ClementsFAAE Oct 2004

Forensic Accounting
Dr. Lynn H. Clements
CPA CFE Cr.FA CMA CFM


What is Forensic Accounting?
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An orderly analysis, investigation, inquiry, test, inspection, or
examination along a “paper trail” in the search for fraud, embezzlement,
or hidden assets

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Two parts:

– Investigative accounting
– Litigation support
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Treats all figures as suspect until proven otherwise


The History of Forensic
Accounting
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1931

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World War II

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1980s: Real estate bankruptcies, junk bond schemes, and lawsuits

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1988 ACFE was formed in Austin, Texas

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Initially called “investigative accounting”

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Increase in regulatory, tax and criminal statutes became law


The Need for Forensic
Accountants

• A 2001 survey found the following:

– 37% of the country’s top 100 accounting firms are increasing their
forensic and fraud services
– The average organization loses 6% of revenue to employee fraud
and abuse
– The typical perpetrator:

• Colleges and universities are responding
• Many frauds are not reported
• There are 13,000 CFEs in the ACFE, compared to 2,300 just
10 years ago
• Wells Report


What Does a Forensic
Accountant Do?
• Attempt to obtain the truth and
develop an expert opinion
• Sniff out corruption
• Pore over financial documents,
reconstruct records, interview
people, and present report
interpreting and explaining
complicated financial information
• Solve a large puzzle


The Services a Forensic
Accountant Provides
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Damages

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Antitrust Analyses

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Accounting

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Valuation

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General Consulting

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Other Analyses


How to Become A Forensic
Accountant
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CFE (Certified Fraud Examiner):

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Experience requirements (point system)
Educational requirements
Uniform CFE Examination (online quiz)
CPE
Code of Ethics
High moral character
www.cfenet.com
Fraud Check-Up


How to Become A Forensic
Accountant
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Cr.FA (Certified Forensic Accountant):

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CPAs - one exam
Regional conferences
www.acfe.com
American College of Forensic Examiners


The Fraud Triangle

Motive

Rationalization

Opportunity

[Source: Michael Kurland, How to Solve A Murder: Macmillan, 1995, pp. 7-8]


Proactive Fraud Auditing
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Going fishing

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Thinking like a fraud auditor

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Choosing a fraud type

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Procedures


Reactive Fraud Auditing
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Symptoms

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Cost Variances

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Expected Costs

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Employee’s Lifestyle


Fraud vs. White-Collar Crime
• “White collar crime is criminal conduct that does not
involve violence or the threat of violence and usually takes
place in a professional work place”
• Fraud happens anywhere, white-collar crime is in the
workplace
• Fraud is perpetrated by anyone, white-collar crime is by
business people/professionals.
• Fraud is not always criminal, white-collar crime is mostly
criminal
• Fraud does not always involve something of value, whitecollar crime does.


Red Flags
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No Company Policy Manual
Feeling of disorganized
bookkeeping, purchasing, receiving,
and/or warehousing departments
Missing documents
Unrecorded transactions
No bank reconciliations
Subsidiary ledgers out of balance
No physical inventory counts
Checks written to cash
Large related party loans
Excessive other revenue
Negative operating cash flow
Downward earnings trend

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Handwritten checks
Extensive fund transfers
Unusual transactions (inconsistent)
Deficient hiring policies and
procedures
Employees’ lifestyles inconsistent
with salaries
Employees who don’t take vacations
SPEs
Excessive insider sales of stock
Unexplained resignations of upper
management
Excessive debt/equity ratio
CPA switching
Strange account titles


Forensic Accounting : Pros and Cons
• Why?
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Innovation in the industry
Serve a cause, help to fight organized crime
Gratification
$175 to $300 per hour

• Why not?
– Verbal attacks by lawyers in depositions and on the witness
stand
– Dealing with lawyers on a regular basis
– Attention to detail