Presented by: Donald F. Conway, CPA Mercadien, P.C., Certified Public Accountants. Forensic Accounting, Political Corruption & White Collar Offenses

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1 Presented by: Donald F. Conway, CPA Mercadien, P.C., Certified Public Accountants Forensic Accounting, Political Corruption & White Collar Offenses

2 Defining Fraud The dictionary defines fraud as a deception deliberately practiced in order to secure unlawful gain. Auditors consider fraud in the context of material misstatements in financial statements rather than from the legal perspective.

3 Defining Fraud Auditors distinguish fraud from error. Fraud is based upon intent. Auditors define fraud as an intentional act that results in a material misstatement in financial statements that are the subject of an audit.

4 Defining Fraud Misstatements relevant to an auditor s consideration of fraud arise from: Fraudulent Financial Reporting- intentional misstatements or omissions (amounts or disclosures) designed to deceive financial statements users Misappropriation of Assets- theft of an entity s assets

5 What is Forensic Accounting? Forensic accounting is a process that is sufficiently thorough and complete, suitable for legal review. A forensic accountant can deliver a finding as to accounts, inventories or the presentation thereof, that would be sustainable in an adversarial legal proceeding, or within some judicial or administrative review.

6 Forensic Engagements Are wide ranging Includes transaction reconstruction and measurement Bankruptcy, matrimonial divorce, and probate asset identification and valuation Falsifications and manipulations of accounts or inventories or in the presentation thereof

7 Common Fraud Techniques Conflicts of Interest Bribery Illegal Gratuities Economic Extortion Purchases Schemes Invoice Kickbacks Sales Schemes Bid Rigging

8 Types of Fraud: Internal Fraud Asset misappropriations from within Theft of cash Kickbacks to customers False expense reports Payroll to ghost employees Procurement fraud

9 Classification of Fraud One of the ways internal fraud can be classified is by the method of concealment Method of concealment includes: On-Book Fraud Off-Book Fraud

10 Cash Frauds Skimming Sales Receivables Refunds and Write-off Unrecorded Other Schemes Understated Lapping Schemes Unconcealed

11 On-Book Fraud Principally occurs when an employee creates an audit trail that inadvertently aids the employer in detection (e.g. phony vendors and ghost employees) Normally detected at the point of payment

12 Off-Book Fraud Occurs outside the accounting environment where no audit trail is likely (e.g. bribery and kickbacks) Detected in indirect manner - such as other vendor complaints - usually can be proven by examining the personal finances or lifestyle of suspected employees

13 Types of Fraud: Computer Fraud Manipulating computer inputs Manipulating programs Tampering with outputs

14 Manipulating Computer Inputs This is the most common form of computer fraud and may involve: Putting false transactions into the system Modifying actual transactions Not putting information into the system

15 Types of Fraud: Financial Statement Fraud Earnings manipulation Balance sheet manipulation Improper disclosures and material omissions

16 Fraudulent Statements Financial Asset/Revenue Overstatements Asset/Revenue Understatements Timing Differences Fictitious Revenues Concealed Liabilities & Expenses Improper Disclosure Improper Asst. Valuation

17 Types of Fraud: Procurement Fraud Procurement: the process of contracting to acquire goods and services Procurement Fraud: The unlawful manipulation of this process to obtain an advantage

18 Procurement Fraud Schemes by Internal Employee Management Conflict of Interest: When a contract is awarded to a firm in which such employee or their families have an undisclosed financial interest Purchase for Personal Use: An employee may purchase items for personal use or make excess purchases for personal use

19 Fraudulent Disbursements Billing Schemes Shell Company Non- Accomplice Vendor Personal Purchases Payroll Schemes Ghost Employees Commission Schemes Falsified Wages

20 Fraudulent Disbursements Expense Reimbursement Schemes Mischaracterized Expenses Overstated Expenses Fictitious Expenses Multiple Reimbursements Check Tampering Forged Maker Forged Endorsement Altered Payee Register Disbursements False Voids False Refunds

21 Cooking the Books Accelerated Revenue: Improperly recording revenues in the current fiscal period which are applicable to future periods. Examples are unshipped merchandise and percentage of completion contracts. Capitalizing Expenses: The improper reclassification of an expense to an asset. This scheme is typically conducted through a series of journal entries at the end of a fiscal period in order to inflate the financial statements.

