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Measuring the Impact of Fraud

To assess the full cost of fraud on your business, you need to evaluate many moving parts.You should examine not only chargebacks and refunds but also sales lost to erroneous order cancellations, as well as the cost of anti-fraud solutions.

It's essential to consistently measure the impact in the same unit across the board. If you measure fraud losses as a percentage of revenue, you should measure the other costs related to fraud the same way. Whether you use percentages or flat currency amounts, the ultimate goal is to keep the overall cost as low as possible among the viable scenarios available to you.

Direct Losses to Fraud

The first portion of your overall cost is the most readily visible: How much money do you lose directly to fraud? This cost includes your fraud chargebacks and associated fees, refunds issued to prevent fraud chargebacks, and other losses such as fraudulent replacement orders or reward program abuse.

Orders you acceptedOrders you rejected
Good Customers
Fraudsters

Direct Losses from fraud


Direct losses to fraud is basically just revenue lost directly through fraudulent activity.

Lost Sales

Regardless of whether you invest in manual review or automated systems, no method is absolutely foolproof. There are a few methods you can use to measure profits lost to orders cancelled in error. Tracking every incident where a customer calls to complain about an incorrect order cancellation can prove invaluable. With this data, you can look at purchasing patterns to identify more accurately the customers who make another purchase after an initial order rejection.

But what about those customers who never contact you and never attempt another purchase? In such cases, remaining conservative is your best bet. Get a list of rejected orders and review each of them quickly to see if there are clear signs of fraud. Using a spreadsheet or some other internal system, record which rejected orders were fraud, and which were rejected without clear evidence of fraud. Quickly reviewing each rejected transaction and recording those confirmed to be fraud allows you to estimate your fraud conservatively by assuming that the remaining cancellations are erroneous.

Once you determine which orders are definite versus potential lost sales, you can then calculate the lasting effects of incorrectly cancelled orders. The actual cost of these lost sales is a combination of the profit margin on those orders and estimated future revenue lost due to a negative user experience.

Orders you acceptedOrders you rejected
Good Customers

Lost Sales

Fraudsters

Lost sales includes the non-fraudulent orders that were cancelled due to fraud risk.

Cost of Manual Review

Included in the cost of manual reviews is the cost of the time that your team spends reviewing those orders. Manual reviews can also have other business- or industry-related costs. For instance, if you offer a product that provides instant gratification (such as information or email delivery codes), delaying an order by holding it in a review queue will likely decrease the chance of future purchases by that customer. Like future revenue from cancelled transactions, this cost is by nature an estimate; nonetheless, it’s important to include in your calculations.

Cost of Technology

Don’t forget to factor in the cost of any countermeasures that you employ. This line item includes any development time spent on internal tools as well as development time integrating third-party tools. Additionally, if you use a rule-based system, include time spent configuring and updating those rules.

The Grand Total

When you add up these costs, you have the true cost of fraud to your business. These costs are closely interrelated; by making small adjustments, you can increase, for instance, your direct fraud losses slightly while greatly decreasing lost sales and manual review costs. The net gain is generally worth the sacrifice.