Forensic Audit

CA SUDHIR BHANSALI

On this earth there is enough for everyones need, not enough for their greed.
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- Mahatma Gandhi

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WHAT ??

Ask Enron , WorldCom ,Satyam ,layman Brothers and Citi Banketc !! Legally accurate Audit.

Audit that is sustainable in some adversarial legal proceeding, or within some judicial or administrative review.

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WHAT ??

Focus is:

The evidence of economic transactions and reporting the legal framework which allows such evidence to be suitable to the purpose(s) of establishing accountability and/or valuation the identification, interpretation, and communication of the evidence of economic transaction and reporting events
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In other words:

WHAT ??

The Forensic Audit is unique. It is initiated to confirmation of wrong-doing. The term "forensic" refers to information or evidence that is suitable for presentation in a court of law To obtain evidence to support criminal charges related to white-collar crimes such as bribery, fraud, theft, breach of trust, extortion and forgery The reports are usually very lengthy and fully-documented and well supported chronology of the investigation and findings.

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WHAT ?? Negative or Positive

Often mistakenly assumed to be exclusively associated with "negative" applications, such as bankruptcy, fraud, business disputes, or matrimonial divorce. May also be applied in "positive" assurance engagements such as due diligence reviews, business valuations, Audit committee advisory services and enterprise risk management.
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WHAT ??

Forensic audit is applied to the evidence of first order activities, not secondary systems of controls. Analysis includes the crucial aspect of recognizing the implications of evidence that has been obtained. Additional techniques are employed to forecast or predict future conditions based on known past transactions or events.
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Why??
Human nature:
Hide failures; not admit them. Conceal problems; not discuss them. Defend wrong decisions; not admit them. Cover up mistakes; not own up. Forensic Audit has been the buzzword, world over since numerous years. But after the Harsad Mehta ,Khaten Parakh and recent Satyam fiasco, the same has gained proposition in Indian context also.
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Satyam Fraud Case

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When??

Adverse findings during Normal / Final Audit Questions raised about the validity of a procurement procedure / award of contracts Under-performance / non-delivery of goods or services Where information received from whistleblower On request of management
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How??
Stage to start Forensic Audit

Planning and Execution stage

Process

1.Preparation (of the investigator, not the data) 2.Collection (the data) 3.Examination 4.Analysis 5.Reporting 6.Comparison of Physical Forensic
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Planning Stage

Meet with the Client Obtain an understanding of issues at hand Perform preliminary assessment of work to be done and prepare tentative schedule Perform a Conflict Check Ensure that the firm does not have conflicts of interest
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Panning Cont

Perform an Initial Investigation Preliminary investigations examination of available information Allows auditors to identify likely trouble areas and assess the work to be done Plan the Audit Should identify objectives to be achieved and plan audit methodology to be used

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Execution Stage

Collect the Relevant Information

In depth interviews with clients staff Examination of hard-copy & electronic info

Electronic info is often best source for forensic auditors Specialized computer forensic auditors are sometimes called in, depending on the audit

Off-site computers & servers, hard-copy info, etc. are also examined
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Execution Cont

Perform the Analysis

Highly dependent on specifics of the engagement Often involves: calculating economic damages and sensitivity analysis, tracing of assets Should contain the details of the engagement, the scope, any limitations and a detailed summary of the findings Reports are generally confidential and often used in court proceedings Period in which evidence gathered Review Process & report to the client. Identify those involved and quantify amount of fraud. Present findings to the client and court
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Prepare the report

Investigation Objectives

How much was lost? (stolen) Where are the assets? How much can be recovered? How much can be proven?

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Branches Of Forensic Audit

Investigative accounting-it deals with investigation of criminal matters relating to employee theft, securities fraud, insurance fraud etc. it does not end with investigation but also includes provisions of suggestions regarding possible courses of action Litigation Support- it involves providing accounting assistance in litigation matters. It primarily deals with quantification of economic damage
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Forensic Audit V/s Statutory Audit

Statutory Audit Forensic Audit
Determine correctness of the accounts or whether any fraud has actually taken place Analysis of past trend and substantive or in depth checking of selected transactions.

