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Business Financial Crime: Introduction to Forensic Accounting

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Title: Business Financial Crime: Introduction to Forensic Accounting


1
Business Financial Crime Introduction to
Forensic Accounting
2
Definition
  • The word forensic means used in or pertaining to
    law
  • Accounting is the recording, classifying and
    summarising economic events in a logical manner
    for the purpose of providing financial
    information for decision making

3
Definition
  • Forensic accounting is the application of
    investigative and analytical skills for the
    purpose of resolving financial issues in a manner
    that meets standards required by courts of law.
  • Hopwood, Leiner and Young (2007)
  • Forensic accounting is the application of
    accounting principles, theories and disciplines
    to facts or hypotheses at issue in a legal
    dispute
  • Technical Working Group for Education in Fraud
    and Forensic Accounting USA (2007)

4
Broad Base
  • Forensic accounting is broader than fraud
    examination.
  • It also includes services that could involve
    investigation related to the purchase of
    businesses, valuation of divorce assets,
    determination of damages and calculation of lost
    profits

5
Forensic Accountant Role
  • A mix of accountant and private investigator
  • With a strong financial intuition and an ability
    to think laterally
  • Strong knowledge of professional accounting
    standards

6
Knowledge and skills
  • Auditing skills information collection and
    verification nature of role. Produce evidence.
  • Investigative knowledge and skills, such as
    surveillance tactics and interviewing and
    interrogation skills.
  • Criminology particularly the study of the
    psychology of criminals ie. Motives and
    rationalisation

7
Knowledge and skills
  • Accounting knowledge helps the forensic
    accountant analyse and interpret the financial
    information necessary to build a case.
  • Knowledge of internal controls related to
    corporate governance.
  • Legal knowledge and understanding of court
    procedures to be able to identify type and
    quality of evidence necessary to meet legal
    standards
  • A good appreciation of IT skills.
  • Communication skills to convey the results.

8
Audit vs. Forensic engagement
  • Audit
  • Event transpires PRIOR to issue of FS
  • No assumption that fraud has taken place.
  • Purpose is to assist the reader in reaching a
    financial decision.
  • Forensic
  • Event transpires FOLLOWING issue
  • Assumption that fraud has taken place
  • Purpose is to assist the reader in reaching a
    legal decision.

9
Auditing Procedures
  • Confirmation external source
  • Observation examine activities
  • Physical examination examine assets
  • Re-performance perform a task to test how well
    completed
  • Analytical procedures
  • Inquiry of client reasonableness of answers
  • Documentation examine source documents

10
Forensic Engagement - Investigation Plan
  • An investigation plan should be drawn up. This is
    to ensure you have a structure to your
    investigation. The plan could include the
    following
  • what are the facts to date
  • what is the best strategy to investigate this
    matter
  • what is the contravention/internal concern
  • who are the targets
  • who are the witnesses
  • what documents should be obtained
  • who should be interviewed
  • who will be of assistance
  • who will not be of assistance
  • where to keep documents/control procedures
  • relevant bank accounts

11
Forensic Engagement - Investigation Plan
  • paper trail
  • phone records
  • computer records
  • need for outside expertise forensic
    accountant/computer analysis
  • can documents be destroyed
  • how to secure documents
  • need for surveillance
  • need to tape interviews and
  • what questions need to be asked.

12
Understanding the environment
  • Identify the personnel and their roles
  • Develop a general understanding of the business
    and a specific understanding of the accounting
    cycle
  • Access industry expertise competitors or
    regulatory agencies

13
FLOW CHART
  • Summary of transactions
  • Source and destination of funds
  • Conversion of assets

14
NET WORTH
  • Basic Balance Sheet composition Assets,
    Liabilities against known income
  • Acquisition of assets requires explanation
    through liabilities or legitimate income source
  • Unexplained income is assumed to be proceeds of
    crime

15
TIME LINE
  • Organizes data in chronological fashion for
    better understanding of how events unfolded
  • Provides corroboration between financial and
    non-financial evidence.

16
Techniques in Financial Statement Fraud Cases
  • Analytical procedures
  • Horizontal analysis
  • Vertical analysis

17
Analytics Inc.
18
Analytics Inc.
  • GP Margin increase 87.5 - valid pricing or
    fictitious sales
  • Other expenses increase 63.64 - check

19
Skimming
  • The act of taking cash receipts before being
    deposited or reflected in the financial records.
  • Difficult to detect by horizontal analysis if has
    been a long term practise
  • Could be revealed by vertical analysis if compare
    margins across the industry

20
Benford Analysis
  • Another technique for analysis based on Benfords
    law
  • Based on the statistical probability that the
    sequence of numbers 1,2,3,4,5,6,7,8,9 will appear
    as the first digit in a number.
  • The number 1 is more likely than the number 2 and
    so on.
  • Benford analysis can be used to test a sample of
    invoices for risk of fraud.

