Accounting Fraud

Accounting Fraud

Non cash assets

 

Two most common: equipment and inventory

Proprietary information least likely but has high costs

 

Graphs on pg 230 -233

Usually employees

 

Misuse

Unconcealed larceny

Assets requisitions and transfers

Purchasing and receiving schemes

Fraudulent shipments

 

 

Misuse

Can be borrowed

Or stolen

 

Fake sales

 

prevention

Requisitioning, purchasing and receiving should be segregated

Cameras

 

 

Asset requisitions and transfers

Moving assets within a company

Transfer documents

During process of moving asset it is stolen

 

Purchasing and receiving schemes

Falsifying incoming shipments

Would say only 900 of 1000 items received

 

False shipments of inventory and other assets

Send product to person stealing or made up person

Acts like it is sold

Allows someone other than fraudster to remove items from storeroom

May be written off as uncollectible

 

 

Other schemes

Trick those in charge that old equipment is new equipment and steal new

 

 

Concealing inventory shrinkage

Shrinkage is a red flag

 

Altered inventory records

Forced reconciliation

Fake sales and acct receivables

Write off inventory

Physical padding- empty boxes

 

Audit tests on page 248

 

 

corruption

 

 

Act done with the intent to give some advantage inconsistent with official duty and the rights of others

 

Schemes

Bribery

Illegal gratuities

Economic extortion

Conflicts of interest

 

Official – deals with govt

Commercial – business

 

Commercial is most often

 

Offering a payment can constitute a bribe, money doesn’t have to be exchanged

 

Does not have employer’s consent

Unreported gifts from vendors

 

Economic extortion – pay up or else

–          Ex. If you don’t pay you lose their business

 

 

Ph 257 -260 is graphs

 

Most corruption is conflict of interest

 

Employee tip is most common detection

Usually done by management

 

 

Bribery

 

Kickback schemes

Collusion between vendors and employees

Employee makes sure inflated invoice gets paid to vendor

Employee gets kickback from vendor

 

Diverting business to vendor

 

Divert business to a vendor

 

Overbilling scheme

Employees with approval authority

False invoice can overstate cost of goods or have fake sales

Employee approves invoice

Gets kickback

 

Lacking approval authority

False purchase requisition

False vouchers

Forge signature

Fake invoice

 

Other kickback schemes

 

Slush Funds

Bribes are 2 sided transactions

Divert company funds into an account to pay for bribes

 

Preventing/detecting

Monitor trends

Price thresholds

Monitor purchase levels

Right to audit clause on vendors

Written policies against gifts

-explains what is proper

-allows for termination if violated

Pg 266

 

 

 

 

 

 

 

 

Bid rigging schemes

Inside influence gives a vendor a contract

Can rig process

Usually occur in pre-solicitation phase

 

Pre-solicitation

Before bids are officially sought

 

Need recognition scheme- employee is paid to convince company a project is needed

High requirements for inventory levels and even still requesting more

Write off surplus to scrap

No back up list of vendors

 

 

Specifications scheme- tailor contract to specifications

Elements, materials, dimensions and other relevant requirements

Restricts competition

Prequalification to eliminate competitors

-example: must have certain % of women ownership

Sole source or noncompetitive procurement- saying only one vendor can be used

Writing off of vague specifications- employee paid off to add amendments to raise price

Bid splitting- if value of bid is over a certain value it must have bidding, so they break the bid into smaller parts

Payoff to see specifications in advance

 

Solicitations Phase

Restrict the pool of competitors

Bid pooling – bidders conspire to split up contracts

Fictitious Suppliers – fake bids are used to justify high bids

Other- restricting time

 

Submission Phase

When bids are proffered to buyer

Abuse of sealed bid process

-bids are supposed to be confidential

-shows one supplier other bids so they can beat it

 

Detection/prevention

Unusual bidding patterns

Unusually high contract price

Pg 271

 

 

Something of Value

-must be given for bribes

 

Illegal Gratuities

Gift after the fact but not meant to influence

 

Economic Extortion

Opposite of a bribe

 

Conflict of interest

Purchasing schemes

Sale Schemes

Buying or selling at high or low price to someone with a hidden interest

 

 

Purchasing

-turnaround sales

Flip- resell at higher price

 

Sales

Underbillings

Writing off sales

 

