School of Accounting Florida International University Fraud Detection Recognizing the symptoms of Fraud Proactive Approaches to Detecting Fraud

School of Accounting Florida International University Discuss the Symptoms of Fraud

School of Accounting Florida International University List 6 Symptoms of Fraud Accounting Anomalies Ledger Doesn’t Balance Internal Control Weakness No Vacation Analytical Anomalies 1 = 1

School of Accounting Florida International University List 6 Symptoms of Fraud Extravagant Lifestyle Unusual Behavior Tips & Complaints

School of Accounting Florida International University Accounting Anomalies: Irregularities in Source Documents Missing Documents “Stale Items” on Bank Reconciliation Excessive Voids or Credits Payee Names & Addresses = Customer Names & Addresses Photocopied Documents Payee Names & Addresses = Employee Names & Addresses Doc sequences that do not make sense Questioning handwriting on doc Altered Documents Duplicate Payments Second Endorsements on Checks

School of Accounting Florida International University Accounting Anomalies Faulty Journal Entries Inaccuracies in the Ledgers –Ledger Doesn’t Balance –Master or Control Accounts Do Not Equal the sum of individual customer or vendor accounts

School of Accounting Florida International University Internal Control Weaknesses Lack of Segregation of Duties Lack of Physical Safeguards Lack of Independent Checks & Reviews Lack of Proper Authorization Overriding of Existing Controls Inadequate Accounting System

School of Accounting Florida International University Some Common Examples of Analytical Anomalies Unexplained Inventory Shortages or Adjustments Increased Scrap Excess Purchases Too Many Debit or Credit Memos Significant increase or decrease in account balances Physical Anomalies Cash Shortages or Overages Excessive Late Charges Unreasonable Expenses or Reimbursements

School of Accounting Florida International University Revenues with Receivables Revenues with Inventory Strange Financial Statement Relationships Inventory with Payables Volume with Increase Cost Per Unit Volume with Scrap Inventory with Warehousing Costs Revenues with Cash Flows

School of Accounting Florida International University Accounting Anomalies

School of Accounting Florida International University Extravagant Lifestyles Financial Pressure Greed Spend What They Steal Significant Improvement in Lifestyle Living Way Beyond Their Legal Means

School of Accounting Florida International University What is the chain that leads to unusual behavior? Guilt FearStress Behavior Changes

School of Accounting Florida International University Some Unusual Behaviors Insomnia Increase Drinking Drug Abuse Unusually Irritable & Suspicious Unable to Relax Lack of Pleasure in Former Pleasing Things Inability to Look People in the Eyes Unusually Belligerent Working Standing Up Sweating Increased Smoking Fear of Getting Caught

School of Accounting Florida International University Why are more frauds discovered through tips & complaints? Auditors Focus on Paperwork, Systems & Information Fellow Employees Notice Lifestyle Changes Complaints & Tips Are Only Symptoms - the Actual Investigation Can Show if a Fraud Exists

School of Accounting Florida International University Why do employees hesitate to come forward with fraud information? 1.They’re Not 100% Sure a Fraud Is Occurring 2.They Don’t Want to Wrongly Accuse Someone 3.They Have Heard Horror Stories About What Happens to Whistle Blowers 4.Intimidation by Fraudsters 5.Condition Against Squealing

School of Accounting Florida International University Discuss the Use of Hotlines Hotlines are “800” Phone Numbers Where Employees Can Provide Anonymous Tips & Information Sometimes Set Up by the Company or Contracted with a Service or Organization Like ACFE

School of Accounting Florida International University What is typical of most frauds, as in the case of Mr. Hamanaka?

School of Accounting Florida International University Differentiate Between Detecting & Investigating Fraud Detection Discovery of Fraud Answers the Question Does a fraud exist? Investigation Preceded by Detection Proving a Fraud Answers the Questions How? Who? Why? What? Where? When a fraud took place?

School of Accounting Florida International University Data-Mining as a Means of Detecting Fraud ACL- Audit Command Language Looking for Anomalies in Databases Difficulty Because ACLs Are Limited in What They Can Handle The Result Is They May Identify Thousands of Symptoms Because of Their Limitations

School of Accounting Florida International University How Benford’s Law Works

School of Accounting Florida International University What are some disadvantages of Benford’s Law? Looks at a Large Company as a Whole, May Not Show Problems With Some Individual Vendors Not Precise Broad Identification of Symptoms Does Not Zero in on Perpetrators

School of Accounting Florida International University Detecting or Identifying Fraud Perpetrators Use technology to search through vast sources of data to identify strange, abnormal relationships.

School of Accounting Florida International University 5. Follow Through with Investigation to Determine if Fraud Exists or Not What is the 5 step Process for Deductive Fraud Detection 4. Use Databases & Information Systems to Search for Symptoms 3. Understand the Symptoms these Types of Fraud Create 2. Understand the Types of Fraud that Occur in this Business 1. Understand the Business

School of Accounting Florida International University Compare the 3 Approaches Commercial Data Mining Packages are least costly, but have limited usefulness. They provide excessive symptoms, but are easy to use and modify.

School of Accounting Florida International University Compare the 3 Approaches Statistical Analysis provides lots of symptoms and is very useful for discovering vendor kickback frauds.

School of Accounting Florida International University Compare the 3 Approaches The Deductive Approach is the most expensive to use.

School of Accounting Florida International University Summarize the Process Which Results in Financial Statements Effects Investor or Creditor Decisions Economic Transaction Produces Journal Entry Posted Financial Statements Analysis General Ledger Summar- ized Source Documents Analysis

School of Accounting Florida International University What Effect Does the Size of the Fraud Have on the F/S? Small frauds are unlikely to affect F/S usually detected when examining source documents Large frauds effect F/S detected during analysis of unexplained changes in F/S

School of Accounting Florida International University How Revenue Affects the Company’s Accounts If Sales Increase Then Accounts Receivable Revenue Cost of Goods Sold Inventory

School of Accounting Florida International University Perform Vertical Analysis Perform Horizontal Analysis Calculate Key Ratios Compare from Period to Period How can you convert balance sheets & income statements to change statements? Compare Account Balances from Period to Period

School of Accounting Florida International University Describe How to Perform Vertical Analysis on

School of Accounting Florida International University Describe How to Perform Horizontal Analysis on

School of Accounting Florida International University What questions should be the focus when using a Statement of Cash Flows to detect fraud? Are there any unexpected changes in cash? Did A/R go up or down? Why? Why did inventory go up or down?