Chapter 3
The 2012 State of Compliance Study of PwC indicates that: >About the same percentage of compliance officers report to the audit committee as to the general counsel >A compliance officer works with the external auditors to ensure accurate and reliable financial reporting >Compliance officers always are part of the internal audit group >Compliance officers should never be part of the management team
A. About the same percentage of compliance officers report to the audit committee as to the general counsel
Under the Sarbanes-Oxley Act, which of the following bodies must contain members that are 100% independent of management? Board of directors Audit committee Internal auditors Board of supervisors
Audit committee
The reporting requirements for fraud are detailed in Section 10A of the Securities Exchange Act of 1934. Which of the following steps are NOT part of a prescribed process that should be followed in deciding whether to report fraud? Determine who is responsible for the fraud. Determine whether the violations have a material effect, quantitatively or qualitatively, on the financial statements. Determine whether appropriate remedial action has been taken. Determine whether reporting to the SEC is necessary.
Determine who is responsible for the fraud.
External auditor communications with the audit committee include each of the following except: Matters related to why certain accounting policies are considered critical Shareholder returns Significant estimates made by management Significant unusual transactions
Shareholder returns
The Ethical Dissonance Model helps to evaluate: >Whether the organization sets an ethical tone at the top >Whether the organization has ethical leadership >Whether the organization has a whistle-blowing process >Whether the organization's ethics aligns with individual ethics
Whether the organization's ethics aligns with individual ethics
According to the ACFE Global Fraud Study, which of the following was the most common behavioral indicator of fraud? Living beyond means Financial difficulties Addiction problems Refusal to take vacations
a. Living beyond means
A strong and effective internal control environment can be enhanced by: >Financial statements that present fairly financial position and results of operations >Giving the internal auditors direct and unrestricted access to the audit committee >Having the internal auditors report to the external auditors >Having the external auditors report to the audit committee
b. Giving the internal auditors direct and unrestricted access to the audit committee
The most important element of a high ethics organization would be: > Acting in accordance with self-interest > Having a credo and mission statement > Having a mission statement, values, and ethical code > Acting opposite of stated values, ethics and mission
c. Having a mission statement, values, and ethical code
Which of the following is not an element of an ethical corporate culture? >Setting a proper tone at the top >Establishing strong internal controls >Having an effective internal audit function >Having an effective external audit
d. Having an effective external audit
The level of care expected of a reasonable person under similar circumstances in meeting one's fiduciary duty is called: > Duty of loyalty > Duty of care > Transparency > Fairness
Duty of care
Which of the following was the most frequent anti-fraud control identified in the 2014 ACFE Global Fraud Survey? External audit of financial statements Code of conduct Internal audit department External audit of internal controls over financial reporting
External audit of financial statements
Which of the following was not a finding of the ACFE 2014 Report to the Nation on Occupational Fraud? Fraud is more likely to be detected by tips than any other way Frauds lasted a medium of 18 months before detection Asset misappropriation schemes was the most common type of occupational fraud External auditors discover about 10 percent of the frauds
External auditors discover about 10 percent of the frauds
Trust in business is important because: Management needs to feel confident that employees will carry out organizational objectives Stakeholders need to feel confident that relationships with organizations will be consistent and reliable Stakeholders rely on management to produce shareholder returns Management needs to feel confident that those with relationships with the organization do what they say
Stakeholders need to feel confident that relationships with organizations will be consistent and reliable
The role of a leader in an organization is to: Establish principles and standards of behavior that guide business decisions Enforce violations of code rules of conduct Determine organizational climate and define norms Develop the principles and strategic initiatives to guide ethical action
Determine organizational climate and define norms
Backdating of stock options is unethical because: + It favors top executives over other company employees with respect to the number of options + It purposefully manipulates the option criteria that determine their value + It changes the exercise price on options to benefit top executives + It changes the exercise date on options to benefit top executives
B. It favors top executives over other company employees with respect to the number of options
Which of the following is NOT an element of internal control over financial reporting? Maintaining accurate financial records Providing reasonable assurance that receipts and expenditures are recorded based on proper authorization by management Developing a code of conduct and whistle-blowing procedures Providing reasonable assurance that the financial statements are prepared in accordance with generally accepted accounting principles
Developing a code of conduct and whistle-blowing procedures
To ensure audit committee independence, the committee should meet separately with each of the following groups except: Senior executives Internal auditors External auditors Shareholders can find in: Corporate governance structures and relationships section
Examples of external mechanisms include the financial markets, state and federal statutes, court decisions, and shareholder proposals.66 Three noteworthy points are: (1) independent directors enhance governance accountability; (2) separation of the duties of the CEO and board chair; and (3) separate meetings between the audit committee and external auditors strengthen control mechanisms. An effective device to ensure audit committee independence is for the committee to meet separately with the senior executives, the internal auditors, and the external auditors.
