Ethics Fraud Schemes and Fraud Detection

Fraud Schemes &
Fraud Detection
FRAUD
Asset misappropriation fraud

1.
2.
3.
4.
Financial fraud
1.
2.
3.
4.
Stealing something of value usually cash or inventory (i.e.,

asset theft)
Converting asset to usable form
Concealing the crime to avoid detection
Usually, perpetrator is an employee
Does not involve direct theft of assets

Often objective is to obtain higher stock price (i.e., financial fraud)
Typically involves misstating financial data to gain additional
compensation, promotion, or escape penalty for poor
performance
Usually, perpetrator is executive management
Corruption fraud
1.
Bribery, etc.
FRAUD
Cash larceny is the theft of cash that has already been

accounted for in the organization's books. Stealing cash
from the register. Writing personal checks to cover the
theft of cash. (after cash recorded).
Skimming is slang for taking cash "off the top" of the daily
receipts of a business (or from any cash transaction
involving a third interested party) and officially reporting a
lower total. (before cash recorded).
ACFE (Assoc of Certified Fraud Examiners)

2004 REPORT TO THE NATION
ACFE 2004 REPORT TO THE NATION
FRAUD SCHEMES
Fraudulent financial statements {5%}
Corruption {13%}
Bribery
Illegal gratuities (tips/money/gift)
Conflicts of interest
Asset misappropriation {85%}
Charges to expense accounts
Lapping (diverting a payment from one customer,
and then hides the theft by diverting cash from

another customer to offset the receivable from the
first customer)
Transaction fraud
Percentages per ACFE 2002 Report to the Nation
COMPUTER FRAUD SCHEMES
Data Collection
Data Processing
Database Management
Information Generation
AUDITORS RESPONSIBILITY FOR

DETECTING FRAUDSAS NO. 99
Sarbanes-Oxley Act 2002

SAS No. 99 Consideration of Fraud in a
Financial Statement Audit
1. Description and characteristics of fraud
2. Professional skepticism
3. Engagement personnel discussion
4. Obtaining audit evidence and information
5. Identifying risks
6. Assessing the identified risks
7. Responding to the assessment
8. Evaluating audit evidence and information
9. Communicating possible fraud
10. Documenting consideration of fraud
FRAUDULANT FINANCIAL
REPORTING
Risk factors:
1. Managements characteristics and
influence over the control environment

2. Industry conditions
3. Operating characteristics and financial
stability
FRAUDULANT FINANCIAL
REPORTING
Common schemes:
Improper revenue recognition

Improper treatment of sales
Improper asset valuation
Improper deferral of costs and
expenses
Improper recording of liabilities
Inadequate disclosures
What Is Internal Control?

Control Environment
Risk Assessment
Control activities
Information /
Communication
Monitoring
Sets the tone of an

organization.
Influences control
consciousness
Foundation for all other
components
Provides discipline and
structure
Why Did It Take So Long to Find

Out?

Control Environment
Risk Assessment
Identification and
analysis
Control activities
Relevant risks to
objective achievement
Information /
Communication
Forms basis of risk

management
Monitoring

Control Environment
Risk Assessment
Policies and procedures
Control activities
Help ensure
achievement of
management objectives
Information /
Communication
Monitoring

Control Environment
Risk Assessment
Information
identification, capture,
and exchange
Control activities
Forms and time frames
Information /
Communication
Enables people to carry

out responsibilities
Monitoring
Risk Factors
Misappropriation of Assets
Lack of management oversight
Inadequate job applicant

screening
Poor recordkeeping
Poor segregation of duties or

independent checks
Risk Factors
Misappropriation of Assets
Inappropriate transaction
authorization and approval
Poor physical safeguards
Lack of timely and appropriate

transaction documentation
No mandatory vacations for control

function employees
Risk Factors
Susceptibility of Assets to Misappropriation
Large amounts of cash on hand or in process.
Risk Factors
Inventory that is small in size, high in value, or in high demand.
Risk Factors
Easily convertible assets
Risk Factors
Fixed assets that are small, marketable, or lack

ownership identification.
Risk Factors
Material Misstatements Due to Fraud
Transactions improperly recorded or not recorded

completely / timely.
Unsupported/unauthorized balances or transactions.
Last-minute adjustments significantly affecting financial
results.
Risk Factors
Conflicting or Missing Evidential Matter
Missing documents or photocopies where originals should be.

