APPENDIX 4: LIST OF SCHEDULE 1 OFFENCES 270
3.3 FRAUD TRIANGLE MODEL
Apart from the actual loss, organisations incur financial costs to have fraud cases investigated and to recover their losses. Laufer (2011:402) argues that a victim organisation may be further prejudiced due to legal costs, negative publicity and poor staff morale resulting from the fraud committed by an employee. Organisations undoubtedly have to spend additional funds for legal fees and costs to institute formal disciplinary procedures against the implicated employee, over and above the direct loss arising from the misappropriated funds.
The Prevention and Combating of Corrupt Activities Act 12 of 2004 was promulgated because the illegal obtaining of personal wealth is considered to be harmful to organisations, the economy, ethical values and the rule of law. Section 34 of this Act also places the onus on persons who are in positions of authority, to report corrupt transactions, inter alia, the offence of fraud involving an amount of R100 000 or more, to any police official. In its attempt to combat fraud and corruption, the government has made management personnel accountable should they not report such cases to the SAPS. The intention of the legislature is to eradicate employee fraud with the assistance of management and the public. Section 29 (1) of the Higher Education Act 101 of 1997 stipulates that a university council should establish committees who will have the delegated authority to carry out certain duties on its behalf. One such committee which is tasked with oversight of audit and risk at a university, is the audit and risk committee (UKZN, 2014:23). According to COSO (2013:148), the role of the audit and risk committee is, inter alia, to ensure oversight over the implementation of adequate and effective systems of internal control to mitigate all risks, including fraud risks by management. Both these Acts should be considered when addressing employee fraud and prevention strategies at universities in KwaZulu-Natal.
In this chapter an analysis is presented of various global fraud surveys that have been conducted by forensic auditing companies such as KPMG and PwC, as well as the ACFE.
Hereunder, the factors of pressure, opportunity and rationalisation are explained in order to obtain enhanced insight into the fraud triangle explained below.
rationalisation. According to Wells (2013:8), this model emanated from a hypothesis that was created by Cressey (1973:30).
The three constructs mentioned above (pressure, opportunity and rationalisation) were utilised in Cressey’s study (Cressey, 1973:30) to establish the causes of employee fraud. These constructs, which are explained in in this chapter, provided an understanding of the root causes that lead to employees committing fraud against their employers.
Cressey’s hypothesis (1973:30) is that persons on whom trust is bestowed, could breach that trust when faced with a financial difficulty. These so-called “trust violators”, as Cressey refers to them, are able to hide their fraudulent conduct and justify to themselves that the stolen funds were due to them in some way. According to Simuyemba (2012:1), this type of justification is premised on an entitlement mentality. The fraud triangle is cited globally as a recognised model in understanding the behaviour of fraudsters.
The fraud triangle model is depicted in Figure 3.1 below:
Figure 3.1: Fraud Triangle
Source: Wells (1997:45)
The three elements of the fraud triangle are referred to by the American Institute of Certified Public Accountants (AICPA; 2002:1722), through its Auditing Standards Board, which issued the Statement on Auditing Standards number 99. SAS 99 (as it is commonly referred to), deals with considering fraud when conducting an audit of financial statements. It stipulates that auditors should consider the pressure, opportunity and rationalisation of employees to commit fraud when auditing financial statements of organisations.
Although various researchers have in recent years modified and adapted the fraud triangle model, Coenen (2008:10) holds that it continues to be a popular model to provide improved understanding of fraud. The three factors of pressure, opportunity and rationalisation, which make up the fraud triangle, arise out of various types of circumstances that lend themselves to committing fraud. Albrecht et al. (2006:32) liken fraud to fire. Fire also requires three essential elements to be simultaneously present for it to ignite: fuel, oxygen and heat. Fire fighters bring fires under control by removing any one element. For example, the fire is doused with chemicals to prevent the supply of oxygen, heat is terminated with water and fuel is removed by building fire breaks. The circumstances that fraudsters rely on to commit fraud are elaborated on in detail below under each of the three factors. This section is particularly relevant to employee fraud and prevention strategies at universities in KwaZulu-Natal.
