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5.9 The ACFE periodically prepares an article called “What Is Your Fraud IQ?” It
consists of 10 or more multiple choice questions dealing with various aspects of fraud.
The answers, as well as an explanation of each answer, are provided at the end of the
article. Visit the Journal of Accountancy site (http://www.journalofaccountancy.com)
and search for the articles. Read and answer the questions in three of these articles,
and then check your answers.
5.10 Explore the Fraud Prevention, Detection, and Response portion of the AICPA website
(www.aicpa.org/INTERESTAREAS/FORENSICANDVALUATION/RESOURCES/F
RAUDPREVENTIONDETECTIONRESPONSE/pages/fraud-prevention-detection-
response.aspx), and write a two-page report on the three most interesting things you
found on the site.
SUGGESTED ANSWERS TO THE CASES
5.1 1. How does Miller fit the profile of the average fraud perpetrator?
How does he differ?
How did these characteristics make him difficult to detect?
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2. Explain the three elements of the Opportunity Triangle (commit, conceal,
convert) and discuss how Miller accomplished each when embezzling funds from
Associated Communications. What specific concealment techniques did Miller
use?
There are three elements to the opportunity triangle:
1. The perpetrator must commit the fraud by stealing something of value, such as
cash, or by intentionally reporting misleading financial information.
Miller was able to steal cash by undermining the internal controls that required
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3. What pressures motivated Miller to embezzle? How did Miller rationalize his
actions?
4. Miller had a framed T-shirt in his office that said, “He who dies with the most
toys wins.” What does this tell you about Miller? What lifestyle red flags could
have tipped off the company to the possibility of fraud?
in-law.
5. Why do companies hesitate to prosecute white-collar criminals?
Accounting Information Systems
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is a public relations disaster. The company could lose a lot of business due to the
adverse publicity.
What are the consequences of not prosecuting?
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How could law enforcement officials encourage more prosecution?
6. What could the victimized companies have done to prevent Miller’s
embezzlement?
Accounting Information Systems
5.2
1. Figure 5-3 shows the employees and external parties that deal with Heirloom. Explain how Heirloom could defraud the
bank and how each internal and external party except the bank could defraud Heirloom.
2. What risk factor, unusual item, or abnormality would alert you to each fraud?
3. What control weaknesses make each fraud possible?
4. Recommend one or more controls to prevent or detect each means of committing fraud.
There are many ways to perpetrate fraud. Some of the more easily recognizable ways are the following:
1. Ways to Commit Fraud
2. Indication Something is Wrong
3. Weaknesses
Allowing Fraud
4. Controls to Minimize Fraud
Receivables employees could :
1. Steal cash receipts by lapping.
Payments are made by sending in a
coupon and a $25 payment. Any of
the three receivables employees
could pocket the payment, save the
coupon, put a subsequent payment
with the “saved” coupon, and run
the payment through the system.
Lag between customer payments
and the posting of the payments.
If the appropriate controls are in
place, customers listed on the pre-
listing of cash would not match
the names on the bank deposit or
those credited for payment on the
same day.
No separation of
duties between cash
receipts, posting
receivables, and
preparing bank
deposit.
No independent
checks on
performance.
Separate custody of cash (opening cash
receipts) from recording (posting payments to
receivables records).
Have 2 people open all cash receipts and
prepare a pre-listing of cash receipts.
Compare customer names on the pre-listing to
customer names on the receivables posting and
the bank deposits.
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customers each month and allow the
accounts to be written off.
fraud customers might not be
easily detected.
Customer complaints.
Sales agents could:
3. Falsify sales to reach an
incentive level. Agents can book
fictitious contracts, pay with a
money order, send correspondence
to a PO Box they control, and let the
contract default with no more
payments. Agents selling less than
101 contracts can break even by
falsifying up to 16 sales. ($250
down - $100 commission = $150
cost. $2500 bonus / $150 cost = 16
contracts). Agents selling less than
201 can falsify up to 40 contracts.
Abnormally large number of sales
just before year end, combined
with agent barely reaching an
incentive level.
Increase in the number of
accounts written off, especially
for agents barely reaching an
incentive level.
Customer complaints.
Few and steep
incentive levels that
motivate unwanted
behavior.
Inability to effectively
follow -up on
collections (addresses
and phone numbers).
See #2.
Customer credit not
checked.
More graduated incentives that do not provide
such strong incentives.
