QUESTIONS
Discussion Questions
1. Why is fraud prevention so important?
2. How does building a culture of honesty and high
ethics help to reduce the possibility of fraud?
3. How does a company assess and mitigate the risk
of fraud within an organization?
4. Why is it important to detect fraud early?
5. Why is it important to conduct a thorough fraud
investigation when fraud is suspected?
6. Describe the evidence square.
7. How is the evidence square useful in thinking
about fraud investigation?
8. For each of the following, identify whether the
evidence would be classified as testimonial evidence,
documentary evidence, physical evidence, or personal
observation.
a. Surveillance
b. Tire marks
c. Honesty test
d. Interview
e. A computer hard drive
f. A financial statement analysis
g. A paper report
h. Identification numbers on vehicles
i. Audit of financial statements
j. Check stubs
k. Fingerprints
l. Background checks
9. What are some of the legal actions that can be
taken after a fraud has occurred?
10. Why might pursuing civil remedies be ineffective
against employee fraud? When might civil actions
be more useful?
11. Why might management avoid taking legal action
against fraud perpetrators? What are the perceived
benefits of inaction? What are the costs?
True/False
1. Once fraud has been committed, there are no
winners.
2. Fraud prevention involves two fundamental activities: (1) a hotline for tips and (2) assessing the
risk of fraud and developing concrete responses
to mitigate the risks and eliminate opportunities
for fraud.
3. Developing a positive work environment is of little
importance when creating a culture of honesty.
4. No matter how well an organization has developed
a culture of honesty and high ethics, most organizations will still have some fraud.
5. Research has shown that it is employees and managers, not auditors, who detect most frauds.
6. Organizations that want to prevent fraud must
make it easy for employees and others to report
suspicious activities.
7. If a perpetrator is not caught, his confidence in the
scheme will decrease, and he will become less and
less greedy.
8. Once predication is present, an investigation is
usually undertaken to determine whether or not
fraud is actually occurring.
9. Most investigators rely heavily on interviews to
obtain the truth.
10. Physical evidence includes evidence gathered from
paper, computers, and other written documents.
11. Legal action taken by an organization can affect the
probability of whether fraud will reoccur.
12. Investigating fraud is the most cost-effective way to
reduce losses from fraud.
13. Fraud prevention includes taking steps to create
and maintain a culture of honesty and high
ethics.
14. Effective hiring policies that discriminate
between marginal and highly ethical individuals
contribute to an organization’s success in preventing fraud.
15. Expectations about punishment must be communicated randomly among work groups if fraud is to
be prevented.
16. Frauds typically start large and get smaller as the
perpetrator tries to conceal his dishonest acts.
17. Fraud is difficult to detect because some fraud
symptoms often cannot be differentiated from
non-fraud factors that appear to be symptoms.
18. The three elements of the fraud triangle by which
the investigative techniques are often classified
are (1) the theft act, (2) concealment efforts, and
(3) conversion methods.
19. Organizations often want to avoid embarrassment
and expense, so they terminate fraudulent employees without having them prosecuted further.
20. Criminal conviction is much more difficult to
achieve than a civil judgment because there must
be proof “beyond a reasonable doubt” that the perpetrator intentionally stole assets.
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21. In order to create a culture of honesty and confidentiality, persons aware of fraudulent activity
should be encouraged to tell only the CEO.
22. Since complete fraud prevention is impossible
because it requires changing actual human behavior, successful companies should forgo fraud prevention and instead focus on strong fraud
detection programs.
23. Since fraud prevention programs are so costly,
despite being ethically superior, they almost always
result in higher costs and thus lower net income
than using only a strong system of fraud detection.
24. Most fraud perpetrators have a long history of dishonesty and deceit.
Multiple Choice
1. The most effective way to reduce losses from fraud
is:
a. Detecting fraud early.
b. Implementing proactive fraud detection
programs.
c. Preventing fraud from occurring.
d. Severely punishing fraud perpetrators.
2. To successfully prevent fraud, an organization must:
a. Identify and remedy internal control
weaknesses.
b. Explicitly consider fraud risks.
c. Take proactive steps to create the right kind of
environment.
d. All of the above.
3. The best way for management to model appropriate behavior is to:
a. Enforce a strict code of ethics.
b. Set an example of appropriate behavior.
c. Train employees about appropriate behavior.
d. Make employees read and sign a code of
conduct.
4. Which of the following is not a proactive way for a
company to eliminate fraud opportunities?
a. Severely punishing fraud perpetrators.
b. Assessing risks.
c. Implementing appropriate preventive and
detective controls.
d. Creating widespread monitoring of employees.
5. Most frauds start small and:
a. If not detected, continue to get larger.
b. Usually decrease in amount.
c. Remain steady and consistent.
d. None of the above.
6. Because of the ability to override internal controls,
it is usually most difficult to prevent which type of
fraud?
a. Investment scams.
b. Fraud committed by a company president.
c. Employee fraud.
d. Customer fraud.
7. Which of the following refers to the circumstances,
taken as a whole, that would lead a reasonable prudent professional to believe fraud has occurred, is
occurring, or will occur?
a. Evidential circumstance.
b. Investigation.
c. Invigilation.
d. Predication.
8. A method of classifying investigative approaches
into testimonial evidence, documentary evidence,
physical evidence, and personal observations is
referred to as the:
a. Investigative square of evidence.
b. Investigation square.
c. Evidence square.
d. Fraud triangle plus.
9. Usually, for everyone involved—especially victims—
the investigation of fraud is very:
a. Pleasant and relaxing.
b. Educational.
c. Exciting.
d. Traumatic and difficult.
10. To prevent fraud from reoccurring, most organizations and other fraud victims should:
a. Take no legal action.
b. Pursue only civil remedies.
c. Pursue only criminal remedies.
d. Pursue either civil or criminal action, depending on the circumstances, or both.
11. All of the following are ways to create a culture of
honesty and high ethics except:
a. Creating a positive work environment.
b. Hiring the right kind of employees.
c. Having top management model appropriate
behavior.
d. Eliminating opportunities for fraud.
12. The tone at the top when related to fraud usually
refers to management’s attitude about:
a. How management labels appropriate behavior.
b. Management’s attitude about fraud prosecution.
c. Management’s attitude about employee
absenteeism.
d. How management models appropriate
behavior.
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13. Research shows that fraud occurs less frequently
when employees feel:
a. Abused by management.
b. Threatened.
c. Challenged with unreasonable performance
goals.
d. Ownership in the organization.
14. Opportunities to commit fraud can be eliminated by identifying sources of fraud, by implementing controls, and through independent
checks. One other effective way of eliminating
opportunities is:
a. Teaching employees to monitor and report
fraud.
b. Terminating and punishing employees who
commit fraud.
c. Failing to terminate or punish employees who
commit fraud.
d. Identifying indicators of fraud or red flags.
15. Drawbacks to establishing a hotline for employees to report fraud include all of the following
except:
a. The expense of having a hotline.
b. Many incidents reported are hoaxes motivated
by grudges and other non-fraud reasons.
c. Some symptoms reported are caused by nonfraud factors.
d. This method for finding fraud is outdated.
16. “Predication of fraud” is defined as:
a. Reasonable belief that fraud has occurred or is
occurring.
b. Irrefutable evidence that fraud has been
committed.
c. Motivation for committing fraud.
d. Punishment of fraud perpetrators.
17. Which of the four types of evidence includes interrogation and honesty testing?
a. Testimonial.
b. Documentary.
c. Physical.
d. Personal observation.
18. The three elements present in most cases of fraud are:
a. Theft act, rationalization, and opportunity.
b. Pressure, opportunity, and conversion.
c. Theft act, concealment, and conversion.
d. Theft act, pressure, and opportunity.
19. Most often, victims of fraud do not take legal action
against perpetrators. This is because legal action
can be:
a. Unproductive.
b. Embarrassing.
c. Expensive.
d. All of the above.
