Fraud Losses and Efficiency Ratio

When a financial institution (FI) reports fraud losses, it can be in the hundreds of thousands annually for smaller FIs (<$2 M) and millions per year in larger companies and cooperatives. However, what you don’t necessarily hear about are fraud losses normalized for that particular FI’s efficiency ratio.

An efficiency ratio is the percentage of expenses that it takes to earn a dollar. FIs use this metric to understand how well they are spending their financial resources. The efficiency ratio will fluctuate based on asset size, the number of capitol projects in progress, and general expenses such as labor and insurance costs. Let’s look at a practical example of efficiency ratio. The lower the efficiency ratio, the less money is spent to make a dollar.

If a company has to spend $75 to make a $100 in revenue, they would have a 75% efficiency ratio. If they only had to spend $65 to make $100, that would be much better for the bottom line, with an efficiency ratio of 65%.

When a company loses $1 M in fraud, they are actually losing much more. Based on the first example above, a $1 M loss would actually be closer to $1.25 M. Since the $1 M actually required $1.25 M in operating expenses to replace.