Financial Statement Fraud and the Fraud Triangle.docx
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Course
MGMT 123
Institution
MGMT 123
In Chapter 3 we identified two major types of fraud: Occupational Fraud
discussed starting on page 130 and Financial Statement Fraud discussed
starting on page 135. While the Fraud Triangle and other questions below
apply equally to both Occupational Fraud and Financial Statement Fraud; this
...
WK6 DQ2 Financial Statement Fraud
and the Fraud Triangle
6161 unread replies.7676 replies.
In Chapter 3 we identified two major types of fraud: Occupational Fraud
discussed starting on page 130 and Financial Statement Fraud discussed
starting on page 135. While the Fraud Triangle and other questions below
apply equally to both Occupational Fraud and Financial Statement Fraud; this
DQ refers only to Financial Statement Fraud.
1. Briefly describe in your own words Financial Statement Fraud.
2. What is the auditors’ role in detecting and reporting Financial
Statement Fraud?
3. Discuss the responsibility each of management and the Board of
Directors for detecting and reporting Financial Statement Fraud.
4. Describe in your own words what the Fraud Triangle tells us about
fraud.
5. How can the Fraud Triangle be used in helping to detect Financial
Statement Fraud?
6. How can the Fraud Triangle be used in helping to prevent Financial
Statement Fraud?
7. What other tools can we use (other than the Fraud Triangle) in
managing Financial Statement Fraud?
8. Give an example of a Financial Statement Fraud case we’ve read about
or one you have personal knowledge of and discuss how each leg of the
Fraud Triangle is represented in that fraud.
Hi Class,
“Dr. Briloff believed the external auditors should have responsibility for
detecting fraud and for financial statement presentation." I believe that
auditors’ primary responsibility is to examine the company’s financial
statements; if it was presented according to GAAP. Their goal is to provide
reasonable assurance that these statements are free from material
misstatements.
I think that detection of fraud is one of the most important portions of
auditing, and perhaps should be a responsibility. But as for now, there are
no auditing standards that can provide absolute assurance in detecting all
fraud.
1. Financial statement fraud is one of the significant challenges in the
business world. I believe that the primarily responsible bodies for
committing the Financial statement fraud are executives and members of
,upper management. According to the Association of Certified Fraud
Examiners, companies should watch for specific behaviors that can be
considered a red flag. It should help to prevent to prevent financial
statement fraud.
In general, violators of this group of fraud are “more likely to be under
excessive organizational pressure compared to those who engaged in
corruption or asset misappropriation.”
2. “The detection of fraud is a most important portion of the auditor’s
duties, and there will be no disputing the contention that the auditor who
is able to detect fraud is – other things being equal – a better man than
the auditor who cannot. Auditors should, therefore, assiduously cultivate
this branch of their functions – doubtless, the opportunity will not for long
be wanting – as it is undoubtedly a branch that their clients will most
generally appreciate.” (Dicksee, 1909)
Fraudulent financial reporting and asset misappropriation, are the main
problem encountered by companies. In accordance with the theoretical
and practical research the most common technique used for fraudulent
financial reporting involved overstatement of assets.
When an auditors find fraud, if the resulting misstatement is not material
to the financial statements, the auditor should talk about this matter to
management (at least one level above those involved). If the fraud that
has a material effect on the financial statements, the auditor should
address the matter to a proper level of management, determine its effect
on the financial statements and the auditors report, and report it directly
to the audit committee with a recommendation to the client consult legal
counsel.
I think that it is important to build strong internal control policies and to
determine roles and responsibilities of all parties in financial reporting in
prevention and detection of fraud. Management department has the
primary responsibility for the prevention and detection of fraud. All parties
who have an important role and responsibility in ensuring reliable
financial statements include management, boards of directors, audit
committees, external auditors and internal auditors.
“The PCAOB recently issued changes to the audit report, one of which
explicitly clarifies auditors’ responsibilities for fraud by adding the phrase
“whether due to error or fraud” when describing the responsibility to
obtain reasonable assurance about whether the financial statements are
free of material misstatements” (The CPA Journal, April 2018).