Objective

Express opinion as to the True & Fair presentation.

Techniques

Substantive and Compliance procedures

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Forensic Audit V/s Statutory Audit

Statutory Audit

Forensic Audit

Period

For the Accounting Period

Reliance on management representation

No such limitation
Independent verification of suspected items

Verification of stock, estimation of realisable value of current assets, provisions or liability estimation etc.

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Forensic Audit V/s Statutory Audit

Statutory Audit
Off Balance sheet items(like contracts etc.) Vouching of arithmetical accuracy and compliance procedures Qualified opinion with or without quantification
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Forensic Audit
Regularity and Authencity of these transactions are examined. Determination of fraud and naming persons behind it.
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Adverse findings

History or Background

Number of Forensic Auditors began to enhance in the early 1980s Association of Certified Fraud Examiners established in 1988 American College of Forensic Examiners founded in 1992 Forensic and Investigative Accounting programs in Canada - Rotmans School of Management - Ecoles des Hautes Etudes Commerciales
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Demand for Forensic Auditors

1/8 (One of the eight )most secure career tracks in America (U.S. News & World Report, February 8, 2002) One of the Ten hottest jobs for the next decade with annual salary potential of over $100000 (Smart Money Magazine, May 16, 2002) 1/7 (One of the seven) hot new sizzling career areas in accounting, according to the AICPA

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How can you prepare for the opportunities in this area?

Self Study (e.g., ICAI Certificate course started in 2008-09) On-the-job training Formal education

Obviously, a combination of at least two of these approaches will lead to optimal preparation.
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Facts

45% of companies reported falling victim to fraud in the past two years in U.S. Since 2003 there has been:

71% increase in the number of companies reporting cases of corruption & bribery 133% increase in the number reporting money laundering; and 140% increase in the number reporting financial misrepresentation
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Facts

Fraud that led to a loss of assets cost companieson averageover US$ 1.7 million: a 50% increase over 2003 40% of companies suffered significant loss of reputation, decreased staff motivation, and damaged business relations Over 33.33% (one third) of these frauds were discovered by accident, making "chance" the most common fraud detection tool
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Forensic Services

Business valuations Divorce proceedings and matrimonial disputes Personal injury and fatal accident claims Professional negligence Insurance claims evaluations Arbitration Partnership and corporation disputes Shareholder disputes (minority shareholders claiming (oppression) Civil and criminal actions concerning fraud and financial irregularities cross examination, formulate questions Fraud and white-collar crime investigations
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Work Opportunity :Agency Involved in India

Central Bureau of Investigation (CBI) Insurance Sector (TRAI) Securities Exchange Board of India (SEBI) Big Corporations and Companies ( Proactive and Reactive Action) Military and Police Department State And Central Government. Banks and Financial Institutes.
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Types of Fraud
Corruption Conflicts of Interest & achieve personal gains Bribery Extortion

Assets Misappropriation Cash Theft Fraudulent Disbursement Inventory Fraud Misuse of Assets Financial Statement Fraud Deliberate falsification Omission of Transactions Misapplication of Financial Reporting standards

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Motives of Fraudulent Financial Reporting

> Under-pressure to achieve target

To Increase stock price

Tax motivated Reasons Non- achievable Forecasts

To issue shares at Premium

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Fraud Detection

An appropriate combination of audit techniques under the given set of circumstances. Usually not discovered in the course of auditing by using standard audit procedures Awareness of the risk factors that increase the possibility of fraud Normal assumption may no longer be valid. For example, documentary evidence may not be reliable Modify his audit program or perform additional procedures to confirm or dispel his suspicion of fraud or error.
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Techniques

