Dealer Insights - July August 2014 - Internal controls: How can you Deter Fraud Effectively?

Published: Jul 1, 2014
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Keith, the dealership owner, sometimes has a hard time falling asleep at night. After reading many reports of fraud incidents at car dealerships nationwide, he wonders if such unscrupulous behavior could happen at his own store.

If Keith had a strong internal control system in place, he might sleep more soundly. While a rigorous set of internal controls doesn’t guarantee a fraudulent act will never happen at your dealership, it certainly improves the odds.

It starts with the data

Detailed, current and accurate financial information is the first element of a strong internal control system. Reliable financial statements help dealerships detect fraud early and document the fraud trail, if abuse takes place.

One sign of weak internal controls is an accounting department that fails to generate a balance sheet and income statement until two or more weeks after month’s end. Accounting should post all transactions daily, including new and used vehicle sales, repair orders, invoice payments, payroll and cash receipts.

By 1 p.m. on any given day, you should have access to real-time checkbook balances and other accounting information effective as of 5 p.m. the day before. That way, you might be able to catch the first signs of fraud.

“Tried and true” internal controls work, if monitored

Conventional safeguards, such as passwords, alarms and locks, are obvious elements of internal controls. But sometimes these fall by the wayside.

Periodically review your safeguards and reinforce them, if necessary. Require employees to change their passwords quarterly, and replace the locks when a manager terminates employment.

Operational safeguards mitigate the opportunity to commit fraud. Here are some real-world scams and ways that operational controls might have reduced losses or prevented them from spiraling:

Workers who steal assets and pocket cash receipts. Consider the parts manager who stole $70,000 by selling parts on the side and pocketing the cash. The loss could have been significantly reduced if the owner or CFO had thought like an internal auditor and performed random inventory counts throughout the year, rather than waiting for the CPA to physically verify inventories at year end. Checks and balances are essential operational safeguards.

Employees who take multitasking to new levels. Another dealership lost nearly $16,000 when its cashier was caught stealing cash by voiding service orders and falsifying deposit slips. The cashier’s responsibilities included collecting cash, issuing receipts to customers, preparing the daily deposit slip and reconciling the daily cash report. The loss might have been prevented if the dealership had separated these jobs.

As a rule of thumb, employees who record and reconcile transactions should never have access to those assets (including being a signer on any bank accounts, and so on). Give the segregation of duties a starring role in your internal controls program.

Undisclosed side businesses. Another dealer was shocked to discover that the general manager was routinely wholesaling used cars at a loss to the dealership, because he owned a 50% interest in the wholesaler. A better pre-employment screening process could have helped detect such conflicts of interest as well as any criminal history. It also can identify people with poor credit histories, who might have a financial incentive to commit fraud.

The dealer-owner could have further prevented the scheme mentioned by reviewing wholesale transactions that incur a loss and by personally meeting all wholesalers and vendors. “Tone at the top” is a key factor in establishing a culture of ethics and integrity within an organization.

External audits can help

External audits provide no guarantee against fraud, but it’s often helpful to have an objective, experienced outsider verify and analyze your accounting records. CPAs are trained to spot anomalies and will recommend ways to improve internal control weaknesses.

Your involvement

Your involvement in your dealership’s internal control processes is key to deterring fraud. For example, let employees know that you personally review bank statements, order test counts of inventory, and examine adjusted journal entries. Showing employees that you’re paying attention will go a long way.

Dealer Insights - July/August 2014