3.3.1 Pressure
The pressure or motivation to commit fraud forms the first of three parts of the fraud triangle.
Pressure manifests itself in the form of personal financial pressure facing the employee that motivates the employee to commit fraud. According to Cressey (1973:30), the source of pressure is usually a financial difficulty facing the person. The ACFE (2014:59) state in their Report to the Nations that 44% of fraudsters displayed behaviour that indicated that they were living beyond their means before the fraud was discovered. In other words, these persons were living a lifestyle that they were unable to afford or sustain. The ACFE (2014:59) also found that 33% of fraudsters were experiencing financial difficulties that were known to others.
Coenen (2008:10) refers to the element of pressure as “motivation”. In essence pressure or motivation has to do with the reason why a person commits fraud. The pressure experienced by an employee to commit fraud could emanate either from work or personal life. Universities in KwaZulu-Natal should be cognisant of the types of pressure that employees encounter in order to address exposure of the universities to employee fraud.
Albrecht et al. (2006:33) describe four different types of pressures. They are financial, vice, work-related or other types of pressures. According to Albrecht et al. (2006:33), most frauds relate to financial or vice pressures, which involve approximately 95 percent of cases. The vice-related pressure is generally attributed to drug, alcohol or gambling addiction. Work- related pressure could be an employee who is disenchanted at being overlooked for promotion and commits the fraud to get even with the employer. Other pressures could emanate from
wanting to please another person such as a spouse, by buying them expensive gifts. According to Albrecht et al. (2006:33), financial pressure can emanate from greed, living a lifestyle that is unaffordable, incurring a personal financial loss or unplanned financial need.
Albrecht et al. (2006:36) found that most people face different types of pressure in their daily lives, but not everyone is susceptible to committing fraud. They hold the view, however, that a person of sound integrity, with a limited opportunity to commit fraud, will commit fraud if the pressure is excessive. The authors do not provide any examples of instances where this view is supported. Although Albrecht et al. (2006:36) postulate that the removal of pressure will ensure that fraud seldom occurs, this is perhaps not easily achieved. An employer, for example, can have little impact on an employee whose motive is greed or whose pressure is to get even with their employer. Albrecht et al. (2006:33) explain the fraud triangle by means of the
“Fraud Scale”, which is depicted in Figure 3.2 below. The element of personal integrity has an impact on the rationalisation to commit fraud. If the situational pressures and opportunities to commit fraud are low, fraud would not occur when combined with high personal integrity.
Employees with high personal integrity would not rationalise their criminal conduct to justify its commission.
Figure 3.2: Fraud Scale
Source: Albrecht et al. (2006:33)
The results of a fraud survey carried out by Deloitte in the United Kingdom (2012:9) revealed that 43% of cases involved external pressure that motivated the employee to commit fraud.
According to the results of the KPMG (2013:13) global fraud survey, the motives of the fraudsters were personal financial gain, at 47%, followed by greed at 42%. In instances where employees benefit from fraud, based on their motivation (pressure) of greed or personal gain, it is essential for organisations to ensure that their internal control environment is adequately
robust to prevent the risk of fraud by their employees. Opportunities that could be exploited by fraudsters to commit fraud should be minimised.
3.3.2 Opportunity
Opportunity to commit fraud constitutes the second element of the fraud triangle. An employee exploits an opportunity, such as a weak internal control, to commit and conceal the fraud. An employee who is intent on committing fraud either exploits an existing opportunity in the internal control environment or, if there is no available opportunity, creates one to complete the crime. According to Coenen (2008:12), an opportunity to commit fraud relies on the fraudster’s ability to access people and resources within the organisation. These resources are used to commit and conceal the fraud.
