Chapter 3 Part 1 (Ethics, Fraud and Internal Control)

Question 1

pertains to the principles of conduct that individuals use in making choices and guiding their behavior in situations that involve the concept of right and wrong

Answer 1

ethics

Question 2

the most significant securities law since the SEC act of 1933 and 1934, comprised of many sections

Answer 2

Sarbanes -Oxley

Question 3

section 406 in the Sarbanes Oxley sates that Codes of Ethics should address what items?

Answer 3

• conflict of interest
• full and fair disclosure
• legal compliance
• internal reporting of code violations
• accountability

Question 4

outlines procedures for dealing with the actual or apparent conflict between personal and professional relationships. Does not prohibit; but rather talks about how to handle them if they do arise.

Answer 4

conflict of interest

Question 5

organization must provide full, fair, accurate, timely and understandable disclosures in the documents, reports and financial statements.
overly complex or misleading information is not right; must be open, trustful, void of deception

Answer 5

full & fair disclosure

Question 6

must follow all governmental laws, rules and regulations

cannot confuse ethics with legal issues

Answer 6

legal compliance

Question 7

provide a way for people to report violations

Answer 7

internal reporting of code violations

Question 8

action for violations of the code

Answer 8

accountability

Question 9

a false representation of a material fact made by one party to another party with the intent to deceive and induce the other party to justifiably rely on the fact to his or hoer detriment

Answer 9

fraud

Question 10

What are the 5 conditions of fraud according to the common law?

Answer 10

• false representation: must be a false statement or a non-disclosure
• material fact: must be a substantial factor in inducing someone to act
• intent: must be the intent to deceive or the knowledge that one’s statement is false
• justifiable reliance: misrepresentation must have been a substantial factor on which the injured party relied
• injury or loss: the deception must have caused injury or loss to the victim of fraud

Question 11

intentional deception or misappropriation of a company’s assets, or manipulation of a company’s financial data to the advantage of the perpetrator

Answer 11

fraud and business

Question 12

• done by non-management employee
• most often to convert cash or other company assets into employee’s benefit
• employee has circumvented the internal control system for personal gain
• stealing something
• converting that to cash
• concealing the act

Answer 12

employee fraud

Question 13

• does not usually involve a direct theft of assets

- drive market price up to help meet a stock target that then drives compensations

Answer 13

management fraud

• at a level of management where internal controls do not relate
• involves using the financial statements to create an illusion that an entity is healthier than is
• involves misappropriation of assets and hidden in a maze of complex transactions

Question 14

an individual with high moral ethics who is confronted wit lower-level of opportunity and pressure will be more honest than someone with weaker ethics who are confronted with greater pressure and opportunity

Answer 14

the fraud triangle

• if pressure and opportunity is larger then ethics is going to be weaker and vise versa

Question 15

stresses, motivation, or incentive to commit fruad

Answer 15

pressure

Question 16

ability to carry out misappropriation of cash or organizational assets

Answer 16

opportunity

Question 17

one’s character and moral opposition to act dishonest or one’s ability to rationalize the event

Answer 17

ethics

Question 18

ACFE deals with what type of fraud?

Answer 18

occupational fraud

three categories:

• asset misappropriation scheme
• corruption schemes
• financial statements fraud schemes

Question 19

an employee steals or misuses the organization’s resources (e.g., theft of company cash, false billing scheme or inflate expense reports)

• stealing small supplies as in highlighters, keying in extra time, and creating fictitious vendors

Answer 19

asset misappropriation scheme

Question 20

an employee misuses his or her influences in a business transaction in a way that violates his or her duty to the employer in order to gain a direct or indirect benefit (e.g., schemes involving bribery or conflicts of interest)

Answer 20

corruption scheme

Question 21

an employee intentionally causes a misstatement or omission of material information in organization’s financial reports (e.g., recording fictitious revenues, understating reported expenses or artificially inflating reported assets)

Answer 21

financial statement fraud scheme

Question 22

auditing firms also engaged by tier clients to perform non-accounting activities

Answer 22

lack of auditor independence

Question 23

directors who also serve on the boards of other companies, have a business trading relationship, have a financial relationship as stockholders or have received personal loans, or have an operational relationship as employees

Answer 23

lack of director independence

Question 24

short-term stock options as compensation result in short-term strategies aimed at driving up stock prices at the expense of the firm’s long-term health

Answer 24

questionable executive compensation scheme

Question 25

a characteristic common to many financial statement fraud schemes

Answer 25

inappropriate accounting practices

Question 26

sets auditing, quality control and ethics standards for auditing public companies is a way to review auditors of public companies which investigates and takes disciplinary action on auditor

Answer 26

public company accounting oversight board (PCAOB) created by SOX

Question 27

audit committee members must be independent and the audit committee must oversee the external auditors

Answer 27

corporate governance and responsibility

Question 28

A process, effected by an entity’s board of directors, management and other personnel, designed to provide reasonable assurance regarding the achievement of objectives relating to operations, reporting and compliance.

Answer 28

internal control - COSO definition

Question 29

cannot provide 100% absolute assurance

Answer 29

reasonable assurance

Question 30

• Possibility of honest errors
• Circumvention via collusion
• Management override
• Changing conditions–especially - in companies with high growth

Answer 30

limitations of internal controls

Question 31

CEO and CFO must certify quarterly/annually the internal controls of the organization

Answer 31

section 302 of the SOX

Question 32

management must “assess” and issue an opinion on the internal controls of a company:

• management’s responsibility for establishing and maintaining adequate controls over financial reporting
• assessment of the controls
• the external auditors must review
• must disclose the framework used

Answer 32

section 404 of the SOX