Protecting the family business from fraud
“It happened to me.”
I heard that repeatedly after a Family Business Alliance session earlier this month on “Fraud and Embezzlement in the Family Business.” Tyra Dellacroce, the second-generation vice president of Connecticut Stone, shared a very honest — and very painful — story about an embezzlement that shook her family business.
Since that session, I continue to have family business owners in West Michigan share their stories. As one next generation family business manager told me, “Embezzlement happened to my dad in his old company, and he still doesn’t trust anyone.”
Fraud and embezzlement have touched many of our lives — and their impact is astounding.
Before you think this won’t happen in your company, Ron DeWaard pointed out during the presentation that businesses lose on average 5 percent of topline revenue to fraud each year. A recent Marquet Report on Embezzlement noted Michigan has experienced the second highest number of major embezzlements from 2007-13.
Dellacroce’s story highlighted many important takeaways, but in my mind, the most important was how these criminal activities have a devastating ripple effect. It’s not just the perpetrator who is affected and not just the family who suffers, but the employees, the company’s suppliers and customers and the greater community.
Businesses go out of business because of fraud and embezzlement. Relationships and reputations are ruined, and the impact lasts for generations to come.
So, how do you detect when someone is intentionally stealing from your company, and how do you create an “anti-fraud” culture in your family business?
Who is stealing from you?
Based on the findings of the Marquet Report, most “big-time” embezzlers start in their early 40s with schemes that usually last a little under five years, as they did in Dellacroce’s case. Also similar to Dellacroce’s case, most embezzlers are in bookkeeping or finance positions. In these roles, they are typically a trusted resource for the family and also can be a family member.
Dellacroce knew her nonfamily CFO since the age of 10. He was best friends with her older brother. Because her parents had trouble trusting “outsiders” with the company’s financials, her siblings thought having someone they considered another brother and who also had the right résumé would help their parents overcome their distrust.
Dellacroce’s leadership team tried to do it right. They had the proper internal controls in place, only to find out the new CFO dismantled them the first year in the job. Connecticut Stone’s leadership team required the new CFO to be an “outsourced” employee, trusting and expecting the firm the CFO was outsourced from, as well as his other clients, to be credible references.
And while women (61.1 percent) are more likely to embezzle than men (38.9 percent), men ($1.8 million) usually embezzle more money than women ($800,000). Dellacroce’s “trusted” CFO embezzled an estimated $3 million from the family business.
How to detect fraud
Dellacroce pointed out several ways to detect potential fraud:
- Sudden and unexplained cash flow problems.
- Failure to receive financial reports on a timely basis.
- Unexplained increases in expenses.
- Increase in vendor and billing complaints.
Several FBA members added a few additional red flags of their own, including “something didn’t feel right” and “my CFO told me not to worry about it.” In one case, the CFO vigorously told the owner not to do something (like an audit or valuation) but was unable to give a good reason why.
How to create an “anti-fraud” company
Dellacroce and DeWaard repeatedly stressed the importance of creating an “anti-fraud” culture. One of the first steps is implementing and promoting a “fraud hotline” within your company. They are worth the investment, typically about $500 a year, since most fraud cases are identified by an anonymous tip.
Other recommendations Tyra recommended include:
- Establish a visible fraud governance process.
- Create a transparent anti-fraud culture.
- Conduct a thorough fraud risk assessment periodically.
- Protect your employees! Create and maintain outstanding internal controls. As a former bank owner said to me about creating internal controls, “We aren’t necessarily protecting the organization from the person, we are protecting the person from the job responsibility.”
- Have a quick response to allegations of fraud.
How to report a crime
If you do find evidence of fraud, both Dellacroce and DeWaard spoke about the strengths of our local police department, but it became evidently clear the ideal way to report a large embezzlement crime is to a federal agency, such as the FBI or IRS.
Ideally, your attorney should be able to help you figure out which path is best for your situation, although I hope you never have to use the words, “It happened to me.”
Ellie Frey Zagel is the director of the Family Business Alliance, which is based in Grand Rapids and serves family businesses all over the State of Michigan and beyond. You can find her at Ellie@fbagr.org and fbagr.org.