Table of Contents
Preface xxi
Acknowledgments xxiii
Chapter 1 Fraud: An Introduction 1
Fraud: What is It? 2
Fraud: Prevalence, Impact, and Form 3
Fraud in Historical Perspective 4
Types of Fraud 5
Root Causes of Fraud 6
A Historical Account of the Auditor’s Role 7
Auditors Are Not Alone 14
Deterrence, Auditing, and Investigation 16
Conceptual Overview of the Fraud Deterrence Cycle 17
First Look Inside the Fraud Deterrence Cycle 19
Auditing and Investigation 22
Chapter 2 Psychology of the Fraudster 25
Calculating Criminals 26
Situation-Dependent Criminals 27
Power Brokers 28
Fraudsters Do Not Intend to Harm 28
Kinds of Rationalization 33
Auditors’ Need to Understand the Mind of the Fraudster 33
Conclusion 34
Chapter 3 The Roles of the Auditor and the Forensic Accounting Investigator 37
The Patrolman and the Detective 38
Complexity and Change 41
Auditor Roles in Perspective 42
Not All Good People 44
Each Company is Unique 45
Role of Company Culture 45
Estimates 46
Choices 49
What Auditors Do 50
Bedrock of an Effective Audit 55
SPADE 57
Auditing Standards Take a Risk-Based Approach to Fraud 58
Management Override 60
Regulatory Reaction to Fraud 60
Financial Benefits of Effective Fraud Management 61
Conclusion 61
Chapter 4 Auditor Responsibilities and the Law 63
Appendix: Summary of PCAOB Matters Involving Detection of Fraud 77
Chapter 5 When and Why to Call in Forensic Accounting Investigators 79
Today’s Auditors Are Not Forensic Accounting Investigators 80
Auditors Are Not Authenticators 80
Auditors Have Limited Exposure to Fraud 81
Auditors Are Not Guarantors 82
Historically, Audits May Have Been Predictable 83
Potential Trigger Points of Fraud 84
Reliance on Others 91
Conclusion 92
Chapter 6 Internal Audit: The Second Line of Defense 95
What Do Internal Auditors Do? 96
Internal Audit Scope of Services 98
The Handoff to Forensic Accounting Investigators and Legal Counsel 99
Perception Problem 101
Complex Corporate Fraud and the Internal Audit 102
WorldCom and the Thornburgh Report 102
Case Studies: The Internal Auditor Addresses Fraud 103
A Tragic Circumstance 105
Reporting Relationships: A Key to Empowering Fraud Detection 111
Tomorrow’s Internal Auditor, Tomorrow’s Management and Board 113
Chapter 7 Teaming with Forensic Accounting Investigators 115
Forensic Accounting Investigators’ Cooperation with Internal Auditors 117
Forensic Accounting Investigators’ Cooperation with External Auditors 120
Objectives of All Interested Parties 122
Forensic Accounting Investigators’ Objectives 122
Who Should Direct the Investigation and Why? 126
Ready When Needed 127
Where to Find Skilled Forensic Accounting Investigators 127
Chapter 8 Anonymous Communications 133
Typical Characteristics of Anonymous Tips 134
Federal Statutes Related to Anonymous Reporting and Whistle-Blower Protections 135
Receipt of an Anonymous Communication 139
Initial Understanding of Allegations 140
Determine Whether Any Allegation Requires Immediate Remedial Action 141
Development and Implementation of the Investigative Strategy 142
The Investigation Team 142
Disclosure Decisions 143
Prioritize the Allegations 144
Interviewing Employees 145
Follow-Up Tip 149
Conclusion 150
Chapter 9 Personal Privacy and Public Disclosure 151
Introduction 151
Data Privacy: Providing Context 152
Data Privacy in the United States 153
Data Privacy in the European Union 158
Navigating the Legal Differences Between the United States and the European Union 162
Elsewhere around the Globe 165
Public Disclosure 168
Conclusion 173
Chapter 10 Building a Case: Gathering and Documenting Evidence 175
Critical Steps in Gathering Evidence 176
Whose Evidence is It? 182
Evidence Created by the Forensic Accounting Investigator 183
What Evidence Should Be Gathered? 185
Important Considerations Regarding Documents and Working Papers 186
Conclusion 189
Chapter 11 Independence, Objectivity, Skepticism 191
Accountant’s Independence 192
SEC Final Rules for Strengthening Auditor Independence 192
SEC Regulation of Forensic Accounting Services 193
Consulting versus Attest Services 196
Integrity and Objectivity 198
Professional Skepticism 199
Trust but Verify: Exploring Further 203
Loose-Thread Theory of Auditing 207
Further Thoughts on the Loose-Thread Theory 210
Chapter 12 Potential Missteps: Considerations When Fraud is Suspected 213
Confronting Suspects 213
Dismissing the Target 216
Assumptions 217
The Small Stuff Could Be Important 221
Materiality: More on a Key Topic 223
Addressing Allegations 224
The Case of the Central American General Manager 225
Exercising Skepticism 228
Case Outcomes 229
Chapter 13 Potential Red Flags and Fraud Detection Techniques 231
Types of Fraud Revisited 232
Fraud Detection: Overview 233
Laying a Foundation for Detection 236
Interpreting Potential Red Flags 238
Importance of Professional Skepticism 240
Revisiting the Fraud Triangle 243
Identifying and Evaluating Risk Factors 248
Information Gathering 251
Analytic Procedures 254
Analytic Techniques 258
Assessing the Potential Impact of Fraud Risk Factors 260
Evaluating Controls 261
Unpredictable Audit Tests 263
Observation and Inspection 264
Financial Statement Fraud: Detection Techniques 266
Revenue Recognition 267
Corruption 268
Summary 269
Chapter 14 Investigative Techniques 271
Timing 271
Communication 272
Early Administrative Matters 272
Predication 273
What Should You Know before You Start? 275
A Word about Insurance 281
Exceptions and Other Considerations 282
Considerations on International Assignments 283
Accounting Issues 285
Data Analysis 286
Document Review 286
Conclusion 291
Chapter 15 Corporate Intelligence 293
Definition of Corporate Intelligence 293
Evolution of Corporate Intelligence 294
Today’s Business Need 297
Legal and Regulatory Drivers of Corporate Intelligence 297
Cost Drivers of Corporate Intelligence 301
Negotiation Drivers of Corporate Intelligence 303
Basic Deployment and Consumption of Corporate Intelligence 304
Customary Data Fields Necessary to Fulfill Corporate Intelligence Remits 306
Analysis and Reporting of Findings 307
Coordination and Selection of Management and External Advisors for Intelligence Gathering 307
Timing of Deployment 308
Limitations of and Inherent Barriers to Corporate Intelligence 308
Legal Parameters and Operating Constraints versus Enabling Ethical Debates Surrounding Corporate Intelligence 313
Summary 315
Chapter 16 The Art of the Interview 317
Difficulty and Value of Obtaining an Admission 318
Planning for the Interview 319
Types of Interviews 321
Others May Wish to Attend Interviews 325
Interview Process 326
Documenting the Interview 330
Use of Subterfuge 331
Summary 331
Chapter 17 Data Mining 333
Definition and Benefits of Data Mining 334
Structured versus Unstructured Data 335
Planning 335
Methods of Data Acquisition 340
Structured Data Analysis 341
Unstructured Data 352
Advanced Data Analysis Tools 358
Conclusion 360
Chapter 18 Report of Investigation 363
Types of Reports 364
Importance of Adequate Preparation 364
Standards of Reporting 365
Written Report of Expert Witness Opining for the Plaintiff on a Civil Fraud Claim 371
Affidavits 374
Informal Reports 374
Giving a Deposition 376
Mistakes to Avoid in Reporting 380
Working Papers 382
Relationship Review 384
Substantive Working Papers 384
Each Working Paper Should Stand on Its Own 384
Testimony Binder 386
Interview Memorandums 386
