C254 WGU Practice Review

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Auditors should always carefully look to make sure the underlying assumptions for capitalization makes sense and are reasonable.

True

Stuffing distribution channels with promises to take back excess inventory free of charge directly violates GAAP revenue recognition rules.

True

The best way to tell if management is lying is to identify inconsistencies between what the auditor observes (symptoms) and what management says.

True

Though the percentage of financial statement frauds is relatively small, the damage they can cause can be enormous.

True

True or False Auditors can only say, with 100% certainty, that there is no fraud if they examine every transaction. Otherwise, there will always be some measure of doubt.

True

True or False The COSO framework consists of three dimensions: coverage areas, activities, and objectives. The five objectives are (1) control environment, (2) risk assessment, (3) control activities, (4) information and communication, and (5) monitoring activities.

True

True or False Audit standards involving auditors' responsibility in fraud detection has been to "reasonably assure" the lack of fraud in financial statements, but didn't clearly articulate the breadth and scope of their responsibility until SAS No. 99, thus causing the "expectation gap" between the public and CPA auditors.

True

True or False By its nature, fraud is a hidden and secret act. Therefore, it is difficult to detect and even harder to prove.

True

True or False Despite many attempts to close the "expectation gap" between auditors and the public, the AICPA wasn't successful until SAS No. 99.

True

True or False Research shows that many fictitious entries occur through the override of management controls. SAS No. 99 now requires testing these types of entries for every public company that has them.

True

True or False: An active board of directors and audit committee drastically decreases the opportunity for management to commit fraud.

True

True or False: Financial statement fraud affects everyone, not just those directly or indirectly involved with the fraudulent company.

True

True or False: Looking at management's motivations for committing fraud is analyzing the incentive portion of the fraud triangle.

True

True or False: Recognizing intangible assets and intercompany transactions occurring at strategic times should be more closely examined by the auditor.

True

True or False: Fearful of offending company personnel and being intimidated by company management are two reasons that an auditor could fail to react properly to negative evidence.

True

True or false: SAS 99 has the new requirement of auditors to ask management if they are committing, or are aware of, any instances of fraud.

True

When looking for liability fraud, every individual account is a separate and distinct candidate for fraud (versus grouping similar accounts, or searching for fraud in one account and finding it in a related account).

True

When offsetting /inflating ending inventory amounts to the fraud, the fraudster needs to continue inflating that amount from year to year to continue the farce.

True

Auditors are responsible for providing reasonable assurance that all material related party transactions have been properly disclosed.

True True. GAAP and GAAS require auditors to provide this assurance.

The Bre-X disclosure fraud involved promises that are conceptually similar to the promises made in investment scams and Ponzi schemes.

True True. Topic 8.4 briefly mentions the similarities between these two types of frauds.

Auditors are responsible for providing reasonable assurance that all material related party transactions have been properly disclosed.

True. GAAP and GAAS require auditors to provide this assurance.

The Gross Profit Margin will immediately point auditors to the source of fraud when it exists.

False If there are fraud symptoms found in the GM ratio, it could a number of many things, from an overstatement of ending inventory to a decrease in discounts given, to an overstatement of revenues, to name a few.

Cash is an easy asset to overstate because the bank will confirm the fraudulent balance to the auditors.

False

True or False SAS No. 99 classified that auditors ARE required to detect, at the very least, cases of forgery and collusion.

False Forgery and collusion are actually some of the most difficult types of fraud to identify and prove. Auditors are not expected to find all types of fraud on every case.

True or False Inquiring several simple questions of management in the beginning is now sufficient under SAS No. 99.

False Fraud should be considered through the whole process, as should necessary questions and clarifications asked of management.

True or False One of the unique, yet key, provisions of SAS 99 establishes that auditors refrain from trying to think like a "fraudster," and think more analytically.

False It requires audit teams to envision themselves as the fraudster; the more creative their brainstorming, the better.

True or False Financial statements don't need to be as accurate as possible. There is so much that goes into building them that there are bound to be mistakes.

False Many decisions are based on the information provided in financial statements. When there are substantial errors, companies reissue their statements to provide information as accurate and fair as possible.

Auditors can usually quickly detect fraud because when it's committed, it's obvious.

False Most of the time only symptoms, indicators and red flags are observable

Many fraud cases begin their frauds with schemes too large to catch with just one audit, like in the case of Phar-Mor.

False Phar-Mor began its fraud with very simple and almost inconsequential misstatements, but escalated from there, like Health South as well.

After an auditor finds symptoms of fraud, the auditor should not alter the audit approach so as to make sure proper documentation is recorded.

False Proper documentation techniques should already be a habit, regardless of the method of testing and investigating. Also, altering the audit approach adds the element of surprise required by SAS 99

Auditors should not establish good rapport with management because it could cause a conflict of interest if they become too close.

False Research by Leinicke, Ostrosky, Rexroad, Baker, and Beckman in 2005 showed good rapport encourages open and two-way communication and allows for the auditor to identify specific behavior changes.

True or False In the beginning of the 20th century, everyone believed that the main purpose of audits was to detect fraud. However, at this time, Standards on Audit Procedures (SAP's) began to come forth, making it official that auditors really were responsible for fraud, and that fraud detection was a priority second to none.

False SAP No. 1 actually began to define audits as more than just fraud detection. Since then, audits never had has their principal purpose fraud detectio

True or False: When a firm changes lawyers they are required to file an 8-K just like with a change of auditors.

False Since they do not have the same disclosure requirements, that is why it is important to look more closely when a change of legal representation occurs.

True or False The SEC views auditors of public companies as "unreliable and frequently incompetent."

False The SEC refers to auditors as the "public's watchdog" in the financial reporting process.

True or false If fraud risk is higher, the auditor should never incorporate spontaneity or any form of unpredictability in the audit.

False The controller of HealthSouth drew on his audit experience and knew the regular processes and procedures to know how to hide hundreds of thousands of fraudulent transactions that easily avoided auditor scrutiny.

Neither the inventory turnover ratio nor the days to sell inventory ratio help to discover potential red flags in inventory and cost of goods sold.

False when used across time, they are extremely helpful in identifying potential fraudulent areas.

In the case of Bre-X Minerals, the fraud involved claims that the company discovered a new combination of minerals that could cure numerous health problems.

False. As mentioned in topic 8.2, Bre-X Minerals falsely claimed to have found and owned property with large deposits of gold.

The COSO definition of inappropriate disclosure fraud is fraud that involves the issuance of fraudulent or misleading statements or press releases regarding financial statement line item effects.

False. COSO defined inappropriate disclosure fraud as fraud that involves the issuance of fraudulent or misleading statements or press releases without financial statement line item effects.

Studies that look at the frequency of various types of financial statement fraud generally put inappropriate disclosure fraud as one of the top four most common forms of fraud with over 20% of all financial statement fraud cases involving this method.

False. Inappropriate disclosure frauds are generally reported in the studies to be a small percentage of the types of financial statement fraud (e.g., 1 percent).

Where should an auditor focus when looking for fraud within liability balances that are too low? The tangential axis Liabilities that are recorded Accounts receivable that are recorded The vertical integration axis

Liabilities that are recorded

Inadequate disclosure fraud usually involves: Presenting individual categories of fixed assets in the financial statements rather than in separate footnotes. Omitting disclosures that should have been made in the footnotes. An increase in shipping costs at or near the end of the period. An increase in sales returns and sales discounts at the end of the period.

Omitting disclosures that should have been made in the footnotes. Generally accepted accounting principles require that adequate disclosure be made in order to understand the financial statements (See topic 8 for more information).

Changes in behavior can be an excellent indicator of a first-time offender of fraud.

True

Cost of goods sold can be understated by overstating ending inventory.

True

Detection of financial statement fraud can be seen on a spectrum of difficulty, one extreme being "easy-to-detect" and the other extreme being "probably could-not-have-been-detected-by-any-auditor?"

True

Focusing on the changes in dollar amounts on the financial statements from period to period is the least effective method of comparisons.

True

If the number of days to collect is increasing, then it could be due to fictitious receivable not ever getting collected.

True

Many Financial statement ratios should be examined over time and observed and compared with auditor expectations. The auditor should attempt to explain why "significant deviations" occurred.

True

Neither the inventory turnover ratio nor the days to sell inventory ratio help to discover potential red flags in inventory and cost of goods sold.

