Forensic Accounting and Financial Statement Fraud, Volume I

Fundamentals of Forensic Accounting

Zabihollah Rezaee

• Publisher: Business Expert Press
• Year: 2019
• Print ISBN: 9781631571480
• eBook ISBN: 9781631571497
• Topic: Business
• Subtopic: Auditing
• Index: Business

The existence and persistence of high profile alleged financial statement fraud (FSF) have negatively affected the safety and soundness of financial markets and investors confident in public financial information. Forensic accounting has advanced as an important and rewarding field of accounting to prevent, detect and correct FSF. There has been significant demand for and intertest in forensic accounting as well substantial growth in both investigation and litigation services.

The first volume addresses the relevance and importance of forensic accounting and fraud examination as well as the framework and structure of forensic accounting practices. The author presents an introduction to forensic accounting and financial statement fraud examination and their relevance and importance to businesses, financial markets, economies and society. Also discussed is forensic accounting opportunities, skills, and services; forensic accounting profession; and professional responsibilities and codes of conduct for forensic accountants. Finally, forensic accounting best practices, education, and research are touched on.

CHAPTER 1

An Introduction to Forensic Accounting

Executive Summary

Business and accounting scandals (Madoff, Satyam, Stanford ­Financial, and subprime mortgage fraud) have dominated the business news in the past several decades. Numerous cases of high-profile alleged FSF (e.g., Enron, WorldCom, Parmalat, Satyam) as well as the investment Ponzi schemes and credit crunch scandals have negatively affected the financial markets and investors’ confidence in public financial information. Forensic accounting has advanced as an important and rewarding field of accounting to prevent, detect, and correct these financial scandals and other types of fraud. In such an increasingly unstable economic and litigious environment, there has been significant growth in the demand for and interest in forensic accounting and investigative services. Forensic accountants provide litigation consulting, expert witnessing, valuation, and fraud investigation services. This chapter presents an introduction to forensic and investigative accounting.

Introduction

Forensic accounting is a growing and ever-changing field of accounting with tremendous opportunities for advancements. Forensic accounting services of fraud investigations, litigation consulting, valuation, and expert witnessing are both rewarding and exiting. For example, tracking down criminals by holding them accountable for committed illegal acts can be a tedious task but rewarding in making our society safer and free from material wrongdoings and frauds. The field of forensic accounting has grown significantly over the past decades and is expected to make further progress as the demand for, and interest in, forensic accounting services increases.

There is also a growing need for business schools and accounting programs to train and educate the most competent and ethical future forensic and investigative accountants. This field is not specific to any country, industry, or organization; as such, there are numerous employment opportunities available. Forensic and investigative accounting is viewed by many as one of the most exciting, rewarding, and secured career tracks.¹ However, there appears to be a gap between forensic and investigative accounting practice and education, given that there is only a limited number of forensic accounting modules/courses offered within accounting and business curricula in universities worldwide.² A few existing textbooks in this area all primarily focus on occupation fraud with a limited coverage of Financial Statement Fraud (FSF). This chapter develops an awareness and understanding of the main themes, perspectives, frameworks, and issues pertaining to forensic and investigative accounting. This chapter presents an introduction to forensic accounting with a keen focus on the knowledge and the professional and personal skills needed to become successful forensic and investigative accountants, such as adequate knowledge in accounting, law, criminology, psychology, auditing, and business and (FSF) examination.

Definition of Forensic Accounting

Forensic accounting is the application of technical accounting, investigative, and law as well as analytical and communication skills for the purpose of resolving financial and nonfinancial issues in a manner that meets the standards required by courts of law.³ Forensic and investigative accounting is generally defined as the practice of rigorous data collection and analysis in the areas of litigation support consulting, expert witnessing, valuation, and fraud examination.⁴ Thus, forensic accountants conduct investigative, financial analysis, and valuation services, the result of which could be used in a court of law. Forensic accountants apply special skills in accounting, auditing, finance, business, psychology, quantitative methods, analytical analyses, law, criminology, research, and investigative skills to collect, analyze, and evaluate evidential matters and to interpret and communicate findings.⁵ Forensic accounting is a field in which accountants use their accounting knowledge along with complex investigation skills to assist in fraud investigation, expert witnessing, valuation and litigation, and investigative services. Forensic accounting is a process of gathering and evaluating evidence and reaching conclusions when conducting a fraud investigation, performing litigation services, determining asset and liability valuation, or testing as an expert witness.

