608 exam 2

accounting constraints

-cost/benefit -materiality -industry practices -conservatism

why understate?

-defer surplus earnings -write offs all at once -reduce expectations -preserve constant growth trend -reduce value for divorce settlement -reduce value for buyout

costs of financial statement fraud

-economic losses from legal costs, insurance increases, lost productivity, and negative stock reactions -loss of public confidence in the company -loss of confidence in the capital market system and statement reliability

improper disclosures

-liability omissions, subsequent events, mgt fraud, related party transactions, accounting changes --single person dominating w/o controls --ineffective oversight --poor tone at the top --complex transactions

why overstate?

-meet expectations -comply with covenants -inc available financing -meet criteria for loans -meet parent co performance criteria -meet personal performance criteria -trigger bonuses -show a pattern of growth

concealed exp/liabs

-omissions: fail to record them, hide in office -capitalized exps: inc income and assets, can also be used to dec income and dec tax liab -failure to disclose new liabs --reporting earnings and negative cash flows --nonfinancial mgt participation in estimates --estimates out of line with industry

timing differences

-recording rev/exp in the wrong period -early recognition leads to more fraud -contracts with more estimations are more vulnerable -channel stuffing--selling unusually large quantity to distributers through deep discounts --complex sales at end of period

fictitious revs

-recording sales that didn't happen -sometimes use shell companies -premature recognition --growth inconsistent with industry --reporting earnings with negative cash flows --related party transactions

deterrence of FSF

-reduce pressures with effective oversight and reasonable goals -reduce opportunity with internal controls and effective security and supervision; separation of duties -reduce rationalization with promoting strong ethical values and providing training

who commits financial statement fraud

-senior management -mid/low level employees (to conceal poor performance from superiors) -organized criminals

detecting bid rigging

-unusually high contract price or low bid being amended to increase payment -significant cost difference between bidders -last bidder routinely getting the contract -fewer bidders than expected

3 types of evidence

1- testimonial: witness statements 2- real: physical, relevant objects 3- demonstrative: illustrate important points; charts, maps, graphs, ppts

types of financial statement frauds

1. concealed exp/liabs 2. fictitious revs 3. improper asset valuation 4. improper disclosure 5. timing differences

stages of interviews

1. intro - set the theme, establish rapport, get the person to commit to helping 2. body - review and gain facts, go from general to specific questions, check lists create tunnel vision 3. close - summarize new information and confirm understanding **pay attention to body language throughout **try not to react to answers

5 types of questions

1. introductory 2. informational - gather unbiased, factual info through open, closed, and leading questions 3. closing - used to confirm facts 4. assessment - evaluate credibility of interviewee, used when answers are inconsistent 5. admission seeking - get confession

purchasing scheme

A conflict of interest scheme in which a victim company unwittingly buys something at a high price from a company in which one of its employees has a hidden interest.

Conflicts of interest are essentially different from bribery, illegal gratuities, and economic extortion cases in that a conflict of interest occurs when an employee, manager, or executive, has ________________________________.

An undisclosed economic or personal interest in a transaction that adversely affects the organization

In the ACFE Fraud Tree, corruption schemes are broken down into four classifications. Which of the following is NOT one of the four? Bribery, Bid rigging, Economic extortion, Conflict of interest

Bid rigging

Offering, giving, receiving, or soliciting anything of value to influence an official act is the definition of: Bribery, Economic extortion, Bid rigging, Illegal gratuity

Bribery

What methods would someone most likely use to generate the necessary money for a slush fund?

Divert funds to through invoices for consulting fees, referral fees, commissions, or the like

you have been hired by the prosecution to provide expert testimony in a fraud case you helped investigate. As you provide answers to key questions around the fraud examination, your testimony will be more convincing to the judge and jury if you:

Have woven the answers into a coherent storyline grounded in the evidence

Difference between bribery and illegal gratuities?

Illegal gratuities are not always done to influence a particular business decision

Bribery schemes generally fall into two broad categories:

Kickbacks and bid-rigging schemes

Because any examination of a kickback scheme will likely necessitate a review of the corrupt vendors books, all contracts with supplies should contain a _____________ clause.

Right to audit

Management is responsible for adopting sound accounting policies and for establishing and maintaining internal control that will, among other things, initiate, authorize, record, process, and report transactions (as well as events and conditions) consistent with managements assertions embodied in in the financial statements. What is the source of this standard?

