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FORENSIC AUDIT DR. MITIL CHOKSHI CHOKSHI & CHOKSHI CHARTERED ACCOUNTANTS

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FORENSIC AUDIT DR. MITIL CHOKSHI CHOKSHI & CHOKSHI CHARTERED ACCOUNTANTS. Contents. What is Forensic Audit? Forensic Audit vs. External Audit Statistics Recent Frauds What is Fraud? Difference between Fraud & Error Categories of frauds Detection Techniques.

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FORENSIC AUDIT

DR. MITIL CHOKSHI

CHOKSHI & CHOKSHI

CHARTERED ACCOUNTANTS

slide2
Contents
  • What is Forensic Audit?
  • Forensic Audit vs. External Audit
  • Statistics
  • Recent Frauds
  • What is Fraud?
  • Difference between Fraud & Error
  • Categories of frauds
  • Detection Techniques
  • Fraud Detection Methodology
  • Controls to avoid Fraud
  • Preventive Measures
  • Emerging Frauds
  • Response to Frauds
  • Synopsis
slide3
What is Forensic Audit
  • The term “Forensic Audit” has not been defined anywhere
  • Forensic Audit involves examination of legalities by blending the techniques of propriety, regularity and investigative and financial audits
  • “Forensic Audit” refers to specific procedures carried out in order to produce evidence for investigation and prosecution of criminal acts such as embezzlement or fraud
  • Findings of a forensic audit could be used in the court of law as expert opinion on financial matters
  • The forensic auditor should have a biased mind and negative approach and should see everything with suspicion.
slide4
References
  • Standard Practices for IFA Engagements
  • Managing the Business Risk of Fraud : A Practical Guide
  • Uniform Guidelines for Investigations endorsed by 10th Conference of International Investigators
  • Guidelines issued by International Financial Institutions- Anti-Corruption Task Force
slide5
Skills-Set
  • Professional Accounting Skills require the following:
  • an understanding of how business activity is documented, recorded, reported, managed and controlled;
  • the ability to identify, obtain, examine and evaluate relevant information;
  • the ability to quantify the financial impact of actual or expected transactions or events;
  • the ability to perform and interpret relevant analyses of information;
  • the ability to document and explain business information and the results of the financial analyses for decision-making purposes; and
  • the ability to render relevant and appropriate opinions and conclusions based on the findings and results of the work performed.
slide6
Skills-Set
  • Investigative Skills require the following:
  • an understanding of the context within which the engagement is to be conducted ;
  • the ability to identify, obtain, examine and assess information relevant to the engagement;
  • the ability to analyze and compare various types and sources of information;
  • an understanding of the types of information that would assist in establishing motivation, intent and bias;
  • an understanding of the ways in which information could be fabricated or concealed;
  • an understanding that information collected and the work performed, including the work and information of others, may become subject to disclosure and be tendered as evidence; and
  • the ability to document and present investigative findings and conclusions for decision making purposes.
slide9
Statistics

Percentage of companies affected by listed types of fraud

Source : 2013/2014 Global Fraud Report - Kroll

slide10
Statistics

Percentage dissuaded from investing in:

Source : 2013/2014 Global Fraud Report - Kroll

slide12
Frauds Process wise

Process perceived as most vulnerable to fraud risks

(Ranks are based on total score. Rank “1” indicates most vulnerable process)

PROCUREMENT 01

SALES & DISTRIBUTION 02

INVENTORY 03

FINANCE/PAYMENTS 04

ADMINISTRATION 05

TREASURY 06

HR 07

slide13
Statistics

Percentage Recovery to Fraud Amount

slide15
Recent Frauds
  • Rajat Gupta - Insider Trading
  • LIBOR manipulation
  • CWG - Embezzlement of Funds
  • Adidas – Reebok - Siphoning off Funds
  • NSEL - Non-availability of underlying commodities
  • Satyam - Fudging of Financial Statements
slide16
Recent Frauds
  • Bernard Madoff - Securities Trading
  • Viruses and malwares - Rampant IP Fraud
  • Counterfeit - Counterfeiting and Piracy
  • Enron & AA – Payment for better accounting consequences
slide18
What Is Fraud ?
  • From an auditor’s point of view, fraud is any act :
  • Which results in a financial loss / reputational damage
  • With a malafide intention
  • Usually it is suppressed or camouflaged.
slide21
Typical Business Frauds
  • Achilles Heel Frauds

Piggyback Fraud

  • Red Herring Frauds

Duplicate Purchases/ Expenses

  • Trojan Horse Frauds

Disaster Frauds

slide23
General Susceptibility

People most susceptible to commit fraud

(Ranks are based on total score. Rank “1” indicates most vulnerable process)

