Indiana State University

1. Indiana State University Forensic Accounting By Dr. Thomas D. Harris

2. Background • Two events really brought forensic accounting to the forefront from 2000-2002 • September 11, 2001 • Corporate Frauds & Scandals

3. Definitions • Forensic Accounting • Involves not only fraud, but also bankruptcy, business valuation & disputes, divorce and a host of other litigation support services – used as expert witnesses

4. Definitions • Fraud Examination • May be defined as resolving allegations of fraud from tips, complaints, or accounting clues. • Typically performed by accountants but they are also conducted by professionals in other fields, such as law enforcement agencies, corporate security, specialists or private investigators.

5. Definitions • Fraud Examination and Auditing • Related, but not the same. A fraud examination encompasses much more than just a review of financial data; it also involves techniques such as interviews, statement analysis, public record searches and forensic document examination.

6. Definitions • Fraud can be defined as any crime for gain that uses deception as its principle modus operandi

7. Definitions • Under Common Law, four elements must be present for a fraud to exist: • Material false statement • Knowledge that the statement was false when it was uttered • Reliance on the false statement by the victim • Damages resulting from the victim’s reliance on the false statement

8. 2006 ACFE Report to the Nation • Association of Certified Fraud Examiners Report to the Nation on Occupational Fraud and Abuse • The study is based on data compiled from 1134 cases of occupational fraud investigated between Jan 2004 and 2006. • Each case was reported by a CFE who investigated the case

9. 2006 ACFE Report to the Nation • Joseph Wells has written a book on Occupational Fraud & Abuse • Asset Misappropriation – any scheme that involves the theft or misuse of an organization’s assets • Corruption – any scheme in which a person uses his or her influence in a business transaction to obtain an unauthorized benefit contrary to that person’s duty to his or her employer

10. 2006 ACFE Report to the Nation • Fraudulent Financial Statements -Falsification of an organization’s financial statements to make it appear more or less profitable

11. Executive Summary • Occupational fraud and abuse imposes enormous costs on an organization • Median loss was $159,000 • Nearly ¼ of the cases were at least 1 million • 9 cases caused losses of $1 billion or more

12. Executive Summary • CFE estimated that 5% of an organization’s revenues are lost to fraud • 5% of revenues translates to approximately $652 billion • Occupational frauds are more likely to be detected by a tip than by other means such as internal audits, external audits or internal controls

13. Executive Summary • Certain anti-fraud controls can have a measurable impact on organization’s exposure to fraud • Organizations with anonymous fraud hotlines suffered a median loss of $100,000, whereas organizations without hotlines had a median loss of $200,000

14. Executive Summary • Report includes organizations representing a wide range of industries • Highest Median Losses • Wholesale Trade $1 million • Construction $ 500,000 • Manufacturing $ 413,000 • Lowest Median Losses • Government Orgs $ 82,000 • Retail Organization $ 80,000

15. Executive Summary • Small Businesses continue to suffer disproportionate fraud losses • Less than 100 employees median loss $190,000 • Fraudulent Check Writing • Skimming Revenues • Processing Fraudulent Invoices

16. Executive Summary • One reason small businesses suffer such fraud is that they generally do a poor job of proactively detecting fraud • Less than 10% had a fraud hotline • Less than 20% had internal audit departments

17. Executive Summary • Size of the loss caused by occupational fraud is strongly related to the position of the perpetrator • Owner/Executive – median loss $1 million • Five times more than Managers • Thirteen times more than Employees

18. Executive Summary • Less than 8% of the perpetrators had convictions prior to committing frauds

19. The Fraud Triangle • Donald R. Cressey (1919-1987) Indiana University Criminologist • “Trusted persons become trust violators when they conceive of themselves as having a financial problem which is non-sharable, are aware the problem can be secretly resolved by violation of the position of financial trust, and are able to apply to their own conduct that situation verbalization which enables them to adjust their conceptions of themselves as trusted persons with their conception of themselves as users of the entrusted funds or property.”

20. Fraud Triangle Opportunity Fraud Triangle Rationalization Perceived Pressures

21. Primary Control Procedures • Segregation of Duties • Systems of Authorization • Independent Checks • Physical Safeguards • Documents and Records

22. Adopting Proactive Anti-Fraud Deterrence Policies • Tone at the top • Employee Education in Fraud Deterrence • The fraud-educated workforce is the fraud examiner’s best weapon – by far • Proactive Fraud Policies begin with a higher stance by managers, auditors & fraud examiners i.e. bring fraud out of the closet. • You must let employees know you are looking for fraud

23. Adopting Proactive Anti-Fraud Deterrence Policies • Increase the use of Analytical Review • Use computer-aided audit tests • Surprise audits where feasible • Adequate Reporting Programs to deter fraud • Fraud, waste, and abuse occur at some level in nearly every organization • This conduct costs jobs, raises and profits • The organization actively encourages employees to come forward with information

24. Adopting Proactive Anti-Fraud Deterrence Policies • There are no penalties for furnishing good-faith information • There is an exact method for reporting such as the fraud hotline • A report of suspicious activity does not have to be made by the employee to his or her immediate supervisor