20. The best argument for taking legal action against
fraud perpetrators is:
a. Huge cash settlements from prosecuting fraud
are an excellent source of revenue.
b. Legal action usually results in positive publicity for the company.
c. Prosecution of perpetrators is a way to keep
lawyers busy.
d. Prosecution of perpetrators discourages future
occurrences of fraud.
21. Factors that are usually associated with high levels
of employee fraud include all of the following
except:
a. Negative feedback and lack of recognition of
job performance.
b. Perceived inequalities in an organization.
c. Long and difficult hours shared equally by
everyone in the organization.
d. High turnover and absenteeism.
22. Which of the following is true regarding the
Sarbanes-Oxley Act of 2002:
a. Companies with revenues exceeding $10 million must have a whistle-blower system in
place.
b. Public companies must have a whistle-blower
system in place.
c. Public companies with revenues exceeding
$10 million must have a whistle-blower
system in place.
d. All companies must have a whistle-blower
system in place.
SHORT CASES
Case 1
Assume that you are a consultant for Long Range
Builders, a company that specializes in the mass production of wood trusses. The trusses are used in the
building of houses throughout the United States,
Canada, and Mexico. While implementing a fraud prevention program, you realize the importance of creating a culture of honesty and high ethics within the
company.
1. What critical elements are key factors in creating
an atmosphere of honesty and high ethics?
2. How would you implement these elements in your
company?
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Case 2
The chapter stressed that preventing fraud is the most
cost-effective way to reduce losses from fraud. Why is
fraud prevention more cost-effective than fraud detection or investigation?
Case 3
Fraud detection is an important element of minimizing
losses to fraud, especially if frauds can be detected
early. Explain why it is important that frauds be
detected early.
Case 4
Assume that you are the fraud expert for a large
Fortune 500 company located in Miami, Florida. In a
recent meeting with the executive committee, one of
the officers explains that the fraud prevention program,
which teaches managers and employees how to detect
and report fraud, costs the company $150,000 a year.
The officer then explains that it is a waste of time and
money for the company to educate employees and
managers about fraud. “Is it not the responsibility of
the auditors to detect fraud?” he questions. As the
fraud expert of the company, the president asks you
to explain why managers and employees should be
educated in the detection of fraud.
1. What would you tell the committee about why it is
important to train managers and employees in
fraud detection?
2. After explaining to the committee why it is important to train management and employees, the president asks you about effective ways to involve
employees and managers in the prevention and
detection of fraud. What would you tell the
president?
Case 5
You have recently graduated from college with an
MBA. Upon graduation, you start working for Roosevelt
Power Plant. The boss, Mr. Jones, invites you into his
office. Mr. Jones describes to you a large fraud that has
recently taken place in the company. He asks you what
actions should be taken to ensure that fraud does not
occur again. After analyzing the company, you compile a list of actions that will be needed to prevent
fraud from occurring again. Upon presenting the necessary steps and controls to be taken, Mr. Jones notices
your suggestion: “Create a culture of honesty and
create a positive work environment for employees.”
Mr. Jones is enraged and wants to know what a positive
work environment has to do with the prevention and
detection of fraud.
1. What would you tell Mr. Jones about why a positive work environment will help prevent fraud?
2. What factors would you tell Mr. Jones contribute
to a negative work environment?
Case 6
The text pointed out that it is important to hire employees who are honest and have a well-defined personal code
of ethics. Derek Bok, former law professor and president
of Harvard University, has suggested that colleges and
universities have a special obligation to train students
to be more thoughtful and perceptive about moral and
ethical issues. Other individuals have concluded that it is
not possible to “teach” ethics. What do you think? Can
ethics be taught? If you agree that colleges and universities can teach ethics, how might the ethical dimensions of
business be taught to students?
Case 7
Predication refers to circumstances that would lead a
reasonable professional to believe that fraud has
occurred. Why should you not conduct a fraud investigation without predication?
Case 8
When a fraud has occurred within an organization,
management must decide what follow-up action to
take. Briefly describe the three follow-up alternatives
available to organizations.