Missing significant inventory or physical assets.
Risk Factors
Unusual discrepancies between records and

confirmation replies.
Significant unexplained items on reconciliations.
Risk Factors
Inconsistent, vague/unclear, or
implausible/unbelievabe responses to inquiries
or analytical procedures.
MISAPPROPRIATION OF ASSETS
Common schemes:
Personal purchases
Ghost employees
Fictitious expenses
Altered payee
Pass-through vendors (purchasing via shell /
fake company with higher price)
Theft of cash (or inventory)
Lapping
AUDITORS RESPONSE TO RISK

ASSESSMENT
Engagement staffing and extent of

supervision
Professional skepticism
Nature, timing, extent of procedures

performed
AUDITORS RESPONSE TO DETECTED

MISSTATEMENTS DUE TO FRAUD
If no material effect:
Refer matter to appropriate level of management

Ensure implications to other aspects of the audit
have been adequately addressed
If effect is material or undeterminable:
Consider implications for other aspects of the audit

Discuss the matter with senior management and
audit committee
Attempt to determine if material effect
Suggest client consult with legal counsel
AUDITORS DOCUMENTATION
Document in the working papers

criteria used for assessing fraud risk
factors:
1.
Those risk factors identified
2.
Auditors response to them
FRAUD DETECTION TECHNIQUES

USING ACL
Payments to fictitious vendors
Sequential invoice numbers

Vendors with P.O.
Vendors with employee address
Multiple company with same address
Invoice amounts slightly below review
threshold
FRAUD DETECTION TECHNIQUES

USING ACL
Payroll fraud
Test for excessive hours worked

Test for duplicate payments
Tests for non-existent employee

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What are the three main types of fraud schemes discussed?

What are the three main types of fraud schemes discussed?

What are some common schemes used for asset misappropriation fraud?

What are some common schemes used for asset misappropriation fraud?

Fraud Schemes &

Asset misappropriation fraud

Stealing something of value usually cash or inventory (i.e.,

Does not involve direct theft of assets

Cash larceny is the theft of cash that has already been

ACFE (Assoc of Certified Fraud Examiners)

ACFE 2004 REPORT TO THE NATION

and then hides the theft by diverting cash from

Percentages per ACFE 2002 Report to the Nation

COMPUTER FRAUD SCHEMES

AUDITORS RESPONSIBILITY FOR

Sarbanes-Oxley Act 2002

influence over the control environment

Improper revenue recognition

What Is Internal Control?

Sets the tone of an

Why Did It Take So Long to Find

What Is Internal Control?

Forms basis of risk

What Is Internal Control?

Policies and procedures

What Is Internal Control?

Forms and time frames

Enables people to carry

Lack of management oversight

Inadequate job applicant

Poor segregation of duties or

Poor physical safeguards

Lack of timely and appropriate

No mandatory vacations for control

Large amounts of cash on hand or in process.

Inventory that is small in size, high in value, or in high demand.

Susceptibility of Assets to Misappropriation

Easily convertible assets

Fixed assets that are small, marketable, or lack

Transactions improperly recorded or not recorded

Missing documents or photocopies where originals should be.

Unusual discrepancies between records and

AUDITORS RESPONSE TO RISK

Engagement staffing and extent of

Nature, timing, extent of procedures

AUDITORS RESPONSE TO DETECTED

Refer matter to appropriate level of management

If effect is material or undeterminable:

Consider implications for other aspects of the audit

Document in the working papers

Those risk factors identified

Auditors response to them

FRAUD DETECTION TECHNIQUES

Payments to fictitious vendors

Sequential invoice numbers

FRAUD DETECTION TECHNIQUES

Test for excessive hours worked

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