VENDORS/AGENTS 01

MANAGEMENT EMPLOYEES 02

NON MANAGEMENT EMPLOYEES 03

BUSINESS ASSOCIATE 04

CUSTOMER 05

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Detection Techniques

CRITICAL POINT AUDITING

FORENSIC AUDIT

Aims at filtering out the symptoms of fraud from regular and normal transactions in which they are mixed or concealed

PROPRIETY AUDIT

Aims at lending assurance that economy, efficiency and efficacy have been achieved in the transactions for which expenditure has been incurred or revenue collected is usually applied

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Fraud Detection Methodology
  • Management Interviews:
  • Interview of current as well as ex employees
  • Minutes of the organization to be critically reviewed
  • Preparation of a detailed questionnaire to extract constitutive information
  • Questions so intended that they draw out the best possible information from the interviewee
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Fraud Detection Methodology

Fraud Detection Methodology

  • Verification of Applications:
  • Confirming data not recreated/ modified
  • Checking the control structure
  • Checking Integrity and Reliability of data.
  • Verifying size and version of data.
slide29
Fraud Detection Methodology

Fraud Detection Methodology

  • Preliminary steps for Review :
slide30
Fraud Detection Methodology

Fraud Detection Methodology

  • Verification of authenticity of Legal Documents like minutes, statutory registers, contracts:
  • Examples –
  • Signature Analysis – Consistency and genuineness of signatures on all documents.
  • Testing the senility of the papers to verify if the documents have been created in order to make justifications available to the auditors.
slide31
Fraud Detection Methodology

Fraud Detection Methodology

  • Theory of Inverse Logic:
  • Process of proving the truth in the reverse order
  • Determining what is fallacious and eliminating it
  • Two useful methods of determining the truth:
  • The Mathematical or axiomatic approach
  • Clues don’t fit or the reductioad absurdum approach
slide32
Fraud Detection Methodology

Fraud Detection Methodology

  • Axioms/ Theories / Mathematical tools/ etc.
  • Benford’s Law of appearance of digits
slide33
Fraud Detection Methodology

Fraud Detection Methodology

Pattern of naturally occurring numbers – Benford’s Law

  • Relative Size Factor
  • Statistical measures such as regression which indicate the dependence of one variable upon another
slide34
Fraud Detection Methodology

Fraud Detection Methodology

  • Related Parties:
  • Identifying Related Parties and transactions
  • Investigating favors given for any hidden considerations
  • Verification Of Movement Of Funds:
  • Tracing the movement of funds to identify the ultimate source of funds and the ultimate beneficiary
  • Checking if there exists funneling of cash or other funds from illegal activities through legitimate financial institutions and businesses to conceal the source of the funds
slide35
Fraud Detection Methodology

Fraud Detection Methodology

  • Exit Interviews:
  • Evaluation of the Exit interviews that were conducted with departing employees
  • The primary aim of the exit interview is to understand the rationale behind the person's departure
  • Verification of the Internal and External communicationsthrough all modes
slide37
Documentation
  • The following documents or summaries should be retained on file:
  • Research;
  • Accounting, banking and other business records, and agreements;
  • Pleadings, criminal or regulatory charges, and other legal claims;
  • Affidavits and discovery transcripts;
  • Engagement letters and other correspondence;
  • Reports issued;
  • Schedules and calculations, including all necessary explanations;
slide38
Documentation
  • The following documents or summaries should be retained on file:
  • Notes and other recordings of interviews, meetings and discussions;
  • Documentation of key issues considered and key assumptions made;
  • The approach(es) taken and specific techniques used;
  • A record of the nature, extent and timing of procedures performed and the results of such procedures;
  • A record of the identities of the individual(s) performing the IFA engagement and a record that the work performed by assistants was supervised and reviewed;
  • Where the work of others is relied upon, their findings and conclusions.
slide39
Reporting
  • Auditors may communicate their findings and conclusions in a number of different forms:
  • written, oral or visual;
  • draft, interim or final;
  • point-form or narrative; and
  • formal, affidavit or letter form.
slide41
Fraud: Red Flags
  • Large amount of cash in hand
  • Lack of segregation of duties
  • Lack of mandatory time off for employees performing key control functions
  • Resource Constraints
  • External pressure on employees
  • Changes in employees behavior
slide42
Fraud: Preventive Measures
  • Ethics Statement/ Employees Code of Conduct
  • Training & Communication
  • Written Policies & Procedures
  • Segregation of Duties
  • Access Controls
  • Monitoring lifestyle of Employees
  • Employee Background Screening
slide43
Controls to avoid Frauds

Detection & Deterrence

slide47
To sum up….
  • Forensic Audit is an exception to the clause:
  • ‘Auditors can be watchdogs and not blood- hounds’.
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