Fraud & Embezzlement

1
Fraud Embezzlement

• Presenters
• Kirk B. Leoni, CPA (Principal) kleoni_at_nathanwechsl
  er.com Kelli Boyle, CPA (Manager)
  kboyle_at_nathanwechsler.com

2
Why are we here?

• The median response indicated that the typical US
  organization loses 7 of its annual revenue to
  fraudulent activity.
• This percentage applied to the estimated 2008 GDP
  of 14.2 trillion would project that roughly 994
  billion would be lost to fraud in 2008.
• Source 2008 Report to the Nation on Occupational
  Fraud and Abuse by the Association of Certified
  Fraud Examiners

3
How is Fraud Detected?

4
Which Organizations Reported the Most Fraud?

5
Control Weaknesses that Contributed to
Fraud(only selected weaknesses shown)
6
Occupational Fraud Schemes by Accounting Personnel
7
Fraud Triangle
OPPORTUNITY
PRESSURE / INCENTIVES RATIONALIZATION

• 10 of employees will never steal
• 10 of employees will always steal
• 80 of employees will steal if given the right
  opportunity, motivation or justification

8
Behavioral Red Flags

• of
  cases of cases Median Loss
• Living beyond means 370 38.6 250k
• Financial difficulties 327 34.1 111k
• Wheeler-dealer attitude 195 20.3
  405k
• Control issues
• (unwilling to share duties) 179 18.7 250k
• Divorce / Family problems 164 17.1 118k
• Unusually close association
• with vendor / customer 146 15.2 410k
• Addiction problems 128 13.3 225k
• Refusal to take vacations 65 6.8 250k
• Excessive pressure from
• within the organization 62 6.5 388k

9
What is the objective of an Audit?

• The expression of an opinion about whether your
  financial statements are fairly presented, in all
  material respects, in conformity with U.S.
  GAAP......not to detect fraud.
• (According to the ACFE report to the nation, less
  than 10 of fraud is discovered by an External
  Audit)

10
Limitations of an Audit

• Designed to obtain reasonable assurance, not
  absolute assurance about whether the financial
  statements are free from material misstatement
  (caused by error or fraud)
• Not designed to detect immaterial errors or
  fraud.
• Not designed to provide assurance about IC or
  identify deficiencies
• However, SAS 112 requires written communication
  of those deficiencies the auditor becomes aware of

11
Audit vs. Review vs. Compilation

• Compilation lowest level of service your
  account balances assembled into financial
  statement format
• Review use of analysis as opposed to tracing to
  source documents
• Reviews Compilations do not contemplate
  obtaining an understanding of IC or the
  assessment of risk.
• Reviews Compilations cannot be relied upon to
  disclose errors, fraud or illegal acts that may
  exist.
• No requirement to communicate IC deficiencies
• Agreed upon procedures another option?

12
Audit Responsibilities (1 of 3)

• Auditors
• Conduct the audit in accordance with GAAS
  (Generally Accepted Auditing Standards)
• Ensure those charged with governance are aware of
  IC related matters required to be communicated
• Ensure independence

13
Audit Responsibilities (2 of 3)

• Governing Body (Audit Committee)
• Oversee the reliability of financial reporting
  including effectiveness of internal controls
• Review financial statements and determine whether
  they are complete and consistent
• Understand risks and exposures
• Understand the scope of the audit

14
Audit Responsibilities (3 of 3)

• Management
• Properly record transactions in the accounting
  records, establish and maintain internal controls
• Make original accounting records and related
  information available
• Allow access to personnel to whom we may direct
  inquiries
• Provide written representations regarding the
  financial statements and the effectiveness of IC
• Ensure compliance with laws regulations

15
Recent Developments

• SAS 104-111 Risk Assessment Standards
• Designed to improve the effectiveness of audits
• More rigorous assessment of risk
• Linkage between risks and audit procedures
• SAS 114 The Auditors Communication with those
  Charged with Governance
• Emphasizes our audit requirements and
  communicates significant findings to the
  appropriate level of governance

16
Recent Developments (continued)

• SAS 112 Communicating Internal Control related
  Matters Identified in an Audit
• New definitions of significant deficiencies and
  material weaknesses (less room for auditor
  judgment)
• Requires written communication of significant
  deficiencies and material weaknesses

17
SAS 112 Definitions

• Control Deficiency
• Exists when the design or operation of a control
  does not allow for prevention or detection of a
  misstatement on a timely basis
• Deficiency in design a control is missing or
  not properly designed
• Deficiency in operation when a properly
  designed control does not operate as designed or
  when the person performing the control doesnt
  have the necessary authority or qualifications

18
SAS 112 Definitions (continued)

• Significant Deficiency
• A control deficiency (or combination of control
  deficiencies) which result in a more than remote
  likelihood that a misstatement that is more than
  inconsequential (magnitude) will not be prevented
  or detected
• Material Weakness
• A significant deficiency (or combination of
  significant deficiencies) that results in a more
  than remote likelihood that a material
  misstatement (magnitude) will not be prevented or
  detected

19
SAS 112 Examples

• Management letter comment
• Petty cash is not reconciled likelihood of
  misstatement is more than remote the magnitude
  would be inconsequential
• Significant Deficiency
• Failure to perform monthly reconciliations of
  significant accounts in a timely manner (AR, AP)
  likelihood is more than remote however other
  related procedures (bank statement review, budget
  vs. actual analysis etc.) would reduce the
  magnitude to less than material but more than
  inconsequential
• Material Weakness
• Same individual receives the bank statement,
  prepares reconciliation and has check signing
  authority. There is no formal review of the bank
  reconciliations likelihood is more than remote
  magnitude could be material

20
Fraud Examples in the News

• Payroll Compensation
• Fictitious employees San Jose, CA employee
  embezzled 11m from her employer by providing
  false payroll data to a processing company and
  forging signatures
• People behave the way you pay them to behave
• Dominos Driver ran red light speeding to make
  30-minute delivery. Woman received 750k in
  actual damages 78m in punitive damages.
• Commissions based on gross sales only (billing
  schemes)

21
Fraud Examples in the News

• Lack of oversight
• Portland, ME partner in Verrill Dana, LLP was
  fired for stealing money from the firm and
  clients
• Managed private trusts and bank accounts
• Over billed clients
• Stole money from private accounts
• Redirected funds to himself that should have gone
  to the firm
• Stole over 400k

22
Fraud Examples in the News

• White-Collar Crime Honest Person Turned Felon
  (embezzled over 250,000)
• CPA at local accounting firm in North Carolina
• Handled Trusts and Retirement accounts for
  corporate and individual clients
• Felt the need to keep up with the Joneses by
  spending money they didnt have
• Poster boy for the Fraud Triangle

23
Action Steps

• Independent review of bank statements
• Conduct a brainstorming session with
  appropriate staff and board members to identify
  risk areas
• Review Understanding Internal Control document
  
• Review Audit Organizer for proactive tips your
  organization can use to be prepared for an audit
• Establish a whistleblower protection policy
• Conduct background checks on employees
• Utilize internal control checklists to help
  identify weaknesses
• Provide employee training
• Monitor internal controls!
• available at nathanwechsler.com
• (under Resources gt NW Insights)