Other

Business diversions

Siphon off clients for own company

Resource diversions – use for development of own business

Financial Disclosures- related party transactions

 

Detection/prevention

Company ethics

Annual disclosure to reveal interests

 

Audit tests pg 280

Accounting Principles and Fraud

 

Who commits financial statement fraud

Senior management

Mid and low level employees

Organized criminals

 

Why do people commit financial statement fraud

Conceal true performance

Preserve person control

Maintain personal income/wealth

 

Why senior management will overstate business performance

Pg 289

May understate pg 289

 

How do people commit financial statement fraud

Playing the accounting system

Beating the accountint system

Going outside the accounting system

Pg 290

 

Conceptual framework for accounting pg 290-194

 

Responsibility for financial statements

Company’s ethic – code of conduct

 

Users of financial statements – pg 295

Types of financial statements 296

 

SOX  pg 297-300

 

PCAOB

Established by sox

Pg 301-309

 

Graphs on page 310-314

 

 

Fraudulent Financial Statement Schemes

 

 

Top management: ceo and cfo

Pg 323 is list of scandals

Treadway commission- definition of financial statement fraud

 

 

Types of fraud

Falsification, alteration or manipulation of records

Material omission or misrepresentation

Deliberate misapplication of accounting principles

Intentional omissions of disclosures or presenting inadequate documents

 

T types of misstatements

Intentional misstatements or omissions of amounts or disclosures

Misappropriation of assets

 

Harmful because:

Undermines the reliability, quality and transparency of reporting process

Jeopardizes the integrity and objectivity of the auditing profession

… for full list – go to page 326

 

Methods of financial statement fraud

Fictitious revenues

Timing differences

Improper asset valuations

Concealed liabilities and expenses

Improper disclosures

 

Fictitious revenue

Revenue is realizable when:

Evidence of arrangement exists

Delivery has occurred or service rendered

Seller’s price is determinable

Collection is reasonably assured

 

Change in assets to occur

Change can be measured

Revenue is substantiated with change in assets and liabilities

Contractual rights enforceable

 

Sales with conditions

-sale is booked despite not all terms being completed

 

Pressures to boost revenue

 

Red flags

Rapid growth or unusual level of profits

Recurring negative cash flows from operations

Many related party transactions

Unusual growth in the number of says’s sales in receivables

Pg 330

 

Timing differences

 

Matching revenues with expenses

 

Premature revenue recognition

 

Arrangement does not exist

No written or verbal record of agreement

Written Agreement is customary, but now its verbal

Conditional order

Contains right of return

With related party which is not disclosed

Pg 332

 

Delivery has not occurred or service not rendered

Shipment not made to standard location

Items of wrong specification shipped

No services provided

Mix of goods misstated

Pg 333

 

Sellers price to buyer is not fixed

Price is based on some future event

Service fee unpredictable

Option to exchange products in contract

Pg 333

 

Collection is not assured

Contingent on future event

No ability to pay

Pg 333

 

 

Long term contracts

Completed contract method or percent completed method

 

Channel stuffing

Trade loading

Sale of unusually large quantity of a product, buyer enticed by deep discounts

Concern over collectability

 

Recording expenses in wrong period

Pg 334

 

Red flags with timing differences

Unusual growth in gross margin

Complex transactions

Repeating negative cash flows

Pg 334

 

Concealed liabilities and expenses

Liability/expense omission –simply fail to report them. Simple and easy

Capitalized expenses – provide most benefit to company.  Increases income and assets. As assets  are depreciated, income in subsequent periods will be understated

Expensing what should be capitalization

Failure to disclose warranty  – fail to report proper expenses related to repairs for warranties

 

 

 

Red flags

Allowance for sales returns

Unusual growth in gross margin

Pg 339

 

 

Improper Disclosures

Liability omissions

Subsequent events

Management fraud

Related party transactions

Accounting changes

Pg 339-341

 

Red flags

Domination of management by one person

Ineffective BoD

Rapid growth

 

Improper Asset valuation

Inventory valuation- failing to write down

Accounts receivable – fake accounts, failure to write down

Business combos- goodwill pg 344

Fixed assets

-booking fake assets – making up assets and recording them

Misrepresenting asset valuation- should be recoded at cost

n  Govt related companies have incentive to understate

Improperly capitalizing inventory and startup costs – interest and finance charge, misclassify assets

