Financial Statement Fraud
Over the past decade the world has been taken by surprise by the numerous accounting scandals that have occurred, for example, Enron, WorldCom, Tyco, Xerox, and Global Crossing (Suyanto, 2009, p. 118). Since those accounting scandals occurred the United States Congress passed the Sarbanes-Oxley Act of 2002 (SOX) to help improve a company’s corporate governance and help deter fraud (Chinniah, 2015, p.2). In addition to SOX, the Accounting Institute of Certified Public Accountants (AICPA) passed the Statement on Auditing Standards (SAS) No. 99 (p. 118). Both of these new accounting laws help to deter financial statement fraud from occurring.
Background
Suyanto noted the number of financial statement fraud
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0). According to Chinniah, there has been a lot more financial statement fraud cases due to the pressures placed on managers by the shareholders, increasing competition among other companies, the significance of meeting analyst forecast for net income, and the increasing public expectations of that specific company to perform above industry standards (p. 0). Companies with the expectations of having higher standards are finding themselves facing legal and economic consequences for committing immoral and illegal activities (p. 0). Furthermore, Chinniah discusses the two principle categories of behavior committed by the employees who prepare the financial statements: macro-manipulation and micro-manipulation (p. 1). Both the macro and micro manipulation occur when the financial statement preparers are only interested in benefiting themselves (p. 1). Hogan, Rezaee, Riley, and Velury (2008) noted the development of the auditing standards created due to the financial scandals that have occurred over the years. However, the authors note even with the development of SOX and SAS No. 99 there still does not appear to be a decline in financial statement fraud (232).
Purpose of Research and Research Questions The general purpose of this research is to determine the cause for financial statement fraud. In addition, the purpose is to review ways fraudulent behavior can be detected and prevented. Lastly,
Congress enacted the Sarbanes-Oxley (SOX) Act of 2002 to restore investor confidence by requiring public companies to strengthen corporate governance through several mechanisms, including enhanced disclosure on Internal Control Over Financial Reporting (ICFR). As claimed by regulators, the disclosures on the effectiveness of ICFR are aimed at improving the quality of financial reporting, which would, in turn, reduce the information asymmetry for investors in U.S. capital markets” (Donaldson). Sarbanes- Oxley named after its creators, Senator Paul Sarbanes, D-Md and Congressman Michael Oxley, R-Ohio. Enacted in 2002 with the purpose to crack down on corporate fraud. The implementation of Sarbanes-Oxley led to the creation of the Public Company Accounting Oversight Board (PCAOB) to oversee the accounting industry. It was created to eliminate corporate fraud, and it put in place a ban on company loans to executives while also giving job protection to whistleblowers. Before SOX was put into place the accounts were a self-regulated profession, such as medical professionals and lawyers. This is what led to the fraudulent actions of major institutions, people can be greedy, and they need checks and balances to ensure the fidelity of the firm. There are criminal enhanced penalties for corporate fraud and related misdeeds, this brings justice to the sector as well as working as a deterrent for additional immoral
The Enron and WorldCom scandals were arguably the incidents that permanently changed the procedures for accounting controls. In response to these incidents, the Sarbanes-Oxley Act (SOX) of 2002 was passed. Once the knowledge of these scandals was made public, a number of subsequent accounting scandals were discovered in public companies such as Tyco International, HealthSouth, and American Insurance Group. In addition, a then-employee-owned company, Post, Buckley, Schuh & Jernigan, Inc. (dba PBS&J, now known as “Atkins North America, Inc.”), was also hit by a similar accounting scandal. Henceforth, a case study of PBS&J is presented where we will examine the fraudulent transactions that
Professional auditing standards discuss the three key “conditions” that are typically present when a financial fraud occurs and identify a lengthy list of “fraud risk factors.”
Fraudulent financial reporting is one form of corporate corruption and may involve the manipulation of the documents used to record accounting transactions, the misrepresentation of accounting events or transactions, or the intentional misapplication of Generally Accepted Accounting Principles (GAAP) (Crumbley, Heitger, and Smith, 2013). Examples of fraudulent schemes befitting of this category abound and usually involve financial statement items that have been misclassified, omitted, overstated, undervalued, or prematurely recognized. One case involving CEO Bill Smith of Moonstay
A major impetus behind the Sarbanes-Oxley Act was deliberate financial statement fraud. When committed on a large scale, billions of dollars can be lost and investor confidence in financial market will be reduced. Evidence suggests that the incidence of fraud has declined relative to the pre-SOX era. This can only be interpreted as suggesting that SOX
In fraud committed against organizations, the victim of fraud is the employee’s organization. In frauds committed on behalf of an organization, executives usually are involved in some type of financial statement fraud; typically, to make the company’s reported financial results appear better than they actually are. In this second case, the victims are investors in the company’s stock. A third way to classify frauds is via the use of the ACFE’s occupational fraud definition, “the use of one’s occupation for personnel enrichment through the deliberate misuse or misapplication of the employing organization’s resources or assets” (ACFE, 2010). The ACFE includes three major categories of occupational fraud: asset misappropriations involves the theft or misuse of the organization’s assets, corruption involves the wrongful use of influence in a business transaction in order to procure benefits contrary to their duty to their employer, and fraudulent financial statements involving falsification of an organization’s financial statements for personal gain.