Case 9
In 2001, the country of Peru was thrown into political
turmoil as its president, Alberto Fujimori, was accused
of conspiring with the head of the national army to
accept bribes and steal money from the government. As
a result, Fujimori fled the country to avoid impeachment
and prosecution. Fujimori was elected 10 years earlier
based on his promises to lower inflation and combat terrorism. He was not, however, elected for his honesty. At
the time he was elected, many people expressed the
thought, “All of our presidents steal from us, but he steals
the least.” Although he was successful as a president,
what could the Peruvian people have done to avoid the
frauds committed by President Fujimori?
Case 10
You are the controller at a start-up company named
HyperGlobal created by your friend, Kevin. Your
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company is growing quickly, and you and Kevin are
finding it difficult to hire qualified people fast enough.
Kevin suggests over lunch that you should expedite the
process by skipping the sometimes time-consuming
chore of running background checks. He notes, “I
interview them anyway, and I can tell if they are honest
just by talking to them. We should do away with this
silly background checking business.” Do you agree?
How would you respond to Kevin? What is at stake if
hiring mistakes are made?
Case 11
In 1992, General Motors experienced a $436 million
fraud committed by a Long Island automobile dealer.
Because of this huge fraud, they have asked you to help
them install a “framework that would not allow this
kind of problem to happen again in the future.”15
1. How much revenue is needed to make up for this fraud?
2. How would you help them prevent future frauds?
3. Is it possible to eliminate all frauds?
4. Why do you think this fraud was allowed to occur?
Case 12
According to the text, when one Fortune 500 company
changed its stance on fraud from “The CEO is to
be informed when someone is prosecuted for fraud”
to “The CEO is to be informed when someone who
commits fraud is not prosecuted,” the number of frauds
in the company decreased significantly. Why might
that be?
Case 13
As a fraud expert asked to investigate possible fraud at
a local nonprofit organization, you suspect that one of
the workers, Stacey, has been embezzling money. After
securing enough evidence to be very confident of
Stacey’s guilt, you speak with the president of the organization, Jamie. Jamie assures you that Stacey could be
doing nothing wrong, that she has known Stacey for
years, and that Stacey is a good person. Further, she
indicates that because of her relationship with Stacey,
even if something were going wrong, no action would
be taken with respect to the potential fraud. How do
you respond to Jamie? How do you explain to her what
is at stake?
Case 14
Peter Jones, a senior accountant, and Mary Miller, a
junior accountant, were the only accountants for XYZ
Company, a medium-sized business. Peter had been
with the company for over four years and was
responsible for the Purchasing Department. Mary
had been working at the company for a little over
five years, and she had neither applied for a vacation
nor taken any days off in the last three years. She was
responsible for cash receipts and disbursements. She
also collected the cash from the cash register, counted
it and matched it with cash register receipts, made a
record of daily receipts, and then put the money in
the safe. Once a week, she would take the paperwork
to her supervisor, Susan Lowe, one of the managers,
who would check it. Mary later resigned from the
company. At the time of her resignation, Peter was
asked to handle Mary’s responsibilities while the
company looked for a person to replace her. Peter
soon realized that there had been some manipulation
of accounting records and embezzlement of funds.
Investigations revealed that approximately $30,000
had been stolen.
1. What do you think might have allowed this fraud?
2. How could this fraud have been avoided?
CASE STUDIES
Case Study 1
Plutonium was an Internet start-up company founded in
1988 at the beginning of the technology boom. One of
the largest problems for Plutonium was developing the
technological systems necessary to support the rapidly
expanding user base. Furthermore, due to the rapid
expansion in recent years, many of its systems had
been added hastily, resulting in poor integration and
eroding data integrity. As a result, the CEO of Plutonium
announced an initiative to integrate all systems and
increase the quality of internal data. In compliance
with this initiative, Plutonium purchased an expensive
and complex billing system called Gateway, which would
automate the billing for thousands of Internet accounts
via credit cards. During the integration, Gateway, in collaboration with Visa, created a phony credit card number that could be used by developers and programmers
to test the functionality and integration of the Gateway
system. Moreover, this credit card number was fully
functional in “live” environments so testers and developers could ensure functionality without being required
to use actual personal or company credit card numbers
(the activity on this card was not monitored). The integration went smoothly; however, it created thousands of
corrupt accounts that required fixing.
