Detecting Fraud Flashcards
What are the auditor’s objectives to Detecting Fraud?
1 Identify and assess the risks of material misstatement due to fraud
2 Obtain sufficient appropriate audit evidence regarding the assessed risks of material misstatement due to fraud
3 Respond appropriately to fraud or suspected fraud identified during the audit
What is Fraud?
An intentional act by one or more individuals among management, those charged with governance, employees, or third parties, involving the use of deception that results in a misstatement in the financial statements
What are Fraud Risk Factors?
Events or conditions that indicate (a) an incentive or pressure to perpetrate fraud; (b) provide an opportunity to commit fraud; or (c) indicate attitudes or rationalizations to justify a fraudulent action
What are the 2 types of misstatements that are relevant to the auditor’s consideration of fraud?
1 Fraudulent financial reporting
2 Misappropriation of assets
What is Fraudulent financial reporting?
involves misstatements that are intended to deceive financial statement users (e.g., the intent is to inflate the entity’s stock price)
How does Fraudulent financial reporting take place?
It takes place when management has the ability to override control, recording of fictitious journal entries, concealing of facts, and altering underlying records to achieve the deception
What is Misappropriation of assets?
Theft of assets causing the financial statements to be misstated owing to false entries intended to conceal the theft
What are examples of Misappropriation of assets?
Embezzlement of receipts, stealing physical assets or intellectual property, and diverting the entity’s assets for personal use
What is the basic responsibility an auditor has to designing (planning) the audit?
To provide “reasonable assurance” of detecting misstatements that are material to the financial statements
What two levels should be performed with a risk assessment?
The risk assessment should be performed at both the financial statement level and the assertion level
To obtain information needed to identify the risks of material fraud the auditor emphasizes what two procedures?
1 Inquiry
2 Analytical procedures
What is Inquiry?
The auditor should question management personnel about their knowledge of fraud, suspected fraud, or allegations of fraud; inquire about specific controls that management has implemented to mitigate fraud risks; and inquire about management’s communications with those charged with governance about fraud-related issues
Which account is particularly important in Analytical Procedures?
Revenue Accounts
What are the 3 characteristics generally associated with fraud?
1 Incentive/pressure
2 Opportunity
3 Attitude/rationalization
What are the reasons that management might be motivated to commit fraudulent financial reporting in regards to Incentive/pressure?
1 Financial stability/profitability
2 Excessive pressure to meet the expectations of outsiders
What are samples of Financial stability/profitability?
operating losses threaten bankruptcy; there is vulnerability to rapid changes due to technology or other factors; there are increasing business failures in the industry; or the entity reports unusual profitability relative to others in the industry
What are samples Excessive pressure to meet the expectations of outsiders?
the entity is only barely able to meet the stock exchange’s listing requirements; the entity is having difficulty meeting debt covenants; or the entity must obtain additional outside financing to retool production to be competitive
What are the reasons that management might be motivated to commit fraudulent financial reporting in regards to Opportunities?
1 Nature of the industry or the entity’s operations
2 Ineffective monitoring of management
3 Complex or unstable organizational structure
4 Internal controls are deficient
What are samples of Nature of the industry or the entity’s operations?
significant related-party transactions not in the ordinary course of business; ability to dominate suppliers or customers in a certain industry sector; unnecessarily complex transactions close to year-end raise “substance over form” issues; major financial statement elements that involve significant estimates by management that are difficult to corroborate
What are samples of Ineffective monitoring of management?
domination of management by a single person or small group without compensating controls or; ineffective oversight by those charged with governance
What are samples of Complex or unstable organizational structure?
organization consists of unusual legal entities; high turnover of senior management, counsel, or board members
What are samples that Internal controls are deficient?
inadequate monitoring of controls; high turnover rates in accounting, internal auditing, and information technology staff; ineffective accounting and information systems
What are the reasons that management might be motivated to commit fraudulent financial reporting in regards to Attitudes/Rationalizations?
1 Lack of commitment to establishing and enforcing ethical standards
2 Previous violations of securities laws (or other regulations)
3 Excessive focus by management on the entity’s stock price
4 Management’s failure to correct reportable conditions
5 Pattern of justifying inappropriate accounting as immaterial
6 Management has a strained relationship with the predecessor or current auditor
