Accounting Information Systems
5.7 A bank auditor met with the senior operations manager to discuss a customer’s
complaint that an auto loan payment was not credited on time. The customer said the
payment was made on May 5, its due date, at a teller’s window using a check drawn
on an account in the bank. On May 10, when the customer called for a loan pay-off
balance so he could sell the car, he learned that the payment had not been credited to
the loan. On May 12, the customer went to the bank to inquire about the payment
and meet with the manager. The manager said the payment had been made on May
11. The customer was satisfied because no late charge would have been assessed until
May 15. The manager asked whether the auditor was comfortable with this situation.
The auditor located the customer’s paid check and found that it had cleared on May
5. The auditor traced the item back through the computer records and found that
the teller had processed the check as being cashed. The auditor traced the payment
through the entry records of May 11 and found that the payment had been made with
cash instead of a check.
What type of embezzlement scheme does this appear to be, and how does that scheme
operate? Adapted from the CIA Examination
The circumstances are symptomatic of lapping, which is a common form of embezzlement
by lower-level employees in positions that handle cash receipts.
Ch. 5: Computer Fraud
5.8 AICPA adapted
a. Prepare a schedule showing how much the cashier embezzled.
Balance per Books, November 30
18,901.62
Add: Outstanding Checks
Number Amount
62 116.25
183 150.00
284 253.25
b. Describe how the cashier attempted to hide the theft.
The cashier used several methods to attempt to hide the theft:
1. The cashier did not include 3 outstanding checks in the reconciliation:
▪ No. 62 – 116.25
2. Error in totaling (footing) the outstanding checks. The total of the checks listed
on the reconciliation is actually 542.79 not 442.79.
Accounting Information Systems
5.9 An accountant with the Atlanta Olympic Games was charged with embezzling over
$60,000 to purchase a Mercedes-Benz and to invest in a certificate of deposit. Police
alleged that he created fictitious invoices from two companies that had contracts with
the Olympic Committee: International Protection Consulting and Languages
Services. He then wrote checks to pay the fictitious invoices and deposited them into a
bank account he had opened under the name of one of the companies. When he was
apprehended, he cooperated with police to the extent of telling them of the bogus bank
account and the purchase of the Mercedes-Benz and the CD. The accountant was a
recent honors graduate from a respected university who, supervisors stated, was a
very trusted and loyal employee.
a. How does the accountant fit the profile of a fraudster?
The accountant fit the fraud profile in that he was
• Young
How does he not fit the profile?
b. What fraud scheme did he use to perpetrate his fraud?
The accountant prepared fake invoices from legitimate contractors, wrote checks to pay
c. What controls could have prevented his fraud?
All the accountant had to do was create fictitious invoices, as he had custody of checks
before and after they were signed and he had the authorization to approve payments and
Ch. 5: Computer Fraud
d. What controls could have detected his fraud?
• A bank reconciliation prepared by someone else. An Olympic Committee official
should have reviewed bank statements and cancelled checks.
Accounting Information Systems
5.10 Lexsteel, a manufacturer of steel furniture, has facilities throughout the United States.
Problems with the accounts payable system have prompted Lexsteel’s external
auditor to recommend a detailed study to determine the company’s exposure to fraud
and to identify ways to improve internal control. Lexsteel’s controller assigned the
study to Dolores Smith. She interviewed Accounts Payable employees and created the
flowchart of the current system shown in Figure 5-3.
The manufacturing plant checks the goods received for quality, counts them,
reconciles the count to the packing slip, and e-mails the receiving data to Accounts
Payable. If raw material deliveries fall behind production, each branch manager can
send emergency purchase orders directly to vendors. Emergency order data and
verification of materials received are e-mailed to Accounts Payable. Since the
company employs a computerized perpetual inventory system, periodic physical
counts of raw materials are not performed.
Once a week, invoices due the following week are printed in chronological entry order
on a payment listing, and the corresponding checks are drawn. The checks and
payment listing are sent to the treasurer’s office for signature and mailing to the
payee. The check number is printed by the computer, displayed on the check and the
payment listing, and validated as the checks are signed. After the checks are mailed,
the payment listing is returned to Accounts Payable for filing. When there is
insufficient cash to pay all the invoices, the treasurer retains certain checks and the
payment listing until all checks can be paid. When the remaining checks are mailed,
the listing is then returned to Accounts Payable. Often, weekly check mailings include
a few checks from the previous week, but rarely are there more than two weekly
listings involved.
Ch. 5: Computer Fraud
1. Discuss three ways Lexsteel is exposed to fraud and recommend improvements
to correct these weaknesses.
Weakness
Recommendation
There are no controls over branch managers issuing
emergency purchase orders. The branch manager
can decide when an “emergency” exists and she is
permitted to choose a vendor subjectively. This
opens the door to fraud and errors.
A procedure for expediting emergency
orders should be developed for the
purchasing department that contains
appropriate controls.
the checks when they are forwarded to the treasurer
signature should be accompanied by all
Accounting Information Systems
2. Describe three ways management information could be distorted and
recommend improvements to correct these weaknesses.
Weakness
Recommendation
1. Cash balances are distorted when checks are
Checks should be drawn only when cash
documentation, and by inaccurate receiving
documentation.
should be matched against original
purchase orders.
2. Accounts payable information is distorted by
drawing checks and then holding them for future
Invoices should not be entered into the
system until matched with supporting
3. Inventory balances are likely to be misstated
because of no physical counts.
Periodically count inventory and
reconcile the counts to inventory records.
4. Calculating due dates by hand and using the
invoice date instead of the date the goods are
received could lead to inaccurate due dates that
could damage vendor relations.
The system should calculate due dates
from the date goods are received, not
based on the date they are invoiced.
