Fraud and other investigative techniques
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Fraud and Other Investigative Techniques. Chapter 10. Learning Objectives. The definition of fraud Different types of fraud Components of the Fraud Triangle Utilization of ACL and i2 Analyst Notebook in fraud investigation. Learning Objectives (contd.).

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Learning Objectives

The definition of fraud

Different types of fraud

Components of the Fraud Triangle

Utilization of ACL and i2 Analyst Notebook in fraud investigation

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Learning Objectives (contd.)

  • Overview of fraud examination and business investigation

  • Use of computer technology and fraud examination/investigations

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Types of value added services

  • Risk assessment of fraud and illegal acts

  • Legal counsel asks you to investigate embezzlement scheme involving hidden assets

  • Vendor kickback determination

  • Fact-finding for alleged frauds involving bribery, wire fraud, securities fraud…….

    • All of these involve forensic accounting or litigation support

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Fraud defined

Intentional deception, simply lying, cheating, or stealing

A generic term, embracing all multifarious means which human ingenuity can devise, and which are resorted to by one individual to get advantage over another by false suggestions or by suppression of truth. It includes surprise, trickery, cunning, dissembling, and any unfair way by which another is cheated.

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Fraud defined (contd.)

  • Fraud includes the following elements:

    • A misrepresentation of a material fact

    • Known to be false

    • Justifiably relied upon

    • Resulting in a loss

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Types of frauds

  • Fraudulent financial reporting (management fraud)

    • Actions whereby management attempts to inflate reported earnings or other assets in order to deceive outsiders

    • Overstating assets/revenues, price fixing, contract bidding fraud, understating expenses/liabilities

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Types of frauds (contd.)

  • Misappropriation of assets (employee fraud)

    • Actions of individuals whereby they misappropriate (steal) money or other property from their employers

    • Embezzlement, theft of company property, kickbacks

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Types of fraud (contd.)

Employee embezzlement – fraud in which employees steal company assets either directly – stealing cash or inventory –or indirectly – taking bribes or kickbacks

Management fraud – deception by top management of an entity primarily through the manipulation of the financial statements in order to mislead users of those statements

Investment scams – the sale of fraudulent and often worthless investments (telemarketing and Ponzi scheme type frauds)

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Types of fraud (contd.)

  • Vendor fraud – fraud resulting from overcharging for goods purchased, shipment of inferior goods, or non-shipment of inventory even when payment has been received

  • Customer fraud – fraud committed by a customer by not paying for goods received or deceiving the organization in various ways to get something for nothing

  • Miscellaneous fraud – all others – altering birth records or grade reports, etc.

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Examples of fraud activities

  • Misappropriation of assets

    • Skimming

    • Forgery

    • Kiting

    • Phony refunds

    • Larceny

    • Fraudulent disbursements

    • Lapping

    • Fictitious write-offs

    • Duplicate payments

    • Nonexistent vendor

    • Kickbacks

    • Misdirected shipments

    • Theft

    • Unauthorized personal use of assets

    • Fictitious burglary

    • Phantom employees

    • Falsified time cards

  • Fraudulent financial reporting

    • Fictitious revenues

    • Asset overstatement

    • Unrecorded liabilities

    • Improper disclosure

  • Corruption

    • Conflict of interest

    • Bribery

    • Illegal gratuities

    • Economic extortion

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The Fraud Triangle

  • Three factors in the triangle (usually all 3 exist in a fraud)

    • Motivation (perceived pressure or incentive)

    • Perceived opportunity

    • Rationalization

  • Effective internal controls limit fraud

  • If an organization can contain any one of the three elements, fraud will most likely not occur

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Overview of financial fraud examination

  • Two basic categories of fraud an auditor investigates when examining material misstatement risk assessment

    • Fraudulent financial reporting

    • Misappropriation of assets

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Overview of financial fraud examination (contd.)

  • Financial reporting fraud red flags

    • Incentive/pressures

      • High degree of competition or market competition in conjunction with declining profit margins

      • Perceived or real adverse effects of reporting poor financial results

      • Personal guarantees by management or board members of entity debt

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Overview of financial fraud (contd.)

  • Financial reporting fraud (contd.)

    • Opportunities – flags

      • Highly complex transactions

      • Major international operations

      • Deficiencies in internal controls

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Overview of financial fraud (contd.)

  • Financial reporting fraud (contd.)

    • Attitudes/rationalization flags

      • Ineffective communication or enforcement of ethical standards

      • Excessive interest by management in maintaining or increasing the entity’s earnings trend

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Overview of financial fraud (contd.)

  • Misappropriation of asset risk factors

    • Susceptibility of assets to misappropriation

      • Large amounts of cash on hand

      • Easily convertible assets (bonds, diamonds)

    • Controls (lack of)

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Overview of financial fraud (contd.)

  • Steps of the fraud examination

    • Indentify issue/plan the investigation

    • Gather the evidence/the investigation phase

    • Evaluate the evidence

    • Report he findings to management?/legal counsel

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Computer technology in fraud investigation (contd.)

  • Data mining software

    • Software tool that models a database for the purpose of determining patterns and relationships among the data

    • Wizrule – used for data cleaning (searching for clerical errors) or anomaly detection.

    • Financial Crime Investigator – systematic approach for investigating, detecting, and preventing contract and procurement fraud

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Computer technology in fraud investigation (contd.)

  • Data mining software (contd.)

    • IDEA (Audimation Services, inc) – allows user to display, analyze, manipulate, sample or extract data

    • Monarch – allows investigator to convert electronic editions of reports into text files

    • ACL for windows – data inquiry, analysis, and reporting software

    • Analyst’s notebook – assists investigators by uncovering, interpreting, and displaying complex information in easily understood charts.

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Public records – see figure 10-7

Courthouse records – lawsuits, judgments, property filings, bankruptcy filings

Company records – SEC filings, Dun and Bradstreet has private company data, D/B/A filings with state or county, real estate filings

Online databases – lexis nexis, dow jones, etc

The internet – knowX – fraud searches, switchboard – white and yellow page listing,