SAS 1

The key difference between bribery and commercial bribery is that in cases of commercial corruption:

Something of value is offered to influence a business decision rather than an official act of government

The main benefit of using the elements of fraud in an investigation is that in virtually every fraud or financial crime, _________________

The evidence of each element can be developed

Internal auditors for Stuff You Need for Your House, Inc., uncovered what appears to be a kickback scheme amounting to some $30,000 in over-billing by a vendor in the previous 18 months. The company has contacted you to investigate the fraud in order to identify the perpetrator(s). All things being equal, which of the employee is likely to be involved?

The purchasing manager

In a kickback scheme, the funds come directly from:

The victim company

Generally, three procedures are effective in identifying breakdowns in internal controls due to override and collusion: journal entries recording in the books and records, as well as other adjustments to financial information should be examined for proper back-up document; significant accounting estimates needs to be reviewed; and ___________________________.

Unusual one-time transactions should be scrutinized to ensure they have an appropriate underlying business rationale.

accounting assumptions

a- economic entity b- going concern c- monetary unit d- periodicity

accounting principles

a- historical cost b- rev recognition c- matching d- full disclosure

how to commit financial statement fraud

a- playing the system: record sales prematurely, delay recording of expenses, manipulate assumptions b- beating the system: enter false info into the system with forged supporting docs c- go outside the system: produce fake statements using personal computer and printer

improper asset valuation

a. inventory valuation- failing to write down inventory to overstate assets and mismatch cogs with revs; manipulation of inventory count; hold for sales b. a/r valuation- failure to write off old a/r and adding fictitious accounts; false confirmations to auditors c. business combos- over allocate to r&d that can be written off immediately d. long term assets- improper capitalization, mispresenting asset value, fictitious assets

identify breakdown of internal controls

a. review supporting docs and inquire about entries made at odd hours or near cutoff b. review estimates used and documentation of assumptions c. review unusual one time transactions

predication

all data used, a reasonable, professional would be led to believe there is, was, or is going to be fraud suspicion alone is not good enough to start an investigation

economic extortion

an employee demanding vendor payment to make a decision in the vendor's favor; opposite of bribery

what is not a red flag of fraud

analytical inconsistancy

evidence

anything perceivable by the 5 senses that are relevant to the case; proof must be material and authenticated

______________ must take the lead in establishing, implementing, and maintaining a formal fraud risk management program.

board and management

4 main corruption schemes

bribery, gratuities, extortion, COI

commercial bribery

business decisions are influenced instead of governmental decisions, offering can be considered bribery even if it is never paid

turnaround sales

buying an asset and reselling to employer at an inflated price

bribery

buying influence over the recipient, an illegal and unethical business transaction

Fraud, in the going-concern context, usually results from attempts by an entity to _____________________.

conceal its terminal business condition

why commit financial statement fraud

conceal true performance preserve status maintain personal income tight loan covenants -- inc current ratio

In fraud cases, evidence of ______________ in particular, provides some of the best circumstantial evidence that the act and conversion (benefits) were intentional.

concealment

why do COI create concern

decision makers can be influenced by the person with a COI and not understand the underlying motives of the person

Because prevention through segregation of duties, approvals, and authorizations is not possible in a collusive environment, the principal internal control procedures will be centered on _____________.

detection

____________ involves deliberate actions by management to meet specific earnings objectives, generally for private gain.

earnings management

The premise of the ____________________ is that the activity of a business enterprise should be kept separate and distinct from its owners and other business entities.

economic entity assumption

preventing and detecting COI

ethics policy addressing problems and illegalities related to COI for complete transparency anonymous hotline to receive tips or complaints run reports to compare employee and vendor information

invigilation

finding patterns in performance before, during, and after fraud has occurred

kickbacks

gifts given by suppliers to purchasing agents for the purpose of influencing their choice of suppliers; collusion between vendors and employees; ensure a steady stream of business; results in higher prices for lower quality goods

There are three general ways in which fraudulent financial statements can be generated: playing the accounting system, beating the accounting system, and ____________________.

going outside the accounting system

Bid rigging

happens in three phases, using insider influence to win contracts a- presolicitation: need recognition (recognize the need for a particular product so then victim company purchases unnecessary goods) or specifications scheme (tailoring specifications to fit a certain vendor) b- solicitation: restricting pool of competition for bids, bid pooling to guarantee contract for part of the whole job, restricting time to receive bids c- submission: allowing supplier to submit bid after knowing what other suppliers bid, giving insider info to influence a bid

human factor

human failings have led trusted people to violate that trust

An excellent tool to analyze evidence and develop a compelling storyline is the __________________

hypothesis evidence matrix

The difference between a mistake and fraud is ____________. If the fraud examiner or forensic accountant cannot prove it, a civil or criminal conviction for fraud most likely cannot be sustained.

