A Guide to Forensic Accounting Investigation

Recent catastrophic business failures have caused some to rethink the value of the audit, with many demanding that auditors take more responsibility for fraud detection. This book provides forensic accounting specialists?experts in uncovering fraud?with new coverage on the latest PCAOB Auditing Standards, the Foreign Corrupt Practices Act, options fraud, as well as fraud in China and its implications. Auditors are equipped with the necessary practical aids, case examples, and skills for identifying situations that call for extended fraud detection procedures.

Table of Contents:
Preface xxi Acknowledgments xxiii Chapter 1 Fraud: An Introduction 1 Fraud: What is It? 2 Fraud: Prevalence, Impact, and Form 3 Fraud in Historical Perspective 4 Types of Fraud 5 Root Causes of Fraud 6 A Historical Account of the Auditor’s Role 7 Auditors Are Not Alone 14 Deterrence, Auditing, and Investigation 16 Conceptual Overview of the Fraud Deterrence Cycle 17 First Look Inside the Fraud Deterrence Cycle 19 Auditing and Investigation 22 Chapter 2 Psychology of the Fraudster 25 Calculating Criminals 26 Situation-Dependent Criminals 27 Power Brokers 28 Fraudsters Do Not Intend to Harm 28 Kinds of Rationalization 33 Auditors’ Need to Understand the Mind of the Fraudster 33 Conclusion 34 Chapter 3 The Roles of the Auditor and the Forensic Accounting Investigator 37 The Patrolman and the Detective 38 Complexity and Change 41 Auditor Roles in Perspective 42 Not All Good People 44 Each Company is Unique 45 Role of Company Culture 45 Estimates 46 Choices 49 What Auditors Do 50 Bedrock of an Effective Audit 55 SPADE 57 Auditing Standards Take a Risk-Based Approach to Fraud 58 Management Override 60 Regulatory Reaction to Fraud 60 Financial Benefits of Effective Fraud Management 61 Conclusion 61 Chapter 4 Auditor Responsibilities and the Law 63 Appendix: Summary of PCAOB Matters Involving Detection of Fraud 77 Chapter 5 When and Why to Call in Forensic Accounting Investigators 79 Today’s Auditors Are Not Forensic Accounting Investigators 80 Auditors Are Not Authenticators 80 Auditors Have Limited Exposure to Fraud 81 Auditors Are Not Guarantors 82 Historically, Audits May Have Been Predictable 83 Potential Trigger Points of Fraud 84 Reliance on Others 91 Conclusion 92 Chapter 6 Internal Audit: The Second Line of Defense 95 What Do Internal Auditors Do? 96 Internal Audit Scope of Services 98 The Handoff to Forensic Accounting Investigators and Legal Counsel 99 Perception Problem 101 Complex Corporate Fraud and the Internal Audit 102 WorldCom and the Thornburgh Report 102 Case Studies: The Internal Auditor Addresses Fraud 103 A Tragic Circumstance 105 Reporting Relationships: A Key to Empowering Fraud Detection 111 Tomorrow’s Internal Auditor, Tomorrow’s Management and Board 113 Chapter 7 Teaming with Forensic Accounting Investigators 115 Forensic Accounting Investigators’ Cooperation with Internal Auditors 117 Forensic Accounting Investigators’ Cooperation with External Auditors 120 Objectives of All Interested Parties 122 Forensic Accounting Investigators’ Objectives 122 Who Should Direct the Investigation and Why? 126 Ready When Needed 127 Where to Find Skilled Forensic Accounting Investigators 127 Chapter 8 Anonymous Communications 133 Typical Characteristics of Anonymous Tips 134 Federal Statutes Related to Anonymous Reporting and Whistle-Blower Protections 135 Receipt of an Anonymous Communication 139 Initial Understanding of Allegations 140 Determine Whether Any Allegation Requires Immediate Remedial Action 141 Development and Implementation of the Investigative Strategy 142 The Investigation Team 142 Disclosure Decisions 143 Prioritize the Allegations 144 Interviewing Employees 145 Follow-Up Tip 149 Conclusion 150 Chapter 9 Personal Privacy and Public Disclosure 151 Introduction 151 Data Privacy: Providing Context 152 Data Privacy in the United States 153 Data Privacy in the European Union 158 Navigating the Legal Differences Between the United States and the European Union 162 Elsewhere around the Globe 165 Public Disclosure 168 Conclusion 173 Chapter 10 Building a Case: Gathering and Documenting Evidence 175 Critical Steps in Gathering Evidence 176 Whose Evidence is It? 182 Evidence Created by the Forensic Accounting Investigator 183 What Evidence Should Be Gathered? 185 Important Considerations Regarding Documents and Working Papers 186 Conclusion 189 Chapter 11 Independence, Objectivity, Skepticism 191 Accountant’s Independence 192 SEC Final Rules for Strengthening Auditor Independence 192 SEC Regulation of Forensic Accounting Services 193 Consulting versus Attest Services 196 Integrity and Objectivity 198 Professional Skepticism 199 Trust but Verify: Exploring Further 203 Loose-Thread Theory of Auditing 207 Further Thoughts on the Loose-Thread Theory 210 Chapter 12 Potential Missteps: Considerations When Fraud is Suspected 213 Confronting Suspects 213 Dismissing the Target 216 Assumptions 217 The Small Stuff Could Be Important 221 Materiality: More on a Key Topic 223 Addressing Allegations 224 The Case of the Central American General Manager 225 Exercising Skepticism 228 Case Outcomes 229 Chapter 13 Potential Red Flags and Fraud Detection Techniques 231 Types of Fraud Revisited 232 Fraud Detection: Overview 233 Laying a Foundation for Detection 236 Interpreting Potential Red Flags 238 Importance of Professional Skepticism 240 Revisiting the Fraud Triangle 243 Identifying and Evaluating Risk Factors 248 Information Gathering 251 Analytic Procedures 254 Analytic Techniques 258 Assessing the Potential Impact of Fraud Risk Factors 260 Evaluating Controls 261 Unpredictable Audit Tests 263 Observation and Inspection 264 Financial Statement Fraud: Detection Techniques 266 Revenue Recognition 267 Corruption 268 Summary 269 Chapter 14 Investigative Techniques 271 Timing 271 Communication 272 Early Administrative Matters 272 Predication 273 What Should You Know before You Start? 275 A Word about Insurance 281 Exceptions and Other Considerations 282 Considerations on International Assignments 283 Accounting Issues 285 Data Analysis 286 Document Review 286 Conclusion 291 Chapter 15 Corporate Intelligence 293 Definition of Corporate Intelligence 293 Evolution of Corporate Intelligence 294 Today’s Business Need 297 Legal and Regulatory Drivers of Corporate Intelligence 297 Cost Drivers of Corporate Intelligence 301 Negotiation Drivers of Corporate Intelligence 303 Basic Deployment and Consumption of Corporate Intelligence 304 Customary Data Fields Necessary to Fulfill Corporate Intelligence Remits 306 Analysis and Reporting of Findings 307 Coordination and Selection of Management and External Advisors for Intelligence Gathering 307 Timing of Deployment 308 Limitations of and Inherent Barriers to Corporate Intelligence 308 Legal Parameters and Operating Constraints versus Enabling Ethical Debates Surrounding Corporate Intelligence 313 Summary 315 Chapter 16 The Art of the Interview 317 Difficulty and Value of Obtaining an Admission 318 Planning for the Interview 319 Types of Interviews 321 Others May Wish to Attend Interviews 325 Interview Process 326 Documenting the Interview 330 Use of Subterfuge 331 Summary 331 Chapter 17 Data Mining 333 Definition and Benefits of Data Mining 334 Structured versus Unstructured Data 335 Planning 335 Methods of Data Acquisition 340 Structured Data Analysis 341 Unstructured Data 352 Advanced Data Analysis Tools 358 Conclusion 360 Chapter 18 Report of Investigation 363 Types of Reports 364 Importance of Adequate Preparation 364 Standards of Reporting 365 Written Report of Expert Witness Opining for the Plaintiff on a Civil Fraud Claim 371 Affidavits 374 Informal Reports 374 Giving a Deposition 376 Mistakes