Three conditions are necessary for financial statement fraud to occur. There must be (1) an incentive to commit fraud. (2) the opportunity to commit fraud, and (3) the ability to rationalize the misdeed. These conditions make up what antifraud experts call the fraud tringle (Libby, Libby, & Short, 2017, p 232). Some well-known names come to mind when I think of financial fraud (e.g. Bernie Madoff and his $50 billion Ponzi Scheme, WorldCom. Arthur Anderson). Also, the Sarbanes-Oxley Act of 2002 (SOx) comes to mind. SOx was a law that was implemented to oversee
Some can say that the Sarbanes-Oxley Act of 2002 is working while some say that there still ways to get around to committing corporate fraud. Washington wants to crack down on corporate fraud so they came up with the Sarbanes-Oxley Act in 2002 that was designed to protect the interest of investors. “The Sarbanes-Oxley Act established oversight of public corporate governance and financial reporting obligations and redesigned accountability and ethics standards…” (Ferrell, O., Hirt, G., & Ferrell, L., 2009). The act was an important stepping-stone in the right direction especially when responding to the financial scandals of Enron and WorldCom. Those scandals shook customer’s faith and confidence in corporate management of private organizations.
According to HBS Working Knowledge (2014), since the signing of Sarbanes-Oxley Act into law by George W Bush in 2002 the business environment in the United States changed. The act brought transformation in public business in the perspectives of auditing and accounting (Zameeruddin, 2003). The act majorly aimed at deterring as well as punishing corporate fraud and general corruption by recommending strict penalties for perpetrators of these vises.
This subject company in this case study is WoolEx Mills. The top management team at the Mills had to act fast to prevent the accusations charged upon them, so that they may venture deep into the United States market. In the process, they had to act in a way that will present the company’s financial statements; cash flows in a way that they did not show any suspicious fraudulent activities. The type of fraud in this case study is known as manipulation of accounts which involves the act of offering the accounts in the way they are not in reality.
The auditing firm has been in engagement with the company throughout the period when the fraud was being committed. One of the common and clear indicators of possible fraud was the company’s cash flow statement. The company experienced positive growth in its profits from the year 1996 through to the year 1998. However, a close analysis of the cash flow statement shows that the company had experienced negative figures of cash flow from both operating and investing activities and positive cash flow from financing activities which would not sufficiently offset the negative cash flows from operating and investing. It is therefore evident
Fraudulent, erroneous, and illegal acts committed by a public company, usually at a managerial or executive level, have been a very serious problem for many years and have prompted development of strict and updated regulations, such as the Sarbanes-Oxley Act, in an attempt to prevent these occurrences. Unfortunately, these new or updated regulations are not enough to prevent these acts from happening, thus not alleviating the auditors of their responsibility to detect fraud. Some methods that management and auditors can employ to prevent and detect fraud, errors, and illegal acts are: improving knowledge, improving skills,
A number of financial statement frauds went undetected from auditors in past and attracted a high profile attention. The businessmen add fake assets or transfer the assets of companies to their personal assets and result in accounting scandals when the affected companies are bankrupted or are even close of bankruptcy. Just to mention a few names, accounting scandals of Enron, AOL Time Warner and Xerox are among the hottest accounting scandals of the century. This means that despite presence of professional auditors accounting scandals happen and there is a need to learn from the mistakes of the auditors who overlooked these activities. In this report the case study of Xerox is analyzed in detail to highlight violations of accounting principles and present an example from which lessons can be learnt for the future.
Financial statement fraud is usually a means to an end rather than an end in itself. When people "cook the books" they may doing it to "buy more time" to quietly fix business problems that prevent their entities from achieving its expected earnings or complying with loan covenants (Fraud Magazine, 2014. It may also be done to obtain or renew financing that would not be granted or would be smaller if honest financial statements were provided. People intent on profiting from crime may commit financial statement fraud to obtain loans they can then siphon off for personal gain or to inflate the price of the company 's shares, allowing them to sell their holdings or exercise stock options at a profit (Fraud Magazine, 2014). However, in many past cases of financial statement fraud, the perpetrators have gained little or nothing personally in financial terms. Instead the focus appears to have been preserving their status as leaders of the entity - a status that might have been lost
The center of attention of this report is on creating an awareness of how financial statement fraud is done, why it is done, and ways that you can help to detect and prevent it from occurring. The report also includes examples of 2 companies. Fraudulent financial reporting is one of the major factors which affect the business world. There are 3 types of occupational fraud among which financial statement fraud is the most costly. The 3 types of frauds are asset misappropriations, corruption, and fraudulent financial reports and this report will be focusing on fraudulent financial reporting. According to a research done by ACFE (Association of Certified Fraud Examiners) in 2006 shows that ten percent of occupation fraud is done by statement fraud. Financial statement fraud is not very common but evidence shows that it is the most expensive kind of fraud; The median loss for asset misappropriation was USD150,000 while the median loss for financial statement fraud was USD2 million which was 13 times greater. The 2006 survey helped to find out the most common kind of manipulations of fraudulent financial reporting which was: