11/22/2012 Meeting - Fraud In The Construction Industry
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  • May be a good point to discuss private versus public works, other generalities about construction.
  • You’d be reviewing the audit trail between December through January, and you’d be looking for larger sums, or perhaps for smaller sums like this, that tend to repeat. But this is an example of the process you’d take when you are testing for suspicious transactions that are affecting the financial statement….
  • Asked- why would you want to overpay? Answer- you may be hiding personal work the sub performed, this may be money from one contract used to pay the sub for work done on another contract that has been purposely underpaid to prevent the client or lender from seeing an over-budget project, you may be paying for materials used on your owm home…
  • Questions I had at last presentation- difference between public and private works in terms of transparency/opportunity to defraud client; how did I respond to ORC fraudulent acts;
  • How did I respond to this assessment- took the view that this company is new and uninformed with regard to what constitutes fraud/what is illegal. Will I follow up with them?
  • Basic Risk Assessment checklists and guidelines are available on the ACFE website.

11/22/2012 Meeting - Fraud In The Construction Industry 11/22/2012 Meeting - Fraud In The Construction Industry Presentation Transcript

  • P R E S E N T E D B Y : R A C H E L V I L L I C A Ñ A , C F E Construction Industry Fraud
  • Professional Background  Certified Fraud Examiner  LEED AP; Certified Associate Project Manager  6 years of Industry-Related Experience  President of Radii Consulting  www.radiiconsulting.com  Speaker at UCB 2012 Leadership Symposium: “Entrepreneurship” Panel  MA- Forensic Psychology; UC Berkeley Alumna
  • I N D U S T R Y B A C K G R O U N D C O M M O N F R A U D S C H E M E S I N T H E I N D U S T R Y F R A U D R I S K S S P E C I F I C T O C O N S T R U C T I O N F R A U D R I S K A S S E S S M E N T S C A R E E R S I N T H E F I E L D Overview
  • Construction Industry Statistics  Nationwide  Annual Revenue:  $1.731 Trillion  Active Companies:  729,345  Number of Employees:  7,316,240  (April 2012, US Census Bureau)  Statewide  Annual Revenue:  $171.369 Billion*  Active Companies:  72,173 (9.9%)  Number of Employees:  723,978*  *Based on 9.9% rate
  • Estimated Annual Fraud Loss in Industry  Based on the ACFE‟s 2012 Report to the Nations, CFE‟s nationwide estimate a 5% annual loss in revenue due to fraud.  5% of $1.731 Trillion: $86.55 Billion in potential projected annual losses;  5% of $171.369 Billion: $8.57 Billion in potential projected annual losses in California.
  • Financial Statement Fraud Timing Differences Unauthorized Expenditures Misclassified Expenditures  Timing Difference Scenario: Harry Johnson of ABC Builders altered the date of transactions to adjust financial statements to ABC‟s advantage.  Tax purposes- lower annual net profit.  Lending/Banking purposes- increase assets; decrease liabilities.
  • Contract Fraud Defective Pricing Product Substitution  Defective Pricing Scenario: Georgia Sanders from 123 Construction submitted low bids to obtain jobs.  She knew her company would lose money if they performed these projects.  Expected to recover losses through forced change orders.
  • Investigating the Scenario:  Original contract value was $1,000,000. Final costs to client were billed at $1,500,000, with no significant change of scope.  Review of correspondence with client to determine whether change orders were approved.  Review of project costs- invoices from suppliers, field labor, and overhead charges.  Review contractor‟s financial statements and current credit situation, determine whether there‟s motivation to defraud the client.  Conduct interviews with field foremen- were these additional costs due to significant changes in field conditions/availability of materials.
  • Bid Rigging Bid Rotation Bid Suppression Complementary Bidding Collusion  Case Study:  At UC Berkeley:  3 mechanical subcontractors have blanket work authorizations  These subs are directly awarded jobs on a rotational, yet bid-based cycle  Subs are known to engage in bid rotation and suppression, since they are all friendly.  However, they want to maintain a positive, long-term relationship with the owner.
  • Payroll and Labor Fraud Undocumented Employees Ghost Employees Labor Mischarges  Case Study:  John Smith, owner of Construction, Inc., anticipated a large profit from a $1,500,000 contract.  He purchased materials with company funds and sent two employees to perform construction work on his home during weekend hours.  The employees were directed to bill this time to the contract mentioned above.
  • Financial Statement Fraud- Resources  Utilize in-house software reports  Ex. Quickbooks reports:  “Audit Trail”  “Voided/Deleted Transactions Detail”  Audit tax returns  Corporate returns  Personal returns of shareholders/officers  Review bank and credit card statements  Examine credit account applications  Compare printed copies of financial statement reports  Third Party Information- CPA, Enrolled Agents  Employee Interviews
  • Contract Fraud- Resources  Project file audits  Compare contract drafts  Research available correspondence  Emails  Voicemails  Employee interviews  Customer interviews  Third party information  Suppliers  Subs  Competitors
  • Bid Rigging- Resources  Employee Interviews  Third-party interviews  Review bid documentation  Audit original project (bid) file  Research correspondence  Emails  Voicemails  Gather related bids  Subcontractor bids  Competing contractors.  Obtain bid results from public agencies.
