ACCT3995 - NOTES (PLANE EDITION).docx

Table of Contents {#table-of-contents.TOCHeading} ================= [Seminar 1 2](#seminar-1) [Seminar Notes 2](#seminar-notes) [Textbook: Chapter 1 9](#textbook-chapter-1) [Textbook Chapter 14 12](#textbook-chapter-14) [PWC -- Fighting Fraud: A familiar Foe in Unfamiliar times 12](#pwc-fightin...

Table of Contents {#table-of-contents.TOCHeading} ================= [Seminar 1 2](#seminar-1) [Seminar Notes 2](#seminar-notes) [Textbook: Chapter 1 9](#textbook-chapter-1) [Textbook Chapter 14 12](#textbook-chapter-14) [PWC -- Fighting Fraud: A familiar Foe in Unfamiliar times 12](#pwc-fighting-fraud-a-familiar-foe-in-unfamiliar-times) [In Person Seminar Notes 16](#in-person-seminar-notes) [Seminar 2 18](#seminar-2) [Textbook: Chapter 2 18](#textbook-chapter-2) [Seminar 2 -- Forensic Accounting in Practice -- Partners at McgrathNicols 24](#seminar-2-forensic-accounting-in-practice-partners-at-mcgrathnicols) [Seminar 2 -- Presentation (Slides) 25](#seminar-2-presentation-slides) [Week 3 31](#week-3) [In person Seminar 31](#in-person-seminar) [Week 4 33](#week-4) [Textbook Chapter 4 33](#textbook-chapter-4) [Week 5 -- Chapter 5 -- TExtbook 41](#week-5-chapter-5-textbook) [Accounting ANomalies 41](#accounting-anomalies) [Internal Control Weaknesses 42](#internal-control-weaknesses) [Analytical Fraud Symptoms 42](#analytical-fraud-symptoms) [Extravagant Lifestyles 43](#extravagant-lifestyles) [Unusual Behaviours 43](#unusual-behaviours) [Tips and COmplaints 44](#tips-and-complaints) [Whistleblower Rights and Protections 44](#whistleblower-rights-and-protections) ACCT3995 -- SEMINAR NOTES Seminar 1 ========= Seminar Notes ------------- [1 Introduction] Fraud -- *A knowing misrepresentation of the truth or concealment of a material fact to induce another to act to his or her detriment. It could be a tort, or it could be criminal.* It involves false or misleading words or actions/omissions or concealment of facts. Tort -- BoP (onus on P) Criminal -- BRD (onus on Crown) *Legislation (Federal)* **CRIMES ACT 1900 (NSW) -- SECTION 192E** \(1) A [person] who, by any [deception], [dishonestly]--- \(a) [obtains property] belonging to another, or is guilty of the offence of fraud. Maximum penalty- Imprisonment for 10 years. The elements: - It must be a person (the accused). - They must deceive. - The deception must be dishonest. - Property must be obtained. - A financial advantage must be **obtained** or a financial disadvantage must be **caused**. [2 Fraud Statistics ] Statistics generally cover **how much fraud** is occurring, whether it is **increasing or decreasing**, and how much the average fraud costs -- it is sourced from: - Government agencies; - Researches; - Insurance companies; - Victims of fraud. [3 Personal Fraud] - 11% of Australians experienced personal fraud in 20-21, up from 8.5% in 2014-15. - Increase was driven by a rise in card fraud (5.9% to 6.9%) and scams (2.4% to 3.6%). - Card fraud was the most common fraud type experienced in 2020-21. [4 Scams] Scams are fraudulent invitations, requests, notifications, or offers which are designed to *obtain personal information or money*, or otherwise obtain a *financial benefit by deceptive means*. - 55% of Australians aged 15 years and over were exposed to a scam in 2020-21. - This was similar to the rate in 2014-15 (56%). - The scam exposure rate is similar irrespective of gender. [5 Defining Fraud] *Seriousness* - 35% of Australian respondents said they had experienced fraud - 19% of Australian respondents said they have been asked to pay a bribe in the last 24 months - 22% of Australian organisations lost over \$7.1 million and an additional 40% over \$1.4 million in the last 24 months due to fraud - Fraud affects how much we pay for goods and services - Each of us pays not only a portion of the fraud bill but also for the detection and investigation of fraud - Losses incurred from fraud reduce a firm's income on a dollar-for-dollar basis - For every \$1 of fraud, net income is reduced by \$1 - It takes more revenue to recover the effects of the fraud, since fraud reduces the net income *What is Fraud?* It has **7 ELEMENTS** 1. A **REPRESENTATION** 2. About a **MATERIAL POINT** (positive MR) \[Can be concealment\] 3. Which is **FALSE** (objectively) 4. And **INTENTIONALLY OR RECKLESSLY** so 5. Which is **BELIEVED** (reliance) 6. And **ACTED UPON** by the victim (reliance) 7. To the victim's **DAMAGE** (material). *Types of Fraud* - Classification: - Divide fraud into those that are committed against organisations and those that are committed on behalf of organisations. - Use the ACFE's definition of occupational fraud - Divide fraud according to victims. *ACFE's Major Categories* There are 4: - Asset misappropriations - Corruption - Fraudulent financial statements - Employee embezzlement. *Classifying against victims* - Company or organisation is the victim - Employee embezzlement - Vendor fraud - Customer fraud. - Management fraud -- victims are shareholders or debtholders of the organisation - Investment scams and other consumer frauds -- victims are unwary individuals - Miscellaneous frauds *Ponzi Scheme* - Based on Carlo Ponzi - Scheme involving postal coups and currency exchange bragging about success; promise to investors to double your money in 90 days. - Questions about the legitimacy of a Ponzi scheme: paid returns to original investors **but** unable to pay returns without new investments. - Legal action was taken against Ponzi. [6 Fraud, Greed, Deception, and Confidence] A Ponzi scheme is codified by Greed on both sides, Deception and Confidence. - Confidence - The single most critical element for fraud to be successful. - By saying early "returns," Ponzi gained investors' confidence and convinced them that he had a legitimate business. - The word con, which means to deceives, comes from the word confidence. - It is difficult to con anyone out of anything unless the deceived has confidence in the deceiver. Ponzi Scheme Examples - Man who misappropriated retirement savings lost his moral compass -- Mr Graeme Miller - Sentenced to six years imprisonment in NSW for operating a Ponzi Scheme, misappropriating \$1.865m from 10 victim clients, with the court noting that Miller had "lost his moral compass" due to personal tragedy. - Melissa Caddick - Swindled 72 investors out of over \$23M through an elaborate fraud involving fake documents, multiple bank accounts, and fictional portfolio evaluations, before going missing and leaving behind a substantial deficit of asset [7 Employee Embezzlement] Occupational fraud where employees steal company assets. - Can be indirect or direct. - C V C Construction (direct) - Big D Advertising (indirect) [8 Vendor Fraud] - Fraud perpetrated by vendors acting along; OR - Fraud perpetrated through collusion between buyers and vendors - It will usually result in overcharge for purchased goods; shipment of inferior goods; nonshipment of goods even though payment is made. - Department of Defence Case. - Operation Ember -- Investigation into allegations that senior officials at NSW's roads agency facilitated contracts worth \$11.3M for their friends' companies using kickbacks. [9 Customer Fraud] - Customers do not pay for goods - Customers pay too little - Customers get something for nothing - Customers deceive organisations into giving them something they should not have. - Rishi Khandelwal -- Tax Fraud former public servant in the ACT was sentenced to three years and two months in prison for embezzling over \$1M through the submission of false tax claims using the names of overseas students. [10 Management Fraud] Financial statement fraud top management deceptively misstates financial statements: Enron; WorldCom; Sunbeam - Financial Director Sentenced for Serious Financial Fraud Bradley Sherwin, former director of Sherwin Companies was sentenced to 10 years for causing substantial financial losses to superannuation funds and engaging in fraudulent reporting practices at Wickham Securities Ltd. [11 Investment and Other Consumer Fraud] - Fraudulent and usually worthless investments are sold to unsuspecting investors. - Examples: - Ponzi schemes - Telemarketing fraud - Nigerian letter or money scams - Identity theft - Advance fee scams - Redemption/strawman/bond fraud - Letter of credit fraud - Internet fraud. [12 Fraud Related Careers]  [13 Fraud Statistics] *A Related to Los*s Occupational fraud and abuse impose enormous costs on an organisation: - Median loss was \$150,000.00 - Nearly one-quarter of the cases caused at least \$1M or more in losses. Participants in the study estimated that organisations lose 5 percent of their annual revenues to fraud. *B Related to Detection* Occupational Fraud (OF) schemes can be very difficult to detect. - Median length of the schemes in the study was 18 months from the time the fraud began until detection. - OF are more likely to be detected by a tip than by other means such as internal audits, external audits, or internal controls. Whistle-blowers were most likely to report fraud to their direct supervisors or company executives. *C Related to Prevention* Certain anti-fraud controls have a significant impact on an organisation's exposure to fraud. - Anti-fraud controls include internal audit departments, surprise audits and anti-fraud training for employees and managers. - Victim organisations that had such anti-fraud controls in place had lower losses compared to organisations without antifraud controls in place. *D Related to Organisation Size* The media loss suffered by small organisation was the same as that incurred by large organisations. The size of the loss caused by OF is strongly related to the position of the perpetrator. [14 Asset Misappropriations] Wells' Classification Scheme 1. Thefts of Cash a. Larceny (intentionally taking away an employer's cash without the consent and against the will of the employer). i. After it is recorded into the company's accounting system. ii. Can take place in any circumstance where cash access is available. b. Skimming (the removal of cash from a victim entity prior to its entry in an accounting system) c. Fraudulent disbursements. iii. ACFE -- Six cash schemes involving outgoing disbursements of cash: 1. Billing schemes 2. Check tampering 3. Expense reimbursements scheme 4. Payroll disbursement schemes 5. Wire transfer schemes 6. Register disbursement schemes. 2. Thefts of Inventory and other Assets d. Misuse iv. A person can misappropriate company assets other than cash in two ways. v. Simple misuse is the less egregious of the two types of fraud. e. Larceny. [15 Corruption] 1. Bribery Schemes a. Any scheme in which a person offers, gives, receives, or solicits something of value for the purpose of influencing an official act or a business decision without the knowledge or consent of the principal. b. Bid-rigging schemes employee fraudulently assist a vendor in winning a contract through the competitive bidding process. 2. Conflict of interest schemes c. Any scheme in which an employee, a manger, or an executive has an undisclosed economic or personal interest in a transaction that adversely affects the company as a result. i. Purchase scheme -- involves an employee having some kind of ownership or employment interest in the vendor that submits the invoice. ii. Sales scheme 3. Economic extortion schemes d. The coercion of another to entre into a transaction or delivery property based on wrongful use of actual or threatened force, fear or economic duress. 4. Illegal gratuity schemes. e. A scheme in which a person offers, gives, receives, or solicits something of value for, or because of, an official act or business decision without the knowledge or consent of the principal. **Case: Operation Ricco: City of Botany Bay Council** ICAC investigation uncovered fraudulent activities by former City of Botany Bay Council CFO Gary Godman and other employees, involving false invoicing, solicitation of payments, and misuse of Council resources for personal financial gain. Textbook: Chapter 1 ------------------- [1 Introduction -- Seriousness of Fraud Problem] Bernie Madoff: - \$17B in restitution and 150 years in prison. - Largest Ponzi Scheme in history. - Many blue collar workers and royal families. Sources: 1. Government agencies FBI, FDIC, IRS 2. Researchers 3. Insurance Companies -- commonly provide insurance to companies and individuals. 4. Victims of fraud -- learn from victims. ACFE regularly conducts the most comprehensive fraud studies in the *Report to the Nations on Occupational Fraud & Abuse*. - Stats above. Technology has greatly increased fraud by decreasing the barrier to fraud \$1M is as easy to steal as \$1 on a computer. Car company (profit margin is 10%) would have to make 10x the amount lost in revenue to cover. It is accordingly, a serious business problem. Incredibly important for economies for the same reason less fraud better welfare. - Also impacts an investor's desire to invest in a company. - Consider Enron & WorldCom. [2 Defining Fraud] The idea that one is **tricking** another out of something. Ponzi scheme and elements discuss (see above). [3 Fraud, Greed, Deception and Confidence] Fraud is normally done by the most trusted person this is since it requires deception and confidence. - 36-45 is the normal range. [4 Types of Fraud] Completed above. *A Employee Embezzlement* CVC Construction specialises in building new homes as well as remodelling older homes. Although CVC Construction has a large market share, they, unfortunately, have a hard time making a profit. An investigation into the matter revealed that several of CVC's employees were using company supplies and equipment to do their own remodelling jobs on the side and pocketing the profits. One employee alone had stolen more than \$25,000 worth of company assets. Big D Advertising role as a purchase agent, Mark paid a company in NYC nearly \$100,000 for contracted work that should have cost about \$50,000. The contractor then paid Mark a kickback of nearly \$30,000. Only after someone noticed that the quality of work performed by the NYC contractor decreased substantially was the fraud suspected and eventually detected. *B Vendor Fraud* Department of Defence Illinois-based corporation pleaded guilty to false claims and conspiracy charges pertaining to cost overruns and executive personnel expenses charged to the Department of Defence. Corp agreed to make restitution of \$115M to Gov. Corp later agreed to an addition payment of \$71.3M to resolve pending admin and noncriminal issues and to dismiss certain officers proven criminally culpable through investigation. [5 Investment Scams and other consumer frauds] - Examples: - Ponzi schemes - Pyramid Schemes making money from recruiting other participants. - Telemarketing fraud send money to people they do not know over the phone. - Nigerian letter or money scams email communication with an author who states that an up-front payment is needed. - Identity theft assuming identity commonly for criminal purposes. - Advance fee scams victim pays an up-front cost for a G or S that is never delivered. - Redemption/strawman/bond fraud claims that the government controls certain bank accounts that can be accessed by submitting paperwork with government officials. - Letter of credit fraud creation of bogus letters of credit. - Internet fraud many different ways, the main way that fraud happens (Operation Cyber Sweep 125,000 victims with estimated losses of \$100M+ and 125+ arrests). American Mortgage Crisis mass default with property prices decreasing. [6 Criminal & Civil Law] All above and known. [7 How to Prepare to Be a Fraud-Fighting Professional] Important Skills: - Analytical Skills: significant amounts of diagnostic and exploratory work to discover what is happening. - Communication skills: pushing for evidence, structuring questions, etc. - Technological skills: examining huge databases. - An understanding of accounting and business. - A knowledge of civil and criminal laws, criminology, privacy issues, employee rights, fraud statutes, and other legal fraud-related issues. - The ability to speak and write in a foreign language. - A knowledge of human behaviour, including why and how people rationalise dishonest, how they react when caught and what is the most effective way to deter individuals from committing fraud. *CFE (Certified Fraud Examiners)* Represents the standards held by ACFE in anti-fraud prevention. CFE criteria: - Be an associate member of the ACFE in good standing - Meet the specified academic and professional requirements - Be of high moral character. - Pass the CFE Examination - Agree to abide by the Bylaws and Code of Professional Ethics of the ACFE [Questions] Case Study 3: - Marcus bought a \$70 basketball for only \$30, simply by exchanging the price tags before purchasing the ball. *Customer Fraud* - Craig lost \$500 by investing in a multilevel marketing scam. *Investment Scam* - The Bank of San Felipe lost over \$20,000 in 2018. One of its employees took money from a wealthy customer's account and put it into his own account. By the time the fraud was detected, the employee had spent the money and the bank was held responsible. *Employee Embezzlement* - The CEO of Los Andes Real Estate was fined and sentenced to six months in prison for deceiving investors into believing that the company made a profit in 2018, when it actually lost over \$150 million. *Management Fraud* - The government lost over \$50 million in 2018 because many of its contractors and subcontractors charged for fictitious hours and equipment on a project in the Middle East. *Vendor Fraud* - A student broke into the school's computer system and changed her grade in order to be accepted into graduate school. *Miscellaneous Fraud* Textbook Chapter 14 ------------------- [1 Larceny] Relatively successful when it is a small amount over a long period of time recorded as shorts or miscounts instead of theft. Jane had a role of moving cash in excess of the maximum allowable cash on hand Jane was taking money from the top no receipt was required to be given and Jane was sick on a day there was an 8c discrepancy so her boss had to attempt to change it when then coincidentally found that Jane was lying and the 8c discrepancy was far smaller than the actual discrepancy. Embezzled \$150K. [2 Skimming] Prior to recording. Marvin (a pseudonym) skimmed money by not recording the amount of money earnt from the works completed. More complicated skimming schemes occur when employees understate sales and collections by recording false or larger-than-reality sales discounts, misappropriate customer payments and write off the receivable as "uncollectible," embezzle a first customer's payment and then credit that customer's account when a second customer pays (a delayed recognition of payment, called lapping), or work together with customers to allow them to pay later than required or less than required. PWC -- Fighting Fraud: A familiar Foe in Unfamiliar times --------------------------------------------------------- [1 The Ongoing Battle against Fraud and Economic Crime] PwC's Global Economic Crime and Fraud Survey --- operating for 20 Years *Nearly half of the respondents told us they had experienced a fraud in the past 24 months ---\> aggregate losses of AU\$60B.* - 5,000+ respondents - 47% experienced fraud - 99 countries - AU\$60B in aggregate losses Types of Fraud Examined: - Accounting/Financial Statement Fraud - Anti-Competition/Antitrust Law Infringement - Asset Misappropriation - Bribery and Corruption - Customer Fraud - Cybercrime - Deceptive Business Practices - Human Resources Fraud - Insider/Unauthorised Trading - IP Theft - Money Laundering and Sanctions - Procurement Fraud - Tax Fraud. [2 Australian Insights] Companies must remain as vigilant as ever 35% of Australian Companies compared to 47% of Global Companies had experienced fraud. 1/5 of Australian respondents were asked to pay a bribe. **There is no room for complacency** 1\. Governance and Resources: 8% of respondents have dedicated anti fraud measures. 2\. Risk Assessment: 63% of Australian respondents do not have a formal risk assessment for fraud in place. [3 The Perpetrator: Who's Committed Fraud] External -- 56% in Aus, 39% Globally Internal -- 24% in Aus, 37% Globally Collusion between internal and external -- 13% in Aus, 20% Globally List of Top External Perps in Aus - Customers -- 35% - Hackers -- 33% - Organised Crime -- 18% - Vendors/Suppliers -- 12% *Customer Fraud is on the Rise* [4 Responses to Fraud] 60% of the respondents streamlined their operations 50% embraced technology 43% reduced similar incidents. 26% of Australian Respondents consider cost as a barrier for implementing or upgrading technology and 23% don't see value in implementing or upgrading technology to combat fraud. 