Fraud Examination - Ch 2 Who commits fraud and why

Three Key Elements Motivating Fraud:

• A perceived pressure

• A perceived opportunity

• A way to rationalize that fraudulent actions were acceptable

Higher Pressure or Opportunity

Less rationalization needed

Lower Personal Honesty

Less Pressure or Opportunity needed

Perceived Pressures

• Financial Pressures

• Vices

• Work-related pressures

• Other pressures

Financial Pressures Motivations

• Personal greed

• Living beyond one’s means

• High bills or personal debt

• Poor Credit

• Personal Financial losses

• Unexpected financial needs

• Inadequate income

Motivations for management fraud:

• Poor cash position

• Receivables which are not collectible

• Loss of customers

• Obsolete

• inventory

• Declining Market

• Violation of restrictive loan convenants

Vice Pressures

• Gambling

• Drugs

• Alcohol

• Expensive extramarital relationship

Work-Related Pressures

• Inadequate recognition for job performance

• Poor pay

• Denial of promotion opportunities

Opportunity

The abiliy to commit or conceal fraud without punishment

Major Factors that increase fraud opportunities:

• Insufficient controls to prevent and/or detect fradulent behavior

• Inability to judge the quality of performance

• Failure to discipline fraud perpetrators

• Lack of access to information

• Ignorance, apathy, incapacity

• Lack of an audit trail

3 Main components of an organizations control structure:

• The control environment

• The accounting system

• The control procedures and activities

5 Elements of the Control Environment

• Management’s role & example

• Management’s communication

• Appropriate Hiring

• Clear organizational structure

• Effective internal audit department and security or loss prevention programs

Primary Control Procedures:

• Segregation of duties (dual custody)

• System of authorizations

• Independence checks

• Physical safeguards

• Documentation and records

Dual Custody

Requires 2 people to work together on the same task

System of Authorizations:

• Passwords & two factor authentication

• Signature card for functions conducted at financial institutions

• Approvals & authorizations to limit individual spending

Independent Checks

If people know that their work will be reviewed by others, they will be less likely to commit workplace fraud

Physical Safeguards

Reduce or eliminate fraud opportunities by making it difficult for potential perpetrators to access assets

• Vaults & safes

• fences

• locks and keys

• Locked areas and cabinets

Accounting System

• Valid transactions

• Completeness

• Proper classification

• Proper timing

• Proper valuation

• Correct Summarization

Non-Control Factors:

• Failure to discipline fraud perpetrators

• Lack of access to information

• Ignorance, apathy, incapacity

• Lack of audit trail

Documents & Records

Rarely effective for fraud prevention, but excellent for fraud detction and audit trail