Albrecht et al. (2006:37) refer to one control and five non-control elements that significantly contribute towards providing an opportunity for fraud to occur. The control element is:
Deficient controls or circumvention of controls.
The five non-control elements are:
Unverifiable quality of goods or services is evident;
No appropriate disciplinary sanction is taken against employee for committing fraud;
Access to information by management is deficient;
Management is ignorant, apathetic and lacks capacity in terms of fraud, and
Non-existent audit trails are evident.
When these six elements are appropriately addressed, it may limit the opportunity to commit fraud. In addressing the control and non-control elements, in order to reduce the opportunity to commit fraud, Albrecht et al. (2006:37) provide detailed examples and suggestions for the adequate and effective implementation of these six elements. The elements of internal control are explained in detail in Chapter Five.
Albrecht et al. (2006:37) draw attention to the fact that most fraud prevention initiatives are focused on eliminating the opportunity to commit fraud, at the expense of the other two elements of the fraud triangle, namely, pressure and rationalisation. They assert that fraud
fighters are focusing on implementing internal controls and monitoring compliance to such controls. The issues of pressure and rationalisation are being ignored. They postulate that the decreasing levels of honesty in developed countries indicate that employees will continue to commit fraud as they rationalise their conduct, and require fewer opportunities or pressure.
According to Maher (2013:1), an experiment was conducted by the magazine Reader’s Digest in 16 cities around the world. The experiment involved dropping purses that contained local currency of the relevant cities to the value of $50, in parks, shopping malls and sidewalks. The 12 purses that were dropped in each city contained a photograph and a contact telephone number. The result of the experiment was that 47% of those who found the purses returned them to the “owners”; and the remaining 53% kept the purses for themselves. Helsinki in Finland had the most number of honest people, whereas Lisbon in Portugal had the least number of honest people. According to Maher (2013:1), the inference drawn from the study was that honest people could become dishonest based on the circumstances that enable them to be dishonest. A similar experiment could be extrapolated to South Africa to determine, for example, which provinces have citizens that may be susceptible to be dishonest.
3.3.3 Rationalisation
The third element of the fraud triangle, which is rationalisation, poses the highest risk to an organisation, according to Coenen (2008:13). This is because the organisation has little control over employee rationalisation. The fraudster rationalises the wrongful behaviour in his/her mind by, for example, justifying the wrongdoing because he/she was overlooked for promotion at work. Employees rationalise their misconduct in their minds in order to convince themselves that the fraudulent act that they are going to perpetrate is acceptable conduct. They use different scenarios to justify their fraudulent act to themselves. Albrecht et al. (2006:51) and Coenen (2008:13) share the view that fraudsters justify their misconduct in their minds by attributing it to a bonus or salary increase that they were entitled to but never received; they are also borrowing the money and will repay the money to the organisation, and moreover, no one will miss the money.
The entitlement mentality as explained by Simuyemba (2012:1), is apt in this instance. Coenen (2008:13) is also of the view that fraudsters rationalise that the organisation brought the fraud upon itself by not implementing stronger controls and monitoring over the funds. Furthermore,
Albrecht et al. (2006:51) suggest that fraudsters also use other rationalisations such as the belief that fraud is perpetrated with a good cause in mind; the fraudster will rectify the book entries once the financial pressure is sorted out, and lastly, either the integrity or reputation of the fraudster has to be sacrificed in order to prevent embarrassment to them should the fraud be detected and exposed. Wolfe and Hermanson (2004:38) summarise rationalisation as the
“attitude” of a fraudster towards his conduct. The Merriam-Webster Dictionary (2014) describes attitude as “a feeling or way of thinking that affects a person's behaviour”. The manner in which a person thinks or rationalises his/her intended actions will influence his/her response towards that conduct. The elements of the fraud triangle are of particular relevance when addressing employee fraud and prevention strategies at universities in KwaZulu-Natal.