22% of Australian organisations lost over **AU\$7.1M** and an additional 40% over **AU\$1.4M** in the last 24 months due to **fraud**. [5 Key Themes] Quality and sophistication of companies' fraud detection capabilities. - The extent to which this is enabled by technology; - The approach to remediation after a fraud; - Cybercrime, which is a more prevalent issue in Australian than elsewhere in the world; - The fraud risks posed by third-parties, including suppliers; and - Then effectiveness of the response when a fraud happens. [6 Opportunities to use Technology] 58% of Australian Respondents agreed strongly or slightly that their organisation had been able to implement or upgrade relevant technologies in the past two years, against a global figure of 67%. [7 Three Steps to effective fraud detection and Prevention ] Step 1. Identify all your risks and address on a prioritised basis. - Robust risk assessments, gathering internal input from stakeholders across the organisation and across geographies, to identify risks and assess mitigating factors. - Should be regularly assessed. Step 2. Back up your technology with the right governance, expertise and monitoring. - Recognise that one tool wont address all frauds and technology alone won't keep you protected. Step 3. Escalate, Triage and Respond. - Quickly mobilise the right combination of people, processes and technology can limit the potential damage. [8 Do more, spend less] 38% of Australian organisations conducted an investigation of serious fraud incidents (global 56%). Barely one fifth reported it to the board compared to one third globally. Companies who invested in fraud prevention incurred lower costs when a fraud was experienced. [9 Tackling Cybercrime] 49% of Australian respondents who reported experiencing fraud in the last 24 months reported experiencing cybercrime, higher than the global response of 34% 32% of Australians respondents felt that cybercrime was the most disruptive/serious in terms of impact to their organisation (monetary or otherwise) compared to 16% of global respondents. Opportunities for improvements: 1\. Training and communication -- 11% of R globally do not have training or communications related to cybercrime risks compared to 26% of Australian organisations. 2\. Mitigating the scale of its disruptive impacts: almost one-third (32%) of Australian respondents cited cybercrime as the most disruptive form of fraud. [10 Improving Due Diligence ] 66% of Australian respondents do not have mature, documented, risk-based DD and ongoing monitoring processes in place for third-parties their organisations partner with. [11 Responding with the right moves] Teamwork -- 40% of Australian R strongly agreed that they acted as a team (47% globally) Data access -- 32% of Australian R were able to access the data required for incident response, compared to 39% of Global respondents Communication -- 33% of Australian R believed they communicated effectively, compared to 41% of global R. [12 Conclusion] Our findings suggest that organisations elsewhere in the world are actually being confronted by more fraud than hose in Australia, however this finding is offset by what seems to be a lower degree of rigour an technology enablement in Australian fraud detection processes. In Person Seminar Notes ----------------------- The slides are the same as above. Intent to Deceive -- can take the form of false or misleading words, action omissions and the concealment of facts, and the aim is to cause legal detriment (injury) to the victim. Ponzi Schemes -- Melissa Caddick (suicide) ---\> she was incredibly obnoxious and confident (potentially narcissistic). Art Fraud ---\> Falsifying art. Falsifying Academics (another type of Fraud). Lying on a resume, falsifying insurance claims, cheating on taxes. White-collar crime -- embezzlement, account manipulation, bribery. - Intent to deceive for personal gain. BRD -- No reasonable doubt in the minds of the jury and the judge. Tip-offs ---\> jealous co-workers, unhappy employees, etc. [Personal Fraud] - Growing vulnerability to fraud for individuals. - Card fraud is the most prevalent type of fraud for individuals in Australia. - Unauthorised use of debit or credit cards for fraudulent transactions. [Classifying Fraud] Occupational fraud -- frauds made against an organisation by their **own employees** or other insiders. [Corruption] Employee Embezzlement ---\> More Cash Related. Asset Misappropriation ---\> More Assets [Fraud According to Victims] Vendor Fraud is harder to find if it is a service. [Questions] Ponzi ---\> Greed and Confidence Why are fraud stats hard to find ---\> victims can be embarrassed (don't disclose); companies keep it civil Why does it take so long? There must be a reasonable doubt (predication) that fraud exists and they normally only take small haircuts. [Asset Misappropriation] Stealing receipts of cash and other assets as they are coming into an organisation. Stealing cash, inventory and other assets that are on hand. Committing disbursement fraud by having the organisation pay for something it shouldn't pay for or pay too much for something it purchases. --- With each of these three types of fraud, the perpetrators can act alone or work in collusion with others. [Corruption] Undermines the integrity of companies and private institutions. Any time where a position of power is used for something that is **NOT** in the best interest of the company. Remember: - Bribery - Conflict of Interest - Economic Extortion - Illegal Gratuity [Matching Task] 1. Expense Scheme 2. Lapping 3. Check Tampering 4. Billing Scheme 5. Payroll fraud scheme 6. Illegal gratuities 7. AM 8. Skimming 9. Disbursement Scheme 10. Investment Scheme Seminar 2 ========= Textbook: Chapter 2 ------------------- Fraud perpetrators are normally just humans who have compromised their integrity and have then become entangled in fraud. They normally have a large group of people who trust them as well.  Friends cannot normally believe that perps offended since it involves a breach of trust. [The Fraud Triangle] Three parts in a **three dimensional** triangle: 1. Perceived/Real Pressure a. Commonly a financial pressure or greed - many other types available though. 2. Perceived Opportunity  b. The opportunity must present itself ---\> includes a perceived opportunity to conceal the crime. 3. Rationalisation  c. Fraud perps might believe that their actions are **not illegal** or they may believe that they can pay the money back ---\> idea that they are borrowing the money.  [The Fraud Scale]  Honest and integrity are declining in advanced countries ---\> easier to rationalise, requiring less of a perceived opportunity and/or perceived pressure for fraud to occur.  [The Element of Pressure] Four sources of Pressure: 1. Financial Pressures, a. The largest type of pressure with 95% of all frauds involving financial or vice related pressures.  b. The following sub categories are most relevant (non-exhaustive and not mutually exclusive): i. Greed ii. Living beyond ones means iii. Inability to pay bills or personal debt iv. Poor credit v. Personal financial losses vi. Unexpected financial needs. 2. Vices, c. Gambling, drugs, alcohol, expensive extramarital relationships.  d. The pressures are commonly so strong that no-one can control themselves. 3. Work-related pressures, and e. Getting little recognition for job performance,  f. having a feeling of job dissatisfaction,  g. fearing losing one's job,  h. being overlooked for a promotion, and  i. feeling underpaid have motivated many frauds.  4. Other pressures.  j. Spouse who insists on an improved lifestyle.  k. Challenge to beat the system.  l. Eliminating pressure is incredibly important.  [The Element of Opportunity] 1. Lack of internal controls that prevent and/or detect fraudulent behaviour.  2013 COSO Framework  *The Control Environment* The atmosphere that a company establishes for its employees.  - Management's Role and Example The "top-down" idea.  It is normal that if a company does something wrong, employees will exploit their wrong or take similar actions since it is the same as what management does.  Idea of *proper modeling* and *proper labeling*.  Practice what you preach ---\> if a manager says something and does another, it sends mixed systems and erodes the internal control system.  *Sarbanes-Oxley Legislation* All public companies must have a code of ethics or conduct to help deter wrongdoing and promote: - Honest and ethical conduct, - Avoidance of conflicts of interests, - Fuel, fair, accurate, timely and understandable disclosures in reports and documents that a company files with, or submits to, the SEC and in other public communications made by the company, - Complained with applicable governmental laws, rules and regulations,  - The prompt internal reporting of code violations to an appropriate person or persons identified in the code, - Accountability for adherence to the code.  Company must also disclose in its annual report if it does or does not have a code of ethics.  - Management Communication It is about communicating what is and what is not appropriate.  Communication must be consistent, the messages must not change when there are differing circumstances.  Communication must also be accurate and consistent with customers, vendors and shareholders.  - Appropriate Hiring Wading out dishonest individuals during the hiring procedure is pivotal.  Dishonesty = Fraud - Clear Organisational Structure Everyone within an organisation should know exactly who has responsibility for each business activity.  - Effective Internal Audit Department  The mere presence of internal auditors provides a significant deterrent effect.  1. Inability to judge quality of performance.  2. Failure to discipline fraud perpetrators. 3. Lack of access to information or asymmetrical information.  4. Ignorance, apathy or incapacity.  5. Lack of an audit trails.  *Control Activities (Procedures)* Five Critical Control Activities: 1. Segregation of duties, or dual custody; i. Segregation of Duties: Dividing a task into Two Parts so that one person does not have complete control; ii. Dual Custody: Two individuals working on the same task. iii. Commonly used with cash. iv. Commonly very expensive as it requires **additional wages** to be paid. v. Difficult to enforce as it requires **no** distractions. 2. System of authorisation; vi. Passwords, signature cards, spending limits. vii. It stops the fraud before it can happen by physically denying access. 3. Independent checks; viii. Relies on the theory that people know that work is going to be monitored by other people. ix. Example: requiring bank employees to take a week's worth of leave when someone else then does their work to review it. x. Periodic job rotations, cash counts, certifications, supervisor reviews, employee hot lines, auditors. 4. Physical safeguards; xi. Vaults, safes, fences, locks and keys. xii. Take away the opportunity to commit fraud. 