Chapter 6: Preventing Fraud

Question 1

What is fraud? (1)

Answer 1

An intentional act involving the use of deception to obtain unjust or illegal advantage.

Question 2

What are the different types of fraud? (4)

Answer 2

1. Employee crimes against employers eg theft, falsifying expense claims.
2. Crimes against investors, customers and employees eg financial statement fraud.
3. Crimes by professional criminals eg money laundering.
4. Crimes by people using computers eg spam, hacking.

Question 3

What are the different offences of fraud? (3)

Answer 3

1. Fraud by false representation= representations as fact which they know to be untrue.
2. Fraud by failing to disclose= failing to disclose information when under a legal obligation to do so.
3. Fraud by abuse of position= eg where they are trusted to safeguard money and they abuse that power.

Question 4

What are the prerequisites of fraud? (3)

Answer 4

1. Dishonesty.
2. Opportunity.
3. Motive.

Question 5

What are preventative controls? (1)

Answer 5

They reduce opportunity and remove temptation from potential fraudsters.

Question 6

What are examples of preventative controls? (6)

Answer 6

1. Anti fraud culture= eg not overlooking small unethical practices.
2. Fraud awareness=staff are made aware in training that fraud could be taking place.
3. Publicity= serves as a warning to potential fraudsters and a reminder for those responsible for controls.
4. Whistle blowing= people should be encouraged to raise the alarm if they suspect anything.
5. Internal control systems= they should monitor fraud by identifying risks and putting controls to monitor and report those risks.

Question 7

What are the main types of fraud? (3)

Answer 7

1. Theft= dishonestly appropriating another’s property with the intention of depriving them of it.
2. False accounting= dishonestly destroying, concealing or falsifying any account, record or document with a view of personal gain.
3. Small scale theft= theft that will go unnoticed.

Question 8

What are examples of large scale theft? (4)

Answer 8

1. Writing fraudulent cheques.
2. Stealing intellectual property.
3. Submitting false expense claims.
4. Payroll fraud eg creating fake employees.

Question 9

What is collusion? (1)

Answer 9

Individuals pool their resources together to achieve their aims.

Question 10

What are examples of collusion? (3)

Answer 10

1. Customers working with employees to share benefits eg discounts, uninvolved deliveries.
2. Commissions paid from a supplier to an employee as a reward for securing a contract.
3. An employee might have an undisclosed interest in a company potentially biasing negotiations.

Question 11

What is computer fraud? (1)

Answer 11

The use of information technology resources to commit or conceal a criminal offence.

Question 12

What does computer fraud include? (5)

Answer 12

1. Financial fraud.
2. Sabotage of data/ networks.
3. Theft of private information.
4. Outside system attacks eg DOS.
5. Unauthorised access by insiders eg misuse of internet access or using malicious software.

Question 13

What is false accounting? (1)

Answer 13

Manipulating financial reports to present the organisation’s results in a better light than in reality.

Question 14

What are the main types of fraud? (4)

Answer 14

1. False accounting.
2. Theft.
3. Third party.
4. Computer fraud.

Question 15

What are examples of false accounting? (3)

Answer 15

1. Obtaining external financing by falsely improving results.
2. Covering up theft or losses by false accounting.
3. Creating fake customers.

Question 16

What are examples of theft? (2)

Answer 16

1. Direct theft eg of assets, cash etc.
2. Falsifying timesheets or expense claims.

Question 17

What are examples of third party? (3)

Answer 17

1. Customers ordering goods with no intention of paying for them.
2. Suppliers paying employees rewards eg for securing them a contract.
3. Collusion either customers to lower prices or raise fake credit notes.

Question 18

What are examples of computer fraud? (3)

Answer 18

1. Hacking or gaining unauthorised access to a system.
2. Delivering goods with a lower quality then advertised.
3. Disguising a transaction’s true nature by manipulating data.

Question 19

What do fraud investigations often reveal? (12)

Answer 19

1. Credits notes issued for inadequate reasons.
2. Inventory losses accepted without investigation.
3. Suppliers insist on only dealing with 1 employee.
4. Petty cash discrepancies are not investigated or are written off.
5. Company assets aren’t checked against a fixed asset or stock register.
6. Payroll isn’t checked by department heads.
7. Inadequate balance sheet reconciliations.
8. Unusually high levels of purchases at the YE.
9. Employee expenses claims aren’t checked and authorised by managers.
10. Managers say “everyone knows about it” for petty fraud.
11. Invoices from some suppliers seem high considering the goods/ services provided.
12. Management and supervision are remote from those they control.

Question 20

What are the implications if fraud is discovered and addressed? (3)

Answer 20

1. Negative publicity can damage the organisation affecting public perception and consumer confidence.
2. Facts could come out in a court case effecting customers and suppliers eg may disengage.
3. Fraudsters may be arrested and could face prison time.