Forensic and investigative accounting practices include fraud examination, investigation of corruption and bribery, business valuation, being an expert witness, cybercrime management/cybersecurity, and litigation support.⁶ Furthermore, forensic and investigative accounting services range from expert report preparation to appearing in the witness box and from carrying out a fraud investigation to interviewing witnesses and securing evidence. As a rapidly growing area within the accounting profession, forensic accounting has gradually been recognized by professionals, including the formation of a new professional certification—Certified Fraud Examiner, American Accounting Association forensic accounting section, development of new continuing professional development courses on the subject of fraud, Securities and Exchange Commission (SEC) focus on fraud, and forensic accounting divisions of public accounting firms. The academic community and research scholars have, in recent years, shown much interest in forensic accounting by publishing new forensic accounting textbooks and developing modules/courses about forensic accounting and conducting research on various aspects of forensic accounting published in the accounting and business journals. Exhibit 1.1 shows a list of selected books in forensic and fraud-related subjects. Within forensic accounting, fraud in general is defined as an intentional wrongful act to injure, damage, or deceive others, and thus, FSF is viewed as intentional manipulation or misstatement of material financial information to mislead users of financial statements.⁷ The Association of Certified Fraud Examiners (ACFE) classifies occupational fraud in three primary categories: asset misappropriation, corruption, and (FSF).⁸ This book is different and complements existing books listed in Exhibit 1.1 by focusing on both FSF and nonfraud (valuation, expert witnessing, litigation consulting) forensic accounting services.

Status of Forensic Accounting

Forensic accounting has been practiced for many decades and has become more relevant in the aftermath of the wave of financial scandals at the turn of the twenty-first century and the 2007 to 2009 global financial crisis. In 2013, CNNMoney reported that 1,216,900 individuals were employed as forensic accountants with an expected 10-year growth of approximately 16 percent.⁹ The median salary was $103,000 in 2013, which, when compared with over median auditor and tax accountant salary in 2016, is 51 percent higher.¹⁰ Employment in forensic accounting has significantly grown in the past decade with a steady annual rate of 18% from 2012 to 2017 according to a report published by market research firm IBISWorld.¹¹ This increasing growth in forensic accounting services is expected to continue in foreseeable years as the accounting profession establishing more robust guidelines for forensic accounting engagements of a forensic standard is intended to improve consistency and quality. The growth rate for other accountants and auditors is only 10 percent, in comparison; thus, the steady growth in the forensic accounting profession is expected to continue.¹²

One important area of forensic accounting practices is fraud examination. FSF has been detrimental to the integrity and quality of public financial information, and Congress passed the Sarbanes–Oxley Act (SOX) of 2002, which was intended to combat FSF. However, in the several years post-SOX, the Department of Justice has obtained nearly 1,300 fraud convictions between 2002 and 2009.¹³ The 2010 Committee of Sponsoring Organizations (COSO) report indicates the following: (1) FSF persisted in the past two decades with 347 incidents between 1998 and 2007 compared with 294 cases from 1987 to 1997; (2) the magnitude (mean per cases) of FSF during 1998 to 2007 was about $400 million compared with a mean of $25 million per case between 1998 and 1997; (3) FSF cases were committed with some level of involvement of senior executives (CEO, CFO) in 89 percent of studied cases in 1998 to 2007 and about 83 percent of cases in 1987 to 1997; (4) almost 20 percent of alleged fraudulent executives were indicted from which more than 60 percent were convicted; (5) the most common FSF schemes continue to be improper revenue recognition followed by overstatement of assets; (6) over one-fourth of fraud firms changed auditors either during the fraud period or in the fiscal year preceding the fraud period; and (7) fraud firms experienced negative consequences of fraud either in terms of decline in stock prices, bankruptcy, or delisting from major stock exchanges.¹⁴ ­Exhibit 1.2 presents many career opportunities in forensic accounting.

Forensic accounting is a growing field of accounting. All “Big 4” accounting firms of Deloitte, Ernst and Young, KPMG, and PricewaterhouseCoopers (PwC) and many of other national and international accounting firms have forensic accounting departments and specialists now and are hiring forensic experts in increasing numbers. Common services include all manner of cyber risk management (security, risk, and analytics), eDiscovery, computer and cybercrime forensics, managing fraud risk...

Table of contents

• Cover
• Title Page
• Copyright
• Abstract
• Contents
• Preface
• Acknowledge
• Chapter 1 An Introduction to Forensic Accounting
• Chapter 2 Forensic Accounting Services and Skills
• Chapter 3 Forensic Accounting Profession
• Chapter 4 Forensic Accounting Guidelines and Standards
• Chapter 5 Forensic Accounting Practices, and Education and Research
• About the Author
• Index