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Jonathan, the manager of the Operations Department, was responsible for the resolution of all data
integrity issues. His team was tasked with fixing all
corrupt accounts created by the launch and integration
of the Gateway system. As a result, Jonathan was given
the phony credit card number, which was kept on a
Post-it Note in his drawer.
One of the top performers on the Operations team
was a 29-year-old male named Chris. Chris had worked
in Operations for over a year and was making $15 per
hour, the same salary at which he was hired. He was an
introvert working to support a young family and put
himself through school. Chris was the most technologically savvy individual on the team, and his overall systems knowledge even exceeded that of his manager,
Jonathon. Chris was very brilliant in creating more efficient tools and methods to repair corrupted accounts.
Therefore, Chris was tasked with conducting training
for new employees and updating team members on
new processes and tools that he had created. As a
result, Chris quickly became a trusted and valuable
team member; thus, Jonathon gave him and other
team members the phony credit card number in
order to further increase the productivity of the team.
However, after six months of working at Plutonium,
Chris received an official reprimand from the company
for using the company system to access Web sites containing pirated software and music. The FBI attended the
investigation and determined that Chris had not been a
major player in the piracy. Therefore, Chris was quietly
warned and placed on a short-term probation. Jonathon
was asked to write a warning letter for the action; however, after a brief conversation with Chris, Jonathon
determined that Chris’s intentions were good and never
officially submitted the letter because Chris was a trusted
employee and elevated the overall performance of the
team. A few months after the piracy incident, Jonathon
noticed some changes in Chris’s behavior such as (a) his
computer monitor was repositioned so that his screen
was not visible to other co-workers, (b) he had almost
all the latest technological innovations, (c) he was going
out to lunch more frequently, and (d) he frequently used
multiple fake usernames and passwords for testing
purposes.
Questions
1. Evaluate this case using the three elements of the
fraud triangle to identify the following:
a. Potential pressures for Chris to commit fraud.
b. Potential opportunities for Chris to commit
fraud.
c. Potential rationalizations that Chris could use
to commit fraud.
2. What are some of the symptoms that fraud
potentially exists in this situation?
3. What could Jonathon have done to eliminate some
of the opportunities for fraud?
Case Study 2
Derek worked for a reputable global consulting firm.
His firm specialized in helping companies analyze
their people, processes, systems, and strategy. Derek
was hired into the San Francisco office and put through
weeks of training to help him understand the firm
methodology, technology, and culture. The firm looked
for people with the right aptitude who had demonstrated a record of success in previous school, work,
or extracurricular activities. They found that this type
of person worked out best for the type of work the firm
was paid to do.
Derek was flattered to be considered the right type
of person for this company. He was excited to be
assigned to a project and begin work. Even though
Derek was trained in certain technologies, he was
assigned a project for which he had no training. The
project was implementing SAP—a multimillion-dollar
enterprise resource planning software package. The client was a mid-sized manufacturer with revenues of
approximately $100 million located in Topeka,
Kansas.
Derek was not trained in SAP and found out that he
was replacing two managers who were just removed
from the project. The project was running over budget
so the firm looked for ways to get the work done less
expensively. Derek, who billed out at the lower “consultant’s” rate (instead of the “manager” rate), was a
cheap solution, although it would be a tough sell to
the client. They liked the previous managers and felt
comfortable with their skill level. Because of the
demand for the SAP experts, Derek’s firm could charge
Derek’s time at a billing rate of $200/hour—expensive,
but less than the client was paying for the managers.
During the first day on the job, Derek’s manager
took him out to lunch to give him “the scoop” on
what was happening on the project and what he
would be expecting from Derek. “Derek, this is going
to be a very difficult assignment. You’ve replaced two
skilled managers who the client liked. I know you
haven’t been trained on, or actually even seen SAP
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before, but you’re smart and can come up to speed
quickly. I had to tell the client you were an expert in
the software in order for them to agree to bring you on.