True

When Accounts Payable-related liabilities are understated, what other accounts are usually understated as well? Accounts Receivable and Cost of Goods Sold Purchases and Accounts Receivable Inventory and Cost of Goods Sold Purchases and Inventory

Purchases and Inventory

Of all the types of fraud, inventory fraud is the most difficult to commit because the lie perpetuates from period to period (creating an offsetting error that must be maintained).

True

Revenue recognition is the most violated rule by fraudsters.

True

SAS 99 requires auditors to assume there are material misstatements in revenue, though realizing there are situation-specific methods to recognize revenue and interpret the associated rules.

True

A Ponzi scheme is best described as Bernie Madoff described his actions as that of a Ponzi investment because Charles Ponzi is believed to be the greatest investor of all times. Charles Ponzi was a fictitious character created for the movie Matchstick Men that depicted crafty investment schemes. A Ponzi scheme is a fraudulent investment operation where the operator, an individual or organization, pays returns to its old investors from capital provided by new investors, rather than from profit earned by the organization. Any fraud or corruption act because Charles Ponzi was the first fraudster ever documented by the Securities and Exchange Commission.

A Ponzi scheme is a fraudulent investment operation where the operator, an individual or organization, pays returns to its old investors from capital provided by new investors, rather than from profit earned by the organization.

By reviewing how involved the boards of directors are in decision-making processes and having a capable, involved internal audit committee, which aspect of management is being evaluated? -Their motivations -Ability to influence decisions -Management Turnover -Their backgrounds

Ability to influence decisions

"Unusual or suspicious-looking purchase orders, invoices, shipping docs, and/or receiving docs" is what type of symptom? Behavioral Accounting and documentary Tips and complaints Analytical

Accounting and documentary

What limits are put on accounting firms according to the Sarbanes-Oxley Act? Accounting firms may neither perform valuation services nor external audit services. Accounting firms may offer valuation services but not external audit services. Accounting firms may not perform valuation services if they perform external audit services. Accounting firms may perform valuation services and external audit services.

Accounting firms may not perform valuation services if they perform external audit services.

When examining whether a company has understated accounts payable, which of the following ratios will be most helpful? Accounts payable/cost of goods sold. Unearned revenue/accounts payable. Gross profit margin. Sales return percentage.

Accounts payable/cost of goods sold. Accounts payable/cost of goods sold is helpful in determining whether a company is understating its accounts payable (See topic 6 for more information). Note: The gross profit margin is useful to detect inventory and cost of goods sold as well as revenue-related financial statement fraud. Similarly, the sales return percentage provides a measure of the percentage of sales that are being returned by customers and is useful in detecting revenue-related financial statement fraud.

As part of being a good ethical corporate citizen, what does Federal Executive Order 11246 require of organizations working under a government contract? Affirmative action programs in place Minimize the risk of unethical practices Documentary proof of compliance with GAAP Policies to rehire workers wrongfully fired for whistle-blowing

Affirmative action programs in place

A Variable Interest Entity (VIE) can be -Equity investments -Leases -Forward contracts -All of the above

All of the above

Motivations for fraud change from case to case, though there tends to be a common theme. Which of the following is that "common theme?" -Attempt to improve financial information to support high stock price -To support a bond or stock offering -To increase stock price -All of the above

All of the above

Which of the following are areas of questions auditors should consider when analyzing management's exposure to potentially perpetrate fraud? Significant declines in customer demand and client sales High degree of competition and market saturation accompanied by declining margins High employee turnover All of the above

All of the above

Which of the following are considered Control Fraud Symptoms? Management override of significant internal controls relating to the revenue cycle New, unusual, or large clients that appear to have bypassed usual customer-approval process All of the above None of the above

All of the above

Which of the following are legitimate fears of individuals aware of fraud (but not necessarily culpable)? They don't know who to tell or how to come forward They don't want to wrongly accuse someone They usually only have suspicions - no cold, hard facts All of the above

All of the above

Which of the following is a way to proactively search for inventory/cost of goods sold analytical symptoms? Focus on changes in recorded balances from period to period Focus on changes in relationships from period to period Comparing financial statement data with that of industry competitors All of the above

All of the above

Which of the following were explicitly reiterated in SAS No. 99 from No. 82? Maintain professional skepticism Making extensive inquiries of management whenever necessary Fraud detection has become an ongoing process, not just a piece in the planning process All of the above

All of the above

While not the most common tactic(s) of perpetrating fraud, which of the following are still considered "very common?" Improper capitalization of assets Use of off balance sheet SPE's to hide debt and expenses Overstatement of existing assets All of the above

All of the above

Control activities include all of the following, except: Adequate segregation of duties Proper procedures for authorization Adequate documents and records All of the above

All of the above Adequate segregation of duties, proper procedures for authorization, and adequate documents and records are all considered to be control activities. For more information, see topic 9.

Which of the following is an example of a question that auditors should ask when looking for disclosure fraud related to the nature of a Company or its products? Does the company's success depend on complicated marketing schemes? Is the company making guaranteed promises? Does the company's success depend on someone's "unique expertise?" All of the above

All of the above All of the above are questions mentioned in Topic 8.4.

Which of the following does not increase the difficulty of detecting fraud (from an auditor's point of view)? Collusion by fraudsters Forgery Fraud that is small (relative to financial statement balances and materiality) All of the above make detecting more difficult.

All of the above make detecting more difficult. Collusion is the one thing that auditors can't test for (people can lie and be cohorts with another), auditors are not trained to identify forgeries, and small frauds can be mistaken with minor misstatements.

Asset overstatement symptoms include all but which of the following: Last minute asset adjustments by the entity that significantly improve financial results. Missing documents related to assets. Availability of only photocopied documents to support asset transactions when documents in original form are supposed to exist. All of the above.

All of the above.

Which of the following is not a common way to overstate fixed assets (property, plant, and equipment)? Inflated amounts are recorded in non-arm's-length purchase transactions. Assets are not written down to their appropriate book, market, or residual values. Allowance for doubtful accounts is recorded too high. Assets that simply do not exist are fictitiously recorded in the financial statement accounts.

Allowance for doubtful accounts is recorded too high. If the allowance for doubtful accounts is recorded too high, the company will appear less profitable than it actually is. As a result, this is not a common method used to manipulate the financial statements.

People will often be dishonest if they are placed in: An environment with poor controls. An organizational setting with strict accountability Positive modeling and labeling. A positive work environment.

An environment with poor controls. Unfortunately, poor controls often lead to dishonest acts. Note: People are less likely to be dishonest if they work in a positive work environment. See topic 9 for more information.

"Reported cost of goods sold balances that appear too low or are not increasing fast enough" is what type of symptom? Accounting and documentary Behavioral Analytical Control

Analytical

Symptoms involving activities, relationships, or unusual events (too big, too small, off-season, etc.) are part of which fraud symptom category? Analytical Symptoms Control symptoms Accounting or Documentary Symptoms Life style symptoms

Analytical Symptoms

According to the financial statement fraud detection framework, fraud is rarely detected by which of the following: -Breaking down and analyzing internal controls Learning management's motivations -Analyzing the financial statements -Understanding the inherent risks of a specific industry

Analyzing the financial statements

Which of the following statements is most accurate? Understated liability schemes are easier to identify than other types of financial statement fraud because the understated liabilities are always included in the numbers on the balance sheet. Revenue overstatement schemes are easier to identify than other types of financial statement fraud because the overstated revenues are always included in the numbers on the balance sheet. Asset overstatement schemes are easier to identify than other types of financial statement fraud because the overstated assets are always included in the numbers on the balance sheet. Retained earnings overstatement schemes are easier to identify than other types of financial statement fraud because the overstated retained earnings is always included in on the balance sheet.

Asset overstatement schemes are easier to identify than other types of financial statement fraud because the overstated assets are always included in the numbers on the balance sheet.

What are two examples of asset overstatement fraud? Choose 2 answers Assets are overstated by capitalizing instead of expensing start-up costs. Assets through mergers are recorded at book value instead of market value. Amounts recorded for assets between unrelated parties are inflated. Unauthorized asset-related transactions are recorded.

Assets are overstated by capitalizing instead of expensing start-up costs. Unauthorized asset-related transactions are recorded.

That committee of the board of directors that is most responsible for the oversight of internal controls in a company is the: Nomination/Governance Committee Audit committee Safety Committee Compensation Committee

Audit committee The audit committee has oversight for internal controls, internal auditors, external auditors and the appropriateness of financial statements in an organization. While not covered in this topic, the compensation committee is responsible for setting the compensation for top management and the Nomination/Governance committee determines who should serve on the board of directors. Most organizations would not have a safety committee unless they were a transportation (airline, trucking, bus, etc.) company.

Which of the following factors generally results in a high-fraud environment? Hiring honest people. Autocratic management. Creating widespread monitoring by employees. Implementing a proper control structure.

Autocratic management. Research indicates that having an autocratic management style will often lead to a high-fraud environment. See topic 9 for more information.

Which of the following now needs to be documented (but wasn't required in the past) in audit work papers, according to SAS No. 99? Testing of internal controls Testing of journal entries All questions and answers asked of and answered by management Brainstorming session of possible fraudulent areas.

Brainstorming session of possible fraudulent areas.

In most cases of fraud, who was implicated in those cases as, at the very least, being complicit? CEO and CFO (89%) Controller and CFO CAO (Chief accounting officer) and CFO Controller and a select group of middle managers.

CEO and CFO (89%)

Who is required to certify a company's financial statements under the Sarbanes-Oxley Act? CEO/CFO or management The board of directors The audit committee of the board of directors The engagement audit partner or reviewing auditor

CEO/CFO or management

Which of the following organizations developed the internal control framework that most organizations use? FASB IASB ASB COSO

COSO FASB stands for the Financial Accounting Standards Board that establishes accounting standards in the U.S. IASB is the International Accounting Standards Board, the organization that establishes international accounting standards. The ASB is the Auditing Standards Board that used to establish auditing standards for all companies in the U.S. and now establishes auditing standards for private companies.

What is one way to look for analytical symptoms of fraud related to cost of goods sold in a large corporation? Investigate the lifestyle symptoms of the top executives Check for changes and comparisons within financial statements Confirm inventory and direct material documents pertaining to cost of goods sold Divide the gross profit margin by the cost of goods sold minus net income

Check for changes and comparisons within financial statements

People will be more likely to be dishonest if they are placed in an environment of all the following except: Clear lines of authority Unreasonable expectations Loose accountability Poor internal controls

Clear lines of authority The first three, poor internal controls, unreasonable expectations and loose accountability all create environments where fraud is more likely to occur. Clear lines of authority make fraud less likely.

Which of the following is a transaction that creates real liabilities for a company? Co-signing on a loan as a secondary signee. Collecting cash prior to the performance of a service. None of the above.

Collecting cash prior to the performance of a service. Collecting cash prior to performing a service creates an unearned revenue liability. Note: Co-signing on a loan as a secondary signee would create a contingent liability - not a real liability (see topic 6 for more information).

When analyzing asset amounts to be reported on the balance sheet, an excellent method to verify them is to Add quarterly statements together to see if it equals ending inventory Inquiring of management if the reported amounts are representationally faithful Compare recorded amounts with what they actually represent (count physical assets)

Compare recorded amounts with what they actually represent (count physical assets)

What is a power of the Public Company Accounting Oversight Board (PCAOB) under the Sarbanes-Oxley Act? Conduct investigations of private accounting firms Register private accounting firms that prepare audit reports Register any accounting firm that prepares an audit Conduct inspections of public accounting firms

Conduct inspections of public accounting firms

Which of the following would not typically be used as potential sources of information regarding inadequate disclosures? Confirmations from tax authorities (e.g., the IRS) Invoices from attorneys Board of Director minutes Loan agreements

Confirmations from tax authorities (e.g., the IRS) Confirmations from tax authorities was not mentioned and is unlikely to be something an auditor would obtain.

Which of the following would not typically be used as potential sources of information regarding inadequate disclosures? Board of Director minutes Invoices from attorneys Confirmations from tax authorities (e.g., the IRS) Loan agreements

Confirmations from tax authorities (e.g., the IRS) Confirmations from tax authorities was not mentioned and is unlikely to be something an auditor would obtain.

If _____________ is understated, then ________________ will directly be overstated (less tax effect). S & G Expenses, Cost of Goods Sold Net Income, Cost of Goods Sold Cost of Goods Sold, Net Income Sales Discounts, Total Expenses

Cost of Goods Sold, Net Income

What is a result of overstating purchase allowances? Net purchases are overstated. Inventory is overstated. Cost of goods sold is understated. Net income is understated.

Cost of goods sold is understated.

Which of the following is not a common method used to perpetrate disclosure fraud? Incorrectly disclosing contingent gains that are probably not going to occur. Failing to disclose contractual obligations Failing to disclose contingent liabilities that are reasonably probable. Delaying recognition of expenses through depreciation.

Delaying recognition of expenses through depreciation. The only possible answer that is not a common method used to perpetrate disclosure fraud is delaying recognition of expenses through depreciation - which is commonly done to overstate assets (not disclosure fraud). For more information, see topic 8.

What were auditors required to do under SAP 30? Test for fraud until it is found Assume increased responsibility to detect fraud Design tests to detect fraud Maintain a high level of mistrust in management

Design tests to detect fraud

The frauds at Computer Systems (CEO was Robert Reed Rogers) and Lincoln Savings and Loan (Charles Keating) had what auditor failures in common? -Were too incompetent to properly perform the audit -Failed to evaluate the company's relationships with other entities -Failed to sample properly -Did not look into management's background

Did not look into management's background

Which two characteristics should an effective audit committee member have to minimize fraudulent activities? Choose 2 answers Directors from outside the company Directors from departments within the organization Directors who have a significant amount of stock in the company Directors who have an insignificant amount of stock in the company

Directors from outside the company Directors who have an insignificant amount of stock in the company

Alerting vendors and contractors to company policies often results in: Loss of interest in the organization by vendors Heightened incidence of recurrent reverse-vendor fraud. Discovery of current frauds and the prevention of future frauds Strained vendor/purchaser relationships

Discovery of current frauds and the prevention of future frauds. Everyone wants to deal in an environment of high ethics and integrity. When vendors and contractors clearly understand your expectations, they are far less likely to engage in paying bribes or other types of fraudulent behavior.

Which category of symptom does non-recording or under-recording contingent liabilities fit in? Analytical Complaints Lifestyle Documentary

Documentary

Which of the following types of fraud symptoms usually provides the best opportunity to find contingent liabilities that should be recorded? Analytical Symptoms Documentary Symptoms Lifestyle Symptoms Tips and Complaints

Documentary Symptoms Documentary symptoms provide the best opportunity to find contingent liabilities that should be recorded (See topic 6 for more information).

The AICPA has had one major goal in issuing auditing standards about fraud, but never really met its goal until SAS No. 99. What was that goal? Eliminate the gap between financial statement users' expectations and auditors' assurances. Eliminate the need for auditors to detect fraud and focus on evaluating internal controls and verify that all GAAP rules and regulations have been followed. Establish a formula/solution identifying potential red flags so auditors, if doing their job properly, can't fail to detect fraud. Create consultatory standards for auditors to follow; an excellent consultant, when given the reins to improve the company, will undoubtedly uncover the well-hidden cases of fraud.

Eliminate the gap between financial statement users' expectations and auditors' assurances.

Which of the following is not a function of a good accounting system. Ensuring that all transactions are properly classified Ensuring that only those in top management can make accounting entries Ensuring that all legitimate transactions are recorded and the records are complete Ensuring that all transactions are properly authorized

Ensuring that only those in top management can make accounting entries Accounting entries should be made by those in the accounting area not by top management. If top management can make accounting entries, they can override the internal control system and more easily commit financial statement fraud. It is top management that has the most incentive to report high profits. Those in the accounting department have fewer incentives to "cook the books." A, b and c are elements of a good accounting system.

How often must the lead audit partner and audit review partner be rotated under the Sarbanes-Oxley Act? Every year Every five years Every two years Every seven years

Every five years

Which of the following is the most efficient method to analyze recorded amounts from one period to another? Horizontal Analysis (compare percentages) Statement of Changes in Stockholders' Equity Compare dollar amount changes from period to period Examine changes from period to period in study of statement of cash flows

Examine changes from period to period in study of statement of cash flows.

Understated accrued liability documentary symptoms relate to specific accounts. Which of the following would best help and/or identify documentary symptom for the understatement of interest? Determining the Note Payable Balance is too low. Existence of Note Payables with no interest expense Having employees with no withholdings Identical amounts of interest expense deducted on the tax return and the financial statements

Existence of Note Payables with no interest expense Determining the Note Payable Balance is too low: This is an analytical symptom Having employees with no withholdings: This references a different account. Each account could be subject to different fraud schemes, all of which could be separate and distinct from each other. Identical amounts of interest expense deducted on the tax return and the financial statements: Had this said "Interest deducted on tax returns but no on the financial statements" would have made this correct.

