H Creyer - ACC 421 Midterm

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Southern New Hampshire University *

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Nov 24, 2024

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Harriet Creyer ACC 421: Mid Term Sunday 25 th September 2022 ACC 421 Midterm 1. Explain in your own words how SOX has impacted financial statement fraud. The Sarbanes-Oxley Act (SOX) of 2002 is a federal law that ensure the correct record keeping and reporting for businesses and companies. It was implemented after some serious fraud cases back in the early 2000’s. Its impact on the financial statements us that it has created stricter financial reporting regulations and enforces punishments for those who do not comply with these regulations within the time frame required. With the tighter internal controls for the financial statements and setting new standards for independent auditors to review all reports and statements. With these controls, regulations, and punishments it created a harder environment to commit fraud within the financial statements. 2. What is the difference between financial audit and fraud audit? Financial Audit: A Financial Audit is conducted on an annual basis by a CPA, who’s main role is to evaluate the financial statements. This helps to aid the business partners and shareholders in their understanding of the financial health of the business. It provides an overall general view of the business without going into specifics, errors and to ensure they are performing within the regulations set out by SOX. Fraud Audit: A Fraud Audit is similar to a financial audit but one of the biggest differences is that the forensic/fraud audit is to obtain all the information and evidence to prepare to the courts. A fraud audit is performed by a CFE who can provide specific and transactional information from any departments pertaining to any activity within the firm. A fraud audit can be conducted at any point when fraud is believed to being committed.

3. Explain what the fraud triangle is. How can it help us prevent, detect, and respond to fraud? Donald Cressey and encouraged by Edwin Sutherland to try to create a framework/model to better understand why fraudsters commit fraud. The fraud triangle is the idea of what can cause someone to commit fraud and what can be the underlying problems that send them down that path. The triangle consists of 3 parts Opportunity, Rationalisation and Financial Pressure. How can it help us prevent, detect, and respond to fraud? By removing 1 or more of the ‘must haves’ within the fraud triangle it will ensure that more precautions are being made. For example, extensive background and credit checks for someone who is working within the finance departments, this will ensure that if there are any financial pressures from outside the job could potentially be given to someone else or more controls are put in place. By having a basic understanding of what things can ensure all the correct controls are in place will help prevent and detect fraud if it does occur. Another example would be segregation of duties if possible, this would take away the opportunity to have full control over all the finances. 4. Explain segregation of duties as it relates to fraud prevention. Why should we worry about it? Segregation of duties is an important tool when it comes to fraud prevention. It ensures that 1 person is not essentially in control of all the financial statements. It is a separation of tasks between team members all there to be more checks in place to ensure all regulations are met and abide by. Segregation of duties can help eliminate the risk of fraud to the point where managements or additional team members need to review the information. Why should we worry about it?

Small business may struggle with segregation of duties as they may not have the manpower to do this so other procedures may need to be put into place. Segregation of duties can help prevent fraud from larceny-false refunds etc. One thing to worry about is how the tasks and duties are separated between the team members. Allowing regular audits and/or even a rotation of duties will also take the worry away. 5. Elaborate and comment on two types of financial statement schemes. How do they work? There are currently 6 types of financial statements schemes 1. Asset/Revenue Over/Underestimate 2. Timing Differences 3. Fictitious Revenues 4. Concealed Liabilities and Expenses 5. Improper Disclosures 6. Improper Asser Valuations Fictitious Revenues: Is created by the recording of sales that have never occurred. They can potentially involve both real and fake customers. Concealed Liabilities: Is the postponing of recording liabilities in the 12 months of the fiscal year so the current year looks like it has less expenses. 6. Comment on two types of asset misappropriation schemes. How do they operate? Cash Larceny: Cash Larceny is very simple, it is the theft of cash from an employer, occurring after it was recorded within the books. For Example, a drop in the deposits at the banks, changes in banking information, reports or even a change in lifestyle.

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Billing Schemes: These schemes are the most common of asset misappropriation, a shell company would be set up and would ‘bill’ the current business, this would mean that any cheques or payments would be intercepted by the fraudster. 7. What are the receivables lapping scheme? This is a form of robbing customers payments to pay another because the latter was stolen by the fraudster. 8. What are the common red flags associated with financial statement frauds? Some of the red flags associated with financial statement fraud are:  Accounting anomalies  Rapid growth  Unusual profits  Internal control weaknesses 9. What are the red flags associated with corruption? Some of the red flags associated with corruption are:  Relationships between key employees and authorized vendors  Secrecy surrounding this third-party relationship  A lack of review on management approvals for known third-party relationships that exist (over time, the fraudster may begin to steal using that relationship if the entity gets comfortable with it)  Anomalies in recording transactions (e.g., what is the debit for a bribe on the books?)  Anomalies in approving vendors 10. What are the red flags associated with fictitious revenues?

