Some Colour to Fraud Investigation

Lisa Weaver, the examiner of P7, wrote the article about forensic auditing in Student Accountant in 2008. I can not say it is the most jolly reading in the world, but I still  recommend it to all accountancy students for effective preparation to exam or job interview in forensic department.

In fact the fraud is highly tested area in all accountancy certification exams, in  ACCA (F8, P1,P7) and US CPA. I would like to add some “colour” to the considerations about fraud investigation engagements.

Types of Fraud

Ms Weaver kindly mentioned for us that there are three types of fraud:

·        corruption,

·        asset misappropriation,

·        financial statements fraud.

According to PwC’s report “Global Economic Crime Survey” her statement is very close to reality. I highly recommend to read that report, because it is quite interesting and practical product. PwC gives a table of the most popular economic crimes, which is in line with Weaver’s article:

Lets dive in financial statement fraud.

Financial Statement Fraud

Elliot and Elliot in their book state that inventory valuation gives lots of opportunities for creative accounting. Inferring from Treadway Comission Report they consider that ‘fraud often involved overstatement of revenues and assets with inventory fraud’ featuring understating bad debt allowances, overstating value of inventory. There are several groups of inventory related fraud: year-end manipulations, purchases not recorded (cut-off issues), fictitious transfers of non-existent inventory, carrying obsolete inventory at a cost, reducing cost of goods sold by adjusting journal entries.

Fraud and Bankruptcies

Gaughan, referring to Dun & Bradstreet research, noted than in 2000s number of bankruptcies related with fraud significantly increased. WorldCom, Enron, Adelfia, Refco, Parmalat were ‘brought down by management fraud’. He also mentioned BancruptcyData.com table of the largest bankruptcies. I have found it’s updated version since he has written his book, here it is:

As we already know accounting fraud (so called, ‘Repo 105’) was also involved in Lehman’s case. Though it was not the primary reason for their collapse, but still conceal of fraud contributed to the overall situation. This is how Sikka describes this case in his article:

‘Lehman’s own accounting personnel described Repo 105 transactions as an “accounting gimmick” and a “lazy way of managing the balance sheet as opposed to legitimately meeting balance sheet targets at quarter end”, but the bank received a clean bill of health from auditors Ernst & Young. The insolvency examiner was critical of auditors and protracted litigation will follow.’

By The Way

There is a special certification of specialists in fraud investigations which is carried out by Association of Certified Fraud Examiners. CFEs are the guys, just like us, accountants J However, additionally to common accountancy subjects they study things as criminology and have special training to present evidence in court.

By the way, have you ever been involved in fraud investigations or may be you performed fraud investigation procedures within audit engagements? Please share information. 

References

Elliot, B. and Elliot, J. (2007). Financial Accounting and Reporting. 11^th Edition. Pearson Education Ltd.

BankruptcyData.com (2010). Site Link:

 http://www.bankruptcydata.com/Research/Largest_Overall_All-Time.pdf

Gaughan, P.A. (2007). Mergers, Acquisitions and Corporate Restructurings. Forth Edition. John Wiley and Sons Inc.

PwC. (2009) Global Economic Crime Survey: Economic Crime in a Downturn. November 2009, PwC

Sikka, P. (2011).The EU man cometh. PQ Magazine. No. 1, p. 27.

Weaver, L. (2008). Forensic Auditing. Student Accountant. September 2008, p. 58-60.