Which of the following is not one of the three categories of disclosure fraud discussed in the chapter? Overall misrepresentations about the nature of the company or its products. Misrepresentation in management discussions and other non financial statement sections of annual reports Misrepresentations in the footnotes to the financial statements. Explicit and implicit misrepresentations to SEC investigators.

Explicit and implicit misrepresentations to SEC investigators. Disclosure fraud can be categorized into three different groups, including: 1). Overall misrepresentations about the nature of the company or its products, 2). Misrepresentation in management discussion and other non financial statements, and 3). Misrepresentations in the footnotes to the financial statements. Explicit and implicit misrepresentations to SEC investigators is not included in any of the three categories.

An excellent way to actively search for analytical symptoms is to make comparisons. However, the comparisons should only be made within current year and previous year financial statements.

FALSE - It is a good idea to compare internal trends with industry averages, trends of similar firms, or even company financial statement data with non-financial statement data.

True or False: The importance of examining directors and management is to determine their exposure to, and motivation for committing fraud is immaterial.

FALSE - Management always as access to all three corner of the fraud triangle (attitude, opportunity, and incentive)

Which of the following types of fraud is likely the most common type of footnote disclosure fraud? Failure to disclose material related party transactions Failure to disclose contingent liabilities Failure to disclose all related parties Failure to disclose important aspects of a Company's operations

Failure to disclose material related party transactions GAAP does not require disclosure of all related parties only the material transactions that occurred with related parties.

Which of the following types of fraud is likely the most common type of footnote disclosure fraud? Failure to disclose all related parties Failure to disclose contingent liabilities Failure to disclose material related party transactions Failure to disclose important aspects of a Company's operations

Failure to disclose material related party transactions GAAP does not require disclosure of all related parties only the material transactions that occurred with related parties.

What is a rarely occurring type of financial statement fraud? Fictitious recording of revenue Inadequate disclosures Overstatement of ending inventory balances Failure to record asset impairments

Failure to record asset impairments

True or False Related parties are seldom involved in fixed assets being recorded at inflated amounts.

False

True or False Typically, analytical fraud symptoms are most helpful in determining asset overstatements related to mergers or restructuring because the auditor is comparing trends and changes.

False

True or False The idea "fraud" was not explicitly addressed until the 1990's. Fraud was addressed as "errors and irregularities."

False

True or False: With regard to appropriate company disclosure, a public company can never be charged with fraud because of an omission of material facts.

False

Backdating stock options for top executives is a practice generally ignored and considered inconsequential because its impact on financial statements is immaterial.

False Backdating is a type of fraud entirely motivated by greed that violates SEC reporting rules, GAAP regulations, and other standards.

In the case of Bre-X Minerals, the fraud involved claims that the company discovered a new combination of minerals that could cure numerous health problems.

False False. As mentioned in topic 8.2, Bre-X Minerals falsely claimed to have found and owned property with large deposits of gold.

The COSO definition of inappropriate disclosure fraud is fraud that involves the issuance of fraudulent or misleading statements or press releases regarding financial statement line item effects.

False False. COSO defined inappropriate disclosure fraud as fraud that involves the issuance of fraudulent or misleading statements or press releases without financial statement line item effects.

Disclosing misleading information is not considered financial statement fraud if it is contained in the Management's Discussion and Analysis (MD&A) section of a Company's annual report.

False False. Disclosures in the MD&A section of an annual report are considered part of the financial statements and can constitute financial statement fraud if they are misleading.

False False. Inappropriate disclosure frauds are generally reported in the studies to be a small percentage of the types of financial statement fraud (e.g., 1 percent).

Statements made by officials at the SEC show that the SEC is focused mostly on fraud found in the financial statements line items and not as concerned with statements made elsewhere in the annual report such as the management's discussion and analysis section.

False False. Section 8.2 gives some statements by SEC officials that emphasize both the financial statements and the story provided by management in the MD&A section are the focus of the SEC.

A Company will not usually be found guilty of fraud for misleading statements about the Company if the statements were made by a news outlet but are based on information obtained from the Company.

False False. The Medical Fraud examples mentioned are cases where this form of disclosure fraud existed.

One of the major purposes of the Statement of Cash Flows is to show, on an accrual basis, the Company's sources and uses of cash.

False False. The statement of cash flows shows a Company's sources and uses of cash but not on an accrual basis.

Rarely do top executives have anything to gain in committing fraud - the common motivations are to avoid layoffs, minimize reductions in operations, and save the company.

False Many top executives that committed fraud had considerable stock options, and the directly benefitted from an inflated stock price.

Financial Statement fraud is usually to enrich the lives of management, not make the company more appealing to current and potential investors.

False Most financial statement fraud is to make the firm look better to outside viewers

Generating random numbers to select samples is not an ASB-certified auditing method.

False It is an excellent way to introduce surprise into the audit and keep biases out of the audit.

The reordering of expenses to more closely match projections and budgets is an acceptable practice when its net effect on the bottom line is unchanged.

False Any manipulation of financial statements that is not a true and accurate representation of results is always fraud.

True or False Only large, multi-million dollar companies perpetrate fraud; large risk equals large reward.

False Any size company can commit fraud, from Fortune 100 to Fortune 500. Size is irrelevant when looking for fraud.

According to SAS 99, not relying on a company's internal controls when evaluating a high fraud-risk area increases auditor's possibility of missing fraud.

False By not relying on internal controls (pretending they don't exist), we dig further than we normally would and thus increase the possibility of detecting fraud

Liability fraud schemes are virtually the same, regardless of the firm and industry.

False FALSE - Each industry has unique risks, unique financing opportunities and needs, and therefore has unique schemes.

True or False: Fraud is less likely to occur when there are family relations involved with management and other members of the company.

False Families are usually complex, and complications

True or false: Financial statement fraud occurs over 85 percent of the time, from collusion occurring among middle managers, to low management, thus fooling auditors and top management.

False Financial statement fraud is usually perpetrated by top management, and most often in behalf of the organization.

False. Section 8.2 gives some statements by SEC officials that emphasize both the financial statements and the story provided by management in the MD&A section are the focus of the SEC.

A Company will not usually be found guilty of fraud for misleading statements about the Company if the statements were made by a news outlet but are based on information obtained from the Company.

False. The Medical Fraud examples mentioned are cases where this form of disclosure fraud existed.

One of the major purposes of the Statement of Cash Flows is to show, on an accrual basis, the Company's sources and uses of cash.

False. The statement of cash flows shows a Company's sources and uses of cash but not on an accrual basis.

Of all the four corners of the fraud exposure rectangle, auditors traditionally focused on which part (and thus failed to evaluate the other three corners)? -Financial Results and Operating Characteristics -Management and Directors -Relationships with the entities -Organization and Industry

Financial Results and Operating Characteristics

Which of the following provides the best statement regarding the means by which financial statement fraud gets started: Fraudsters carefully plan and execute their first fraudulent transactions to both project their fraudulent performance and conceal that effort from oversight mechanisms such as the audit. Fraudster carefully plan and execute their first fraudulent transactions to project their fraudulent performance but seldom are concerned with oversight mechanisms such as the audit. Financial reporting fraud is like starting down a slippery slope - once started, it is hard to stop, especially if the organization needs profits. Management fraud never involves cash assets.

Financial reporting fraud is like starting down a slippery slope - once started, it is hard to stop, especially if the organization needs profits.

How do fraudulent financial statements impact stakeholders and the markets? Interest rates rise as a result of financial statement fraud. Financial statement fraud leads to embezzlement. Financial statement fraud leads investors to lose confidence. CEOs acquire additional company stock following financial statement fraud.

Financial statement fraud leads investors to lose confidence.

Which of the following ratios is not useful in detecting overstatement of asset fraud? Individual fixed asset account balances/Total fixed assets. Fixed asset/Total current liabilities. Total deferred charges/Total assets. Deferred charge write-offs (amortization)/Deferred charge balance.

Fixed asset/Total current liabilities. Fixed asset/total current liabilities ratio would not be helpful in detecting fixed asset overstatement fraud. Note: Individual fixed asset account balances/total fixed asset ratios can be used to detect fixed asset overstatement fraud. Similarly, total deferred charges/Total assets is an effective tool to detect overstatement of asset fraud. Finally, deferred charge write-offs (amortization)/Deferred charge balance is an effective tool to detect overstatement of asset fraud (See topic 7 for more information).