Some of the red flags associated with fictitious revenues are:  Unusual increase in assets (the other side of the entry to create fictitious revenues)  Customers with missing data (especially physical address and phone numbers)  Unexplained changes in certain relationships or ratio trends (e.g., revenues grow but accounts receivable does not) 11. Name five red flags associated with a shell company (billing scheme). Five red flags associated with a Shell Company (Billing Scheme) are:  A vendor who only bills for services  Use of round numbers for amounts on an invoice  Use of unintelligible descriptions on invoices  Odd items being purchased (e.g., gravel for an attorney)  Lack of detail on invoice 12. What are the red flags associated with a ghost employee scheme? The red flags associated with a ghost employee scheme are:  Never take a vacation  Never take sick leave  Have no taxes withheld  Have no deductions  Have no Social Security number (SSN) or an invalid one  Have a POB and no physical address 13. What are the red flags associated with skimming? The red flags associated with skimming are:  Lower than expected revenues

 Actual profits that are less than projections  Gross margins significantly less than projections 14. What are three internal factors that enhance the probability of fraud, theft, and embezzlement? Three internal factors that enhance the probability of fraud, theft, and embezzlement are:  Failure to create an honest culture  Failure to articulate and communicate minimum standards of performance and personal conduct  Inadequate orientation and training on legal, ethical, fraud, and security issues 15. Risk assessment is a critical starting point for audits in general. How can it be used as a tool for an entity’s antifraud program, in which the entity is trying to minimize its fraud risk? It is a tool to identify the risks and it address the most important ones. It is recommended that any business, have a through risk assessment on a regular basis. This helps managements with their abilities with fraud prevention, detection, and investigation. When fraud occurs and goes undetected it can have serious detrimental problems within a business. Being able to identify any ‘weak spots’ within an organisation can help but also having procedures in place in order to detected it if it was to happen. 16. What are some of the characteristics of a weak corporate governance structure that would promote fraud? Some of the characteristics of a weak corporate governance structure that would promote fraud:  Board members who were not independent

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 Board dominated by insiders  Board members with significant equity holdings  Board members with little board experience  Boards and audit committees that did not meet  Audit committee members who knew little about finances or auditing  No audit committee  Audit committee did not meet  Top executives involved in the frauds 17. To have an effective antifraud culture, an entity should have policies and procedures that do what? (Include at least 5 items.)  Define frauds  Describe implementation of controls for antifraud  Describe training  Describe proactive fraud audit measures  Describe testing of antifraud controls  Describe actions taken in fraud audit 18. Antifraud professionals agree that perception of detection is at the top of the list of fraud prevention measures. What are some of the things you would recommend to the owners of a manufacturing firm trying to prevent fraud? Some of the things I would recommend to the owners of a manufacturing company trying to prevent fraud would be:

 Code of Conduct – this would outline the expectations of the employees that are working for the company. Having strict Ethics and Fraud policies in place from the start with help prevent a fraudster from trying.  Segregation of Duties – this would allow a tighter control within departments and also creating a better check and balances system within the business.  Audits - having random audits within the company would allow prevent compilation within their job roles.  Anonymous tips - if someone was to be a whistleblower after uncovering a fraud then there needs to be protections in place in order to protect that employee. 19. What are some methods used to detect a shell company (billing scheme)? List at least five. Some methods used to detect a shell company (billing scheme) are:  Sorting payments by vendor, amount, and invoice number  Expense exceeds budget, especially if it is exactly double (i.e., possibly producing two checks, one for the legitimate vendor, and one for the fraudster)  Examining charges in largest expense account, as fraudsters often charge billing schemes to the largest account in an attempt to hide the crime  Horizontal analysis  Verifying service-only vendors’ invoices  Verifying that vendors are legitimate.  Reviewing cancelled checks  Not paying a suspicious invoice/vendor and seeing who follows up on payment

 Printing the vendor list alphabetically and searching for two vendors with nearly identical names and data 20. Who are some of the key people on the fraud response team, and what are their roles? Some of the key people on the fraud response team, and what are their roles are:  Legal/Litigation: Prosecution, Knowledge of potential effectual prosecutors, Civil Litigation.  Legal/HR: Legal termination of a fraudster, legal issues in investigating and employee.  Forensic Accounting/CFE: Fraud investigation, fraud/legal evidence, proper interviews/  Digital Forensics: Data mining for evidence.  Cyber Forensics: Evidence embedded in IT, hidden in IT, potential cyber sources of evidence.  Internal audit: Support the investigation, evidence gathering, controls remediation.  Public Relations: avoid publicity, manage publicity, craft public response to fraud.  Executive Management: Manage all key decisions of the process and follow up. All of these roles play an extremely important roles within the Fraud Response Team.

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References Singleton, T.W.S.A. J. (2010). Fraud Auditing and Forensic Accounting (4th ed.). Wiley Professional Development (P&T). https://mbsdirect.vitalsource.com/books/9780470877913