21
Benford Analysis
  • Applies to such data as invoice numbers as well
    as monetary figures

21
22
Symptoms of Fraud
  • Record related symptoms unusual source
    documents or relationship among financial data
  • Person related symptoms based on human behaviour

23
Indicators of Fraud in Documents
24
Document investigation
  • Consider the following
  • The source of the document (who created it)
  • The context of the document (what is the
    purpose of the document)
  • The reliability of the document (can the
    information be corroborated elsewhere).
  • Secure records

25
Symptoms of Fraud
  • Record related
  • Unusual relationships among financial data
    include unreasonable amounts of revenue or
    expenses
  • Unexpected levels of inventory on the balance
    sheet
  • Large purchases that seem unreasonable given
    normal levels and frequent late charges

26
Symptoms of Fraud
  • Person related
  • Changes in behaviour can signal underlying
    problems weight loss, dependency of drugs or
    alcohol, fidgeting, aggressiveness to the point
    of arguing, inability to look others in the eyes.
  • Key whether this behaviour differs from actions
    in the past

27
Symptoms of Fraud
  • Person related
  • Levels of spending that exceed apparent level of
    income
  • These symptoms could indicate that fraud could
    have occurred
  • Forensic accountant will ascertain the reasons
    for the behaviour to determine outcome

28
Sources of Evidence
  • Public records eg
  • Land registry
  • Court records
  • Business names
  • Credit status
  • Voter registrations
  • Business licences
  • Bankruptcy and divorce filings

29
Sources of Evidence
  • Restricted sources
  • DVLA
  • Local authority council tax records
  • Vehicle dealers records
  • Credit card records
  • HM Customs and Revenue
  • Banks records

30
Link Analysis
  • Process that allows information in a variety of
    databases to be evaluated and integrated to test
    for associations
  • Produces an association matrix

31
Invigilation
  • Used for testing existence of skimming or theft.
  • The presence and purpose of the forensic
    accounting is announced to employees.
  • After some time an announcement is made that the
    investigation has ended
  • Forensic accountant then compares the data from
    the three periods pre, during and post
    adjusting for any seasonal impact.
  • Assessment of theft can then be made.

32
Surveillance
  • Covert activity
  • Stationary
  • Active following
  • Electronic
  • Rubbish can be scrutinised if not within
    curtilage of property.

33
Statement types and analysis
  • Free form Allows the witness to recount events
    without interruption. Suspect/witness will often
    avoid detail surrounding sensitive topics.
  • Q A Question and Answer format which allows
    investigator to direct course of the interview.
    Greater detail will be obtained but interviewer
    may miss what is motivating the suspect/witness
    to talk.

34
Interview and Interrogation
  • Interview is usually non-confrontational
    information seeking technique of a person who is
    not believed to have committed a crime
  • Interrogation is an information seeking technique
    involving people in custody. More likely to be
    confrontational

35
Interview and Interrogation
  • Interviewing skills are of paramount importance
    to the forensic accountant.
  • Prepare and build profiles of individuals
  • Position in firm
  • Job functions
  • Length of service
  • Salary and benefits
  • Any promotions expected not received
  • Relationships with co-workers
  • Age and marital status
  • Interest and hobbies
  • Credit status including recent purchases of cars
    etc

36
Interview and Interrogation
  • Assess fraud triangle perspective ie suspects
    pressures, opportunities and rationalisation.
  • Formulate a strategy for the interview
  • Maintain active scepticism
  • During initial interview subject should be asked
    if he knows the purpose of the interview who
    he believes committed the fraud and why .
  • Interviewer should endeavour to establish a
    rapport with the subject.

37
Interview and Interrogation
  • Subject responses
  • People who are not trying to hide anything
    usually provide direct answers to questions
    without hesitation
  • They do not seem distracted and may even appear
    interested in helping
  • Exceptions to this do occur eg if the subject
    knows that the fraud is being carried out by
    their supervisor may even give deceptive
    answers
  • Might attempt to treat the crime as unimportant

38
Interview and Interrogation
  • May be an attempt to reduce severity of
    punishment
  • A subjects verbal attack on the interviewer may
    be caused by fear
  • ie fight or flight response when cornered
  • Interviewer should respond calmly re-establishing
    rapport
  • If not possible could terminate interview until
    another time
  • Interviewer should not become angry as this
    transfers control to the subject

39
Interview and Interrogation
  • Verbal cues conscious and sub-conscious
  • Use of words such as you, your and they rather
    than I and my to describe their own behaviour can
    be a attempt to shift responsibility to others

40
Interview and Interrogation
  • Also by this approach the subject could be trying
    to engender sympathy
  • Suspects can attempt to deceive by responding to
    questions with their own questions
  • eg did you take the money?
  • why would I do something as foolish as that?
  • This attitude implies they did not take the money
  • But did not answer the question
  • May follow up with I am a well respected member
    of the management team to provide a reason to
    drop the question

41
Interview and Interrogation
  • Qualifiers
  • Words that modify the meaning of a sentence
  • Eg if a suspect has not followed the internal
    control procedures
  • we prepare a listing of the checks almost all
    the time
  • Note the word almost which qualifies the response
    and avoids making an untrue statement
  • Care needed as if innocent may use the qualifier
    to be more precise
  • Other times the suspect may use phrases like to
    the best of my knowledge which allows them to
    later improve their memory