What is a stage of a proactive fraud prevention approach? Compilation Interrogation Investigation Enumeration

Investigation

Having an unduly complex organizational structure should mostly be categorized as a symptom of Fraud Poor internal controls Incompetent internal controls None of the above

Fraud

How can financial statement fraud impact stakeholders? Fraud can lead to stock options decreasingly being used for executive compensation. Fraud can be an embarrassment to the audit profession. Investors may experience lower interest rates. Investors may be more willing to purchase new stock issues.

Fraud can be an embarrassment to the audit profession.

What is one key paradigm shift reiterated by SAS No. 99? Fraud detection is an ongoing process, not just a step in planning the audit. Instead of searching for fraud, auditors are now required to only look for obvious red flags; fraudsters have become too creative to make it cost effective to search for fraud. Fraud is no longer a priority; verifying that IFRS and GAAP have been merged properly is the number one concern Every client needs to be viewed as a devious fraudster, always attempting to deceive.

Fraud detection is an ongoing process, not just a step in planning the audit.

Which of the following aspects of fraud usually results in the largest savings? Fraud prevention Fraud detection Fraud investigation Fraud resolution

Fraud prevention Active fraud prevention policies result in big savings and helps ensure that fraud will be prevented or detected an at early stage. See topic 9 for more information.

Which of the following type of fraud scheme is typically hardest to detect: -Fraud schemes involving property, plant and equipment -Fraud schemes involving cash -Fraud schemes involving collusive behaviors with persons outside the company -Fraud schemes that involve a single, large transaction

Fraud schemes involving collusive behaviors with persons outside the company

In searching for tips and complaints symptoms, an auditor should Test internal controls for errors or holes Review inventory tracking systems Evaluate the lifestyle of management Get in contact with vendors and suppliers about their relationships with the company.

Get in contact with vendors and suppliers about their relationships with the company.

Which of the following is not a control activity? Good hiring practices Independent checks System of authorizations Segregation of duties

Good hiring practices The five types of control activities are segregation of duties, system of authorizations, physical controls, independent checks and documents and records. Good hiring practices is an element of the control

What is a common motivator of financial statement fraud? Greed Intelligence Sense of entitlement Health issues

Greed

When brainstorming possible fraud risks, it is important to avoid what kind of group dynamic? Non-hierarchal system where everyone's ideas count Thoughts of criminal-like behavior. Groupthink Free-flowing ideas

Groupthink

hich of the following is usually the most effective tool in preventing and detecting fraud? Having a good system of internal controls. Creating an expectation of punishment in the company. Requiring written confirmation of acceptance of expectations.

Having a good system of internal controls. Having a good system of internal controls is usually the most effective tool against fraud.

Which of the following is not an element that would be used to try to eliminate fraud opportunities? All of the above are elements that could be used to eliminate fraud opportunities. Monitoring employees and providing a whistle-blower system for anonymous tips Creating an expectation of punishment Having good internal controls

Having good internal controls

AICPA and the Cohen Commission (the commission on auditor's responsibility) fought over something specific concerning the fall of Equity Funding in the 1970's. This conflict highlighted a major communication issue between auditors and financial statement users during much of the 20th century. What was this conflict about? How much responsibility should the auditor take when endeavoring to detect (or fails to detect) fraud The severity of punishment top management of the company with fraud should be subjected to when they perpetrate fraud The auditors consistently weren't detecting fraud due to improper training The public felt that auditors needed to be more of a consultant than anything else, but the AICPA disagreed with this

How much responsibility should the auditor take when endeavoring to detect (or fails to detect) fraud

Which of the following elements is not included in the ad hoc approach to dealing with fraud but is included in the pro-active approach to dealing with fraud incidents? All of the above are included in the ad hoc approach to dealing with fraud Ad hoc investigation Inconsistent resolution Implementation of controls to remedy or fix the problem

Implementation of controls to remedy or fix the problem Because fraud is a crisis for companies that follow the ad hoc approach to dealing with fraud, they rarely, if ever, pro-actively assess what they can learn from the fraud incident or put controls in place to prevent the problem from occurring again.

Within the misstatement of revenues concept, there are two schemes that are used most often. Which are they? Including intercompany transactions as revenue and creating fictitious revenues. Incorrectly consolidating subsidiaries (to show greater revenue) and misclassification of lease revenue Overcharging clients and classifying thefts as revenue Improper timing of revenues and fictitious revenues.

Improper timing of revenues and fictitious revenues.

What is the most common method used to commit financial statement fraud, according to the COSO study? Overstating existing assets Improperly recognizing revenue Failing to give complete disclosure Capitalizing expenses

Improperly recognizing revenue

Which of the follow statements is most accurate? In most cases involving improper capitalization, weak controls around the capitalization process led to the wrong type of costs being capitalized. In most cases involving improper capitalization, weak controls around the capitalization process led to the wrong amount of costs being capitalized. In most cases involving improper capitalization, weak controls around the capitalization process led to not only the wrong type of costs being capitalized, but also the wrong amount of costs being capitalized. None of the Above

In most cases involving improper capitalization, weak controls around the capitalization process led to not only the wrong type of costs being capitalized, but also the wrong amount of costs being capitalized.

Which type of financial statement fraud involves a company failing to reveal a possible but improbable judgment against them for a lawsuit? Misleading disclosure Inadequate disclosure Understatement of liabilities Overstatement of net income

Inadequate disclosure

Which of the following types of frauds are considered the most difficult to find, usually requiring a tip? Overstatement of asset-related financial statement fraud. Inadequate disclosure financial statement fraud. Revenue-related financial statement fraud. Cost of goods sold-related financial statement fraud.

Inadequate disclosure financial statement fraud. Disclosure fraud is considered the most difficult type of fraud to find, usually requiring a tip (See topic 8 for more information).

Which item is an analytical symptom of asset overstatement fraud? Inappropriate capitalization of advertising costs Asset-related ledgers that do not balance Unauthorized asset-related transactions Missing documents related to assets

Inappropriate capitalization of advertising costs

There are over 15 ways of manipulating cost of goods sold. To what end does a fraudster usually do this? Increase Sales Pay more in taxes for the current period Decrease operating income Increase net income

Increase net income

______________ in the acid test ratio (QA ÷ CL) and Current Ratio (CA ÷ CL) with ____________ in the ratios Accounts Payable/Cost of Goods Sold (AP ÷ COGS) and Accounts Payable/Inventory are most indicative of fraud. Decreases; Decreases Increases; Increases Increases; decreases Decreases; Increases

Increases; decreases

What is the motivation behind committing fraud through the backdating of stock options? Preventing a violation of debt covenants Ensuring a successful stock issuance Increasing executive compensation Giving bonuses to employees

Increasing executive compensation

Which two categories are part of control activities? Choose 2 answers Fraud detection and prevention Independent verification of errors Independent checks on performance Physical control over assets and records

Independent checks on performance Physical control over assets and records

Which of the following organizations is most responsible inside an organization to ensure that a company's internal controls are functioning as designed? Internal auditors SEC External auditors PCAOB

Internal auditors While all of these organizations are concerned about a company's internal controls, the only organization that is inside a corporation and who's duty is to evaluate the internal controls on a regular basis is the internal auditor.

In relation to organizational structure and procedures, it is the lack of good _______ ________ that provides the opportunity for fraud to occur. Inventory management Inventory storage Inventory controls Inventory trackers

Inventory controls

Under the Sarbanes-Oxley Act, which statement is true regarding the Public Company Accounting Oversight Board (PCAOB)? It cannot sue, but it can be sued in any U.S. court with the approval of the SEC. It cannot sue or be sued in any U.S. court. It can sue with the approval of the SEC, but it cannot be sued in any U.S. court. It can sue and be sued in any U.S. court with the approval of the SEC.

It can sue and be sued in any U.S. court with the approval of the SEC.

What did Audit Standard No. 99 do that previous standards didn't? Created a special SEC task force to aggressively attach/investigate all "high risk" public companies It establishes black and white standards to evaluate whether the auditor did their job correctly, especially in their search for fraud. Requires all auditors to publish their work papers so financial statement users can evaluate for themselves if the auditors were thorough enough or not. Established the purpose of audits to be a more consultatory in nature than verifying GAAP rules and fraud detection

It establishes black and white standards to evaluate whether the auditor did their job correctly, especially in their search for fraud.

Which statement is true about the detection of disclosure fraud? Disclosure fraud is easier to detect than financial fraud. Symptoms of disclosure fraud are the same as other types of fraud. It is usually easier to detect missing disclosures than misleading disclosures.

It is usually easier to detect missing disclosures than misleading disclosures.

