Supply chain fraud: Re-examining procurement function resilience

Since the beginning of this millennia, organisations have strived to create efficiencies by championing globalisation. However, for the first time, the pandemic has exposed global economies to the vulnerabilities created through dependencies on globalisation.

For most organisations, procurement is simply a function of acquiring the right product at the right price. However, COVID-19 has forced organisations to take a closer look at their procurement function. Our India Corporate Fraud Perception Survey, Edition IV survey revealed that about 20 percent respondents believed that procurement would be the most vulnerable function to fraud in the next few years.

The survey also indicated that some respondents are wary of the supply-chain disruption and risks related thereto. While some sectors manage their operations and logistics internally, the reliance on third-party vendors, multimodal transport, and outsourcing activities has seen an overall increase. This subsequently leads to a rise in fraud risks, such as vendor favouritism, theft, counterfeiting, pilferage, contamination, bribery and corruption, and non-compliance with local laws. Common manifestations of supply-chain fraud include the following:

(1) Product diversion:
• Creation of deliberate or artificial shortfalls to inflate prices
• High dependence on favoured distributors to sell the bulk of stock
• Kickbacks from distributors/wholesalers for favourable contractual terms and annuity business
• Using substandard parts of substitutes

(2) Leakages in supply chain:
• Theft of unfinished products/packaging material
• Theft of inventory and misreporting scrap generated
• Counterfeits and grey market products

(3) Distribution management:
• Failure to report damaged/expired inventory
• Manual invoicing outside distribution management systems
• Creating dummy customers to inflate sales
• Stuffing channels

(4) Logistics and distribution fraud:
• Excess or fraudulent payments to transporters on forged invoices/supporting documents
• Allocation of business on non-contracted/non-agreed routes to favoured vendors
• Siphoning off and diversion of goods by transporters.

To minimise supply-chain fraud risks, companies need to examine new vendors or reassess old vendors, on whom there may be increased reliance, by undertaking the following checks:

  • Legitimacy and legal existence – Undertake remote and on-site reviews of the supplier’s facilities to affirm legitimacy of the businesses and their legal existence (that they are not just a paper entity).
  • Sustainability and capacity – Review the operational availability of the third-party’s factory/ office/warehouse, and confirm staff/workforce availability to ensure that the supplier has the necessary capacity to fulfil clients’ requirements.
  • Financial reliability – Evaluate the financial soundness or credit risk by envisaging an altered revenue-expense paradigm; fixed expenses and interest will need to be looked at as a percentage of internal accruals (current assets) to indicate the financial cushion that the business may have.
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