5. Documents and records. xiii. Rarely serve well as a preventive control, but excellently as a detective control. xiv. No accountability exists without documents. *Accounting Function (within information and communication)* All Fraud is composed of three elements: 1. The theft act, in which assets are taken; 2. Concealment, which is the attempt to hid the fraud from others; and 3. Conversion, in which the perpetrator spends the money or converts the stolen assets to cash and then spends the money. There should be an [audit trail] Makes concealment difficult. Frauds can be concealed within accounting records (paper or electronic). A good accounting system would ensure that recorded transactions are: 1. Valid, 2. Properly authorised, 3. Complete, 4. Properly classified 5. Reported in the proper period, 6. Properly valued, and 7. Summarised correctly. [Summary] SAPID -- Separation of Duties, Authorisations, Physical Controls, Independent Checks, and Documents and Records. CONTROL ENVIRONMENT ACCOUNTING SYSTEM CONTROL ACTIVITIES OR PROCEDURES ------------------------------------------------------------------- ----------------------- ------------------------------------------ Management philosophy and operating style, modelling Valid transaction Segregation of duties Management communications (labelling) Properly authorised Proper procedures for authoirsation Effective hiring procedures Completeness Adequate documents and records Clear organisational structure of proper modelling and labelling. Proper classification Physical control over assets and records Effective internal audit department Proper timing Independent checks on performances Proper valuation Correct summarisation A lack of following internal controls is sadly the main place where frauds are perpetrated. [Inability to Judge the Quality of Performance] It is difficult to know (commonly) if the service being received by a professional is **inferior** and hence, you are paying an excessive amount. Quotas can, **at times**, promote fraud as one must reach their quota for the year. [Failure to Discipline Fraud Perpetrators] An individual who commits fraud and is not punished accordingly (not suffering a penalty or embarrassment), will often be a victim of recidivism. - Prosecution equals significant shame for fraud victims. It also can signal to the rest of the company **that if you commit fraud, all that will happen will be your termination** this can send a **perceived opportunity message.** Termination can assist in building a **more attractive resume**. [Lack of Access to Information or Asymmetrical Information] One party has information about products or situation and the other party does not asymmetrical information. Individuals can attempt to protect themselves against scams be insisting on full disclosure most investment scams act upon this. [Ignorance, Apathy, or Incapacity] Older people, individuals with language difficulty, etc. are more commonly fraud victims. [ ] - Pigeon drops -- fraudsters pose as bank examiners trying to catch dishonest bankers, or they may use some other scheme to get elderly or non-English speaking customers to withdraw money from their bank accounts they then grab the money and flee. Consider the Nigerian Prince Scams. [Lack of an Audit Trail] Many frauds involve cash payments or manipulation of records. - Most will manipulate the income statement. - This is as, at year end, all expense accounts are closed to a balance of zero the audit trail is then concealed. [The Element of Rationalisation ] Case of Jim Bakker rationalised a fraud of \$600M+ as a religious and church going man as he believed what he was doing was for a good purpose as any money he received would directly or indirectly help others. Common Rationalisations: - The organisation owes me. - I am only borrowing the money. - Nobody will get hurt. - I deserve more. - It's for a good purpose. - We'll fix the books as soon as we get over this financial difficulty. - Something has to be sacrificed -- my integrity or my reputation. Rationalisations to Tax Evasion: - I pay more than my fair share of taxes. - The rich don't pay enough taxes. - The government wastes our tax money. - I work for my money. - The government spends taxes collected on things I don't support. They are sincere in their minds. Companies, when attempting to **reduce and prevent fraud**, only concentrate on **reducing perceived opportunities for fraud**. Companies should also consider attempting to reduce **perceived pressure and rationalisation**. Rationalisation would be the easier of the two options to explore. [Fraud Recruitment - Power] *Business Week* forum for CFOs 67% of all CFO respondents said they had fought off other executives' requests to misrepresent corporate results. 12% admitted they had yielded to the requests. French and Raven -- Two Researchers 1959 Report -- Power is determined by: 1. A's ability to provide benefits to B (reward power), i. Ability of a fraud perp to convince a potential victim that he or she will receive a certain benefit through participation in the fraud scheme. 2. A's ability to punish B if B does not comply with A's wishes (coercive power), ii. Ability of the fraud perp to make an individual perceive punishment if he or she does not participate in the fraud. Based on fear. 3. A's possession of special knowledge or expertise (expert power), iii. Ability of the fraud perp to influence another person because of expertise. 4. A's legitimate right to prescribe behaviour for B (legitimate power), and iv. Ability of the fraud perp to convince a potential perp that he or she truly has power over him or her. 5. The extent to which B identifies with A (referent power). v. The ability of a perp to relate to the potential co-conspirator gain confidence and participation from potential co-conspirators when performing unethical acts. The above is commonly what is called **perceived power**, not **actual power**. The more susceptible a victim is, the easier their desire, fear, etc. will fall. Seminar 2 -- Forensic Accounting in Practice -- Partners at McgrathNicols ------------------------------------------------------------------------- [Role of Forensic Accountants] 'In open court' -- *forensic* Everything done will have a formal process where findings are presented. Tribunals, Senate, Regulators, Courts, etc. -- do get scrutinised regularly. Role in preventing, detecting and responding to financial crimes. [The Importance of Prevention and Detection ] Prevention is the most important part of the fraud process: - Fraud is incredibly costly. - Trying to find the **gaps.** - The best form of attack is defence. - Ensuring there are systems in place to prevent and detect fraud are key. - Significant investments are made by companies to ensure their people, their assets and their technology. - Fraud is detected by tip-off. - What can be done? - Training and awareness - Governance - Risk management - Data analytics. [Challenges (Opportunities)] - Uncovering the truth - Supporting clients through difficult times - Analysing and presenting information in clear and compelling ways -- how best to deliver the facts. - Collaborating with people from different backgrounds. - No two matters are the same. - Challenging situations in high pressure environments. - Constantly challenged and always learning. - Industry experience. Seminar 2 -- Presentation (Slides) ---------------------------------- [Who Commits Fraud] - Anyone can commit fraud - Fraudsters cannot be distinguished from others based on demographic or psychological characteristics is. - Impossible to predict who individuals became dishonest. [What Drives People to Commit Fraud] - Fraud is often committed by those you least expect - Under appreciated loyalist; - Unhappy that others are promoted and she isn't ---\> lack of appreciation. - Perfectionist; - Do anything to keep image spotless. - Reluctance; - Fraud for the gain of other people ---\> spending more time with patients. - Opportunist; - Takes opportunities -- social norms and ethical principles are small changes that are not important. Different interpretation of the truth to their own benefit. - Targets and bonuses are common. - Incentives. - Drowning woman; - Spending above their means. - Addictions are included. - Small transfers which increase in size and regularity. - Untouchable - CEO/Major Shareholder - A lot of Power and Control. [The Fraud Triangle] In the readings: 1. Perceived Pressure 2. Perceived Opportunity 3. Some way to rationalise the fraud as acceptable. Strong internal control, ethics, manage well. [The Element of Pressure] - Financial Pressures - Vice Pressures - Work-Related Pressures - Other Pressures. [Short Case (Case 4, Page 58 Textbook)] 1. *What were Ruth's Perceived Opportunities?* Perceived opportunity to conceal her fraud as she was [**in charge**] of paying the bills, balancing bank accounts, and handling other cash management chores. Perceived opportunity to commit fraud by stealing from the company when she was paying bills, balancing bank accounts, and handling other cash management chores. 2. *What Pressure did Ruth have to commit fraud?* Vice Pressure ---\> Gambling. 3. *How did the fact that Ruth was a trusted employee give her more opportunity to commit fraud?* Access to all the funds but also people would not think that she would do wrong. Thought that there was no need to monitor her actions. 4. *How do vices such as gambling motivate peopler to commit fraud?* Quick money attacks one's greed. It is addictive. [Short Case (Case 6, page 58 Textbook)] *1 Is the pharmacy at risk for fraud? Why or why not?* Yes -- all companies are at risk of fraud. The pharmacy is particularly at risk of fraud as there is no segregation of duties, there additionally being apparently no checks on the accounting books. Additionally, Alexia is a struggling mother with a husband who does not work, accordingly needing money to support her family. *2 How does the fraud scale help us to determine if risk for fraud is high or low in this situation?* There are high levels of opportunity and high levels of pressure so rationalisation would come easily. *3 Assuming that you were recently hired by the pharmacy as a business consultant, what information would you provide to the owner of the pharmacy concerning fraud?