One of the largest forfeitures ever imposed on a construction company was handed down to a prominent New York City-based building and interiors firm earlier this year after the company pled guilty to a litany of fraud charges, including client over-billing and falsifying business records. In addition to forfeiting $55 million, the company’s former CEO and chief investment officer will serve prison time. Both executives owe millions of dollars in restitution.

From the C-suite down, construction operations of all sizes are not immune to occupational fraud. The sheer complexity of the industry leaves businesses vulnerable to a litany of fraud schemes, the majority of which are not new. However, organizations can implement anti-fraud controls to limit the risk of corruption and ensure an effective compliance program.

Set a No-Tolerance Tone at the Top
Establishing a fraud-free culture starts at the top. Employees who witness superiors modeling ethical behavior are less likely to engage in illegal activity. Companies that maintain ongoing ethics training and a code of conduct set a clear benchmark for employee behavior. An organization must demonstrate a willingness to prosecute all findings of fraudulent activity and not disregard certain violations. 

Furthermore, when setting up deterrence programs, an organization must educate employees about fraud and how it hurts the business.  

Implement Fraud Reporting Mechanisms
Overwhelmingly, more fraud cases are discovered by employee whistleblowing than by any other method. Encourage employees to report illegal or suspicious behavior confidentially. In addition, encourage anyone involved in the business cycle, including customers and suppliers, to report suspicions of fraud. Set clear channels for how and to whom employees may report unethical activities. 

Keep in mind, executives must first establish an environment of trust and accountability. Fear that management will not take corrective action or not believe an employee’s claim will undermine the reporting process. 

Establish Internal Controls
In a small business structure of less than 100 employees, a few trusted people often manage several functions. But what happens if an unethical employee handles payroll? The operation is susceptible to check tampering, fraudulent billing and other financial schemes if internal controls are lacking. When manpower is limited, owners and managers need to give closer oversight and more frequent reconciliation of potential problems.

Additionally, segregation of duties ensures no single person has control over the process, especially in high-risk areas such as finance or inventory operations. For example, separate the company’s deposit functions from its recordkeeping functions, or ensure employees who write checks are not authorized to sign them. Also consider implementing procedures for reviewing orders, variance analysis, computerized tracking and review of supporting documentation. Even with trusted, long-time employees on the payroll, it’s important to put internal control measures in place.

Perform Audits
An audit is paramount to ensuring business processes and financial systems are in order. No matter the stage of the project cycle, a construction audit can help operators meet project goals, resolve potential problems and recover lost funds.

External auditing specialists can help negotiate favorable contracts, validate contractor compliance, reconcile project expenditures, monitor construction closeout and prevent conflicts that may lead to costly litigation. In addition to supporting current activities, an audit will safeguard future projects.

Other Considerations
Soliciting a high number of bids decreases the possibility of collusion. Moreover, due diligence in the bidding process can help disqualify risky contractors. Just as employee background checks are an important part of the business, so too is vendor management. An effective vendor screening process ensures suppliers have an acceptable business reputation and the appropriate qualifications and licenses. 

Understanding why fraud occurs is as important as understanding how fraud occurs. Research conducted by the Association of Certified Fraud Examiners reveals the average fraud perpetrator is generally a first-time offender with a spotless record. 

The circumstances of pressure, opportunity and rationalization are three basic components that make up the triangle of fraud and are present in most fraud cases. Pressure such as mounting debt, divorce or unrealistic business results can motivate a person to engage in illegal acts. A jobsite with weak controls or unlimited access provides the opportunity. The most crucial component in the triangle of fraud is rationalization—the fraudster’s justification for committing a crime. 

Further studies have found higher incidences of occupational fraud among organizations with high turnover and a lack of staff training and that ignore irregularities. Be cautious of employees who refuse to take vacation, exhibit on-the-job behavioral changes, or make elevated lifestyle purchases such as a new car, jewelry or other expensive items. While these red flags don’t always prove fraudulent activity, they highlight the potential presence of fraud and provide managers with an opportunity to investigate deeper.

From corrupt employees to unscrupulous vendors, it is impossible to stamp out fraud in the construction industry, but the prosecution of those who commit fraud has resulted in stricter practices and tighter controls. By implementing practical tactics for recognizing and responding to fraud, it is possible to mitigate the risk. 


David Acosta is a member of the American Institute of CPAs Forensic and Valuation Services Section. For more information, visit www.coopercpagroup.com.