Question 21

What are the implications of money in stolen from the business? (2)

Answer 21

1. Profits will be lower meaning a lower return to shareholders.
2. If working capital is reduced the business may struggle to operate effectively.

Question 22

What are the implications if the organisation’s SOFP is misrepresented, enhancing results? (3)

Answer 22

1. Too much of the profits may be paid to shareholders.
2. Investors making decisions on inaccurate information may not achieve the expected returns.
3. Suppliers may extend credit whilst being misled about the organisation’s finances.

Question 23

What are the implications if the organisation’s SOFP is misrepresented, understating results? (3)

Answer 23

1. Access to loans may be restricted where assets are under valued.
2. The company’s market share might fall.
3. Returns to investors may be unnecessarily reduced.

Question 24

Fraud is more likely to occur in companies with: (16)

Answer 24

1. Domineering management with no oversight.
2. High staff turnover rates.
3. Long service staff.
4. Chronic understaffing in key areas.
5. Frequent change of legal advisers, auditors or prof advisers.
6. Reiteration based on company performance.
7. Inadequate segregation of duties.
8. Lack of effective procedures in HR, credit control, accounts, purchasing etc.
9. Management frequently override internal controls.
10. Frequent transactions with related parties.
11. Mismatch between profitability and cash flow.
12. Excessive pressure to meet targets.
13. Personnel not required to take holiday.
14. An employee on leave doesn’t have their work covered.
15. Inadequate responses to queries eg from management, suppliers, auditors etc.
16. Lack of common sense controls eg not changing passwords.

Question 25

What are the key ways of uncovering fraud? (1)

Answer 25

By performing frequent control checks eg inventory counts, cash counts etc.

Question 26

What are signs of fraud? (3)

Answer 26

1. Late customer payments. 2. Ageing customer balances. 3. Incomplete audit trails etc.

Question 27

What is risk management? (1)

Answer 27

A tool for helping tackle potential fraud.

Question 28

What does risk management include? (6)

Answer 28

1. Risk identification= produce a list of risk items. 2. Risk analysis= assess the loss probability and magnitude for each item. 3. Risk prioritisation= a ranked order of risk items. 4. Risk management planning= decide how to address each item eg avoiding, transferring or absorbing the risk. 5. Risk resolution= eliminating or resolving the risk. 6. Risk monitoring= tracking risk resolution progress and taking corrective actions.

Question 29

What is the method risk analysis? (1)

Answer 29

Identifying the asset, measuring the risk and determining the vulnerability.

Question 30

What is the organisation at risk of, other than fraud? (8)

Answer 30

1. Malicious attacks. 2. User errors. 3. Natural disasters. 4. System interruptions. 5. Loss of customer confidence. 6. Disclosure of sensitive information. 7. Losing assets. 8. Data integrity being compromised.

Question 31

What are the guidelines when grading a level of risk? (5)

Answer 31

1. The more valuable an asset the more likely it will be stolen. 2. If frauds have occurred in the past they are more likely to reoccur. 3. Cash businesses are both risk as they’re easier to steal from. 4. Complex accounting environments are more prone to fraud as fewer people understand the system. 5. Weak controls encourage fraud as there’s less chance of it being discovered.

Question 32

How would a risk matrix be laid out? (1)

Answer 32

Question 33

What are the responses to risks and how would they look in a matrix? (5)

Answer 33

Transfer, avoid, reduce or accept.

Question 34

What does it mean to transfer a risk? (1)

Answer 34

The risk is transferred wholly or partly to a 3rd party, appropriate for high impact events either low probability eg insurance for damage or theft.

Question 35

What does it mean to avoid a risk? (1)

Answer 35

High impact high probability events are better to avoid eg not investing or withdrawing completely.

Question 36

What does it mean to reduce/ mitigate a risk? (2)

Answer 36

Risks are reduced by minimising exposure in an area or reducing the adverse affects. This id appropriate for events with low impact but high probability eg CCTV or security to prevent theft.

Question 37

What does it mean to accept a risk? (2)

Answer 37

You accept that the risk will occur and decide to deal either the consequences. Usually when the adverse effect is minimal so low impact low probability eg a constant risk of rain wouldn’t be insured against.

Question 38

What are the key steps to minimise a risk? (3)

Answer 38

1. Understand why it occurs. 2. Identify areas at risk. 3. Implement procedures to protect vulnerable areas.

Question 39

The prerequisites for fraud are motive, dishonesty and opportunity. What is the motive and how can it be prevented? (2)

Answer 39

Motive is usually job dissatisfaction eg inadequate pay, passed over for promotion etc. Prevented by good employment conditions (pay, working hours), instant dismissal where appropriate and sympathetic grievance procedures.