Why would the relationships between lawyers and firms be examined closely? -Lawyers are almost always hiding material misstatements -Lawyers are knowledgeable about the law and not how accounting procedures are done -Lawyers advocate for their clients and will support them until it is blatantly obvious fraud occurred -Lawyers pursue business simply for the money

Lawyers advocate for their clients and will support them until it is blatantly obvious fraud occurred

What is a reason why corporate relationships with lawyers pose an even greater threat than relationships with auditors when evaluating the threat of fraud? Lawyers usually have a good relationship with the auditors. Lawyers usually have information about the client's legal difficulties. Lawyers usually own stock in the company. Lawyers usually have insider information from the SEC.

Lawyers usually have information about the client's legal difficulties.

Which category is a corner of the Fraud Exposure Rectangle? Organization and environment Management and directors Customers and vendors Budgets and controls

Management and directors

Which of the following parts of the annual report is characterized as part of the public relations efforts of a company? The management's disclosure area of the report Management's discussion and analysis section of the report The strategic performance section of the report None of the above

Management's discussion and analysis section of the report The management's discussion and analysis section of the annual report is where management communicates information that can be characterized as part of a Company's public relations efforts. The other options are not valid sections of an annual report.

Management's discussion and analysis section of the report. The management's discussion and analysis section of the annual report is where management communicates information that can be characterized as part of a Company's public relations efforts. The other options are not valid sections of an annual report.

In the topic, the framework for detecting financial statement fraud is critically important because: -Each type of fraud is unique (e.g., revenue recognition, asset overstatement) and thus each type of fraud requires a unique detection framework. -Many of the approaches used to detect fraud exposures are similar, regardless of organization or fraud scheme. -The role of the auditor and the tools and techniques auditors use vary according to fraud and this topic is important because it emphasizes those differences. -All of the Above.

Many of the approaches used to detect fraud exposures are similar, regardless of organization or fraud scheme.

Which of the following statements about detecting inadequate disclosure fraud is true? Missing disclosures are harder to detect than misleading disclosures. The symptoms for detecting disclosure fraud are the same as for all other types of fraud. Organizations that are involved in inadequate disclosure fraud often reveal too much transparency in their footnote disclosures. All of the above

Missing disclosures are harder to detect than misleading disclosures. Misleading disclosures can be observed; missing disclosures cannot.

What is the most common technique used to manipulate financial statements? Hiding expenses and debt off book in SPEs Intercompany transactions Overstating inventory Misstatement of revenues

Misstatement of revenues

Why is it important to be extra cautious when changing auditors? On average, one out of four companies with fraud switched auditors during the fraud period or right before the fraud period. Companies only switch auditors to take advantage of the new auditor, who will want to please and will be more "understandable" when they find fraud. The new auditor will have none of the old work papers from previous audits and won't know what's "normal" for the client It is highly likely that the previous auditor was involved in the fraud scheme and wanted to leave to avoid implication

On average, one out of four companies with fraud switched auditors during the fraud period or right before the fraud period.

All of the following are common methods to commit understatement of liability fraud, except: Understate accrued liabilities. Recognizing unearned revenue as earned revenue. Understate accounts payable. Over-recording future obligations.

Over-recording future obligations. In order to commit understatement of liability fraud, a perpetrator would need to under-record future obligations, not over-record them (see topic 6 for more information).

Which type of fraud is represented by a doctor's fictitious billing for nonexistent medical services? Overall misrepresentation in the income statement Overall misrepresentation through embezzlement Misrepresentation in the footnotes to the financial statements Misrepresentation in nonfinancial statements of annual reports

Overall misrepresentation in the income statement

Understating the Allowance for Doubtful Accounts allows fraudsters to -Overstate Receivables and Net Income -Recognize excess revenue -Understate total assets -Overstate payables

Overstate Receivables and Net Income

In evaluating "purchase inventory" transactions, which of the following fraud schemes is most applicable? Overstate purchase returns and purchase discounts Not recording warranty (service) liability Borrowing from related parties All of the above are fraud schemes involving the purchase of inventory

Overstate purchase returns and purchase discounts Not recording warranty (service) liability: This scheme relates to the selling of finished products, not the purchasing of raw inventory. Borrowing from related parties: This scheme relates to borrowing money transactions.

With asset-based financial statement frauds, assets are most often: Neither understated nor overstated Understated Overstated

Overstated Assets are most often overstated in asset fraud. This normally decreases expenses and improves how profit looks (See topic 7 for more information).

The WorldCom fraud was primarily an example of which type of fraud? Inventory-related financial statement fraud Understatement of liability-related financial statement fraud Revenue-related financial statement fraud Overstatement of asset fraud

Overstatement of asset fraud The WorldCom fraud was primarily an example of overstatement of asset fraud because this fraud involved capitalizing the amount that should have been expensed (See topic 7 for more information).

Which of the following is a way to commit asset fraud? Overstating fixed assets Under-recording payroll taxes Over-recording contingent liabilities Recording sales discounts too high

Overstating fixed assets Overstating fixed assets is a way to commit asset fraud (see topic 7 for more information). Note: Over-recording contingent liabilities would make the company appear less profitable than it actually is and recording sales discounts too high would also make the company appear less profitable than it actually is.

SOX (Sarbanes-Oxley Act) created a private-sector, non-profit organization to help auditors concerning their responsibilities to detect fraud. What is the name of this organization? PCAOB (Public Committee Accounting Oversight Board PBCPA (Public Board for Certified Public Accountants) SECTAF (Securities and Exchange Commission Task-Force Against Fraud) AICPA (American Institute of Certified Public Accountants)

PCAOB (Public Committee Accounting Oversight Board

_________________ means "reason to believe that fraud may be occurring. When __________________ exists and conditions warrant, an investigation should take place. Illegal Activity Fraud Dishonesty Predication

Predication

Which employees are required by Sarbanes-Oxley Act Sections 406 and 407 to abide by a company's code of ethics as part of the effort to create a culture of honesty at publicly traded companies? Principal executive officers and the board of directors All company employees, whether or not they are in a managerial role Principal accounting officers, controllers, and senior management Principal executive officers, financial officers, and other persons performing similar functions

Principal executive officers, financial officers, and other persons performing similar functions

Which activity is a major source of fraud that the auditor has the responsibility to detect, according to SAS 99? Failing to maintain strict payroll recording procedures Recording entries that override management controls and procedures Using non-GAAP accounting procedures Destroying source documents used in the evaluation of internal controls

Recording entries that override management controls and procedures

Which scheme may indicate management fraud by the understatement of liabilities? Recording payable in a subsequent period Borrowing repurchase agreements Borrowing from unrelated parties Recording deposits as unearned revenues

Recording payable in a subsequent period

Having a strong code of conduct would reduce most which element of the fraud triangle? Perceived opportunities Conversion Rationalization Perceived pressures

Rationalization A clearly specified code inhibits rationalizations such as "It's really not that serious," "You would understand if you knew how badly I need it," "Everyone is a little dishonest," etc. When a company specifies what is and is not acceptable and requires employees to acknowledge that they understand the organization's expectations, employees realize that fraud hurts the organization and that not everyone is a little dishonest, that the organization won't tolerate dishonest acts, and that dishonest behavior is serious.

Which issue undermines a culture of honesty? High rate of employee pay Adequate expense budgets Reactive management styles Clear pathways for promotion

Reactive management styles

What level of assurance must an auditor provide regarding the absence of fraud after the issuance of SAS 53? Absolute assurance Plausible assurance Minimal assurance Reasonable assurance

Reasonable assurance

Which of the following is not a factor in creating a corporate culture of honesty and openness. Appropriate modeling by top executives Communicating expectations throughout the organization. Requiring periodic written confirmation of acceptance of ethical behavior. Recognizing that fraud can exist in any organization. Creating a positive work environment.

Recognizing that fraud can exist in any organization. While 'recognizing that fraud can exist in any organization' is a key to preventing fraud, it is not a element of creating a culture of honesty and openness. See topic 9 for more information.