3. Senior or top-level management is required to implement internal
controls to prevent, detect and deter fraudulent financial reporting, to
assess and then report on the effectiveness of those internals control on
an annual basis (Section 404, Sarbanes-Oxley Act). A „tone at the top‟
along with corporate culture is an important factor for an auditor since no
,matter how strong a system of internal control within a company,
unethical management has the potential to revoke those control.
Thus, an effective system of internal control is the first and main step for
fraud detection.
The board has the meaningful influence over a company's internal control.
Auditing standards highlight the role of the board in setting an effective
control environment component of a company's internal control. SAS No.
55 requires the auditor to get "sufficient knowledge of the control
environment to understand management's and the board of director's
[emphasis added] attitude, awareness, and actions concerning the control
environment."
The audit committee members should know the industry, be financially
intelligent, and ask challenging questions of management when studying
financial statements.
4. The fraud triangle provides a valuable framework for businesses to
investigate their vulnerability to fraud and unethical behavior, and it
presents a way to avoid being cheated. Almost globally, all three legs of
the triangle must exist for an individual to act unethically. Thus, I think If a
company concentrates on preventing each leg, it can prevent creating a
ground for bad behavior.
So, business owners and/or executive managers must work on each leg of
the fraud triangle to be able to take control of fraud. But, as we know,
they should start working on the one they have the greatest authority: the
opportunity for committing fraud. Sometimes it is not easy for
management to do anything about an employee’s demands or
rationalizations, but by limiting opportunities for fraud, the company can
decrease it to some degree.
5. Thus, auditors should remember that pressure/motive to commit
fraud can be either a personal, external, or employment pressure, and
each of these types of pressures can also occur because of financial or
non financial pressure. They also should realize the chance for fraud to
help them in classifying which fraud schemes an individual can commit
and how fraud risks happen when there is an ineffective or missing
internal control.
It is essential for auditors to consider all the fraud models to better
understand why fraud occurs.
Cressey's (1953) fraud risk factor theory presumed that fraudulent
activities share three common features. First the "trust violator" has the
opportunity to commit fraud, usually due to absent or inefficient controls.
Second, there is a recognized financial need or pressure which give the
motive to commit fraud. Finally, those involved have the power to
rationalize that the fraudulent act is justified and consistent with their
values.
, 6. Prevention and deterrence of financial statement fraud consist of
those steps taken to control the maintenance of fraud and limit the
exposure if fraud does occur. Since financial statements are the
responsibility of executive management, preventing financial statement
fraud requires decreasing the pressures, incentives, and opportunities
unique to management for manipulating the company’s financial position.
a) Decrease the Situational Pressures that Encourage Financial
Statement Fraud
-Avoid placing unachievable financial objects.
-Reduce external pressures that might influence accounting personnel to
prepare fraudulent financial statements.
-Set transparent and regular accounting methods that do not include
exception clauses.
b) Decrease the Opportunity to Commit Fraud
- Keep proper and complete internal accounting records.
-Accurately monitor all business transactions.
-Divide duties between employees, so no single individual has total
control of only one area.
-Keep proper personnel records, including background checks on new
employees.
-Support strong supervisory and leadership relationships within groups to
ensure enforcement of accounting procedures.
c) Decrease the Rationalisation of Fraud—Strengthen Employee Personal
Integrity
-Managers should be an example by supporting honesty in the accounting
area. Dishonest acts by management, create a dishonest environment.
-Honest and dishonest behavior should be specified in company policies.
-The outcomes of violating the rules, including the penalty of violators,
should be transparent.
7. I believe that every business should have written policy of how to
prevent the fraud and the consequences of its violation. There are
ways/steps to minimize fraud by performing different procedures and
controls.
How I mentioned before, the first and main step in financial statement
fraud prevention is strong internal accounting controls. Internal controls
start at the transaction level of accounting and command what kind of
responsibilities have one or another employee. Internal controls may also
be established outside the accounting office to increase company
operations.
Organizations should examine their financial information for accuracy by
having an audit of their financial statements. This can help management
understand where vulnerabilities are in their accounting department and
provide them with an opportunity to make corrections immediately.
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