chapter 11 notes
Post on 17-Jun-2015
720 Views
Preview:
TRANSCRIPT
©2010 Prentice Hall Business Publishing, ©2010 Prentice Hall Business Publishing, Auditing 13/e,Auditing 13/e, Arens/Elder/Beasley Arens/Elder/Beasley 11 - 1
Fraud AuditingFraud Auditing
Chapter 11Chapter 11
©2010 Prentice Hall Business Publishing, ©2010 Prentice Hall Business Publishing, Auditing 13/e,Auditing 13/e, Arens//Elder/Beasley Arens//Elder/Beasley 11 - 11 - 22
Learning Objective 1Learning Objective 1
Define fraud and distinguishDefine fraud and distinguish
between fraudulent financialbetween fraudulent financial
reporting and misappropriationreporting and misappropriation
of assets.of assets.
©2010 Prentice Hall Business Publishing, ©2010 Prentice Hall Business Publishing, Auditing 13/e,Auditing 13/e, Arens//Elder/Beasley Arens//Elder/Beasley 11 - 11 - 33
Types of FraudTypes of Fraud What is a fraud????Fraudulent financial reporting
Examples? Think casesMost common form?Aggressive accounting vs. fraud?
Misappropriation of assetsExamples?Material?More common Misstatement of F/S? Depends?
©2010 Prentice Hall Business Publishing, ©2010 Prentice Hall Business Publishing, Auditing 13/e,Auditing 13/e, Arens//Elder/Beasley Arens//Elder/Beasley 11 - 11 - 44
Learning Objective 2Learning Objective 2
Describe the fraud triangle andDescribe the fraud triangle and
identify conditions for fraud.identify conditions for fraud.
©2010 Prentice Hall Business Publishing, ©2010 Prentice Hall Business Publishing, Auditing 13/e,Auditing 13/e, Arens//Elder/Beasley Arens//Elder/Beasley 11 - 11 - 55
The Fraud TriangleThe Fraud Triangle
Incentives/Pressures
Opportunities Attitudes/Rationalization
©2010 Prentice Hall Business Publishing, ©2010 Prentice Hall Business Publishing, Auditing 13/e,Auditing 13/e, Arens//Elder/Beasley Arens//Elder/Beasley 11 - 11 - 66
Examples of Risks FactorsExamples of Risks Factorsfor Fraudulent Reportingfor Fraudulent Reporting
1. Incentives/Pressures
Financial stability or profitability is threatened byeconomic, industry, or entity operating conditions. Business Risk – Dell, necessary, but not sufficient ?: remember airlines, perhaps industry effect (keeping up with the Jones)? Revenue growth NOT significantly different b/w F and NF (why you need to anchor with NFMs).
Excessive pressure exists for managementto meet debt requirements / EPS estimates / budgets – Anonymous Caller, Waste MgtMost fraud firms are just beating a benchmark. Publicly traded = higher incentive.
Personal net worth of mgt is materially threatened (equity-based comp, bonuses).Stock price obsession – Worldcom – you are in the field to OBSERVE
Auditors separate market incentives (public) and debt incentives (private and public)
©2010 Prentice Hall Business Publishing, ©2010 Prentice Hall Business Publishing, Auditing 13/e,Auditing 13/e, Arens//Elder/Beasley Arens//Elder/Beasley 11 - 11 - 77
Examples of Risks FactorsExamples of Risks Factorsfor Fraudulent Reportingfor Fraudulent Reporting
2. Opportunities
There are significant accounting estimatesthat are difficult to verify – Waste Mgt. HOWEVER – Accruals not seen as an opportunity in practice. Investors don’t appear to react to high accruals either (don’t understand).
There is ineffective oversight overfinancial reporting – less collusion needed: Enron.Strength of corp governance (measure?)
Ineffective internal audit (Worldcom had 3, how do they report?), internal controls (mainly top level control environment factors (effective whistleblower, ST vs. LT focus, commitment to competence – just from a timing perspective – FR prior to most control testing)
©2010 Prentice Hall Business Publishing, ©2010 Prentice Hall Business Publishing, Auditing 13/e,Auditing 13/e, Arens//Elder/Beasley Arens//Elder/Beasley 11 - 11 - 88
Examples of Risks FactorsExamples of Risks Factorsfor Fraudulent Reportingfor Fraudulent Reporting
3. Attitudes/Rationalization
Inappropriate or inefficient communicationand support of the entity’s values is evident.SOX – code of ethics – Tone from the top (Worldcom CFO ripping up F/S).
Linguistic analysis of MD&A.OBSERVE – Behavior or Tyco mgt
A history of violations of laws is known – SEC disagreements.
Management has a practice of making overlyaggressive or unrealistic forecasts (why stock prices LEAD earnings).
Negotiations of audit adjustments and material weaknessesW & K’s Broken Window Theory – small pressure to meet EPS forecastcan make lower (good) people do the wrong thing. Implementations of ERP – audit↓ info↑
©2010 Prentice Hall Business Publishing, ©2010 Prentice Hall Business Publishing, Auditing 13/e,Auditing 13/e, Arens//Elder/Beasley Arens//Elder/Beasley 11 - 11 - 99
Learning Objective 3Learning Objective 3
Understand the auditor’sUnderstand the auditor’s
responsibility for assessingresponsibility for assessing
the risk of fraud and detectingthe risk of fraud and detecting
material misstatements due tomaterial misstatements due to
fraud.fraud.