Question 40

The prerequisites for fraud are motive, dishonesty and opportunity. How can dishonesty be prevented? (2)

Answer 40

Prevented by scrutiny of staff eg checking employee references. It can be reduced in a culture of strict disciplinary procedures and moral leadership by management.

Question 41

The prerequisites for fraud are motive, dishonesty and opportunity. How can opportunity be prevented? (2)

Answer 41

Prevented by segregation of duties, documentation controls (signatures), physical asset security controls, computer input and output controls etc. There should also be controls covering audit trails, file access logs etc.

Question 42

Fraud prevention is split into prevention and deterrence. What is fraud prevention? (2)

Answer 42

Ensure opportunities are minimised. Examine all key systems and view them with the mindset of a fraudster to expose flaws so that the company can add controls.

Question 43

Fraud prevention is split into prevention and deterrence. What is fraud deterrence? (2)

Answer 43

Ensuring that potential fraudsters believe their fraud will be discovered and they will be caught. Whistleblowers must believe they will be protected.

Question 44

What are examples of fraud prevention controls? (11)

Answer 44

1. Credit notes over a certain amount must be authorised by management. 2. Inventory write downs (decreasing inventory due to falling market value) must be investigated and authorised. 3. Balance sheet accounts must be reconciled and the recs reviewed. 4. Assets must be regularly checked. 5. Sick leave must be controlled and monitored. 6. Goods must leave the site with a despatch note. 7. Segregation of duties. 8. Access to sensitive areas are restricted. 9. Employee must take holiday and their work must be covered. 10. Employee expense claims require authorisation before payment. 11. New employee references must be checked.

Question 45

What are examples of fraud deterrence controls? (5)

Answer 45

1. Internal controls and audits. 2. Management review/ change of management. 3. Whistleblowers or anonymous tips. 4. External audits. 5. Access controls eg CCTV.

Question 46

How is fraud graded? (3)

Answer 46

1. High= effects are serious and will damage profit and liquidity. 2. Moderate= effects are significant but can be dealt with internal or by police eg theft, collusion. 3. Low= effects are insignificant eg petty theft.

Question 47

What areas is fraud likely to affect? (6)

Answer 47

1. Cash payments/ receipts. 2. SL or PL. 3. Expenses. 4. Inventory. 5. Payroll. 6. Fixed asset purchases.

Question 48

What does a risk matrix show? (6)

Answer 48

1. Areas at risk. 2. Details of the type of fraud. 3. Role of any employees involved. 4. Any 3rd parties involved through collusion. 5. Likelihood of fraud. 6. Impact of fraud.

Question 49

An example of a risk matrix:

Answer 49

Question 50

What is a fraud ethics policy? (1)

Answer 50

The policy is intended to show the company’s desire to be open and honest in all business dealings.

Question 51

What should a fraud ethics policy include? (5)

Answer 51

1. Values and behaviour= specifically define what is acceptable and what is fraud. 2. Employee responsibilities= personal interest in other companies should be avoided (conflicts of interest). 3. Reporting= employees must report gifts received. 4. Confidentiality= information must not be disclosed or used for personal benefit. 5. Response= it must state that all suspicions and reports of fraud will be taken seriously.

Question 52

What is a fraud contingency plan? (1)

Answer 52

It enables the company to undertake an investigation that meets it’s objectives and protects it’s interest.

Question 53

What should a fraud contingency plan include? (4)

Answer 53

1. Identify fraud risks in each area eg management, employees, 3rd parties etc. 2. Implement appropriate controls. 3. Determine who will lead the investigation as well as the team’s powers and objectives. 4. Decide on his to work with the police and handle publicity.

Question 54

What are the ways a company could react to fraud? (2)

Answer 54

1. Some companies will only want the money returned and the matter kept private. 2. Some companies want actions taken against perpetrators and the money recovered.

Question 55

Why is the treatment of a fraud case important? (1)

Answer 55

Mishandling suspicion and evidence could damage the company’s finances and reputation.

Question 56

What is the most important information to a fraud case? (1)

Answer 56

The information that first aroused suspicion is essential and can’t be destroyed, altered or removed from the company’s control.

Question 57

Who handles the different stages of a fraud investigation? (3)

Answer 57

The investigation usually starts with company personnel, external investigators or forensic accountants. Private organisations and forensic specialists might be used to establish and assess the facts. Information is then passed to the police for a criminal prosecution.

Question 58

Why is a carefully managed media strategy important? (2)

Answer 58

Internal and external publicity must be managed so information is kept on a need to know basis. A media strategy helps to deflect criticism and concerns about the organisation’s stability.