Startup Fraud and Embezzlement - How Venture-Backed Companies Can Mitigate the Risk

Few things can be as toxic to a venture-backed company as the occurrence of startup fraud and embezzlement. When it happens, it can erode the carefully earned trust from investors, with unpredictable consequences on future funding prospects and unfavorable implications on the business trajectory.  Companies that have fallen victim to fraud and embezzlement often have not put in place sufficient financial controls. The good news is that these controls are easy to implement.

We have prepared a recommended startup financial controls matrix to enlighten management teams with a practical way to establish internal controls. It provides easy direction on the type of controls a startup needs and shows how these controls should evolve as the business grows. The matrix is designed to be practical and actionable.

The key elements of sound internal controls 

As you can see in our controls matrix, our recommended financial controls span across a wide range of financial activities.  In summary, there are four key elements that should be implemented as part of your financial controls protocol:

1. 1. Segregation of duties:  There should be at least two sets of eyes on all cash disbursements, with a division of responsibilities (e.g. one person writes checks and another person signs)
   2. Approval processes:  Implement approval processes for all financial transactions, ideally system supported to maintain an audit trail of approvals.  This should include approvals for vendor payments, employee reimbursements and payroll.
   3. Banking access:  Bank accounts can be set up with restricted access, approval limits, dual authorization requirements and other controls.
   4. Financial statement review:  Always have at least two people involved in your monthly accounting close process – preparer and reviewer.  Make sure to review performance against prior month and budget to identify and dig into unexpected variances.

Internal controls help the Board of Directors and VCs do their job

Implementing policies around financial controls will give the Board of Directors peace of mind that you are safeguarding the company’s assets, as oversight is one of their fiduciary responsibilities.  It will also give your VC investors confidence that you are appropriately managing the finances of the company and mitigating unnecessary startup fraud risks. This will help you build a solid base of trust with your investors, setting a good foundation for their ongoing support of the business and with future funding rounds.

Which startup fraud controls are important at each stage of growth?

Access Burkland’s Startup Financial Controls Matrix

As reflected in our recommended finance controls matrix, it is very important that you hire experienced finance and accounting support to set up your systems and processes correctly from the start.  At the early stages, it often makes financial sense to hire outsourced CFO services and part-time accounting support. The matrix outlines a potential finance/accounting staffing model, breaking out required roles such as accountant, Controller and CFO, and shows how staffing requirements may evolve over time as the company grows.  

The controls matrix also reflects the different types of internal controls and lays out what is needed as the company grows.  It dives into detailed recommendations around how to segregate duties, how to set up bank access, and what controls should be implemented for wire transfers, checks, accounts payable, employee expenses, credit cards, sales commission, payroll and financial reporting. 

We hope our startup financial controls matrix gives your team valuable and actionable direction on implementing controls to mitigate the risk of fraud and embezzlement.