Lecture notes for: Corporate Cons

Transcription

1 Lecture notes for: Corporate Cons This video covers internal fraud schemes (as opposed to management trying to defraud investors - like the other two videos) Cash Internal fraud schemes: Accounts receivable Inventory Expenses Purchasing Payroll

2 Cash frauds. Easy to steal and hard to trace. Methods of embezzling cash: 1. Skimming 2. Under-ringing and voiding sales 3. Trading checks for cash 4. Alterations of cash receipts documents 5. Fictitious refunds and discounts

3 Video Store case (Pam) Failed to ring up sales. She felt that she was underpaid (this is frequently the case with small time fraudsters) (numbers 1 and 2 above) This was an OFF-BOOK fraud in that she did not modify any documents or journals. There would be no audit trail (no documents to indicate the fraud). These are typically proven by circumstantial evidence. Auto Parts store (Tony) Also felt that he was underpaid Fictitious refunds and discounts (forged refund slips) This would be an ON-BOOK fraud since the accounting records are being changed. The modified documents leave an audit trail that proves the fraud. One theme that seems consistent is that the fraud seems to build. It starts out small and then gets out of hand.

4 Detecting Cash frauds: 1. Bank reconciliations 2. Cut-off bank statements (a bank statement mailed directly to the CPAs with accompanying checks) 3. Surprise cash counts 4. Customer complaints 5. Altered or missing documents 6. Financial trends (for larger frauds) Evidence square: Paper and physical evidence is always preferred to observational or witness evidence.

5 Accounts Receivable fraud John Faulkner - borrowed against other peoples life insurance policies Four main account receivable frauds: 1. Borrowing 2. Lapping a. Delay the posting of accounts b. Take one payment on A/R - post the next payment to that account, etc. 3. Creating fictitious receivables (customers) - mainly for: a. Commissions b. To make income look better than it is (window dressing) c. Premature recognition of legitimate orders 4. Write-offs of accounts receivable

6 Most every fraudster intends to pay the money back at first! Detecting Receivables fraud 1. Match deposit dates and customer payment dates 2. Trends in write offs 3. Dual endorsements required on all cash receipts 4. Confirmations of accounts receivable In general, detection of internal fraud is obtained by: 1. Complaints and tips 2. Discrepancies in the books 3. Control weaknesses that indicate possible opportunities for frauds 4. Lifestyle changes of employees

7 Inventory fraud Kaye Lemon The fraud was to write checks to herself and then when paying legitimate vendor bills, she would write down a larger number in the check register than the check that she wrote for the merchandise. She balanced the checkbook. Inventory fraud is typically one of four types 1. Theft of inventory 2. Misappropriation of inventory for personal use 3. Selling inventory and pocketing the money 4. Charging cash embezzlement to inventory (this was what Kaye did) Typically large inventory frauds are caught by tracking Cost of Sales and ending inventory numbers. In handling of assets, the three following activities should be performed by different entities: 1. Custody 2. Recording transactions for 3. Authorization of transactions for

8 Expense fraud McKinley Tabor Would charge the bank for services expenses (from some bogus provider). Would take the money that these expenses supposedly cost and electronically wire it to his own account (by paying off a credit card). Note that expenses get closed at the end of the year (and all are reset to zero). That makes this a particularly dangerous fraud. Payroll frauds 1. Having ghost employees (frequently detected because they forget IRS deductions, etc.) 2. False overtime Purchasing Fraud Paul Cote Typically, bogus purchases are made to a related party (or bogus party) and the money is siphoned to the fraudster.

9 Five types of purchasing fraud: 1. Fictitious invoices 2. Over-billing (real product at an inflated price - requires cooperation of an outsider) 3. Checks to relatives 4. Conflicts of interest (purchaser owns stock in the vendor) 5. Bribes, kickbacks, and corruption Management attitude seemed to play an important role in Cote s fraud as it seems to in so many of these. Also, it appears from these stories that it is easy to bury and hide files from the auditors. They do not seem very tenacious when dealing with intentional frauds. Detection of purchase frauds 1. Check addresses and phone receipts of employees 2. Look for missing documentation (through reconciliations) 3. Compare prices of purchases over time and with others in the industry if possible 4. Keep a watch for new (possibly bogus) vendors.

10 Corruption John Edward Thomas Kickbacks for risky loans (bribery) This is an off book fraud since all of the paperwork is correct - it is only the wisdom of authorization that is an issue. There are three components to every fraud 1. Perceived need 2. Opportunity 3. Rationalization To reduce the perceived need: 1. Management attitudes towards employees should be supportive 2. There should be support programs in place to help employees that have true financial difficulties 3. There should be an open-door policy To minimize opportunity, the company should have: 1. Proactive fraud procedures and policies 2. Good fraud reporting program

11 Proactive fraud procedures and policies would include: 1. Letting employees know that the auditor is watching 2. Encourage tips 3. Require mandatory vacations A good reporting program would include 1. Encouraging tips 2. Providing rewards for info 3. Educating employees on fraud Finally, corporate attitude (control environment) is essential to minimize rationalization of fraud. 1. Corporate conduct (does the business conduct itself ethically) 2. Writen codes of ethics. In summary: Fraud causes: Fraud can be detected by: Best prevented by: Frequently caused by excessive spending All employees are at risk Audit clues and discrepancies in the books Tips and complaints Ethical leadership Proactive fraud policies