Base sales incentives on customer collections,
not on original sales.
Analysis of December sales for sales agents
who barely reach an incentive level, especially
on last day or two of the year.
Analysis of default rates per sales agent for
those who barely reach an incentive level,
especially on last day or two of the year.
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$250 of a $900 sale and pocket the
difference. The agent could then
make payments for a while and let
the contract lapse. Not a big risk as
virtually all customers choose
financing.
Customer complaints.
Do most customers finance
because agents are already doing
this?
good as $900.
Customers don’t sign,
initial photography
plan order forms.
order forms and initial the amount paid and
financing arrangements.
6. Management can bleed the
company or engage in non-arms-
length transactions with owners.
Both owners are paying their
spouses exorbitant salaries and have
extravagant expense accounts and
perks.
Buildings, equipment, and
furnishings could be purchased
from/by the owners at inflated or
deflated prices.
This is not fraud--as long as what
Company perpetually short of
cash.
Expense accounts and perks
unusually high.
Inflated salary expenses
Abnormally high prices for the
assets purchased.
No apparent controls
to prevent one owner
from defrauding the
other owner.
Require all payments, perks, or non-arms-
length transactions to an owner to be approved
by the other owner.
An external, independent audit.
Full disclosure of all payments, perks, or non-
arms-length transactions to a qualified tax
preparer to ensure full compliance with
applicable tax laws.
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coupons without completing their
payments. There are no controls to
prevent customers who have stopped
paying on their note from taking
their coupon to their photographer
for a sitting and getting their picture
taken.
per current customer.
Coupons submitted for customers
that have been written off.
Photographer complaints.
required to verify if
customers are current
before a sitting.
Customer given all
their coupons at initial
purchase.
accounts or automatic charges to credit cards.
Require photographers to verify that customers
are current before each sitting.
Keep a list of customer payments; do not pay
for customers that are no longer current.
Do credit checks on all potential customers.
8. Photographers could send in
unused coupons or fake coupons.
Photographers have exclusive rights
to customers in their specified areas.
They could encourage customers to
leave the coupons at the photo studio
so they are not lost or misplaced. If
a customer did not come in during
the 6-month period, the
photographer could submit his
unused coupon.
If the coupon book is not left for
safekeeping, the photographer could
Abnormally high rate of
customers using their coupons
Coupons that do not look
authentic.
Customer complaints.
Photographers given
an exclusive area.
Customers not signing
coupons or otherwise
verifying they had a
sitting.
Photographers could
send in coupons for
non-current customers,
as they are not
required to verify if
customers are current
Pre-number coupons.
Have a code on the coupon that the
photographer has to call in to the company (or
enter on a website) before authorization is
granted to take the photo.
For each photographer, analyze what percent of
customers use their coupons looking for
abnormally high usage rates.
Require photographers to verify that customers
are current before each sitting.
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by misstating the maximum
amount Heirloom can borrow.
Notes payable are in the borrowing
base until they are 60 days overdue.
To maximize that base, Heirloom
could lap customer payments. They
could take a monthly payment on a
current account and apply it to an
account that is just about to go 60
days overdue. The inflated list
could be used to support a higher
than justified loan.
customers 30-60 days overdue.
data from Heirloom.
• An increase in the number or percentage of
accounts on the list submitted to the bank
with no comparable increase in sales.
• Comparison of monthly lists to see if the
same names appear month after month.
10. Heirloom can defraud the
bank by misstating its financial
statements in many ways. For
example:
- Understating its allowance and bad
debt expense (not writing off
uncollectible receivables and low-
balling the bad debt expense).
- Creating fictitious sales and notes
receivables.
- Intentionally under or over stating
the sales commission estimates.
Unusual decrease in the
allowance or bad debt amounts.
Sales increase without a
comparable increase in
receivables; inventory; cost of
goods sold; and applicable
expenses such as photographer
and album expenses, embossing
and shipping, and commissions.
Sales commissions out of line
with those of the industry or past
years.
There is no mention of
an external audit by
independent CPAs.
An external, independent audit.
Financial statement analysis, such as
• Analysis of bad debt to sales and allowance to
sales ratios to see if they are below those of
past years and those of comparable customers
in the same industry.
• Analysis of sales ratios, comparing sales to
receivables; inventory; gross margin, cost of
goods sold; and applicable expenses such as
album and photographer expenses, embossing
and shipping, and commissions.