42
Interview and Interrogation
  • Other qualifiers are thats about it, sometimes,
    often, maybe, possibly, typically and normally
  • They all represent ways of hedging enabling the
    suspect to avoid making definite statements that
    could be shown to be untrue.
  • At time s the suspect may use qualifiers to
    enhance their credibility the truth is, to be
    perfectly honest, as God is my witness may be
    truthful in the midst of falsehoods
  • Sounds such as ah or um can provide extra
    time to think of plausible responses signpost
    here is change or lack of it in suspects method
    of speaking

43
Interview and Interrogation
  • Another indication of deception is a response
    that is overly specific.
  • Response may be after the suspect has had time to
    consider their story
  • Non verbal clues
  • Can include failure to deny an allegation as well
    as failure to answer questions.
  • Two major areas here eye movements and body
    language
  • Major point here is looking for changes in
    suspects behaviour

44
Eye Movements
  • Can be clues to truthfulness
  • If a suspect has made direct eye contact up until
    the point the interviewer brought the crime up.
    The lack of eye contact may be an important
    indicator of guilt
  • When asked a question that requires a memory
    response a subject who is primarily sight
    oriented will usually look up and to the left,
    straight ahead or both when truthful

45
Eye Movements
  • A subject must visually construct an image that
    has not occurred to avid the truth
  • Eg at the time of the theft where were you
  • A sight dominated person will look up and then to
    the right
  • Prior to this interviewer should ask questions
    which she knows the answer of to test typical
    behaviour

46
Eye Movements
  • A subject who is auditory dominated ,exhibits
    truthful memory recall by either looking down and
    to the left or horizontally and to the left.
  • Change of behaviour, say looking horizontally to
    the right can indicate an untruth.

47
Eye Movements
  • A subject who is dominated by feeling or touch
    will normally either look downward and to the
    right, look downward, blink rapidly or close the
    eyes when being truthful (or a combination)

48
Body Language
  • Subjects body language can communicate non
    verbal signals
  • Shifting or making almost any discernable change,
    particularly when the topic is crime, can signal
    subtle yet revealing clues to the truthfulness of
    the subjects responses.
  • For example significant pauses before answering
  • Reaching for nearby objects, scratching,
    adjusting clothing or picking lint can also
    indicate deception

49
Body Language
  • Swallowing, biting lips and perspiring can also
    indicate untruthful responses
  • A person who usually experiences the world
    through feelings exhibits certain characteristics
    when she is receptive to questions
  • For example deep breathing accompanied by
    relaxation of the major muscle groups (arms legs,
    abdomen and chest)
  • A change in behaviour whether from or to a more
    relaxed position indicates the subjects
    receptiveness

50
Body Language
  • Mirroring is a process by which the interviewer
    can attempt to establish rapport by mimicking the
    subjects body language appear similar and
    identify with subject
  • If subject crosses left leg over right
    interviewer crosses right over left
  • In short friends confide in friends
  • Mimicking is used to produce the emotional
    feeling of closeness

51
Question Types
  • Closed end forced choice open ended
    connecting positive reaction clarifying
    confrontational secondary
  • Closed end yes or no answers
  • Forced choice similar but give limited 2 or 3
    choices eg when you took the money was it
    because of something your employer did?

52
Question Types
  • Open-ended encourages the subject to respond with
    more detail
  • Connecting questions connect detail and events
    eg you mentioned you were in the office on
    Monday. Was that the day you overheard the
    conversation?
  • Positive reaction questions are used to elicit an
    agreement eg you saw the person who took the
    money didnt you

53
Question Types
  • Clarifying questions used to clear a particular
    point. you said you had difficulties what type
    of problems were they?
  • Confrontational questions or statements are used
    to highlight contradictory evidence eg you said
    you were at work from 900 am. Is that correct?
    if confirmed the interviewer continues A witness
    saw you come in at 1030 am
  • This confrontation is to study speech and
    behaviour changes

54
Question Types
  • Secondary questions obtain an expanded
    response. Typically repeat of subjects sentence
    to encourage elaboration
  • Subject the accounts receivable were not
    correct
  • Interviewer the accounts receivable were not
    correct
  • Interviewer should avoid questions that allow the
    subject to respond with vague answers. One
    example would be a compound question bringing
    several issues into one question
  • Leading questions designed to elicit a
    predetermined response should not be used
  • Negatively phrased questions should also not be
    used as the responses may not be clear

55
Interviewing Plan
  • Interviewers should prepare a plan for the
    interview to use their knowledge of verbal/no
    verbal cues and types of questions
  • First five minutes are most critical
  • Must assess subjects willingness to co-operate,
    personality and mood.
  • If willing then can use inductive approach by
    asking question about details and then
    generalising.
  • If unwilling use a deductive approach working
    from general questions to put the subject at ease
    before moving on to detail.

56
Persuasive Approaches
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