If you have any questions, don’t hesitate to ask me but
definitely don’t look stupid or seem like you don’t
know what you’re doing in front of the client. The client will be skeptical of you at first, but be confident and
you’ll win them over. I think the transition will smooth
out quickly. See me if you have any questions.”
Derek was scared to death—but what was he to do?
Was this standard procedure to throw employees
into this kind of situation? Regardless, he had to get
to work. His immediate tasks were to map out the processes for the client’s order-to-cash, purchase-to-pay,
and capital acquisition business scenarios. This
involved interviewing managers and looking around
most of the functional departments in the company.
Here are some interesting things he found as he did
his work.
PURCHASING DEPARTMENT: The head of purchasing was a handsome gentleman named Mike. Mike
was very different from any other employee who Derek
encountered while at the client. He wore expensive
suits to work and liked to talk about his clothes with
colleagues. He also drove the latest model BMW and
would take the other consultants on the project for
rides during lunch. Derek thought this odd because
he didn’t think a purchasing manager at this company
made enough money to have these luxuries. Mike also
took his relationships with “his” vendors very seriously.
He would spend lots of time “understanding who they
were.” Some days, Mike was very supportive of Derek
and other days seemed completely different and almost
hostile and combative. When Derek informally
inquired about the purchasing manager’s clothes and
car and his Dr. Jekyll and Mr. Hyde syndrome, he
heard the following justification, “He probably has a
lot of money because he’s worked here for over
20 years. Plus, he never takes vacations. Come to
think of it, the vacation part probably explains why
he seems hostile to you some of the time.” Derek
couldn’t figure this guy out but proceeded to do his
work with the Purchasing Department.
INTERNAL SALES AND SHIPPING DEPARTMENT: Internal Sales was run by a stressed out single
mom named Kathy. You could tell at first glance that
she had probably lived a rough life. Kathy was probably
not college educated but had a lot of “street smarts.”
Kathy was cooperative with Derek. During the course
of their interaction, Derek noticed how periodically
there would be huge returns that were stacked nearly
to the ceiling in the Shipping Department. When Derek
inquired about these periodic huge returns, Kathy told
him that sometimes they would ship orders to customers based on past purchasing habits even though the
customer had not recently placed an order. As it turns
out, when the customers saw a delivery at their door
someone would just assume they had placed an order
and would keep it. However, other customers would
quickly return the supplies. “Was that a good business
practice?” Derek inquired. “Well, we have to make our
numbers at quarter’s end—you have to do what you
have to do,” Kathy replied. On one of Derek’s weekly
flights home, he picked up a newspaper and began to
read about all the current frauds. Man, it seems like
every company is committing fraud these days, Derek
thought to himself after seeing multiple fraud-related
articles. Derek hadn’t had any fraud training but
began to wonder if his firm or the client he was working for could be committing fraud.
Questions
Based on the case data, comment on the following
issues as they relate to possible fraud:
1. Derek’s firm “selling” Derek to the client as an
“SAP expert” though he hadn’t even seen the
software before.
2. The unpredictable well-dressed purchasing
manager.
3. The sales practices revealed in the Internal Sales
Department.
Case Study 3
ABC satellite, a satellite television company, sells satellite television service contracts to customers, usually for
a 24-month period. ABC satellite is a fast-growing,
high-paced company created by aggressive salesmen.
The company’s success has made its owners very
wealthy, many of them live a lavish life style and
drive luxury cars to work. The retention division of
this company is responsible for contacting customers
nearing the end of his/her contract and convincing
the customer to renew his/her contract. Retention
agents are paid a commission for each account that
agrees to a new contract. The commission rate is considered by many employees to be below the industry
standard. Over the past year, the retention division
has undergone significant supervisor and manager
turnover. The current manager has not had sufficient
time or understanding to properly implement controls.
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Additionally, the new manager has been so busy playing catch up that he has yet to hold a training or orientation meeting for his department. The current
process for paying commissions to retention agents
on renewed accounts is as follows:
The phone system records the verbal contract
extension commitment.
The retention agent attaches the audio recording
to the customer’s account in the ABC customer
contract system (CCS); this acts a legal proof of
contract.
The retention agent then updates the customer
contract date information in CCS.