  • Labor Fraud- Resources  Audit employee files  I-9; W-4  Background investigations  Audit payroll summaries  Review cancelled checks  Review Worker‟s Comp insurance reports  Audit insurance files  Compare certified payroll reports against in-house payroll summaries  Employee Interviews
  • Why Assessing Risk Matters Fraud Prevention  Realize Larger Profit Margins  Maintain Positive Reputation  Maintain Business Relationships  Improve Company Efficiency  Avoid Legal Repercussions
  • Why Assessing Risk Matters Fraud Detection  Mitigate further losses  Recover some losses  Improve company relations  Problem Solving  Conflict Resolution  Involve law enforcement  Lessen corporate responsibility  Accountability for the blameworthy  Regain control of company
  • Fraud Risk Assessment Modules (ACFE)  Employee Assessment  Management Assessment  Physical Controls- Deterrence  Skimming Schemes  Cash Larceny  Check Tampering  Cash Register Schemes  Purchasing/Billing Schemes  Payroll Schemes  Expense Schemes  Inventory/Equipment Theft  Theft of Proprietary Info  Corruption  Conflicts of Interest  Fraudulent Financial Reports
  • Fraud Risk Assessment- Case Study  Fraud Risk Assessment- Assessing whether fraud may be occurring and what vulnerabilities do exist.  Case Study: Orange River Construction Vulnerabilities Shop Keys Key Lockbox- client keys Signature Stamp Checkbook and Drawers Employee Opportunities & Motivations Identified Fraudulent Activities Financial Statement Fraud Undocumented Laborers Defective Pricing Forgery
  • Skills Utilized Tools and Techniques  Observation Skills  CFE Knowledge  Critical Analysis  Industry Knowledge  Administrative Background  Interpersonal Skills  Basic Computer Forensic Techniques  Interviews  Checklists  Historical Data  Third Party Information  Public Records Assessing Orange River Construction
  • Orange River: Identified Risks and Frauds  Employee Assessment  Management Assessment  Physical Controls- Deterrence  Skimming Schemes  Cash Larceny  Check Tampering  Cash Register Schemes  Purchasing/Billing Schemes  Payroll Schemes  Expense Schemes  Inventory/Equipment Theft  Theft of Proprietary Info  Corruption  Conflicts of Interest  Fraudulent Financial Reports
  • Orange River, Specific Examples  Employee Assessment- majority of employees are unhappy at this company.  Management Assessment- President has history of „burned bridges‟, unaccommodating personality.  Physical Controls- lack of security at shop.  Payroll Schemes- overtime not paid to particular employees; ghost employees receiving health insurance.  Conflicts of Interest- President‟s landlord is company‟s tenant and landlord‟s company is contractor‟s subcontractor.  Fraudulent Financial Statements- Timing Differences.  Signs of Contract Fraud- excessive proportion of clients on payment plans due to overbudgets.
  • Preventive Measures  Know current and pending regulations.  Company policies  Code of Ethics  Fraud Prevention and Detection Policies  Whistleblower Protection Policy  Social modeling- strong values of senior management.  Legal counsel, external advisors (including a CFE).  A) Regular and B) unplanned audits.  Mandatory vacations.
  • Career Opportunities  Work within the Industry:  Become a Project Risk Management Professional (PMI Certification)  Join a Large Company  Legal Division  Financial Counsel  VP  Join a third-party service company:  Consulting firm  Forensic accounting firm  Construction litigation firm, etc...
  • Or….Be Your Own Boss  Become an independent consultant:  Your value-added:  Stronger credibility when defending against litigation or criminal accusations.  Higher degree of trustworthiness when banking and lending are involved.  Few industry competitors.
  • Consulting Tip  Develop relationships  Networking:  Industry Events  Conferences  Chapter Meetings  Board positions on large companies  External advisor for small companies  Volunteer to Lead Workshops  Fraud Risk Awareness Trainings
  • One More Tip…  Offer (free) Fraud Risk Assessments!  A Fraud Risk Assessment can reveal multiple areas of vulnerability in a construction company.  Offering an Assessment can lead to obtaining a contract to provide risk mitigation services.  These services allow you to better network within the industry:  Provide great service to a general contractor- you may obtain access to its industry network of clients, suppliers, and subcontractors.
  • Resources  Fraud Examiners Manual- 2011 edition: www.ACFE.com  Managing the Business Risk of Fraud: http://www.acfe.com/uploadedFiles/ACFE_Website/Content /documents/managing-business-risk.pdf  Sample Fraud Risk Assessment from ACFE website: http://www.acfe.com/fraud-risk-assessment.aspx  California Infrastructure Projects- A Guide to Successful Contracting and Dispute Resolution: http://constructionlawyers.com/CM/book/table_of_contents .html  Bid Rigging (from California Contractor magazine): http://www.agc-ca.org/uploadedFiles/Publications- Products/Constructor-Mag-PDFs/March2010.pdf