ANNDHREA S.

ORQUIA
BSA-32

ESSAY

1.The text describes six internal control activities. List four of them and provide a specific example of each
one.

ANS:
Control Activity Example

Authorization general (purchase of inventory when level drops) or specific (credit

approval beyond normal limit)
Segregation of function separate authorization from processing separate custody of assets from
record keeping
Supervision required when separation of duties is not possible, such as opening the
mail (cash receipts)
Accounting records maintain an adequate audit trail.
Access controls maintain physical security.
Independent verification bank reconciliation, physical inventory count.

2.Contrast management fraud with employee fraud.

ANS:
 Employee fraud is usually designed to directly convert cash or other assets to the employee's
personal benefit.
 Management fraud involves less of a direct benefit to the perpetrator. Management fraud may
involve an attempt to misstate financial performance in order to gain additional compensation
or to earn a promotion. Management fraud may also involve an attempt to misstate financial
performance in order to increase the price of the company's stock or to reduce the cost of debt.
Management fraud is more insidious than employee fraud because it often escapes detection
until the organization has suffered irreparable damage or loss. Management fraud usually does
not involve the direct theft of assets.

3.Why are the computer ethics issues of privacy, security, and property ownership of interest to
accountants?

ANS:
 Privacy is a concern because the nature of computer data files makes it possible for
unauthorized individuals to obtain information without it being recognized as "missing" from
its original location.

 Security is a concern because its absence makes control from a privacy viewpoint
questionable. In addition, lack of security may permit unauthorized changes to data, therefore
distorting information that is reported.

 Property ownership raises issues of legitimacy of organizational software, valuation of assets,

and questions of lost revenues.
4.According to common law, there are five conditions that must be present for an act to be deemed
fraudulent. Name and explain each.

ANS:
 In order for an act to be deemed fraudulent under common law, it must possess the following
characteristics:
o false representation, meaning some misrepresentation or omission must have occurred,
o material facts, meaning that the facts must influence someone's actions,
o intent, meaning there must have been the intention to deceive others,
o justifiable reliance, meaning it did affect someone's decision, and injury or loss must
have occurred.

5.Management fraud is regarded as more serious than employee fraud. Three special characteristics have
been discussed for management fraud. What are they? Explain.

ANS:
 Management fraud is more insidious than employee fraud because it often escapes detection
until the organization has suffered irreparable damage or loss. It usually occurs at levels above
the normal internal control system. There is typically an intent to present a better picture of the
business than is valid, often to deceive creditors and/or shareholders. If assets are
misappropriated, the route is quite devious involving a maze of business transactions.

6.Four principal types of corruption are discussed. Name all four and explain at least two.

ANS:
 Corruption involves an executive, manager, or employee of a business working in collusion
with an outsider. The four principal types of corruption are: bribery, illegal gratuities, conflicts
of interest, and economic extortion.

 Bribery involves giving, offering, soliciting, or receiving things of value to influence an

official in the performance of his or her lawful duties.

 An illegal gratuity involves giving. receiving, offering, or soliciting something of value

because of an official act that has been taken.

 A conflict of interest occurs when an employee acts on behalf of a third party during the
discharge of his or her duties or has self-interest in the activity being performed.

 Economic extortion is the use (or threat) of force (including economic sanctions) by an
individual or organization to obtain something of value.

7.Misappropriation of assets can involve various schemes: expense reimbursement fraud, lapping, and
payroll fraud. Explain each and give an example.

ANS:
 Expense reimbursement fraud involve fictitious charges to such accounts as miscellaneous
expense to offset theft of an asset. Because the expense account is closed to revenue at the end
of the period, the period in which it could be detected is short.
  Lapping is a technique whereby an early theft is covered up by a later one, i.e., with the moves
"lapping" over each other. The simplest example involves taking a customer's payment. A later
payment is then credited to the first customer's account, not the second. And on it goes. This
requires some control over billing to avoid tipping off the last customer.

 Payroll fraud is the distribution of fraudulent paychecks to existent and/or nonexistent

employees.

8.Distinguish between skimming and cash larceny. Give an example of each

ANS:
 Skimming involves stealing cash from an organization before it is recorded on the
organization's books and records. One example of skimming is an employee who accepts
payment from a customer but does not record the sale. Another example is mail room fraud in
which an employee opening the mail steals a customer's check and destroys the associated
remittance advice.

 Cash larceny involves schemes in which cash receipts are stolen from an organization after
they have been recorded in the organization's books and records. An example of this is
lapping, in which the cash receipts clerk first steals and cashes a check from Customer A. To
conceal the accounting imbalance caused by the loss of the asset, Customer A's account is not
credited. Later (the next billing period), the employee uses a check received from Customer B
and applies it to Customer A's account. Funds received in the next period from Customer Care
then applied to the account of Customer B, and so on

9.Explain why collusion between employees and management in the commission of a fraud is difficult to
both prevent and detect.

ANS:
 Collusion among employees in the commission of a fraud is difficult to both prevent and
detect. This is particularly true when the collusion is between managers and their subordinate
employees. Management plays a key role in the internal control structure of an organization.
They are relied upon to prevent and detect fraud among their subordinates. When they
participate in fraud with the employees over whom they are supposed to provide oversight, the
organization's control structure is weakened, or completely circumvented, and the company
becomes more vulnerable to losses.

10. Since all fraud involves some form of financial misstatement, how is Fraudulent Statement fraud
different?

ANS:
 Fraudulent statements are associated with management fraud. While all fraud involves some
form of financial misstatement, to meet the definition under this class of fraud scheme, the
statement itself must bring direct or indirect financial benefit to the perpetrator. In other
words, the statement is not simply a vehicle for obscuring or covering a fraudulent act. For
example, misstating the cash account balance to cover the theft of cash does not fall under this
class of fraud scheme. On the other hand, understating liabilities to present a more favorable
financial picture of the organization to drive up stock prices does qualify.
 11. Standards requires auditors obtain an understanding of an organization’s control environment. Discuss
two techniques that may be used to obtain such understanding.

ANS:

12. Standards requires auditors to obtain sufficient knowledge of the organization’s risk assessment
procedures to understand how management identifies, prioritizes and manages financial reporting risk.
List five circumstances that can cause risks to arise or change.

13. Explain the problems associated with inappropriate accounting practices.

ANS:
 The use of inappropriate accounting techniques is a characteristic common to many financial
statement fraud schemes. Enron made elaborate use of Special Purpose Entities (SPE) to hide
liabilities through off balance sheet accounting. WorldCom management transferred
transmission line costs from current expense accounts to capital accounts. This allowed them
to defer some operating expenses and report higher earnings. Also, they reduced the book
value of hard assets of MCI by $3.4 billion and increased goodwill by the same amount. Had
the assets been left at book value, they would have been charged against earnings over four
years. Goodwill, on the other hand, was amortized over much longer period.

14. Define and describe the importance of physical controls.

15. Define and describe a conflict of interest.

16. Describe the factors that constitute the fraud triangle. Why is it important to auditors?

17. Define each of the following input controls and give an example of how they may be used:
a. Missing data check
b. Numeric/alphabetic data check
c. Limit check
d. Range check
e. Reasonableness check
f. Validity check

18.If input and processing controls are adequate, why are output controls needed?