13th March, 2014 · Dealership Operations

Fraud: The Enemy Within

4 minutes to read

In this article

The fraud triangle

The fraud triangle is one of the older and more basic concepts in fraud deterrence and detection.

Fraud, dealerships and weak internal controls

Savvy Dealers and financial controllers must focus on the aspect of the fraud triangle they have the most control over: opportunity.

The tough Questions

These are the internal control-related areas where your dealership could be most vulnerable.

Is your dealership’s bank reconciliation performed regularly and are the adjustments posted promptly?

Bank reconciliations should be conducted monthly at a minimum, but preferably daily, by an employee not involved in the dealership’s cheque-writing and EFT processes.

Does the parts system agree with the general ledger?

Dealerships should do a monthly reconciliation of the parts system with the general ledger.

Who signs the dealership’s cheques?

An employee charged with signing cheques should not also be responsible for posting journal entries or reconciling bank and dealership records, nor have easy access to cheques.

Is the warranty receivables schedule reviewed for aged items?

Aged warranty receivables mean the dealership is missing out on cash due from the franchisor.

Does someone separate from the new and used department take a physical inventory of arriving stock?

It’s wise to have an independent review of the physical inventory – as discrepancies can be picked up quickly with a fresh pair of eyes.

Are dealership purchases made from an approved vendor list?

A Dealer can receive price concessions by purchasing supplies from a single vendor.  It makes good business sense to have an approved preferred supplier listing.

Which employees are allowed to post journal entries?

Determining which employees can post journal entries is crucial. For example, a cashier’s responsibility of collecting and processing cash received conflicts with his or her authority to post journal entries, especially in terms of creating risk.

Who approves journal entries?

Management should regularly review the original journal entries to understand and verify the purpose of all entries.

How secure is your used vehicle wholesaling?

In recent years fraudulent activities in used vehicle wholesaling has been more prevalent.  This particular area of fraud often involves wholesalers.

EFTs – emerging area of fraud

Traditionally, businesses have paid their creditors by cheque and implemented simple controls such as two cheque signatories to ensure the validity of the payment.

Controlling the controls

In today’s economy, dealerships cannot afford to ignore the risks posed by substandard internal controls.

Red Flags of Fraud

Is there a fraudster amongst your ranks? Look out for these traits and warning signs, including:

Managing internal control risks is the key to avoiding any nasty surprises
The automotive industry is experiencing many significant changes which are highlighting the importance of strong, well-managed internal controls more than ever. While increasing difficulties in maintaining profit margins leave many businesses vulnerable to fraud, critical accounting tasks are falling ‘through the cracks’ as overstretched staff take on more responsibility.

Businesses that are aware of the threat of fraud and take the precautionary steps to avoid it are best protected from this common problem. Here are the basics you need to know to help protect yourself.

The fraud triangle

The fraud triangle is one of the older and more basic concepts in fraud deterrence and detection. The three key elements in the fraud triangle are opportunity, motivation and rationalisation.

Opportunity is the ability to commit fraud; motivation is the ‘need’ to commit fraud and rationalisation is the process where a person reconciles their behaviour with commonly accepted notions of decency and trust.

Fraud, dealerships and weak internal controls

Savvy Dealers and financial controllers must focus on the aspect of the fraud triangle they have the most control over: opportunity.

By re-evaluating their internal controls and asking key questions about their business and fraud prevention, Dealers can stay one step ahead of fraudsters by preventing the opportunity for fraud.

The tough Questions

These are the internal control-related areas where your dealership could be most vulnerable. Ask yourself these questions and see how your business compares.

Is your dealership’s bank reconciliation performed regularly and are the adjustments posted promptly?

Bank reconciliations should be conducted monthly at a minimum, but preferably daily, by an employee not involved in the dealership’s cheque-writing and EFT processes. In addition to identifying discrepancies between the bank’s records and the dealership’s general ledger, this person is required to post the adjustments to maintain the accuracy of the financial records throughout the month. Distributions to the owners, floorplan payouts and other EFTs not posted to the general ledger on a timely basis can easily distort the financial picture, potentially leading to cash management issues.

Does the parts system agree with the general ledger?

Dealerships should do a monthly reconciliation of the parts system with the general ledger. Failing to reconcile this opens the door to employee fraud. For example, the parts manager could sell parts and keep the cash without suspicion or adjust parts values to boost department performance measures.

Who signs the dealership’s cheques?

An employee charged with signing cheques should not also be responsible for posting journal entries or reconciling bank and dealership records, nor have easy access to cheques. Although many Dealers address the issue by requiring two signatures on every cheque, the reality is that cheques often clear banks without both signatures.

Is the warranty receivables schedule reviewed for aged items?

Aged warranty receivables mean the dealership is missing out on cash due from the franchisor. If the warranty receivables schedule is not reviewed regularly, an employee could use the schedule to hide journal entries and simply credit cash for the removed funds and debit warranty receivables.

Does someone separate from the new and used department take a physical inventory of arriving stock?

It’s wise to have an independent review of the physical inventory – as discrepancies can be picked up quickly with a fresh pair of eyes. Independent reviews of the physical inventory will also reduce the likelihood of employees taking liberties with new and used stock.

Are dealership purchases made from an approved vendor list?

A Dealer can receive price concessions by purchasing supplies from a single vendor.  It makes good business sense to have an approved preferred supplier listing. Dealers are often surprised to discover that they purchase some of their service supplies from the Service Manager’s brother-in-law. These arrangements do not always result in inflated prices but, ideally, a dealership group can obtain price concessions by purchasing all of its supplies from a single vendor.

Which employees are allowed to post journal entries?

Determining which employees can post journal entries is crucial. For example, a cashier’s responsibility of collecting and processing cash received conflicts with his or her authority to post journal entries, especially in terms of creating risk. The cashier would be able to take cash and cover the differences with write-offs through journal entries.

Who approves journal entries?

Management should regularly review the original journal entries to understand and verify the purpose of all entries. Journal entries represent a valuable tool for hiding fraud. The basic rule is the individual who has responsibility over an asset should not be in a position to remove that asset from accounting records.

How secure is your used vehicle wholesaling?

In recent years fraudulent activities in used vehicle wholesaling has been more prevalent.  This particular area of fraud often involves wholesalers.

Dealers should have a list of approved wholesalers that is regularly reviewed.  They should also have a range of wholesalers, as reliance on one or two can provide opportunity for collusion and ultimately fraud.  Careful analysis of exception reports from a dealership DMS may provide early detection of fraudulent activities.

EFTs – emerging area of fraud

Traditionally, businesses have paid their creditors by cheque and implemented simple controls such as two cheque signatories to ensure the validity of the payment. The same type of minimum controls need to be applied to EFT payments. Dealerships should establish a system for EFT payments whereby one staff member initiates the payment and another person authorises the payment using a different and secure PIN code.

Controlling the controls

In today’s economy, dealerships cannot afford to ignore the risks posed by substandard internal controls. By employing strict internal systems and control reviews, Dealers can analyse their risk and develop a long term plan to mitigate it and reduce any related losses.

Red Flags of Fraud

Is there a fraudster amongst your ranks? Look out for these traits and warning signs, including:

  • Staff who don’t like people reviewing their work
  • Have a strong desire for personal gain
  • Have a ‘beat the system’ attitude
  • Live beyond their means
  • Form close relationships with customers or vendors
  • Often have a ‘too good to be true’ work performance
  • Don’t take vacation or sick time or only take leave
  • in small amounts
  • Staff who often work excessive overtime
  • Often display some sort of drastic change in behaviour

 

Author: John Gavljak
Audit and Assurance Expert