, and workers who are good at math and never make a mistake, among other things. Those asking for overtime may be having financial problems. Those who turn down vacations may be trying to hide something. Those who are good at math and never make mistakes may have the skills to hide theft in the books. It's important to remember that these are just warning signs and don't indicate that an employee is actually stealing.

There are measures employers can take to protect themselves from acts of employee dishonesty. One method is loss control. The other is to purchase insurance.

Loss Control Concepts

Kelley recommends business owners make sure bank accounts are reconciled by someone other than those who handle deposits and withdrawals. One of his clients had funds stolen twice, at different times from different employees, because just one person handled both the banking and books. "They didn't change internal procedures," Kelley said.

Kelley, Wing and Sgt. Kevin Siska, supervisor for Juneau Police Department's investigation unit, all suggested business owners establish a countersignature procedure for checks. "Without duel signatures," Siska explained, "it's easy for a bookkeeper to take money and get away with it."

Experts also recommend that you deposit all cash receipts intact daily. Use pre-numbered invoices that require cash to be posted by invoice number. If possible, don't let anyone work with cash alone, and don't let cash accumulate in the till. Develop a system to deposit large amounts of money in a drop box. Be certain there's joint handling of any securities, as well.

Graves advises other business owners to keep their eyes on the books. Review the daily check register. Periodically review cash receipts and deposits on several bank statements. Review all journal entries carefully, as well. Watch out for a large number of unnecessary entries.

Disbursements should be made by check. For accounts payable, implement a system of accountability. Note each invoice as paid to avoid duplicate payments. Establish a purchase order procedure requiring advance approval and use pre-numbered purchase orders. Make sure your suppliers know the system. If your accounting system is automated, make backup copies of the records and store them off the premises.

Wing and Siska advised employers to always have a system of checks and balances. "It's easy to take advantage if no one is checking," Siska said.

For example, last summer the ex-treasurer of the Alaska Folk Festival was charged with stealing some of the non-profit's funds. Juneau Empire reports stated that the current treasurer noticed that dubious transactions were spread over years. The ex-treasurer pleaded no contest. (Under this plea, the defendant does not admit guilt, but the court treats it as a conviction.) In the meantime, the current treasurer has decided to supply basic fiscal information to the board members. Nevertheless, Siska pointed out that in that type of scenario, an established audit would have been a big deterrent.

Kelley agreed. "Small nonprofits, including churches, can and should have an independent audit the books." It doesn't necessarily have to be a full-blown CPA audit, but definitely some form of cross-check. If an employee or volunteer, such as the folk festival ex-treasurer, knows there'll be an audit, he or she will be less likely to take money.

Occasionally, the chief executive or business owner should receive and open the mail. Immediately stamp all incoming checks "for deposit only." Your bank should be able to help design a stamp that includes your comp any name and account number.

Kelley also advised that business owners make people in financial positions take vacations. "If they don't, it's likely they're hiding something," he said. At least two weeks a year is recommended. This gives a substitute a chance to review daily procedures.

In addition to instituting formal management procedures, business owners should implement a formal employment policy for hiring. Check references, order background checks and have new employees complete a special bond application.

Insurance Coverage Can Help

Implementing a loss control program is important, but business owners are advised to purchase employee dishonesty coverage as well. However, according to Kelley and Wick, many elect to just buy minimum coverage. "It's a big problem out there," Kelley said.

"They all think it won't happen to them," Wick said. "Unfortunately, it happens fairly regularly."

Many small businesses might buy a business owners policy. "It has some moneys and securities coverage," Kelley said, "but no employee dishonesty."

For a comprehensive understanding of options, business owners should visit their insurance broker. In brief, employee dishonesty insurance protects the employer from fraudulent activities of an employee or group of employees. For a loss to be covered, the business owner must suffer financial loss and the employee (or another person or organization) must obtain financial benefit from the act. The loss can be the result of the employee's theft of money, securities or other property of the insured. Be aware that inventory shortage is specifically excluded by most employee dishonesty policies.

Most employee dishonesty policies are written on a blanket basis, which provides coverage for all employees who are subject to policy definitions. When selecting a coverage limit, understand that it will apply on a per-loss basis. Multiple acts of dishonesty by one or more employees, even if they occur over a course of several years, are considered one loss.

Some forms of employee dishonesty bonds have a "convict to collect" clause. However, the best coverage, according to Kelley, is a 3-D bond-a theft, disappearance and destruction form, which doesn't have the conviction clause. "Essentially it covers all contingencies," he said.
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Publication:Alaska Business Monthly
Geographic Code:1U9AK
Date:Oct 1, 2000
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