intent

When conducting an audit, the auditor has a responsibility to design audit tests to address the risk of management override of internal controls. _____________ can be discerned by looking for evidence of concealment such as missing documents, altered documents, nonreconcilable items, misinformation obtained during management inquiries, and other indicators of concealment.

intent

By regularly monitoring the prices paid for good and services as compared to market rates, which type of fraud is an organization trying to detect?

kickback schemes

illegal gratuities

like bribery but used to reward decisions instead of to influence them; they are given after a decision has been made

Senior managers and business owners may cook the books for any of several reasons: to conceal true business performance, to preserve personal status/control, and to __________________________.

maintain personal income/wealth

Fraud can occur when purposeful attempts are made to manipulate the ___________ concept. For example, through controlling the year-end cut-off in financial figures, many companies boost their current net income by counting revenue from the following year early, and by delaying the post of this years expenses until the following year.

matching

_______________ is a relative concept. A misstated amount that would be immaterial to a large company could be large enough to wipe out the net worth of most small companies.

materiality

"something of value"

money, promised future employment, free goods, free travel, free services, paying off debt,

survaillance

more necessary when there's collusion a. fixed point - stake out b. mobile - complex, riskier c. videography - no audio d. undercover - costly and risky

slush fund

noncompany account used to make bribes; inflow of company's money comes from fake expenses

the materiality amount once established is _______________ for the duration of the audit engagement.

not set in stone, subject to change

key attribute of kickback scheme

one person inside and one person outside

Auditors and accountants often direct their fraud prevention and deterrence efforts toward using internal controls to minimize _______________ because fraud is highly improbable without it.

opportunity

Fraud professionals need to understand that no one is better at generating alternative theories of a case than ___________________

opposing attorney

There are three main groups of people who commit financial statement fraud. In descending order of likelihood of involvement, they are as follows: Senior management, mid- and lower-level employees, and ___________________.

organized criminals

The 2016 ACFE Report to the Nations found that ___________ of existing controls is the second most frequently observed internal control weakness that contributed to fraud; the lack of internal controls was the only weakness more frequently cited by the ACFEs survey respondents.

override

In FRF, senior management may ____________ business performance to meet certain objectives.

overstate or understate

______________ is defined as the totality of circumstances that would lead a reasonable, professionally trained, and prudent individual to believe that a fraud has occurred, is occurring, or is about to occur

predication

difference between prevention and deterrence

prevention is removing the opportunity deterrence is removing the motivation

Typically, a few _______________ are not in themselves sufficient as a basis for a fraud examination.

red flags

evidence of intent

repetition and concealment

The perception of the public particularly with regard to asset misappropriation, corruption, and misstated financial statements is that independent auditors are

responsible for fraud detection

underbilling

selling goods below FMV

According to a 2010 study of 347 financial statement frauds from 1998 to 2007 conducted by the Committee of Sponsoring Organizations of the Treadway Commission (COSO), ____________________ is the group most likely to commit financial statement fraud.

senior management

detecting and preventing kickbacks

separation of duties, monitor prices and compare to market rates, set price thresholds for purchases, monitor budget to actual costs

Among the factors associated with financial statement fraud, the most common is pressure on upper management to ______________.

show earnings

detection of statement schemes

statement analysis: use of ratios to compare companies and prior years

Using data spanning 2002-2013 from the ACFE Report to the Nations, the authors examined private company FRF cases in comparison to those at public companies and found several key differences. These included the observation that a stronger antifraud environment in public companies appears to lead public company FRF perpetrators to use ____________ perhaps to make the fraud less obvious, rather than other fraud schemes such as fictitious revenues

timing differences

best way to prevent and detect COI

transparent and full disclosure

sales schemes

underselling of goods from victim to other company

conflicts of interest

undisclosed economic or personal interest in a transaction that is adverse to the company's interest

foreign corrupt practices act

unlawful to pay foreign officials to obtain or retain business -cannot give anything of value with the intent of influencing the decisions of an official -applies to US and some foreign -includes bribery, bid rigging, and political contributions -created to increase transparency, regulations, and enforcement -consequences include fines and prison time

key attribute of corruption schemes

usually involve at least one person outside acting to obtain an advantage inconsistent their duties

which improper asset valuation may inflate the current ratio?

valuing inventory at current retail prices

write off sales

when an employees own company purchases from their employer and the employee writes off the payable instead of paying itethic

To complete a fraud examination, the fraud examiner or forensic accountant needs to answer the essential questions of ____________________ with ________________.

who, what, when, where, why; evidence