Critical Point Auditing

>Unusual debit/credit in closing >Trend Analysis of Significant Financial Transactions >Discrepancies in Receivable /Payable >False credit to boost Sales >Cross debit and Credit and Inter A/C Transfer >Weakness in internal Control System

Propriety Audit (Public Finance)

>Conducting by Supreme Audit Institutions (SAI) of Government Audit to aim at Value for money audit.
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Indicators of Fraud

Large unexpected losses Non-compliance with corporate policy or internal controls Employees apparently living beyond their means Inventory shortages remain unexplained and poorly investigated Copies rather than original invoices are being paid Missing and/or altered documentation

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Indicators of Fraud..

Unusually large number of accounts in relation to the size of the company Shortages and overages in cash drawers Adjustments to receivables High level of journal entries adjusting account balances Access to computers at unusual hours Numerous NSF or other returned items on bank statements which are written off
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Tracing Cash Flows

Process of analyzing cash transactions of an individual or company over a specific period of time Purpose is to analyze the source of the funds and where the money went when it was withdrawn from the particular account

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Tracing Cash Flows

Proceeds of crime and money laundering investigations Investigations conducted to determine appropriate use of grant/loan monies Money laundering (i.e. Real estate transactions: to identify the source of the funds for a purchase or the use of the proceeds from a sale)
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SA 240- Auditors responsibility Relating to fraud in an Audit

Primary responsibility of management Inherent limitations of audit Test nature of audit function Fraud arises out of collusion (internal) difficult to detect Risk of failure of internal controls weakness of internal controls Unusual transactions Problems in obtaining sufficient audit evidence
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SA 240 cont

Assess types of fraud or error likely to occur Likelihood of material effect on accounts Additional Procedures External evidence, auditing in depth, tracing Reporting Responsibilities Immediately to top management/board/audit committee If significant disclosure in accounts If significant and not disclosed accounts, Disclosure in audit report
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Audit Evidence (SA-500) (w.e.f. 1st April 2009

Sufficient Appropriate Audit Evidence Degree of risk of misstatement Materiality of the item Experience gained during previous audits Results of procedures Types of info. Available and trend of ratio Analysis
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A Forensic Audit Engagement

Steps are similar to a typical audit engagement Each forensic audit is unique Steps are a guideline for auditors to start with but rarely followed exactly Auditors must assess specific risks and issues and perform audit accordingly

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Sample Documentation

Fraud Examination Checklist Fraud Examination Proposal Fraud Policy Review Opinion Forensic Audit Report

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Fraud Auditing An Awareness

Fraud auditing can not be reduced to a simple checklist. It is an awareness in the broadest sense of many

components
Human element (Behaviour), organizations behavior , knowledge of fraud and evidence
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Forensic Auditing Applications and Consequences

Satyam Computers Ltd. Founder Chief Executive Raju charged with fraud, false corporate reporting and making false statements to regulators. First CEO charged under Criminal offence for false reporting. Satyam Computers case is the first of Its Type in India.
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Forensic Auditing Applications and Consequences

Satyam Computers Ltd, continued Consequences?

Accounting scheme resulted in Rs. 9000 Crore overstatement in Statements and earnings thereon The Company was near bankruptcy. Since 2002-03, the Companies executives have overstated turnover. Chief persons were blamed for massive accounting fraud. CEO Raju, CFO and Auditors are under trail.
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Future Outlook
It is only through the practice of preventive rather than reactive auditing that forensic auditing will become visibly effective and make auditing credible, once more. Awareness of human element, organizations behavior, knowledge of the system, the technology in use and expected to be used, knowledge of fraud, evidence are so called red flags are key issues
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Forensic Accounting

Questions?

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THANK YOU
Contact details: CA Sudhir Bhansali 52,Sangram Colony, C-Scheme Jaipur-302004 0141-2372228,2372229 sbhansalico@yahoo.com sbhansalico@gmail.com 94138-01080
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