* Internal Controls --- segregation of duties, system checking for unusual transactions. [The Element of Opportunity] 6 Major Factors increase opportunities to commit fraud: - Lack of internal controls - 3 Components to eliminate/reduce opportunity to commit fraud: - Control environment - Accounting system - Control activities (SAPID) - Separation of duties - Authorisations - Physical controls - Independent checks - Documents and records. - Inability to judge performance - Situations where it is easy (construct a fence) - Situations where it is difficult to judge performance (professional services). - Failure to discipline fraudsters - Recidivism - Termination only - Prosecution - Worker mobility. - Poor access to information or asymmetrical information - Victims of fraud do not have access to al information possessed by perpetrators. - Ignorance, apathy or incapacity - Victims of fraud are often vulnerable (older, language barriers, lack of knowledge). - Lack of audit trail. - Many frauds involve cash payments or manipulation of records. [The Element of Rationalisation ] Fraudsters are first-time offenders who rationalise their dishonesty. Examples include: - Organisation owes me - Only borrowing the funds - Nobody will get hurt. [Short Case (Case 1, page 57, Textbook)] Question 1 -- Authorisations Question 2 -- Independent Checks or Segregation of Duties Question 3 -- Physical Control; Independent Checks; Segregation of Duties. Question 4 -- Inadequate Documentation [Short Case (Case 3, page 57)] *1 What internal control activities are missing in Helen's company?* There is a lack of authorisation, segregation of duties and independent checks. There is also a lack of sufficient Documentation on the fact that Jackson & Co are no longer the company who should provide the studies. A lack of authorisation is, however, the primary issue as it allows Helen to personally authorise checks of a certain amount (+\$10,000.00) without any other source of authorisation. *2 What gave Helen the opportunity to perpetrate the fraud?* The trust that her supervisor had put into Helen as the supervisor gave Helen permission too need no authorisation for her cheques. Jackson & Co. stopping their work with them too. *3 How could this fraud have been detected?* Having an audit function --- Security measures. [Short Case (Case 8, page 59 Textbook)] What factors provided the optometrist with an opportunity to commit fraud? - Specialised knowledge --- People don't know how much the cost actually should be. - Lack of access to information. [Short Case (Case 10, page 59 Textbook)] *1 List Four reasons why Len should have the employee prosecuted.* The employee might believe that they can do the crime and get away with it if they are not prosecuted. Len would be without \$20,000.00. Len's other staff might then believe that they are able to get away with extra money if they only get fired. Len might not feel vindicated. *2 List three reasons why Len might not want to seek prosecution of his employee.* It is expensive to do so, especially after a small amount of loss. The loss, in the grand scheme of things is a small loss. All about the company will be exposed. *3 If you were Len, what would do?* [Short Case (Case 11, pages 59-60, Textbook)] *1 Is it fraud to charge the company for personal lunches that you submit as business expenses?* Yes, expense fraud. *2 What elements of fraud, if any, are present in this situation?* Perceived Opportunity Rationalisation Pressure *3 How would you respond to your mentor or to other employees that may encourage you to pick up the tab for lunch with the understanding that you will charge the company for the lunch?* [Fraud Recruitment ] - Majority of frauds are collusive. - This involves more than one perpetrator. - Power can be used to influence others to participate in fraud. 5 types of Powers: - Reward power - Coercive power - Expert power - Legitimate power - Referent power Then see the above diagrams on collusion. [Operation Ember -- Do it at home -- COLLUSION] Collusion, specialised knowledge, asymmetrical information. [Discussion Questions]: *1 What types of people commit fraud?* Anyone can commit fraud, however it is normally those who are trusted in some way. They also normally will have some form of external pressure, be it financial or a vice, or related to work, to commit said fraud. *2 What motivates people to commit fraud?* A host of things, but mainly financial pressures (need for money), vices (such as addictions \[gambling, D&A\]), or work-related pressures (not feeling rewarded). *3 What is the fraud triangle and why is it important?* The fraud triangle is a three-sided depiction of the elements of fraud, including a perceived opportunity, perceived pressure and rationalisation. *4 What is the fraud scale, and how does it relate to pressure, opportunity and integrity?* The fraud scale is an attempt to quantify the interplay between pressure, opportunity and integrity (or the lack thereof). This shows that with more pressure, less opportunity and integrity is required. *5 What are some different types of pressures?* Financial, vices, work-related. *6 What are some of the internal controls that prevent and/or detect fraudulent behaviour?* SAPID: - Segregation of Duties - Authorisation - Physical Control - Independent checks - Documents and Records. *7 What are some common factors that provide opportunities for fraud?* Lack of internal controls; inability to judge quality of performance; failure to dissuade a fraudster; lack of audit trail; ignorance, incapacity, apathy; poor access to information or asymmetrical information. *8 How does rationalisation contribute to fraud?* Rationalisation allows an individual to continue on with their unethical and illegal acts whilst believing that what they are doing is **[not]** unethical and/or illegal. *9 What is power?* An ability to influence another person because of one's standing above them. *10 How is power used to influence another person to participate in an already existing fraud scheme?* Five types of power are used -- reward power (to provide one with a reward for participating); coercion power (to persuade an individual that punishment will happen if they do not do something); expert power (to have expertise over another person and lever that expertise); Legitimate power (to convince one that they do truly have power over them); and referent power (to build rapport with the other person by relating to them ---\> can lead to co-conspiracy). Week 3 ====== In person Seminar ----------------- [Different ways of Fighting Fraud] - Fraud Prevention - Most cost effective way. - There are two critical steps to fraud prevention: - Promote a culture of honesty and high ethics. - Assess risks and respond appropriately to mitigate/eliminate fraud. - Early fraud detection - Fraud investigation - Litigation [Creating a Culture of Honesty and High Ethics] - Tone at the top - Recruitment - Clear expectations - Positive work environment - Adequate responses to fraud. **ADD IN TWO PICTURES FROM SLIDES** [Assessing and Mitigating the Risk of Fraud] - Proactive ways to eliminate fraud opportunities: - Identify source and measure the risks. - Appropriate preventative and detective control measures. - Monitor employees. - Internal/external audits. [Class Questions:] *Why is Fraud Prevention so Important?* Protect the assets and the finances of the company. Protect the company reputation (goodwill). *How does building a culture of honesty and high ethics help to reduce the possibility of fraud?* Fraud only exists with dishonesty. *How does a company assess and mitigate the risk of fraud within an organisation?* Having a clear policy, understanding fraud (using the work printer, etc.). Emphasise the consequences of the behaviour ---\> following through with them. [Conflicts, Ethical Dilemmas and Deception in the Boardroom (Ep7)] [Fraud Detection] - Fraudulent activity can be identified by indicators and red-flags. - These can be found by: - Chance - Reported - Proactive measures [Predication] Predication -- reasonable to believe a fraud has occurred (or will occur) [Fraud Investigation] Once predication is present, an investigation usually takes place. - Purpose: fact find Implications if investigations are not conducted properly: - Reputational damage (innocent individuals) - Undetected fraud - Insufficient information to address issues. [Approaches to Fraud Investigations] They vary. Common investigations rely on evidence such as: - Interviews - Computer searches - Accounting records. [Evidence Square] 4 Aspects: - Testimonial Evidence - Documentary Evidence - Physical Evidence - Personal Observations [Fraud Element Triangle ] Fraud Motivation Triangle is here too. FET: - Theft Act; - Conversion; - Concealment. [Conducting a Fraud Investigation] Investigators must be: - Experienced - Confidential - Evidence is independently corroborated - Avoid questionable techniques - Remain fair and objective. [Follow-up Legal Action] 3 keys venues once fraud is discovered: - No legal action - Seek civil remedies and/or - Seek criminal proceedings. [Civil v Criminal] Civil --- Recover Losses Criminal --- Fines and/or imprisonment (vindication). Week 4 ====== Textbook Chapter 4 ------------------ Two essential factors in a low-fraud environment: 1. Creating a culture of honesty, openness and assistance. 2. Eliminating opportunities to commit fraud and creating expectations that fraud will be punished. [1 Culture of Honesty. Openness and Assistance] *Hiring Honest People and Providing Fraud Awareness Training* Stats: - 30% of Americans are dishonest; - 40% are situationally honest; and - 30% are honest all the time. Individuals with gambling, financial, drug or past criminal problems should not be hired or alternatively, these problems should be made known.  Resume verification and certification should be utilised to prevent fraud. High turnover and low retention equate to an **increased environment for fraud**. Employers could be liable for negligent hiring if something was to happen, that would not have happened but for their negligence. *Verifying a Resume* A diagram of a job application Description automatically generated Example of Edmondson who claimed to have degrees that he did not have. - References serve as a source of verification -- they must be real references that are not from friends. - Employers should obtain a written authorisation to obtain information from references. Discrimination is an issue for employers who may be attempting to reduce fraud. - This includes anything to deal with race, sex, age, religion, colour, national origin, or disability unless it is a bona fide requirement in America. - There must be business necessity to ask a question. Applicants must affirm it to be true, in writing. *Train Those Involved in the Hiring Process* Interviews must be thorough and skilful to minimise the risk of fraud. - Standard questions are normally used. There are also other online systems and pre-interview tasks that some financial institutions use such as psychometric testing. Employees at banks can be fingerprinted. *Creating a Positive Work Environment* A code of conduct must be visible and communicated frequently. Some employers make employees sign it annually. It should: - Specify disciplinary actions. - Clarify what is and is not acceptable. - Includes knowledge on how and who to inform when a violation is found out. - It must be **successfully kept**. This must be **modelled** internally label the behaviour and model honest behaviour. It aims to *inhibit rationalisation* by making it much more rash to breach a code of conduct. Many people commit fraud because: 1. They don't have anyone to talk to keeping problems to themselves causing them to lose perspective of right or wrong. 