22 Cooking the Books Deferred Expenses: Recording expenses applicable to the current fiscal period at some date in the future. Typically, this scheme continues to perpetuate itself in future periods.

23 Self-Dealing by Organizational Insiders Includes: Kickbacks Misuse of organizational property for personal gain

24 Examples of Self-Dealing Executive loans with no intentions to ever repay Extraordinary personal expenses charged to the company Failure to report forgiven loans or reimbursed personal expenses as taxable income Awarding business contracts in return for personal compensation

25 Obstructive Conduct Includes: Shredding documents Erasing computer files Creating or altering documents to justify illegal conduct Purposely failing to provide all documents and files requested in a subpoena

26 Obstructive Conduct Providing false testimony in depositions Lying to criminal investigators Influencing another witness Threatening another witness Failing to maintain records for a prescribed period of time

27 How Frauds Are Detected Notified by Police External Audit Internal Controls By Accident Internal Audit Tip 0.00% 10.00% 20.00% 30.00% 40.00% 50.00%

28 Red Flags An increase in profits coinciding with a shortage of cash or an increase in loans An increase in accounts receivable An increase in accounts payable Lack of timely internal and external financial reporting

29 Red Flags Failure to file required reports in a timely manner Major fluctuations in revenue, expenses, and income from year to year Organizational performance that is inconsistent with historical performance

30 Red Flags Performance pressure on management Management involved in litigation

31 Learn about Your Target Review the organization s website Get background information from someone who works in the same field Find out who owns and/or controls the entity Understand the legal structure of the organization and the required governance

32 Learn about Your Target Find out which outside professionals the organization works with (e.g., CPA firms, attorneys, banks) Are there any related-party transactions? (e.g., common management with other organizations, allocation of expenses between related organizations, etc.) Make a site visit and tour the facility Request and read the organization s minutes

33 Documents that Any Well-Run Organization Will Have Audited Financial Statements General Ledger Accounts Receivable Ledger Accounts Payable Ledger Cash Receipts Book Cash Disbursements Book Bank Reconciliations

34 Documents that Any Well-Run Organization Will Have Payroll Records Forms 1099 Forms 941 Forms W-2 Schedule of Fixed Assets Adjusting Journal Entries

35 Where to Find the Records In today s world, the computer is almost always the best source for all financial records The complexity of the computer network may vary depending on the size of the organization Paper copies of all records will also be found in the accounting office

36 Dual Investigations Take advantage of any situation in which both civil and criminal investigations are going on simultaneously If both parties work together, they can pool resources and save time

37 Follow the Cash Start with the Statement of Cash Flows The Statement of Cash Flows summarizes the change in cash from one year to the next and shows where cash came from and where it went: it gives the big picture

38 Review the Cash Disbursement Book Look at the transactions entered for a selected one- or two-month period to get a feel for the number of checks written each month and their alleged purposes (payroll, rent, bank loans, fixed asset purchases, accounts payable, loans to officers, etc.)

39 Review the Bank Statements For the same period, check the bank statements, cancelled checks, and bank reconciliation to see: Who signs the checks Whether the check endorsements on the back agree with the payees listed on the front Whether the bank statements include wire transfers Whether there are any old outstanding checks Whether any overdrafts are shown

40 Review the Cash Receipts Book Where is the cash coming from? Accounts receivable Bank loans Contributions from owners Sale of fixed assets Inter-company loans Where are funds being deposited?

41 Money Laundering If large sums of money are being moved, they will not all be moved at once and they may go through intermediaries

42 Donald F. Conway, CPA Mercadien, P.C., CPAs (609) Questions?

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