Chapter 19 Supporting a Criminal Prosecution 389
Key Considerations 390
Referral Considerations 393
Chapter 20 Working with Attorneys 399
In the Company of Lawyers 399
Confidentiality Requirements 400
Forming the Investigative Team 401
Documentation 407
Civil Litigation 408
Interviewing 408
External Audit Firm 409
Working for or Interacting with Law Enforcement or Government Agencies 412
Disagreements with Counsel 413
Conclusion 414
Chapter 21 Financial Reporting Fraud and the Capital Markets 417
Targets of Capital Market Fraud 418
Securities Investment Model 419
Some Observations on Financial Fraud 429
Summary 430
Chapter 22 Financial Statement Fraud: Revenue and Receivables 433
Improper Revenue Recognition 435
Revenue Recognition Detection Techniques 438
Analytical Procedures to Identify or Explore Potential Revenue Red Flags 440
Improper Allocation of Value in Multiple-Element Revenue Arrangements 450
Improper Accounting for Construction Contracts 452
Related-Party Transactions 453
Revenue and Receivable Misappropriation 455
Inflating the Value of Receivables 460
Extended Procedures 461
Round-Tripping 463
Improperly Holding Open the Books 464
Consignments and Demonstration Goods 465
Summary 466
Chapter 23 Financial Statement Fraud: Other Schemes and Misappropriations 467
Asset Misstatements 467
Understatement of Liabilities and Expenses 478
Backdating Share Options 479
Off-Balance-Sheet Transactions 480
Two Basic Accounting Models 481
Cookie Jar Reserves 482
Improper and Inadequate Disclosures 483
Materiality 484
Disbursement Schemes 485
Invoice Schemes 486
Check Tampering 489
Expense Reimbursement Schemes 490
Payroll Schemes 491
Fraud in an Economic Downturn 492
Unauthorized Trading 492
Mortgage Fraud 494
Chapter 24 Ponzi Schemes 495
Ponzi Scheme Origin and Development 495
Recent Spotlights 497
Insights into Ponzi Schemes: Passing Trend or Lasting Reality? 503
Accountant’s Challenges 507
Regulatory Bodies and Task Forces 508
Bankruptcy Implications 509
Summary 510
Chapter 25 Money Laundering 511
Relationship between Fraud and Money Laundering 511
Counter-Terrorist Financing 514
Varying Impact of Money Laundering on Companies 515
The Five-Point Program for AML-Regulated Businesses 516
Impact of Money Laundering on Financial Statements 520
AML and Forensic Accounting Investigation 521
Legal Arrangements Lending Themselves to Anonymity 523
Auditing and Money Laundering 524
Relationship between Fraud Investigation and AML 525
Chapter 26 Foreign Corrupt Practices Act 527
Background 527
Recent Enforcement Trends 530
U.K. Bribery Act 2010 536
The Role of the Forensic Accountant 537
Red Flags 542
Reporting 545
Conclusion 546
Chapter 27 Construction Projects 547
The Nature of the Construction Industry 547
Contract Pricing Strategy 550
Standard Form Contracts 554
Issues in Analysis 559
Change Orders 560
Financial Damages 561
Underbid 567
Inflation 567
Analysis of Claims 567
Summary 569
Chapter 28 Contract Compliance 571
Effective Integrated Internal and External Contract Compliance Program 572
The Role of the Forensic Accountant 576
Government Contracting 578
Risk and Compliance 578
Recovery 579
Crisis Management and Litigation Support 581
Chapter 29 Other Dimensions of Forensic Accounting 585
Environmental Issues 586
Intellectual Property 586
Insurance and Business Interruption 587
Marital Dissolution 588
Shareholder Litigation 588
Business Valuation 589
Business Combinations 589
Cybercrime 590
Chapter 30 Corporate Remediation 593
What is Remediation? 593
What is Driving Corporate Remediation? 594
Why is Remediation Necessary? 597
How to Remediate 599
Role of the Forensic Accountant 603
Recent Cases 605
Remediation Going Forward 607
Index 611