Each retention agent has a spreadsheet he or she
uses to keep track of the account renewals for
the month.
The retention agent records the customer #, date
of contract extension, and length of contract
extension in his/her spreadsheet.
At the end of each month the retention supervisor
receives each agent’s spreadsheet and multiplies
the total retention renewals submitted by the
agent by his/her commission rate in order to calculate the total monthly commission.
The spreadsheets are not maintained by the
supervisors.
In order to get the payments processed quickly, the
supervisors have less than 4 hours to receive all
agents’ spreadsheets (usually each supervisor is
responsible for 20+ agents) and submit the summary file to payroll.
The supervisor records the total commission earned
by each agent on a summarized spreadsheet, which
is sent directly to payroll for payment.
Questions
1. Part of avoiding fraud is to create a positive work
environment. Describe a few conditions mentioned
within the case that could contribute to a poor
work environment.
2. What symptoms should an auditor look for to
determine if fraud is occurring within the retention
department?
3. There are five primary control procedures or
activities. List and explain which two procedures
you feel would be most effective in improving the
control system of the retention department.
Include in your explanation specific examples of
controls that should be implemented.
Case Study 4
Biogencyte, a company based in Landover, Utah, is the
vanguard of cancer research. Recently, the company
has been developing state-of-art antibiotics that potentially cure cancer completely. The drugs are designated
to attack cancer cells without causing side effects. Initially, it was widely considered a promising technology
that could revolutionize cancer treatment, and numerous medical research groups and schools funded this
project. However, due to the impact of the economic
recession, funding for the project started to dry up.
Management decided to restructure the company to
ensure its survival through the recession. In the process
of restructuring, auditors found $30 million worth of
assets with questionable cash flows. As part of their
quarterly review, they suggested to management that
the assets should be tested for impairment. Management told the auditors that the assets were still generating enough cash flows and that an impairment test
was not needed. The auditors eventually hired a prominent valuation expert to advise them on the matter.
After a thorough analysis, the expert’s report suggested
that the assets were not impaired and should be kept at
their book value. The auditors could not believe the
report after watching the assets collecting dust, and
they knew there must be something they were
overlooking.
Steve Fulbrecht, a particularly astute auditor with a
background in fraud investigation, decided to investigate further. While examining the background of top
management at the client and valuation firm, he discovered that the expert the firm had hired and the CFO
of the client went to school together. The auditors, who
were now very curious about the questionable valuation result and relationship between the expert and
CFO, decided to dig deeper. Further investigation
revealed that that the company had a few suspicious
expenses in an account named “Business Relationship
Expenses” with a $200,000 balance. Steve Fulbrecht
decided to question top management regarding these
expenses, and thought it best to start with the controller who had recently joined the company four months
ago. During the interview, the controller revealed this
expense account represented payments to FDA
employees and other officials who helped them obtain
the approvals necessary to bring their new cancer drug
to market. He indicated that he felt uncomfortable with
these expenses when he first joined the company, but
the CEO and CFO had assured him that such expenses
were normal and expected in the pharmaceutical
industry.
Chapter 3: Fighting Fraud: An Overview 93
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Upon hearing the new information gathered by
Steve Fulbrecht, the partner in charge of the Biogencyte
engagement met with the audit committee to inform
them of the findings. The audit committee subsequently replaced the CEO and CFO and initiated an
internal investigation into the company’s relationship
with outside officials. If fraud is occurring in this organization, what kind of fraud is it and how could this
type of fraud be eliminated?
INTERNET ASSIGNMENTS
1. Visit the Web site of the National White Collar
Crime Center at www.nw3c.org. This site is
funded through a grant from the Department of
Justice. Its purpose is to assist federal law enforcement agencies in the investigation and prevention
of white-collar crime. The center also has a college
internship program. Click on the “Research” link,
select “Papers, publications and reports,” select
“Papers,” and then read the study on Embezzlement/Employee Theft from October 2009 and
answer the following questions:
a. Research suggests that embezzlement accounts
for approximately what percentage of all business failures?16
b. According to the study what percentage of
employees steal from their employers?17
2. Go to www.fraud.org and learn about the National
Fraud Information Center (NFIC). What does it
do, and specifically, how does it make it easy for
people to report fraud?
