Detecting Fraud

Question 1

What is the basic responsibility of an auditor?

Answer 1

Plan the audit to pride “reasonable assurance” of detecting material misstatements, whether due to error or fraud

Question 2

What the two types of fraud?

Answer 2

• Fraudulent financial reporting (cooking the books)

- Misappropriation of assets- theft and misstated false entries to cancel the theft

Question 3

What is the fraud triangle?

Answer 3

1) Opportunities
2) Attitudes/Rationalization
3) Incentives/Pressures

Question 4

What are some examples of incentives or pressures in the fraud triangles? (Fraudulent financial reporting)

Answer 4

Financial stability/profitability is threatened by economic conditions:

• Operating losses threatened bankruptcy
• Recurring negative cash flows from operations
• Vulnerability to rapid changes due to technology or other factors
• Increasing business failures in the industry
• Unusual profitability relative to the industry

Question 5

What are some examples of opportunities in the fraud triangle? (Fraudulent financial reporting)

Answer 5

Related Opportunities:

• Significant related-party transactions not in the ordinary course of business
• Ability to dominate suppliers or customers
• Unnecessarily complex transactions

Nature of the entities of the operations:

• Management may have latitude that might meet their purpose (significant estimates)
• Ineffective monitoring of management
• Internal controls are not effective

Question 6

What are some examples of attitudes or rationalizations? (fraudulent financial reporting)

Answer 6

• Lack of commitment to establishing and enforcing ethical standards
• Previous violations of securities laws
• Excessive focus by management on the entity’s stock price

Question 7

What are some examples of incentives or pressures in the fraud triangle? (Misappropriation of assets)

Answer 7

Employees have access to cash
Employees have adverse relationships with entity or feel unfairly compensated

Opportunities of inadequate internal controls

Question 8

What are some examples of attitudes or rationalization in the fraud triangle? (Misappropriation of assets)

Answer 8

Behavior or lifestyle has changed

Appear to be wealthy than they should be

Question 9

What some other red flags that you would encounter during field work that would cause to re-assess fraud?

Answer 9

Discrepancies in the accounting record where the entries lack appropriate support

Conflicting or missing evidence- missing documents (or only available as copies)

Problematic relationship between the auditor and client personnel- Undue the pressures or lack of access to records

Question 10

What is management override?

Answer 10

Management override is not bound by their own internal controls that they push down on subordinates

Question 11

What procedures should the auditors follow to see if there is potential management override?

Answer 11

• Examine adjusting journal entries
• Especially non-standard entries
• Entries made near the end of the reporting period
• Evaluate the accounting estimates–> Perform a “retrospective review”
• Examine authorization of transactions

Question 12

Define retrospective review?

Answer 12

With the benefit of hindsight, how has management performed in subjective areas. Are their estimates reasonable?