In my article on fraud under this column last week, I cited PwC’s 2018 PwC Global Economic Crime Survey (GECS) Report which showed that 87% of internal fraud committed over the last two years were by members of management, specifically by junior, middle and senior corporate officers. In terms of principal function, the top five to which these internal fraud perpetrators belong are: Operations and Production (22%); Marketing and Sales (14%); Finance (11%); Procurement (10%); and Executive Management (10%).
The above results align with my personal observations as a forensics practitioner, which is that most corporate fraud having the biggest financial impact are committed by internal actors who are in a position of trust. Corporate fraud is usually the combined result of two things: (1) a perpetrator abusing his fiduciary authority; and (2) the existence of a conflict of interest. We can even go so far as to say that there is a cause-and-effect relationship between the two. While most reported fraud incidents primarily involve situations where an individual exploits the fiduciary authority entrusted to him, what really emboldens them to do so is if they can capitalize on opportunities to circumvent existing controls for their own benefit, allowing them to get away with fraud without getting caught. One often exploited opportunity is the inadequacy of appropriate management controls, lack of senior management oversight, and/or infrequent or absence of surprise audits and compliance reviews concerning conflicts of interest.
Allow me to tell you of two interesting cases that I investigated in the past. I have intentionally changed the names of actual characters to avoid identification.
The first case involves John Doe, a Registered Engineer who worked in XYZ Corp. for more than 20 years as Operations Manager. A month before he got terminated, he was seen receiving an achievement award from a well-known multi-level marketing company that sells herbal food supplements. Little did he know, a supplier had already filed a complaint against him and the auditors were already conducting an immediate investigation on his activities. To cut the story short, the investigation revealed that John Doe had used his position to ask suppliers to buy boxes of herbal food supplements over the course of 5 months. Unless they agreed to buy the supplements, John Doe would either delay or disapprove the required project clearance for the supplier to get paid. In the end, John Doe got terminated from his position due to the grave abuse of his authority. On the other hand, while the company did not lose any money or company assets, its reputation with suppliers took a hit owing to the acts of John Doe.
Another case involves the President of a well-known company, who had been very effective at his position. While he made significant reforms within the organization and was very much instrumental in turning the whole business around, he used his authority to influence the competitive tendering process for a multi-million business transformation project. He instructed the Bids and Awards Committee to quickly decide upon the winning bidder due to the urgency of the project. However, he did not disclose that his son was a Director at one of the bidders, which ended up winning the project. This case is a classic tale of a conflict of interest where a senior management exercised his undue influence, thereby tainting the sanctity of the bidding process in favor of a conflicted entity. Upon discovery, the President was similarly removed from his position.
These are very common incidents in Philippine businesses — you may even have heard of similar incidents in your business circles. Each of these anomalies, driven by conflicts from which a corporate officer abuses his authority for his own benefit and/or unfairly favors a close relative or a personal friend or an entity where he has business interest, result in questionable integrity due to undisclosed conflicts of interests.
The question now is — how should organizations handle conflicts of interest?
First, the regular disclosure of potential conflicts among personnel is very critical to any organization. There is a need to ensure that corporate representatives, from employees up to the Board of Directors, are aware of what conflicts of interest are and are knowledgeable on the steps for disclosing conflicts, so that appropriate controls can be implemented to mitigate, if not resolve, such conflicts. One of the best advice I can give to persons occupying positions of trust is to simply be transparent and declare in writing the potential conflict. They should openly declare if there are any potential conflicts on transactions with third parties who are doing business with the company.
At the same time, more rigid detective controls must be implemented across the organization as this helps to establish oversight on controls and overall governance, ultimately ensuring that undisclosed conflicts potentially posing more risks to the company are identified and addressed in a timely manner.
For any potential conflicts of interest, it is extremely important to take note of the functions performed by the subject employee and to also understand the nature of his relationship with the third party to be engaged by the company for a particular project.
For major projects subject to bidding, it is prudent to conduct relationship checks on interested bidders as a form of due diligence prior to accepting bids. Any potential conflicts identified should be handled accordingly. Finally, companies need to implement the appropriate safeguards to ensure that independence and objectivity are maintained at all times.
Organizations should not discount the importance of managing conflicts of interest. Whether real or perceived, a potential conflict of interest that is clearly present or widely-known within the organization that is not resolved appropriately may greatly affect your business relationship with third parties. This would affect the company’s sustainability in the long run. For example, suppliers who feel that they have lost business opportunities and are at a disadvantage against more favored suppliers, may no longer wish to transact with the company in the future, possibly leading to higher production costs and lower profits.
The views or opinions expressed in this article are solely those of the author and do not necessarily represent those of PricewaterhouseCoopers Consulting Services Philippines Co. Ltd. The content is for general information purposes only, and should not be used as a substitute for specific advice.
Aurelio Mari G. Gueco
Consulting Senior Manager, PwC Philippines
Tel: +63 (2) 845 2728 ext. 4892 or 3448