 

Red flags pg  347detection of financial statement schemes

Pg 347-356

-has entire step by step process

 

Financial statement analysis

Vertical – analyze relationship between items on a financial statement

Horizontal – measuring percentage change over periods

 

 

Deterrence

Reduce pressure to commit fraud

Reduce opportunity

Reduce rationalization pg 363

 

 

Interviewing Witnesses

 

Guest speakers

 

Ben franklin was first inspector

Accounting Fraud

 

Federal agents

No 1811 status

Mail fraud, identity theft, illegal content

 

Federal Statute

Title 18 usc section 1341

 

Elements: Devising or intended devising of scheme

Intent to defraud

Use mail carrier to fraud

 

Punishment: fine or up to 20 yrs

 

Chain letters

Foreign lotteries

Merchandise schemes

Investment schemes

Work at home schemes

 

 

Types of mail fraud: Business

Government look a like mail

–          Need to order to be in compliance

Solicitations disguised as invoice

–          Yellow pages advertisements

–          Disguised to look like a real company

Manipulations of mailings by mass mailer

Victims: car dealership

 

 

 

Actions taken

Criminal prosecution presented to us attorney office

Civil action presented to usao

 

 

Referrals

-law enforcement, AG’s office, BBB

 

–          Complaints

–          Database searches

Case must:

-meet fraud elements

Be in jurisdiction

Meet prosecution guidelines

 

Identity theft

9-10 million victims a yr

50 billion dollar hit to economy per yr

 

Theft is acquiring info

Fraud is using the info

 

Sources of theft

Wallet, checks, credit card = 14%

Family members 14%

Credit card transactions 13%

Mail theft 4%

Phishing, viruses, key logs 55%

 

Mike wagner

First job was selling windows

Loan to take equity out of house to pay for windows

-if house is worth 100,000 they’d say after windows it would be worth 150,000

-mortgage fraud

 

steve warshak

3 phases

1 is no problem

2 is condition but not full on problem

3 is disease and need treatment

 

Joined in 2002 and in charge of the books

 

High revenue came from continuity. Charges from credit cards that was not from initial trial.

-“wanted to make sure customer never ran out”

– to remain effective

 

Sent card that said it was an auto renew

 

Have to fully disclose process before credit card info is obtained. Cannot tell customers they are going to be auto-renewed at the end.

 

Double dinging- splitting sales transaction into 2

 

Charge back ratio

 

Charge back / total sale transactions

 

They broke sales down to create higher transaction numbers to lower ratio

 

1% is acceptable

 

Chargeback is a dispute of credit card transaction

 

2002 = 30 mil sales

2003 = 85 mil sales

2004 = 185 mil sales

.1% complained to BBB

 

Raided in 2005

 

100 mil dollar fraud = 25 yrs

 

Villa Hills Civic Club Fraud

 

–          Property worth 2 mil

–          27k savings in bank

–          7k in operating account

Theft started months within Steve Sparks taking charge

 

5 member board, secretary and treasurer

Steve convinced president that contacting treasurer was too hard, so he got a stamp with everyone’s signature

 

Non-payments kept happening. Phones, cable…

 

Place is always packed, but losing money????

 

Property was about to be sold for non payment of taxes

–          Steve was on vacation

 

Feb 7th, 2007- police call about club finances

 

Had 76 dollars in bank!

 

Tried to deposit check at wrong bank. Teller noticed he was acting weird. So he ran out and left town.

 

Poor record keeping made it hard to track what happened

 

Had mother write 75k check to trick company into thinking money was in account

 

300k + missing

 

He and his wife faced threats

 

50k loan taken against property

No payment for 3 yrs

-forgery involved on loan

 

Club has not worked on rebuilding and becoming trusted again

 

Court date on march 20th

 

Check tampering

Forgery

-fake bank statements

Payroll fraud

 

10 rules for being expert witness:

 

 

Qualified through training or education

–          Seminars

Experience

Certified in a field

 

Have resume and questions together

Follow policy

 

Photo arrays

Officer investigating cannot present lineup

 

Document everything

 

Prepare

 

Knowing facts

 

Practice testimony

 

Familiarize with science

-show how you think

 

First impression

Eye contact

 

Knowing role

 

Tv is big influence

 

Accounting methods being protected is essential for protecting the public and for CPA firms.

 

 

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