2. Open-door policies allow managers and others to become aware of employees' pressures, problems and rationalisations. a. Preventing one person will most likely help preventing the fraud since fraud is commonly a single perpetrator issue. *Talk to someone. Tell someone what you are thinking and what your pressures are. It's definitely not worth it... it's not worth the consequences.* The following is associated with a **high-fraud environment**. - Managers who don't care about or pay attention to honesty (who model apathetic or inappropriate behaviour) - Inadequate pay - Lack of recognition for job performance - Imposition of unreasonable budget expectations - Expectations that employees live a certain lifestyle (e.g., belong to a country club) - Perceived inequalities in the organization - Inadequate expense accounts - Autocratic or dictatorial management - Low company loyalty - Short-term business focus - Management by crisis - Rigid rules - Negative feedback and reinforcement - Repression of differences - Poor promotion opportunities - Hostile work environments - High turnover and absenteeism - Cash flow or other financial problems - Reactive rather than proactive management - Managers who model wheeler-dealer, impulsive, insensitive, emotional, or dominant personalities - Rivalrous rather than supportive relationships - Poor training - Lack of clear organizational responsibilities - Poor communication practices They create a high-fraud environment by increasing opportunity when pressures are higher. *Providing an Employee Assistance Program (EAP) that helps Employees Deal with Personal Pressures* EAPs aim to **reduce perceived pressure**. They include: - Programs to assist with substance abuse; - Gambling; - Money management; - Health, family and personal problems. A successful EAP will include some of the following: - Wellness; - Team building; - Coaching; - Conflict resolution; - Critical incident response; - Assessment; - Counselling; and - Referral. *[It must also be welcomed and used]* [IN SUMMARY] +-----------------------------------+-----------------------------------+ | Ways to Create a Culture of | How this is achieved. | | Honesty, Openness and Assistance | | +===================================+===================================+ | 1\. Hire Honest people and | Three ways this is done. | | provide fraud awareness | | | training | 1\. verify all information on | | | the applicant's CV and | | | application. | | | | | | 2\. Require all applicants to | | | affirm the truth of the matters | | | set forth in their app and CV. | | | | | | 3\. Train management to conduct | | | thorough and skilful | | | interviews. | +-----------------------------------+-----------------------------------+ | 2\. Create a positive work | Three ways this is done: | | environment. | | | | 1\. create expectations about | | | honesty by having a good | | | corporate code of conduct and | | | conveying those expectations | | | throughout the organisation. | | | | | | 2\. have open-door or easy | | | access policies. | | | | | | 3\. have positive personnel and | | | operating procedures. | +-----------------------------------+-----------------------------------+ | 3\. Provide an EAP | Implement an EAP that helps | | | employees deal with personal and | | | non-shareable pressures in their | | | lives. | +-----------------------------------+-----------------------------------+ [2 Eliminating Opportunities for Fraud to Occur] *Having Good Internal Controls*  **WEEK 2 WORK**. It's success depends on the competency and implementation by those who govern it. It is incredibly important **IN CONJUNCTION WITH** the other below elements. +-----------------------------------+-----------------------------------+ | TYPE OF CONTROL | CONTROL ACTIVITIES | +===================================+===================================+ | Preventive Controls | 1\. Segregation of Duties | | | | | | 2\. System of authorisations | | | | | | 3\. Physical safeguards | +-----------------------------------+-----------------------------------+ | Detective Controls | 4\. Independent checks | | | | | | 5\. Documents and Records | +-----------------------------------+-----------------------------------+ The problem is commonly that **internal controls are overridden by management or others**. *Discouraging collusions between employees and customers or vendors and clearly informing vendors and other outside contacts of the company's policies against fraud.* Colluded frauds, whilst the smallest (29%), are the hardest to detect and are commonly the **most** costly. - Employees cannot be solely responsible for securing large contracts with vendors. It is the most costly as the firms pay the vendor more, which then gets funnelled to the employee who is committing fraud. Sometimes, vendors can be innocent to the extent that they fear the business relationship will fall through if they do not participate. - Periodic letters can mitigate this. - A **right to audit** clause on the back of all purchase invoices can alert vendors that the company can audit their books at any time. *Monitoring employees and providing a hotline (whistle-blowing system) for anonymous tips.* Most fraud money is spent on a lavish lifestyle, or to fund financial troubles or addictions. All public companies must have a whistle-blower system that is easy in the US. It must have the following elements: 1. Anonymity 2. Independence -- increase employee comfort. 3. Accessibility -- multiple access streams. 4. Follow-up -- corrective action must be taken if necessary. *Creating an expectation of punishment* The fear of punishment is a strong deterrent -- termination is no longer suspicious. - Must have to tell family and friends. - Induce embarrassment. - Advocating for a fraud policy that states that employees who engage in fraud will be fully prosecuted of the law. Strong prosecution policy that is well publicised is necessary. - Dishonest acts will be harshly punished. - Not everyone is dishonest - Unauthorised borrowing from the company will not be tolerated. Failure to take legal action sends a message to employees that fraud is tolerated. *Conducting proactive auditing.* Proactive auditing for fraud creates awareness. Four steps: 1. Identifying fraud risk exposures; 2. Identifying the fraud symptoms of each exposure; 3. Building audit programs to proactively look for symptoms and exposures; and 4. Investigating fraud symptoms identified. Proactive auditing can only catch frauds that are in their later stage (not enough has occurred early), but are a powerful deterrent. A diagram of a diagram Description automatically generated [3 Comprehensive Approach to Fighting Fraud] Fraud responsibility is commonly seen as belonging to someone else. The non-ownership attitude regarding fraud is prevalent in most businesses, frauds will continue to occur. *The Current Model*  Stage 1, a fraud incident occurs in an organisation. Leads to crisis mode: - Needs to identify the perp; - Wants to avoid publicity; - Wants to attempt to recover the losses; - Wants to minimise the overall impact of the occurrence on the organisation; and - Is caught up in the emotion of the crisis. Stage 2, security and internal audit becomes involved. - Interviews. - Document examination. *It is lengthy, costly and may not lead to resolution*. Stage 3, company must decide what actions to take: - No action, - Terminate or transfer only, or - Terminate and seek prosecution. Stage 4, closing the file and tying loose ends: - Replacing employees, - Evaluating internal controls. - Other means of resolution. A diagram of a diagram Description automatically generated *Tone at the top*: - Caring enough about having a positive organisation that effective fraud teaching and training is conducted throughout the organisation and a well-defined corporate code of conduct is promoted; and - Setting a proper example or modelling appropriate management behaviour. *Education and Training* - Prevention = big savings. *Integrity Risk and Controls*. - Explicit study of all frauds and why they occurred. - Determinations must be made by management, audit, security, HR, control, and finance of why it occurred. - Implementing controls in response. *Reporting and Monitoring* - Not obvious signs so accordingly, fraud symptoms or red flags must be observed. - Publishing facts about the fraud to those who would benefit. - Public publication should not be done until a prosecution is completed. - Identities should be disguised, using pseudonyms. *Good Fraud-fighting systems* - Early-stage fraud prevention efforts. *Effective investigation and follow-up* 1. who will conduct the investigation; 2. how the matter will be communicated to management; 3. whether and when law enforcement officials will be contacted; 4. who will determine the scope of investigation; 5. who will determine the investigation methods; 6. who will follow up on tips of suspected fraud; 7. who will conduct interviews, review documents, and perform other investigation steps; and 8. who will ultimately determine the corporate response to fraud, disciplines, control, and so on. - Taking no action should not be a possibility -- fraud should be prosecuted if possible. - Successful prosecution policies decrease fraud. Week 5 -- Chapter 5 -- TExtbook =============================== [Symptoms of Fraud] Fraud Symptoms: - They commonly can come from a variety of different reasons -- fraud or personal changes. - Six separate groups: - Accounting anomalies, - Unusual processes or procedures in the accounting system. - Checks being paid to the 22 doctors were sent to the same two common addresses. - Auditors must ask: - Are the payments reasonable? - Do the endorsements make sense? - Why are the checks going to and the bills coming from the same two addresses? - Auditors have to match documents whilst forensic accountants have to determine the authenticity of fraudulent documents. - Internal control weaknesses, - Forfeiting vacations. - Independent Checks employee transfers, audits and mandatory vacations. - Not confirming payments made to employees clear weakness in internal controls. - Analytical anomalies, - Relationships in financial or nonfinancial data that do not make sense unreasonable change in volume, mix or price. - Extravagant lifestyle, - Employees going to fancy lunches -- defence department auditor being told that the manager paid for it with personal funds. - Unusual behaviour, and - Behavioural symptoms jokes around a lot of things, a lot of highs and lows becoming more intense more stress, etc. - Tips and complaints. - Complaining or tipping. Accounting ANomalies -------------------- *Irregularities in Source Documents* Source Document -- electronic or paper documents such as checks, sales invoices, purchase orders, purchase requisitions and receiving reports: - Missing documents - Stale items on bank reconciliations - Excessive voids or credits - Common names or addresses of payees or customers - Increased past-due accounts - Increased reconciling items - Alterations on documents - Duplicate payments - Second endorsements on checks - Document sequences that do not make sense - Questionable handwriting on documents - Photocopied documents. *Faulty Journal Entries* - *Embezzling money and fraudulently concealing it via a mislabelling.