What is a specific scheme to commit revenue recognition fraud? Record fictitious revenue Improper use of merger resources Failure to record asset impairments Inappropriate application of purchase methods

Record fictitious revenue

Which fraud scheme is associated with the transaction of selling goods or services to customers? Having customers pay accounts receivable early Recording sales at overstated prices Selling goods at inflated prices Overstating the sale of fixed assets

Recording sales at overstated prices

What should the first step be in an organization's hiring process to fill open positions with ethical employees? Acclimate candidates to the organization Perform credit checks on the candidates Perform background checks on the candidates Recruit an adequate number of qualified candidates

Recruit an adequate number of qualified candidates

If the Gross Margin ratio increases dramatically, this should send what kind of a signal to auditors? Decrease company Excellent innovation Red Flag Superior marketing

Red Flag

Creating an expectation of punishment is most closely associated with which of the following elements of the fraud triangle? Reducing rationalizations Reducing perceived fraud opportunities Reducing perceived fraud pressures Reducing concealment

Reducing perceived fraud opportunities Fraud opportunities include the ability to commit and conceal fraud and, if caught, not be punished. Fraud perpetrators are usually first-time offenders and knowing that dishonest actions will be punished takes away their perceived opportunities to commit and conceal fraud.

If, as an auditor, you discover a unique relationship between the client CEO and a bank president with whom the company has loans, and you investigate further, what part of the Fraud Exposure Rectangle are you investigating? -Financial Results and Operating Characteristics -Management and Directors -Relationships with other Entities -Organization and Industry

Relationships with other Entities

Which analytical symptom reflects revenue-related fraud? Reporting revenue or sales balances that appear too low Reporting bad debt expense account balances that appear too high Reporting allowance for doubtful account balances that appear too low Reporting sales discounts balances that appear too high

Reporting allowance for doubtful account balances that appear too low

Barry Minkow (a convicted fraudster) said: "Receivables are a wonderful thing - you create a receivable and you have ________________." Expenses Cash Liabilities Revenue

Revenue

Which of the following are the two most commonly manipulated to perpetrate financial statement fraud? -Revenues and Accounts Receivable -Inventory and Common Stock Holders' Equity -Revenues and Liabilities -Inventory and Accounts Receivable

Revenues and Accounts Receivable

Overstated fixed assets generally get on the financial statements in one of three ways. Which of the following is NOT one of those ways? Revenues are capitalized inappropriately in the balance sheet and not removed to the income statement in the proper period. Inflated amounts are recorded in non-arm's-length purchase transactions. Assets are not written down to their appropriate book, market, or residual values because insufficient depreciation is recorded, the assets are obsolete, or values of the assets are otherwise impaired. Assets that simply do not exist are fictitiously recorded in financial statement accounts.

Revenues are capitalized inappropriately in the balance sheet and not removed to the income statement in the proper period.

From a financial statement user standpoint, which of the following statements best describes why liability fraud can be so detrimental? fraud always results in bankruptcy, reducing investor value to zero. Fraud revelations always decrease trust in outside auditors' competencies and thus reduces the trustworthiness of all audited financial statements Getting away with the fraud encourages management to commit ever-increasing frauds Risk is severely understated and skews decision-making

Risk is severely understated and skews decision-making

By increasing sample size, the auditor is decreasing the ________________ . Professional skepticism Chance to catch fraud Confidence there is no fraud Risking of missing fraud

Risking of missing fraud

Which SAS instructs auditors how to document fraud risk? SAS 16 SAS 53 SAS 82 SAS 99

SAS 82

Which standard recognizes that GAAS auditors are not required to detect all material financial statement frauds, especially frauds involving forgery or collusion? SAS 16 SAS 53 SAS 82 SAS 99

SAS 82

Which SAS or Public Company Accounting Oversight Board (PCAOB) number identifies ways for auditors to assess fraud risk? PCAOB 6 SAS 82 SAS 99 PCAOB 101

SAS 99

In 2002, a landmark piece of legislation was signed into law to protect against and deter fraud, which also created a private sector organization called the PCAOB (Public Committee Accounting Oversight Board) to help. What was it? Sarbanes-Oxley Act (SOX) Foreign Corrupt Practices Act (FCPA) Anti-Insider Trading Act (AITA) SEC Fraud Act of 2002 (FRACT)

Sarbanes-Oxley Act (SOX)

Understating unearned revenue has a two-fold positive benefit on the financial statement: increased revenues and decreased liabilities in the current period.

TRUE - this is comparison between what the real journal entry should look like and what the fraudulent entry looks like: REAL Fraudulent Cash 500 Cash 500 Unearned Revenue 500 Revenue 300 Unearned Revenue 200

Which of the following internal control activities do you think would be the most expensive to operate on a continuing basis? Segregation of duties System of authorizations Documents and records Physical controls

Segregation of duties Segregation of duties means that certain functions have to be divided among individuals so that one person doesn't have complete control over a transaction or event. This often requires the hiring of additional people. While the others may be expensive to implement, once they are in place, there is usually not much, if any, additional ongoing expense.

Having one person make bank deposits and another person reconcile the bank statements is an example of: Segregation of duties Independent checks A system of authorizations Physical safeguards

Segregation of duties Segregation of duties means that incompatible or high risk duties are separated between two or more people. Independent checks involves someone checking on someone else's work; a system of authorizations usually implies dollar limits or events that individuals can participate in or authorize and physical safeguards involves safes, locks, key, fences, etc.

What should an auditor consider as a red flag when an organization has a relationship with related parties? Significant revenue derived from three or more transactions Large transactions in the middle of the period that significantly improve financial performance Significant related-party transactions outside the ordinary course of business Lack of significant receivables or payables between related entities

Significant related-party transactions outside the ordinary course of business

The ratio "income from operations less cash flow from operations divided by income from operations" should generally be: Slightly positive Neither positive nor negative Slightly negative

Slightly negative This ratio should be slightly negative because depreciation is subtracted from "income from operations" but not from "cash flow from operations." For more information, see topic 8.

According to Pincus, Asene, and Wright, checklists during audits constrain auditors from reasoning strategically.

True

Which of the following victims typically suffer the harshest outcomes associated with asset fraud: -Debtors. -Employees who participate in retirement plans that invest in mutual funds. -Stockholders. -The local charities who receive yearly contributions from the fraud victim.

Stockholders.

Documentary symptoms provide the best opportunity to find contingent liabilities that should be recorded.

TRUE - Finding communications between the client and lawyers, or payments to lawyers (without an acknowledged litigation), mention of litigation in minutes, etc., are all excellent ways to detect missing balances.

If an auditor finds photo-copied purchase-related records where originals should exists, the auditor should take that as a potential fraud symptom and act accordingly.

TRUE - This is an identified documentary symptom of fraud.

What are two potential consequences a company accused of financial statement fraud can face? Choose 2 answers The SEC might relist and refinance the company. Company stock price might decline when news of fraud reaches the press. The CEO might be indicted and convicted. The company may be required to issue new stock to provide needed funds.

The CEO might be indicted and convicted. Company stock price might decline when news of fraud reaches the press.

In the past (early 20th century time-frame), what was the general consensus of the principal purpose of audits (including among auditors)? To detect fraud To certify for the public that management is qualified to run the entity To evaluate that companies follow GAAP Investigative and analytical purposes

To detect fraud

What is required of the auditor when interacting with management according to SAS 82? The auditor should ask the management team if any fraud risk factors exist, such as bonuses or incentives. The auditor should ask the management team what they perceive to be the company's greatest fraud exposures. The auditor should discuss the risks of material misstatement with the auditing team. The auditor should present a list of questions about red flags that should be considered during the audit phase.

The auditor should ask the management team what they perceive to be the company's greatest fraud exposures.

Proper modeling by which of the following individuals would be most important in an organization? A member of the board of directors A delivery driver The mailroom clerk The company CEO

The company CEO The CEO. The reason is because the CEO sets the example and model for all employees and his/her actions are observed by all members of the organization. While the board member must model appropriate behavior, employees would not interact with board members. The sphere of influence of the delivery driver and mailroom clerk are not nearly as large as that of the CEO.

What is considered evidence that a company's products might be illegitimate? The company's cash balances are notably high. The company's success depends on high financial leverage. The company's success is independent of strong sales skills. The company is discouraging investors from putting money into its company.

The company's success depends on high financial leverage.

What was the auditor's responsibility to detect fraud under SAP 30? To be aware of the possibility that irregularities may exist To thoroughly interview key employees To determine if management was giving false statements To conduct statistical regression models

To be aware of the possibility that irregularities may exist

What is a consequence of financial statement fraud? The organization appears more profitable than it actually is. Suppliers are able to take advantage of the organization. Red flags prove that fraud occurred in the organization. The organization shows losses due to embezzlement.

The organization appears more profitable than it actually is.

