Accounting Ch. 8.1/2

Fraud

Dishonest, intentional act by an employee that results in personal benefit to the employee at a cost to the employer

Three factors that contribute to fraudulent activity.

1. Opportunity

2. Financial Pressure

3. Rationalization

Sarbanes-Oxley Act (SOX)

Applies to pubically traded companies

• prevents fraud

Five components of internal control (CRIME)

1 Control Activities.

2. Risk assessment.

3. Information and communication.

4. Monitoring of Controls.

5. Control Environment

Principles of internal control activities

1. Establishment of Authority

2. Segregation of Duties

3. Documentation Procedure

4. Physical Controls

5. Indepedent Internal Verification

6. Human Resource Controls

Establishment of Authority

• Control is most effective when only one person is responsible for a given task.

• Establishing responsibility often requires limiting access only to authorized personnel, and then identifying those personnel.

Segregation of Duties

• Different individuals should be responsible for related activities.

• The responsibility for recordkeeping for an asset should be separate from the physical custody of that asset.

Documentation Procedures

• Companies should use prenumbered documents, and all documents should be accounted for.

• Employees should promptly forward source documents for accounting entries to the accounting department.

Physical Controls

• Safes/vaults

• TV monitors

• Time clocks for recording hours

• Alarms

• Computers with password access

• Locked warehouses with inventory

Independent Internal Verification

• Records periodically verified by an employee who is independent.

• Discrepancies reported to management.

Human Resource Controls

• Bond employees who handle cash.

• Rotate employees’ duties and require vacations.

• Conduct background checks.