* - *Since expenses are closed at the end of the year in closing entries, it can destroy the audit trail.* - *People always steal assets therefore liabilities or equity must be reduced.* - *Balance the book.* - *They do not reduce either liabilities or equity.* - *Income Statement is where it is largely concealed and embezzled from.* - *Increasing expenses.* *Common Symptoms:* - *Journal entries without documentary support.* - *Unexplained adjustments to receivables, payables, revenues or expenses.* - *Journal entries that do not balance.* - *Journal entries made by individuals who would not normally make such entries.* - *Journal entries made near the end of an accounting period.* *Inaccuracies in Ledgers* - *Book of accounts all transactions in relation to a specific account.* - *Fraud Symptoms:* - *A ledger does not balance total of all debit balances does not equal total of all credit balances.* - *Shows where cover-up in the accounting records are not complete (did not do a proper entry).* - *Master account balances do not equal the sum of the individual customer or vendor balances.* - *Manipulation of an individual customer's or vendor's balance **without** altering the master receivable or payable account.* Internal Control Weaknesses --------------------------- - Lack of segregation of duties - Lack of physical safeguards - Lack of independent checks - Lack of proper authorisation - Lack of proper documents and records - Overriding of existing controls - Inadequate accounting systems. Three procedures that small business owners should do personally when they can't afford sufficient employees to guarantee effective segregation of duties: 1. Always open the bank statement themselves and reconcile it. 2. Pay everything by check or with a specific card only one record. 3. Sign every check themselves. Analytical Fraud Symptoms ------------------------- Procedures or relationships that are unusual or to unrealistic to be believable. Transactions occurring at off times or places; that are performed by or involve people who would not normally participate; or that include odd procedures, policies or practices. - Unexplained inventory shortages or adjustments - Deviations from specifications - Increased scrap - Excess purchases - Too many debit or credit memos - Significant increases or decreases in account balances, ratios, or relationships - Physical abnormalities - Cash shortages or overages - Excessive late charges - Unreasonable expenses or reimbursements - Excessive turnover of executives - Strange financial statement relationships, such as: - Increased revenues with decreased inventory - Increased revenues with decreased receivables - Increased revenues with decreased cash flows - Increased inventory with decreased payables - Increased volume with increased cost per unit - Increased volume with decreased scrap - Increased inventory with decreased warehousing costs. Extravagant Lifestyles ---------------------- - Shows in lifestyle many people are financially stressed and use these funds to improve their lifestyle. - Easy symptom to detect very helpful in detecting against employees and others, but not against a corporation. - Many easy access records, such as title searches, to see if people own things they should not. Unusual Behaviours ------------------ Often exhibiting unusual and recognisable behavioural patterns to cope with the stress.  Opposites of one's personality commonly occur -- if someone is normally kind, they will become belligerent and vice versa. Tips and COmplaints ------------------- *Company Employees Are in the Best Position to Detect Fraud* - They are exposed to the concealment on a regular basis while auditors see only a sample of the activity involving the concealment. - Conversion they can see the perps' changed habits, etc. *Tips and Complaints are Fraud Symptoms* - Many turn out to be unjustified and hence, are not evidence. - Reasons why people are hesitant to come forward: - It is usually impossible to know for sure that a fraud is taking place. - They fear reprisal for being a whistle-blower - They are often intimidated by the perp. - They often think that squealing on someone is wrong. - It is not easy to come forward within many organisations. Whistleblower Rights and Protections ------------------------------------ - Protected under the *Corporations Act 2001* - It includes criteria for protection, accessing the protections (accessed automatically) \[can report externally\], information on how it protects you (confidentiality, action against threats, etc.) Week 7 -- Textbook Material (Chapter 6) ======================================= [Errors and Frauds] Accounting Errors -- errors in the system -- not a deliberate act by an employee. Errors: - Not intentional. Fraud: - Intentional circumvention of controls by intelligent human beings. Strive to achieve a 'full population analysis' so that all the needles in the haystack are found. [Proactive method of fraud detection] 1. Understand the business 2. Identify possible frauds that could exist. 3. Catalogue possible fraud symptoms 4. Use technology to gather data about symptoms 5. Analyse results 6. Investigate symptoms. a. Automotive detection procedures b. Follow up. *1 Understanding the business* Methods for gathering information. - Tour the business, department, or plant. - Become familiar with competitor processes. - Interview key personnel (ask them where fraud might be found). - Analyse financial statements and other accounting information. - Review process documentation. - Work with auditors and security personnel. - Observe employees performing their duties. *2 Identify possible frauds that could exist* 'Quasi risk assessment' - Who are the key players in the business? - What type of employees, vendors, or contractors are involved in business transactions? - How do insiders and outsiders interact? - What types of fraud have occurred or been suspected in the past? - What types of fraud could be committed against the company or on behalf of the company? - How could employees or management acting alone commit fraud? - How could vendors or customers acting alone commit fraud? - How could vendors or customers working in collusion with employees commit fraud? *3 Catalogue possible fraud symptoms* Use the following six symptom groups: - Accounting errors - Internal control weaknesses - Analytical errors - Extravagant lifestyles - Unusual behaviours - Tips and complaints. *4 Use Technology to Gather Data about Symptoms* SQL -- Structured query language are scrips that are specific to a client, using a standardised programming language that allows one to request information from a computer database. - Should deliver data that matches the symptoms found earlier. - Normally filtered a few times, as is necessary. *5 Analyse Results* - Investigations of leads should only be done on errors that cannot be explained through continued analysis. - There's a point where economies of scales kicks in. *6 Investigate Symptoms* - Investigator will have taken charge as they are not waiting for anything to come. - Allows for direct targeting. [Data Analysis Software] - **ACL Audit Analytics** -- includes a programming language called ACLScript that makes automation of procedures possible. - **CaseWare's IDEA** -- Different interface to ACL - **Microsoft Office ActiveData** -- Office plug-in [Data Access] - Most difficult part is gathering the **right data** in the **right format** during the **right time period**. [Open Database Connectivity] It is a connector between the front-end analysis and the back-end corporate database - It can retrieve data in real time, - It allows use of the powerful SQL language for searching and filtering, - It allows repeated pulls for iterative analysis, and - It retrieves metadata like column types and relationships directly. Fears of privacy and security. - Can attempt to receive a limited amount of read only copies. Text import - CSV [Data Analysis Techniques] Searching for multiple indicators (clear red-flags should still be backed up on multiple levels). [Data Preparation] - Type conversions, ensuring consistency of values. - Have to standardise for time. - Descriptive statistics summaries. - Control totals should have been printed and cases should be verified manually. [Digital Analysis] - Benford's Law -- the first digit of random data sets will begin with a 1 more often than with a 2, a 2 more often than with a 3, etc. - The art of analysing the digits that make up number sets like invoice amounts, reported hours and costs. - Looking at the numbers 987.59 and 9,811.02 (98 are in the same positions). - Probabilities of Bedford's law (1 in the first position 30% of the time, 2 18%). A screenshot of a white table Description automatically generated Useful for fraud detection since human-generated numbers usually *do not* match Benford's law. If it **does not match Benford's law** it is highly likely that a **fraud did occur**. The way to do it: 1. Add a new column to the data set that calculates the probability for each row's number position. 2. Summarise the data by vendor, employee, product or other column that denotes a logical group. Calculate the average and standard deviation of the new Benford's probability column. 