Why has there been so much frustration between the general public and auditors regarding fraud detection? The auditors were not sufficiently trained in GAAP rules and regulations to identify fraud risks properly. The public felt searching for fraud was pointless and was costing their investments too much money; if fraudsters want to hide things, they will succeed. The auditors were taking short cuts and trying to make as large a profit as possible and therefore weren't performing as they should have. The public wants all cases of fraud detected, while auditors felt they only needed to be "reasonably certain" of its absence.

The public wants all cases of fraud detected, while auditors felt they only needed to be "reasonably certain" of its absence.

Which statement is an analytical symptom of inventory fraud? There is a large write-off of inventory after the end of the accounting period. The company's method for counting inventory is poorly designed. There are three weeks of inventory records missing. The shipping costs as a percentage of inventory are decreasing.

The shipping costs as a percentage of inventory are decreasing.

What is the most significant "red-flag" or tell-tale sign of fraud? The symptoms, or red-flags, cannot be ranked in order of their significance or extent. Huge fluctuations in balance sheet amounts from year to year. Unhelpful and argumentative managers, controllers, etc. Excessive amounts of management override controls for journal entries.

The symptoms, or red-flags, cannot be ranked in order of their significance or extent.

Why are American financial statements so widely trusted? They are prepared with integrity and there is a system that checks all published statements. The SEC provides an independent accountant on the board of directors of public companies to deter fraud. Public companies on the NYSE, NASDAQ, DOW JONES, etc., have learned that fraud doesn't pay, thus making fraud a practice of the past. America has some of the best computers in the world and can quickly and efficiently generate near flawless financial statements.

They are prepared with integrity and there is a system that checks all published statements.

What is a reason that auditors fail to react to information or observations indicating fraud on an engagement? They lack understanding of financial reporting standards. They are unwilling to accept management responses to inquiries. They have insufficient trust in company staff. They are unwilling to second-guess the management.

They are unwilling to second-guess the management.

America's capital markets are the envy of the world because of their efficiency, liquidity, and resiliency. What role do financial statements play in American capital markets? Financial statements don't really play a role in American financial markets; they are too unreliable and fraud is a guarantee. They are designed to show the best side of company, and therefore are more used for marketing tactics They prevent monopolies by publicly disclosing trade secrets and competitive procedures. They present a fair picture of the financial position and results of the organization

They present a fair picture of the financial position and results of the organization

Why is it unethical for a supervisor to ask an accountant to capitalize the marketing research program? This action overstates expenses. This action overstates assets. This action understates net income. This action understates liabilities.

This action overstates assets.

Which of the following types of symptoms is most likely to reveal a disclosure fraud? Tips and Complaints symptoms Lifestyle symptoms Documentary symptoms Analytical symptoms

Tips and Complaints symptoms Tips and Complaints symptoms are the only symptoms in this list that will likely reveal a disclosure fraud. Documents may sometimes be present but analytical symptoms won't usually exist because the disclosure fraud does not involve financial statement line items and lifestyle symptoms are unlikely to reveal any financial statement fraud

Which of the following types of symptoms is most likely to reveal a disclosure fraud? Lifestyle symptoms Analytical symptoms Documentary symptoms Tips and Complaints symptoms

According to SAS 99, why is brainstorming important to auditors? To comprehend the registration process of public accounting firms To close the expectation gap of financial statements reporting To avoid overreacting to the red flags that occur in the audit To document findings among auditors to increase the likelihood of detecting fraud

To avoid overreacting to the red flags that occur in the audit

Why did the Sarbanes-Oxley Act establish the Public Company Accounting Oversight Board (PCAOB)? To start regulating the auditing profession To help protect the investing public To choose audit committee members for companies To create a court system for investor fraud

To help protect the investing public

What was a major purpose in creating the Sarbanes-Oxley Act? To allow greater self-regulation of the audit profession To create new and more rigorous generally accepted audit standards To increase the responsibility of the Public Company Accounting Oversight Board (PCAOB) to oversee the accounting profession To protect the interests of investors

To protect the interests of investors

Why was the Public Company Accounting Oversight Board (PCAOB) established? To regulate the non-audit services that audit firms may offer to their audit clients To regulate the number of restatements provided each year To regulate the fees that auditors charge their clients To regulate the number of clients that any auditor can serve

To regulate the non-audit services that audit firms may offer to their audit clients

When doing common size financials, the 100% benchmark for the balance sheet should be An industry standard Competitor's total assets or total liabilities Total Sales Total assets or total liabilities & equity

Total assets or total liabilities & equity

A good ending question to an interview would be an open-ended, non-threatening and general question about potential issues of which they might be aware.

True

The Bre-X disclosure fraud involved promises that are conceptually similar to the promises made in investment scams and Ponzi schemes.

True. Topic 8.4 briefly mentions the similarities between these two types of frauds.

Which of the following is not a common way in which companies overstate their assets during a merger or acquisition? Inappropriately use market values instead of book values. Improperly allocate book values to assets. Under-record various liabilities.

Under-record various liabilities. While this is a common way to understate liabilities, and thus falsely improve the financial statements, it is not commonly used during mergers and acquisitions (See topic 7 for more information). Note: Inappropriately using market values instead of book values and improperly allocating book values to assets are both common ways in which companies overstate their assets during mergers and acquisitions.

What is one way inventory can be overstated to commit fraud? Understate obsolete inventory Overstate inventory discounts Understate inventory purchases Overstate inventory returns

Understate obsolete inventory

When accounts payable-related liabilities are understated, purchase and inventory are often ___________. Overstated Understated There is no effect on purchases and inventory

Understated Understatement of liabilities usually means the offsetting entry to purchases or inventory also has been understated (see topic 6 for more information).

Recognizing unearned revenue as earned revenue is an example of what type of fraud? Cost of goods sold fraud Overstatement of asset fraud Inadequate disclosure fraud Understatement of liability fraud

Understatement of liability fraud Recognizing unearned revenue as earned revenue is an example of understatement of liability fraud. Note: Understating accounts payable would not affect cost of goods sold fraud, but could affect the gross margin ratio

Which action is potentially unethical because it understates cost of goods sold? Understating purchase discounts Understating purchase returns Understating purchases Understating ending inventory

Understating purchases

If a business, for example, requires tenants to make deposits that could mistakenly be recorded as revenue, which liability account should get examined further for potential fraud? Accounts payable Notes payable to tenants Contingent liabilities Unearned revenue

Unearned revenue

There are different things to consider when deciding on a ratio to use. A good question an auditor should always ask is Is management aware of the increases in X liability account over the last five years? What should this liability balance relate to, and how has that relationship changed over time. What has this balance been increasing (decreasing) over the last five years? Why is this liability never getting paid down?

What should this liability balance relate to, and how has that relationship changed over time.

Prior to the Sarbanes-Oxley regulations and according to SAS 16, under what circumstances can auditors rely upon the truthfulness of records obtained from the client? After management has taken polygraph examinations After a thorough internal control investigation Once substantial testing on the reliability of records has been conducted Until there is evidence to suggest otherwise

Until there is evidence to suggest otherwise

What can indicate potential fraud related to an overstatement of inventory? Cost of goods sold being the same for book and tax Purchase returns that are too low Documented cutoff procedures Vendors not listed in telephone directory

Vendors not listed in telephone directory

Which is the best example of effective inquiry of management? Are you familiar and do you fully understand the inventory controls associated with your department? What internal control problems do you have in your department in relation to inventory? Are your inventory controls functioning properly? Do you regularly check and test your controls for deficiencies?

What internal control problems do you have in your department in relation to inventory?

According to FASB ASC 450: Contingencies, when do contingent liabilities need to be recorded (versus simply disclosed or not even mentioned) on the financial statements? Firms must always record or disclose any contingent liability When the likelihood of loss or repayment is remote When the likelihood of loss or repayment is probable When the likelihood of loss or repayment reasonably probable

When the likelihood of loss or repayment is probable

With regard to deferred charges that are capitalized, the most important question to ask is: Whether the costs are being incurred to generate future revenues or whether there is likelihood that sufficient future revenue will be generated against these costs. The opinion of the chief executive officer concerning the value of such deferred costs. Whether the appraisal of the deferred cost justifies the amount capitalized. Current economic trends in company profitability.

Whether the costs are being incurred to generate future revenues or whether there is likelihood that sufficient future revenue will be generated against these costs.

Which two investigative elements are predetermined in a firm's formal fraud policy? Choose 2 answers Who will conduct the fraud investigation Who will be in charge of the fraud hotline Who will follow up on tips of suspected fraud Who will contact law enforcement about the fraud

Who will conduct the fraud investigation Who will follow up on tips of suspected fraud

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