DEBATES
Fred is a friend of yours and works with you at the
same company. He is a well-respected and trusted
employee. He has two young children and is a leader
in his community. You have discovered that Fred has
embezzled $3,000 over a period of several years. While
this is not much money for such a large company, you
suspect that if you don’t report him, the problem may
get worse. On the other hand, he has young children,
and he has done so much good in the company and
the community. If you report him, he may go to
prison because your company has an aggressive
fraud prosecution policy. Should you report him or
are there any other alternatives ways to deal with
this problem available to you?
ENDNOTES
1. Wells, J. T., 2007, Corporate Fraud Handbook,
Hoboken, New Jersey: John Wiley & Sons, Inc.
2. Biegelman, M. T., and Bartow, J. T., 2006,
Executive Roadmap to Fraud Prevention and
Internal Control, New Jersey: John Wiley & Sons,
Inc.
3. Schwartz, M. S., Dunfee, T. W., and Kline, M. J.,
2005, Tone at the Top: An Ethics Code for
Directors, Journal of Business Ethics, Vol. 58: 1–3.
4. www.mental-health-matters.com/articles/article
.php?artID=153, accessed May 22, 2004.
5. Wang, J.-M., and Kleiner, B. H., 2004, Effective
Employment Screening Practices, Management
Research News, Vol. 27: 4–5.
6. See, for example, Albrecht, W. S., Albrecht, C. C.,
and Hill, N. C., 2006, The Ethics Development
Model Applied to Declining Ethics in Accounting,
Australian Accounting Review, Vol. 16: 30–40.
7. Trevino, L. K., Hartman, L. P., and Brown, M.,
2000, Moral Person and Moral Manager: How
Executives Develop a Reputation for Ethical Leadership, California Management Review, Vol. 42: 4.
8. For more information about situational honesty see
Scott, E. D., 2000, Moral Values: Situationally
Defined Individual Differences, Business Ethics
Quarterly, Vol. 10: 2.
9. Stevens, B., 1999, Communicating Ethical Values:
A Study of Employee Perceptions, Journal of
Business Ethics, Vol. 20: 2.
10. Kaptein, M., and Schwartz, M. S., 2008, The
Effectiveness of Business Codes: A Critical Examination of Existing Studies and the Development of
an Integrated Research Model, Journal of Business
Ethics, Vol. 77: 2.
11. Red Hat’s Code of Business Conduct and Ethics
can be found at http://investors.redhat.com
/governance.cfm, accessed May 23, 2010.
12. Cottrell, D. M., and Albrecht, W. S., 1994,
Recognizing the Symptoms of Employee Fraud,
Healthcare Financial Management, Vol. 48: 5.
13. The names and setting in this case are fictitious.
94 Part 1: Introduction to Fraud
Copyright 2016 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part. Due to electronic rights, some third party content may be suppressed from the eBook and/or eChapter(s).
Editorial review has deemed that any suppressed content does not materially affect the overall learning experience. Cengage Learning reserves the right to remove additional content at any time if subsequent rights restrictions require it.
14. Class-action lawsuits are permitted under federal
and some state rules of court procedure in the
United States. In a class-action suit, a relatively
small number of aggrieved plaintiffs with small
individual claims can bring suit for large damages
in the name of an extended class. After a fraud, for
example, 40 bondholders who lost $40,000 might
decide to sue, and they can sue on behalf of the
entire class of bondholders for all their alleged
losses (say, $50 million). Lawyers are more than
happy to take such suits on a contingency fee basis
(a percentage of the judgment, if any).
15. http://money.cnn.com/galleries/2007/biz2/0705
/gallery.contrarians.biz2/10.html
16. Bullard, P., and Resnick, A., 1983, SMR Forum:
Too Many Hands in the Corporate Cookie Jar,
Sloan Management Review, Vol. 24: 3.
17. McGurn, J., 1988, Spotting the Thieves Who Work
among Us, Wall Street Journal, p. 16, March 7.