©2010 Prentice Hall Business Publishing, ©2010 Prentice Hall Business Publishing, Auditing 13/e,Auditing 13/e, Arens//Elder/Beasley Arens//Elder/Beasley 11 - 11 - 1010
Assessing the Risk of FraudAssessing the Risk of Fraud
SAS 99 provides guidance to auditorsin assessing the risk of fraud.
SAS 1 states that, in exercising professionalskepticism, an auditor “neither assumes thatmanagement is dishonest nor assumesunquestioned honesty.”
Auditors ARE RESPONSIBLE for detecting and reporting material misstatements due to error or FRAUD
©2010 Prentice Hall Business Publishing, ©2010 Prentice Hall Business Publishing, Auditing 13/e,Auditing 13/e, Arens//Elder/Beasley Arens//Elder/Beasley 11 - 11 - 1111
Sources of Information GatheredSources of Information Gatheredto Assess Fraud Riskto Assess Fraud Risk
Communicationamong audit team
Inquiries ofmanagement
Riskfactors
Analyticalprocedures
Otherinformation
Identified risks of material misstatements due to fraud
©2010 Prentice Hall Business Publishing, ©2010 Prentice Hall Business Publishing, Auditing 13/e,Auditing 13/e, Arens//Elder/Beasley Arens//Elder/Beasley 11 - 11 - 1212
Learning Objective 4Learning Objective 4
What does the latest research tell us?????What does the latest research tell us?????
©2010 Prentice Hall Business Publishing, ©2010 Prentice Hall Business Publishing, Auditing 13/e,Auditing 13/e, Arens//Elder/Beasley Arens//Elder/Beasley 11 - 11 - 1313
ResearchResearch1. Auditors are typically good at FR assessment (∆), butex-ante FR assessments for fraud audits medium2. Auditors could use NFMs to better assess FR 3. Auditors typically bad at responding to FR – nature of testing, usually do OK with staffing, timing, and extent
4. Auditors discount forensic procedure evidence unless FR is high – problem? Yes – given (1) above!
5. Brainstorming (???) is “good”, Group Support Systems may improve bstorming (eliminate pitfalls), and bstorming improves “nature” reaction – let’s bstorm about potential “nature” reactions.
©2010 Prentice Hall Business Publishing, ©2010 Prentice Hall Business Publishing, Auditing 13/e,Auditing 13/e, Arens//Elder/Beasley Arens//Elder/Beasley 11 - 11 - 1414
A/P - More reliable expectations, more detailed levelConfirmations - Add sales agreement info or have oral discussions with customersCAATs – search for unusual entries, names, related partiesInquiry - Talk to nonfinancial personnelMore physical observation / external evidence vs. tracing to IT/system dataFV – specialist estimate and compare vs. auditing mgt’s estimate
Changing Nature
©2010 Prentice Hall Business Publishing, ©2010 Prentice Hall Business Publishing, Auditing 13/e,Auditing 13/e, Arens//Elder/Beasley Arens//Elder/Beasley 11 - 11 - 1515
Tell me about the avg bstormTell me about the avg bstormsession (179 audits)session (179 audits)
Partner/CFE led (60%), not all members (27%), fraud specialist (31%-only led 4/56), IT/Tax (69/63%), hierarchical participation, use of checklist (72%), held late (35%), no wrap-up in PY (84%), average total time (1.5 hours), more than one session (50%).
©2010 Prentice Hall Business Publishing, ©2010 Prentice Hall Business Publishing, Auditing 13/e,Auditing 13/e, Arens//Elder/Beasley Arens//Elder/Beasley 11 - 11 - 1616
Partner/CFE led (60%), not all members (27%), fraud specialist (31%-only led 4/56), IT/Tax (69/63%), hierarchical participation, use of checklist (72%), held late (35%), no wrap-up in PY (84%), average total time (1.5 hours), more than one session (50%).
Distribution of Bstorming Quality
Brainstorming Session Quality Score
1817161514131211109876543
Nu
mb
er
of
En
ga
ge
me
nts
30
20
10
0
©2010 Prentice Hall Business Publishing, ©2010 Prentice Hall Business Publishing, Auditing 13/e,Auditing 13/e, Arens//Elder/Beasley Arens//Elder/Beasley 11 - 11 - 1717
Distribution of FR AssessmentsDistribution of FR Assessments
©2010 Prentice Hall Business Publishing, ©2010 Prentice Hall Business Publishing, Auditing 13/e,Auditing 13/e, Arens//Elder/Beasley Arens//Elder/Beasley 11 - 11 - 1818
Does Bstorming Quality Does Bstorming Quality Matter??Matter??
FR Factors
FR FR AssessmentAssessment
FR Responses
Brainstorming Quality
Best practices – ptr led, IT auditor present, held early, MC, PC, Discussion of FR factors and responses
©2010 Prentice Hall Business Publishing, ©2010 Prentice Hall Business Publishing, Auditing 13/e,Auditing 13/e, Arens//Elder/Beasley Arens//Elder/Beasley 11 - 11 - 1919
Other Findings from ResearchOther Findings from Research1. Red Flags – Insiders on BOD, High Accruals, StockOptions (evidence is mixed), Highly Leveraged, YoungerCompanies, M&A activity, Bad CFOps – need for financing
2. Investors hold SEC and External auditors most accountable for detecting fraud
3. Auditor litigation all about overstated Rev and Assets,fraudulent financial reporting
4. Fraud Experiences – 1989: avg .5 frauds for career2007: avg 71% at least one, 21% at least 2, why?
top related