to Avoid in Reporting 380 Working Papers 382 Relationship Review 384 Substantive Working Papers 384 Each Working Paper Should Stand on Its Own 384 Testimony Binder 386 Interview Memorandums 386 Chapter 19 Supporting a Criminal Prosecution 389 Key Considerations 390 Referral Considerations 393 Chapter 20 Working with Attorneys 399 In the Company of Lawyers 399 Confidentiality Requirements 400 Forming the Investigative Team 401 Documentation 407 Civil Litigation 408 Interviewing 408 External Audit Firm 409 Working for or Interacting with Law Enforcement or Government Agencies 412 Disagreements with Counsel 413 Conclusion 414 Chapter 21 Financial Reporting Fraud and the Capital Markets 417 Targets of Capital Market Fraud 418 Securities Investment Model 419 Some Observations on Financial Fraud 429 Summary 430 Chapter 22 Financial Statement Fraud: Revenue and Receivables 433 Improper Revenue Recognition 435 Revenue Recognition Detection Techniques 438 Analytical Procedures to Identify or Explore Potential Revenue Red Flags 440 Improper Allocation of Value in Multiple-Element Revenue Arrangements 450 Improper Accounting for Construction Contracts 452 Related-Party Transactions 453 Revenue and Receivable Misappropriation 455 Inflating the Value of Receivables 460 Extended Procedures 461 Round-Tripping 463 Improperly Holding Open the Books 464 Consignments and Demonstration Goods 465 Summary 466 Chapter 23 Financial Statement Fraud: Other Schemes and Misappropriations 467 Asset Misstatements 467 Understatement of Liabilities and Expenses 478 Backdating Share Options 479 Off-Balance-Sheet Transactions 480 Two Basic Accounting Models 481 Cookie Jar Reserves 482 Improper and Inadequate Disclosures 483 Materiality 484 Disbursement Schemes 485 Invoice Schemes 486 Check Tampering 489 Expense Reimbursement Schemes 490 Payroll Schemes 491 Fraud in an Economic Downturn 492 Unauthorized Trading 492 Mortgage Fraud 494 Chapter 24 Ponzi Schemes 495 Ponzi Scheme Origin and Development 495 Recent Spotlights 497 Insights into Ponzi Schemes: Passing Trend or Lasting Reality? 503 Accountant’s Challenges 507 Regulatory Bodies and Task Forces 508 Bankruptcy Implications 509 Summary 510 Chapter 25 Money Laundering 511 Relationship between Fraud and Money Laundering 511 Counter-Terrorist Financing 514 Varying Impact of Money Laundering on Companies 515 The Five-Point Program for AML-Regulated Businesses 516 Impact of Money Laundering on Financial Statements 520 AML and Forensic Accounting Investigation 521 Legal Arrangements Lending Themselves to Anonymity 523 Auditing and Money Laundering 524 Relationship between Fraud Investigation and AML 525 Chapter 26 Foreign Corrupt Practices Act 527 Background 527 Recent Enforcement Trends 530 U.K. Bribery Act 2010 536 The Role of the Forensic Accountant 537 Red Flags 542 Reporting 545 Conclusion 546 Chapter 27 Construction Projects 547 The Nature of the Construction Industry 547 Contract Pricing Strategy 550 Standard Form Contracts 554 Issues in Analysis 559 Change Orders 560 Financial Damages 561 Underbid 567 Inflation 567 Analysis of Claims 567 Summary 569 Chapter 28 Contract Compliance 571 Effective Integrated Internal and External Contract Compliance Program 572 The Role of the Forensic Accountant 576 Government Contracting 578 Risk and Compliance 578 Recovery 579 Crisis Management and Litigation Support 581 Chapter 29 Other Dimensions of Forensic Accounting 585 Environmental Issues 586 Intellectual Property 586 Insurance and Business Interruption 587 Marital Dissolution 588 Shareholder Litigation 588 Business Valuation 589 Business Combinations 589 Cybercrime 590 Chapter 30 Corporate Remediation 593 What is Remediation? 593 What is Driving Corporate Remediation? 594 Why is Remediation Necessary? 597 How to Remediate 599 Role of the Forensic Accountant 603 Recent Cases 605 Remediation Going Forward 607 Index 611