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Chapter 11 b :Financial Statement fraud
Chapter 11 b :Financial Statement fraud
Chapter 11 b :Financial Statement fraud
Chapter 11 b :Financial Statement fraud
Chapter 11 b :Financial Statement fraud
Chapter 11 b :Financial Statement fraud
Chapter 11 b :Financial Statement fraud
Chapter 11 b :Financial Statement fraud
Chapter 11 b :Financial Statement fraud
Chapter 11 b :Financial Statement fraud
Chapter 11 b :Financial Statement fraud
Chapter 11 b :Financial Statement fraud
Chapter 11 b :Financial Statement fraud
Chapter 11 b :Financial Statement fraud
Chapter 11 b :Financial Statement fraud
Chapter 11 b :Financial Statement fraud
Chapter 11 b :Financial Statement fraud
Chapter 11 b :Financial Statement fraud
Chapter 11 b :Financial Statement fraud
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Chapter 11 b :Financial Statement fraud

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  • 1. By Jaspreet Bassan
  • 2.  Phar-Mor Case example  Motivations for Financial Statement Fraud  Framework for detecting financial statement fraud  Fraud Exposure rectangle
  • 3.  Company started in 1982 selling a variety of household products and prescription drugs at low prices  Idea of “Power Buying”  1985 Phar Mor had 15 stores  By 1992, 310 stores with revenue of $3billion  About 6 years later they started losing money and engaged in creative accounting too disguise this to maintain their appearance of success
  • 4.  Had Finn not agreed to Micahel Monus’s expense manipulation early on in 1985, before the bigger frauds started, do you think the Phar-Mor fraud would have progressed to the extent that it did?
  • 5.  Support high stock price  Increase stock price  Maximize management bonus or net worth  Pressure on Management too perform
  • 6.  Strategic Reasoning- ability of a fraud perpetrators likely method of concealing a fraud.  Use of game theory- Predicting behaviour based on an individuals best response given that individuals motivations and the individuals beliefs regarding the likely behaviour of their opponent.
  • 7.  Zero-order reasoning- occurs when an auditor and auditee consider only conditions that directly affect themselves but not the other party. i.e. their own incentives such as audit fees  First-order Reasoning- means that the auditor considers conditions that directly affect the auditee.  Higher order reasoning- occurs when the auditor considers additional layers of complexity, including how management may anticipate the auditor’s behaviour.
  • 8.  What types of fraud schemes is management likely to use to commit financial statement fraud?  What typical tests are used to detect these schemes?  How could management conceal these schemes?  How could the typical test be modified so as to detect the concealed scheme?
  • 9. Management Backgrounds: • Have any of the key executives been involved with other organizations in the past? If so of what nature? • Are most board members independent? • Is the Chairperson independent from the CEO? • Do any of members of management have criminal background? • Have any members of management had any past regulatory or legal troubles?
  • 10. Managements Motivations:  Is the personal worth of any of the key executives tied up in the organization?  Is management compensation performance based?  Do they have a reputation for guiding companies to higher expectations?  Are the jobs of Management at risk?  Is the organizations reported financial performance decreasing?
  • 11. Managements influence in Making Decisions for the Organization:  Who are the key members of management and the board of directors who have the most influence?  Do one or two people have dominant influence within the organization?  Is the management style more authoritative or democratic?  Is the organizations management centralized or decentralized?
  • 12. Relationship with financial institutions  Is the organization highly leveraged through bank or other loans?  Do the banking relationships appear normal? Or are their unusual attributes? Such as geographical location  With what financial institutions does the organization have significant relationships with?
  • 13. Relationship with Auditors  Have frequent disputes occurred with the current or predecessor auditors?  Has auditor change occurred? If so, for what reason?  Has management placed unreasonable demands on the auditor, including unreasonable time constraints? Relationship with Lawyers  Has any attempt been made to hide litigation from the auditors?  Has the company been involve in litigation concerning matters that could adversely affect the company’s financial results?  Are any other lawyer relationships questionable?
  • 14. Relationship with investors  Is the organization in the process of issuing an initial or secondary public debt offering?  Are-any investor related law suits pending?  Are any investor relationships questionable? Relationship with Regulatory bodies  Do management show a disregard for regulatory authorities?  Are their significant disputes with tax authorities?  Has their been a history of security law violations?
  • 15.  Does the company have an overly complex organizational structure involving numerous or unusual legal?  Is a legitimate business purpose apparent for each separate entity of the business?  Is the audit committee primarily comprised of insider or outsiders?  Is the audit committee passive or active and independent  Does the organization have offshore business activities without any apparent business purpose?  Is the performance of the company similar or contrary to other firms in the industry?
  • 16.  Are Unrealistic changes or increases present in financial statement account balances?  Are the account balances realistic? Given the nature, age, and size of the company?  Have their been significant changes in the nature of the organizations revenues and expenses?  Does growth or profitability appear rapid? Especially compared with that of other companies in the same industry?  Are unrealistically aggressive sales or profitability incentive programmes in place?
  • 17.  Motivations behind financial statement fraud  The use of strategic reasoning to expose fraud  The fraud exposure rectangle 1. Management and directors 2. Relationship with others 3. Organization and Industry 4. Financial results and operating characteristics

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