The 2013 Ethics Resource Center National Business Ethics Survey indicates each of the following results with respect to how employees view the ethics and ethical practices of organizations they work for except: > Misconduct at work has declined over the years > Whistleblowing is up >Ethical cultures are weaker >Pressure to cut corners is lower
a. Ethical cultures are weaker
With respect to whistleblowing, the Sarbanes-Oxley Act: > Protects employees of publicly traded companies who provide evidence in fraud cases > Confers legal protection on managers who reported wrongdoing by top executives > Confers legal protection on the board of directors for fraudulent actions by management > Protects auditors who blow the whistle to the SEC
a. Protects employees of publicly traded companies who provide evidence in fraud cases
Corporate governance structures and relationships are shaped by internal and external mechanisms. Which of the following is an external mechanism? State and federal statues require a baseline corporate governance system Audit committees must consist of at least three members all of whom are independent of management and the entity All directors must be independent of management Each listed company must have an internal audit function
a. State and federal statues require a baseline corporate governance system
Which of the following is NOT a factor that managers use to set the right tone at the top and foster ethical leadership? > Consider the implications of one's actions on the stakeholders > Make decisions that do not harm others >Make decisions that are universal > Reflect before deciding
b. Make decisions that do not harm others
Organizational ethics can be thought of as: > Descriptions of how ethics occurs at a company > Principles and standards of behavior that guide business decisions > Rules of conduct that establish legal requirements for businesses > Standards of reporting ethical violations
b. Principles and standards of behavior that guide business decisions
An example of revenue overstatement is: > Manipulating reserves > Recording gross, rather than net, revenue > Reporting cost of sales as a non-operating expense > Deferring revenue
b. Recording gross, rather than net, revenue > Recording gross, rather than net, revenue. > Recording revenues of other companies when acting as a "middleman." > Recording sales that never took place. > Recording future sales in the current period. > Recording sales of products that are out on consignment.
Which of the following is NOT one of the audit committee's responsibilities? > Monitor the integrity of the financial statements > Review all financial reporting judgments > Review whistleblowing and compliance processes > Review and monitor the external audit process
b. Review all financial reporting judgments The audit committee's duties include: (1) monitor the integrity of the financial statements; (2) review any formal announcements relating to the company's financial performance; (3) review significant financial reporting judgments contained in the statements and performance statements; (4) review the company's internal financial controls and risk management procedures; (5) monitor the effectiveness of the company's internal audit function; (6) review the company's whistleblower processes and compliance program; and (7) review and monitor the external auditor's independence and objectivity and the effectiveness of the audit process.
Which of the following is not considered a behavioral indicator of fraud? Refusal to take vacations Satisfaction with pay Financial difficulties An unwillingness to share duties
b. Satisfaction with pay
Strong corporate governance relies on a strong board of directors. Which of the following would be a strong candidate to be a board director for XYZ, Inc.? > Community member who has already served on the board for 15 years. > Investor who has a multi-million-dollar joint venture with the CEO and CFO. > Retired controller of a Fortune 500 company. > Community member who receives annual large consulting contracts from XYZ.
c. Retired controller of a Fortune 500 company.
What is the main fiduciary duty of the board of directors? > Maximize profits for the company > Monitor executive compensation > Safeguard the interests of the company's stakeholders > Allow high risk accounting practices
c. Safeguard the interests of the company's stakeholders
The ethical dissonance model looks at the ethical fit of the organizational and individual values. The optimal fit for an individual with high individual ethics would be: > High-High > High-Low > Low-High > Low-Low
a. High-High Of the four potential fit options, two possess high person-organization fit: (1) high organizational ethics, high individual ethics (High-High), and (2) low organizational ethics, low individual ethics (Low-Low); In two of the fit options (High-High and Low-Low), no ethical dissonance exists. and two possess low person-organization fit: (1) high organizational ethics, low individual ethics (High-Low) and (2) low organizational ethics, high individual ethics (Low-High).
The difference between occupational and financial statement fraud is: > Occupational fraud is generally committed by employees > Occupational fraud is generally committed by external auditors > Financial statement fraud occurs either by accident or deliberation > Financial statement fraud always starts with non-executive decisions
a. Occupational fraud is generally committed by employees occupational fraud schemes in which an employee abuses the trust placed in him by an employer for personal gain. The ACFE defines occupational fraud as "the use of one's occupation for personal enrichment through the deliberate misuse or misapplication of the employing organization's resources or assets.
The term disgorgement means: > To give up one's meal after eating > To return profits earned illegally > To return ill-gotten gains > To give up one's board position after a fraud incident
c. To return ill-gotten gains
Which of the following is not a fraud method to overstate revenues? > Recording future sales in the current period > Recording sales of products that are out on consignment > Recording sales based on F.O.B. shipping point > Recording revenues of other companies by acting as a middleman Can find in fraud in organization section
c.Recording sales based on F.O.B. shipping point Overstating revenue: Recording gross, rather than net, revenue. Recording revenues of other companies when acting as a "middleman." Recording sales that never took place. Recording future sales in the current period. Recording sales of products that are out on consignment. Common methods of understating expenses include the following: Reporting cost of sales as a non-operating expense so that it does not negatively affect gross margin. Capitalizing operating costs, recording them as assets on the balance sheet instead of as expenses on the income statement (i.e., WorldCom). Not recording some expenses at all, or not recording expenses in the proper period.
Which of the following is NOT a characteristic behavior illustrating the fiduciary duty of the board of directors? > Safeguarding corporate assets > Promoting shareholder interests > Exercising care in carrying out their responsibilities > Representing the interests of all stakeholders can find in: Corporate governance structures and relationships section
d. Representing the interests of all stakeholders
The ACFE found that the most common way that fraud is first detected is: Internal audit Internal controls External audit Tip
d. Tip
Section 302 of the Sarbanes-Oxley Act requires that management: > Assess the company's internal controls > Certify the financial statements > Disclose all executive compensation > Blow the whistle on corporate wrongdoing
b. Certify the financial statements
Research by Miceli and Near indicates that: Whistleblowers hope their speaking out achieves the correction of an organization wrongdoing Whistleblowers hope those who violate the rules are prosecuted Whistleblowers are motivated to report under Dodd-Frank to receive an award Whistleblowers always blow the whistle because of altruistic reasons
Whistleblowers hope their speaking out achieves the correction of an organization wrongdoing
Fraud can be defined as: > A deliberate misrepresentation to gain an advantage over another party > A cover-up of a mistake made in the financial statements > An error in preparing financial statements > All of the above
a. A deliberate misrepresentation to gain an advantage over another party. Fraud comes in many different forms, including fraud in financial statements, the misappropriation of assets (theft) and subsequent cover-up, and disclosure fraud.
A unique aspect of occupational fraud is: > The misuse of company assets > The falsification of financial statements > The failure to disclose full and complete information > The failure to resolve conflicts of interest
a. The misuse of company assets occupational fraud schemes in which an employee abuses the trust placed in him by an employer for personal gain. The ACFE defines occupational fraud as "the use of one's occupation for personal enrichment through the deliberate misuse or misapplication of the employing organization's resources or assets.
Which of the following is NOT an underlying trait of character of an effective leader identified by Johnson? >Confidence >Temperance >Reverence >Compassion
a. confidence He identifies courage, temperance, wisdom, justice, optimism, integrity, humility, reverence, and compassion as underlying traits of character of effective leaders.
What are the five elements of the framework for understanding ethical decision making in business? > Ethical issue sensitivity; individual factors; organizational factors; opportunity; and business ethics intentions and evaluations. > Individual factors; organizational factors; opportunity; moral character; and business ethics intentions, behavior, and evaluations. > Ethical issue intensity; individual factors; organizational factors; opportunity; and business ethics intentions, behavior, and evaluations. > Organizational factors; opportunity; moral judgment; individual values; and business ethics intentions, behavior, and evaluations.
c. Ethical issue intensity; individual factors; organizational factors; opportunity; and business ethics intentions, behavior, and evaluations.
What was the result of the annual inventory audit of the inventory shrinkage problem at Walmart? > Inventory shrinkage doubled year-over-year > Inventory shrinkage increased by 90 percent > Inventory shrinkage decreased by 90 percent > There was no change in inventory shrinkage
c. Inventory shrinkage decreased by 90 percent
Has SOX accomplished its intended goal of reliable financial reporting by public companies? >Yes, as the CEO and CFO are certifying that financial statements contain no material misstatements. > Maybe, as very few defendants have been charged with false certification, and fewer still have been convicted. > Maybe, as laws are needed but they serve as only a minimum standard of ethical conduct and may not lead to ethical conduct. > No, as the SEC has unsuccessfully sought to collected disgorgement of bonuses and other compensations of officers.
c. Maybe, as laws are needed but they serve as only a minimum standard of ethical conduct and may not lead to ethical conduct.
Compensation of executives has soared over the last forty plus years to more than 400 times the pay for average workers. Remedies to rein in executive compensation include all but: > Say on pay provisions >More diligent board oversight of compensation packages >Restrictions by the law as to the maximum total compensation allowable >Clawbacks of compensation when it can be shown executives knew of fraud
c. Restrictions by the law as to the maximum total compensation allowable
DeGeorge thinks that "corporations have a moral obligation not to harm." Which of the following would be one of his criteria for morally permitted whistleblowing? Documented evidence exists that would convince a reasonable and impartial observer that one's view of the situation is correct but that serious harm is unlikely to occur. The employee must reasonably believe that going public will not create the necessary change to protect the public and is worth the risk to oneself. The employee should report a firm's actions that will do serious and considerable harm to others to her supervisor, and keep reporting all the way up to board until the actions are corrected. The employee must first report wrongdoing to the external auditor before going public. can find in whistleblowing section
c. The employee should report a firm's actions that will do serious and considerable harm to others to her supervisor, and keep reporting all the way up to board until the actions are corrected. DeGeorge identifies five criteria when whistleblowing is morally permitted. Briefly, (1) the firm's actions will do serious and considerable harm to others; (2) the whistleblowing act is justifiable once the employee reports it to her immediate supervisor and makes her moral concerns known; (3) absent any action by the supervisor, the employee should take the matter all the way up to the board, if necessary; (4) documented evidence must exist that would convince a reasonable and impartial observer that one's views of the situation is correct and that serious harm may occur; and (5) the employee must reasonably believe that going public will create the necessary change to protect the public and is worth the risk to oneself
Agency theory can best be described as: > The relationship between top management and the board of directors > The relationship between the board of directors and shareholders > The relationship between top management, the board of directors, and shareholders > The relationship between the external auditors and top management
c. The relationship between top management, the board of directors, and shareholders agency theory argues that management will fulfill its duty to shareholders, not so much out of any sense of moral duty to shareholders, but because doing what shareholders have provided incentives for maximizes their own utility
he 2010 Dodd-Frank Act includes additional incentives for whistleblowers. What is the act's effect on whistleblowing by accountants? > No accountant, internal or external, whether by job title or certification may receive a reward. > All accountants who whistle-blow are protected against retaliation, but may not receive a reward. > Internal auditors who whistle-blow may not receive a reward. > A CPA may report a violation of a public accounting firm's performance in an audit.
d. A CPA may report a violation of a public accounting firm's performance in an audit. Section 922 of Dodd-Frank provides an award for whistleblowers by protecting whistleblowers that "voluntarily" provide the SEC with "original information" about a violation of federal securities laws that leads to a successful enforcement proceeding. Under the United States Code (US Code), the enforcement action must result in monetary sanctions of more than $1 million
The business judgment rule refers to: > Faithfulness to one's obligations and duties > Honesty of purpose and caring > Decision making under uncertainty > Acting with due care and good faith
d. Acting with due care and good faith A corporate director or officer may be able to avoid liability to the corporation or to its shareholders for poor business judgments under the business judgment rule. Directors and officers are expected to exercise due care and to use their best judgment in guiding corporate management, but they are not insurers of business success. Honest mistakes of judgment and poor business decisions on their part do not make them liable to the corporation for resulting damages. To obtain the business judgment rule's protection, directors must be independent and disinterested as to the matter acted upon. Directors must act with due care and good faith. The due care inquiry is process-oriented, and due care is measured by a standard of gross negligence, not simple negligence
Which of the following is NOT an element of the corporate governance system? > Board of directors > Internal controls > Executive compensation policies > Monitoring by top management can find in "foundations of corporate gov systems" section
d. Monitoring by top management A corporate governance regime typically includes mechanisms to ensure that the agent (management) runs the firm for the benefit of one or more principals (shareholders, creditors, suppliers, clients, employees, and other parties with whom the firm conducts its business). The mechanisms include internal ones, such as the board of directors, its committees including the audit committee, executive compensation policies, and internal controls, and external measures, which include monitoring by large shareholders and creditors (in particular, banks), external auditors, and the regulatory framework of a securities exchange commission, the corporate law regime, and stock exchange listing requirements and oversight.
Each of the following is an element of agency costs except: > The costs incurred in monitoring managerial performance > The costs incurred because there is information symmetry between the corporation and outsiders > The costs incurred because insiders know more about a company than do outsiders > The costs incurred in developing internal controls over financial reporting
d. The costs incurred in developing internal controls over financial reporting In general, agency costs arise whenever there is an "information asymmetry" between the corporation and outsiders because insiders (the corporation) know more about a company and its future prospects than do outsiders (investors).58 Agency costs can occur if the board of directors fails to exercise due care in its oversight role of management.