Potential Red Flags And

Detection Techniques
Thomas W Golden;
Steven L. Skalak
Mona M. Clayton
Types Of Fraud

Fraudulent financial reporting schemes

(false entries are made to the companys books and record and therefore, to the
financial statements)

Misappropriation of assets-by far the most common fraud

against the corporation
(Stealing assets or fraudulent disbursement)
Revenues and assets obtained by fraud

Expenditures and liabilities for improper purpose

Analytic Techniques

Horiszontal analysis- that is, comparison of the current

periods balances with those of prior periods.

Vertical, or common-size, analysis

Comparison of the detail of a total balance with similar

detail fo the preceding year(s)

Ratio and Other financial relationships. High-risk area of

revenue recognition and inventory balances.
Evaluating Control

Examining Journal entries and other adjustment for

evidence of possible material misstatement due to fraud

Reviewing accounting estimate for biases that could result

in material misstatement due to fraud

Evaluating the business rationale for significant unusual

transactions.
Fraud : Revenue Recognition
Examples of the specific risk the auditor might consider,:

Fictitious sales of tangible goods might be created and concealed by the

falsification of inventory records, shipping document, and its invoices.
Sales might be inflated by the sipping of good not ordered, by treating
consignment shipment as revenue,
Fictitious sales may be booked for product that has been packed but not
shipped to the customer.
Sales ----- Return
Fictitious or inflated revenues from long term project
Analyzing Financial Statements

Developing Effective Analytic Procedures

Stef 1 Develop an expectation
- Historical result
- forecast amounts
- industry trend
- general economic condition
(when managements only expectation is the achievement of budget income
statement result, the pressure to meet the expectation can lead to
fraudulent financial reporting that goes unnoticed precisely because the
expectation is being met.
Developing Effective Analytic Procedures
(Step 2)

Define what result constitutes a significant different

from the expectation,
- Materiality of the account
- risk of misstatement
- control surrounding account balance.
- overall materiality of the financial statements small
fraudulent change in large balance sheet item could have
a material impact on the overall financial statement.
Developing Effective Analytic Procedures
(Step 3)

Compute the difference;

- other accounts (expenses or income)
- Corporate balance sheet as opposed to a divisions
Reconciling item between the sub ledgers and general
ledger
General ledger and outside sources (bank statements,
Account Receivable/Account Payable confirmation)
Developing Effective Analytic Procedures
(step 4)

Investigate the difference in order to draw appropriate

conclusions
-consider seeking explanation from management
concerning the differences noted.
- corroborated by other evidence or by other company
personnel not in the financial- reporting chain.

Dr. Jamaludin Iskak., MSi., Ak., CA., CPA

Developing Effective Analytic
Procedures
Performing sales trend analysis without a corresponding accounts receivable
analysis could lead to wrong conclusion about revenue growth if a
deteriorating trend in customer collections is overlooked.

Vertical Analysis
Horizontal Analysis
Ratio Analysis
Reasonableness Testing
Data-mining Analysis
Dr. Jamaludin Iskak., MSi., Ak., CA., CPA
Using Financial Ratios As Measures Of Risk Or
Indications of Fraud

Current Ratio
Quick Ratio
Inventory turn over
Average-number-of-Days-in-Inventory Ratio
Receivable Turnover Ratio
Collection Ratio
Debt to Equity Ratio
Profit margin Ratio
Asset Turn over Ratio

Identifying Other Relationships That

Might Indicate Fraud

Margin analysis
FocusOn Disparity of net income to cash
balance
Evaluate increase in Account Receivables in
relation to sales increases.
Evaluate interim result and seasasonality