3. Sort the results by average probability. Lowest probability needs additional information. [Outlier Investigation] - Using z scores -- converts data to a standard scale and distribution. - It is useful because it gives a sense of **how far outside the norm** a case is. - Z score = (value -- mean)/SD. [Stratification and Summarisation] Stratification -- the splitting of complex data sets into groupings. - Grouping into vendors, employees, etc. Summarisation -- extension of stratification. - Runs multiple calculations on the subtables to produce a single record representing each subtables. - Single results tables or pivot tables will create a summarisation. - GROUP BY command. [Time Trend Analysis] - Parties usually get greedy -- the more products purchased and the higher the prices, the more money made in the scam. - Oversupply purchaser keeps purchasing to increase the kickback. - Must first standardise for time. - Graph all cases. - Statistical regression (independent variables is time). [Fuzzy Matching] - Searches that find matches between some text and entries in a database that are less than 100 % identical. - Matching of employee and vendor addresses, ZIP codes, phone numbers, or other personal information. - Soundex algorithm. - N-grams (compares runs of letters in two values to get a match score from 0 to 100. Works with larger sequences. [Real-Time Analysis] - Specifically analyses each transaction for fraud. - Using brand names is a common method for pulling off a procurement scam -- writing names that are specific to one vendor so that other vendors are unable to meet the request. [Analysing Financial Statements] Can be detected throughout the process -- through transaction source documents, journal entries of the transactions, ledger balances and the resulting financial statements. - Focusing on unexplained changes. - Revenues normally do not increase without a corresponding increase in accounts receivables. - Increase in revenues should be accompanied by an increase in COGS, inventory purchases and accounts payable balances. - Three statements to analyse: - Balance sheets; - Income statements; and - Statements of cash flows. Balance sheet and income statements must be converted to periodic statements: 1. Comparing account balances in the statements from one period to the next; i. Compares numbers in the statement from one period to the next. 2. Calculating key ratios and comparing them from period to period; ii. Quick Ratio and current ratio. iii. Accounts Receivable Turnover and Inventory turnover ratios (efficiency). iv. D-E and times interest earned ratios (solvency). v. Profit margin, return on assets, ROE and EPS (profitability.  3. Performing vertical analysis; and Converts financial statement numbers to percentages. - Consider the reasons why percentages may be higher, or not add up to 100%. 4. Performing horizontal analysis. Percentage of the change from one statement to another. [Change Statement] It can be used to answer questions such as : - *Is the increase in cash flow as expected?* - *Why did receivables go up (down)?* - *Why did inventory increase (decrease)?* - *Why did payables increase (decrease)?* - *Why was there an increase in payables when inventory decreased?* - *Why were assets sold (bought)?* - *Where did the cash come from to pay dividends?* Seminar 8 -- Fraud Investigation: Theft and Concealment Methods =============================================================== *Factors in Deciding Whether to Investigate:* - Prediction strength - Investigation cost - Potential exposure/loss - Signal to stakeholders - Risks of investigation/not investigating - Public exposure/reputation impact - Nature of the fraud. *Beginning an Investigation* - Effective investigation Techniques: - Minimise involvement of personnel. - Avoid explicit investigation language. - Employ covert techniques - Progress towards prime suspect gradually. - Gather substantial evidence before interviewing the main suspect. - Refer to Figure 7.2 for an illustrative pattern. Vulnerability Chart - Missing or stolen assets - Individuals with theft opportunities - Investigative methods used - Concealment and conversion possibilities - Observed symptoms - Pressures and rationalisation of perpetrators - Compromised internal controls. *Theft Act Investigation Methods* - Surveillance and covert operations. - Stationary or fixed point surveillance. - Moving or tailing surveillance. - Electronic surveillance. - Invigilation (close observation). - Close supervision of suspects during an examination period. - Strict temporary controls to prevent fraud. - Establishing a fraud-free profile by eliminating opportunities. - Identifying changes between control and non-control periods. - Detailed record-keeping throughout the invigilation process. - Obtaining physical evidence. - Valuable in inventory related cases and searching for missing stock. - More commonly associated with non-fraud crimes like property crimes and murder. - Difficult to find in fraud cases due to lack of visible symptoms. - Gathering electronic (computer) information. - Computer forensics focuses on collecting electronic evidence. - Seizing and examining computers are common in fraud investigations. - The process for gathering electronic evidence varies based on the device. - The process for Gathering Electronic Evidence - Secure the device and perform initial tasks. - Clone the device and calculate a CRC number - Search the device manually - Search the device using automated procedures. *Concealment Investigative Methods* - Perpetrators cover their evidential tracks after theft. - Concealment involves the manipulation of documentary evidence. *Aspects of Documentary evidence* - Focus of concealment-based investigative techniques is to discover manipulated documents and records. - Documents are more reliable than witness statement. - Impossible to transfer funds without leaving a paper trial. - Focus of concealment-based investigative techniques is to discover manipulated documents and records. - Documents are more reliable than witness statements. - Impossible to transfer funds without leaving a paper trial. *Specific Aspects of Documentary Evidence* - Chain of custody of documents - Marking of evidence - Organisation of documentary evidence - Coordination of evidence - Rules concerning original versus copies of documents. *Chain of Custody of Documents* - Requires record to be maintained when a document is received and what has happened to it since its receipts. *Marking of Evidence* - All documents should be marked by a unique identifier. - Always make a copy of original documents and work off copy. *Organisation of Documentary Evidence* - Make an electronic copy of all hard copies of documents. - Case management software are used to manage large datasets and should includes details of all documents: - Creation dates - Source - Data of receipt - Brief description - Subjects - Identification numbers. *Coordination of Evidence* - Coordination complexity depends on the number of parties involved in the investigation. - Investigators utilise investigation analysis software to help understand complexities. *Original vs Copies of Documents* - Originals are preferable to photocopies. - In some instances, photocopies will not be acceptable if: - Original documents cannot be accessed - Adverse party refuses to provide originals - Insufficient powers to compel production. - Originals in the custody of public office. - Originals are too voluminous. - Obtaining Documentary Evidence - Various ways to obtain documentary evidence: - Computer based queries. - Audits. - Discovery sampling. - Type of auditing. - Uses statistical sampling to generalise and draw inferences from the sample to the population. - Method and size of discovery sampling should be documented. *Evaluation of Errors* - Identified erros need to be assessed to determine if unintentional or indicative of fraud. *Consideration of Sampling and Non-Sampling Risk* Seminar 9 -- Fraud Investigation: Conversion Methods, Interviewing and Reporting ================================================================================ *Conversion Searches* - Determine the extent of embezzlement - Gather evidence *Conversion investigation Proficiency* - Need to understand information from array of sources: - Government databases - Private sources - Online sources - Net worth method. *Government Sources of Information* - ATO - AUSTRAC - RMS - Courts - Centrelink - Land Titles *Private Source of Infromation* - Utility records. - Insurance. - Bank records. - Credit reporting companies. *Online Databases* - Recommended to confirm facts within multiple databases. - RP Data, LexisNexis. *Can also perform an internet search* *The Net Worth Calculation* Assets -- Liabilities = Net Worth Net Worth -- Prior Year's Net Worth = Net Worth Increase Net Worth Increases + Living Expenses = Income Income -- Funds from Known Sources = Funds from Unknown Sources INterviewing ------------ Results: - Establish essential elements - Establish additional leads - Cooperation - Understand background and motives. *Interviewees* - Conducted with any party who might be helpful to the investigation. *Types of Interviewees* - Friendly - Neutral - Hostile. *Characteristics of a Good Interview* - Appropriate length. - Focused. - Timely - Objective. - Positive Ending. *Characteristics of a Good Interview**er*** - Interacts well - Helpful - Not interruptive - Interested - Non-accusatory - Unbiased - Professional. *Planning an Interview* - Gathering facts about the offense(s) and interviewee - Select appropriate time and location for the interview. *Demeanour of the Interviewer* - Efficient - Courteous - Careful. *The Language of Interviews* - Short questions - Targeted - Narrative responses - Avoid suggestive questions - Factual basis - Focused - Concentrate on answer - Understand - Control. *Question Typology* - Introductory - Informational - Assessment - Closing - Admission-seeking. *Inhibitors of Communication* - Unwillingness - Unable - It is a barrier that impedes the flow of relevant information. *Facilitators of Communication* - Things that make conversations easier. *Mechanics of the Interview* - Introductory questions. - Methodology. - Informational Questions. - Question Sequence. *Informational Question Techniques* - Avoid initial confrontation - Ask questions in systematic order - Frank questions - Do not rush - Repeat question if required - Do not provide answers - Under responses - Get all the facts - Follow up questions summarise the facts. *Theme Development* - All questions should be non-accusatory during the information seeking stage. - Move from non-sensitive to sensitive. - Do not be reluctant to ask sensitive questions after you have established the proper basis. *The Fraud Report* - Content i. Findings ii. Conclusions iii. Recommendations iv. Corrective actions taken - Tone v. Objective vi. Factual vii. Unbiased viii. Free from distortion.