3. Identify and explain three strengths in Lexsteel’s procedures
• The company has a centralized EDP system and database in place. This
eliminates duplication of effort and data redundancy while improving data
integrity, efficiency, productivity, and timely management information.
Ch. 5: Computer Fraud
5.11 The Association of Certified Fraud Examiners 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.
There should be 5 or 6 of these articles on the Journal of Accountancy web site. No
5.12 Explore the Anti-Fraud and Forensic Accounting portion of the AICPA Web site
(www.aicpa.org/InterestAreas/ForensicAndValuation/Resources/ForensicAcctg/Pages
/default.aspx), and write a two-page report on the three most interesting things you
found on the site.
Solutions will vary. The purpose of the problem is to expose the students to the website
Accounting Information Systems
SUGGESTED ANSWERS TO THE CASES
5.1 1. How does Miller fit the profile of the average fraud perpetrator?
• Like many fraud perpetrators, David Miller was not much different than the
general public in terms of education, values, religion, marriage, and psychological
makeup.
How does he differ?
▪ Miller was not disgruntled and unhappy, nor was he seeking to get even with his
employer.
How did these characteristics make him difficult to detect?
It is often difficult to detect fraud perpetrators because they possess few
characteristics that distinguish them from the public. Most white-collar criminals are
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?
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
Ch. 5: Computer Fraud
2. To avoid detection, the perpetrator must conceal the crime. Perpetrators must
keep the accounting equation in balance by inflating other assets or decreasing
liabilities or equity. Concealment often takes more effort and time and leaves
behind more evidence than the theft or misrepresentation. Taking cash requires
3. The perpetrator must convert the stolen asset into some form usable by the
perpetrator if the theft is of an asset other than cash. For example, stolen
inventory and equipment must be sold or otherwise converted into cash. In
3. What pressures motivated Miller to embezzle? How did Miller rationalize his
actions?
Motivation. After David Miller had undergone therapy, he believed his problem with
compulsive embezzlement was an illness, just like alcoholism or compulsive
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?
Accounting Information Systems
Miller’s life seemed to be centered on financial gain and the accumulation of material
5. Why do companies hesitate to prosecute white-collar criminals?
• Negative publicity. Companies are reluctant to prosecute fraud because of the
financial damage that could result from negative publicity. A highly visible fraud
is a public relations disaster. The company could lose a lot of business due to the
adverse publicity.
• Unclear definition of computer fraud. One reason computer fraud is not
prosecuted more is that the definition of computer fraud is so vague. As a result,
no one really knows how much it really costs and there isn’t as much motivation
to go after computer fraud cases.
Ch. 5: Computer Fraud
• Light sentences. When fraud cases are prosecuted and a conviction is obtained,
the sentences received are sometimes very light. This discourages prosecution.
What are the consequences of not prosecuting?
When fraud is not prosecuted, it sends a message to employees and to the public that
enforcing laws is not important to the company. A reputation for being “soft” on
How could law enforcement officials encourage more prosecution?
To encourage more fraud prosecution, law enforcement officials must take actions to
6. What could the victimized companies have done to prevent Miller’s
embezzlement?
Not much is said in the case about how Miller committed many of the frauds. In each
of the frauds, it is likely that the theft of cash could have been prevented by tighter
Accounting Information Systems
5.2
1. Figure 5-4 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
2. Steal cash receipts and allow
accounts to be written off.
It is difficult to collect from some
Lag between customer payments
and the posting of the payments.
If the appropriate controls are in
place, customers listed on the pre-
accounts written off.
If the perpetrator did not get
greedy, this might not be easily
No separation of
duties between cash
receipts, posting
receivables, and
preparing bank
No monthly
statements.
Separate custody of cash (opening cash
receipts) from recording (posting payments to
receivables records).
Have 2 people open all cash receipts and
Send monthly statements.
Bank financing, credit card payments, or
Ch. 5: Computer Fraud
Sales agents could
3. Falsify sales to reach an
incentive level. Agents can book
fictitious contracts, pay with a
money order, send correspondence
4. Defer yearend sales
Sales that will not qualify for a new
Abnormally large number of sales
just before year end, combined
with agent barely reaching an
incentive level
Few and steep
incentive levels that
motivate unwanted
behavior.
More graduated incentives that do not provide
such strong incentives.
Base sales incentives on customer collections,
not on original sales.
5. Steal part of a customer’s
payment. An agent could send in
$250 of a $900 sale and pocket the
difference. The agent could then
will be hard to detect since, so
few use that option.
Customer complaints.
current before a
sitting, so $250 is as
good as $900.
Require customers to sign photography plan
order forms and initial the amount paid and
financing arrangements.
6. Management can bleed the
company or engage in non-arms-
Company perpetually short of
cash
No apparent controls
to prevent one owner
Require all payments, perks, or non-arms-
length transactions to an owner to be approved
Accounting Information Systems
length transactions with owners.
Both owners are paying their
spouses exorbitant salaries and have
extravagant expense accounts and
perks.
Expense accounts and perks
unusually high
Inflated salary expenses
Abnormally high prices for the
from defrauding the
other owner.
by the other owner.
An external, independent audit.
Full disclosure of all payments, perks, or non-
arms-length transactions to a qualified tax
7. Customers can use photo
coupons without completing their
payments. There are no controls to
prevent customers who have stopped
paying on their note from taking
Increase in the number of sittings
per current customer.
Coupons submitted for customers
that have been written off.
Photographers are not
required to verify if
customers are current
before a sitting.
Set up automatic withdrawals from checking
accounts or automatic charges to credit cards.
Require photographers to verify that customers
are current before each sitting.
8. Photographers could send in
unused coupons or fake coupons.
Photographers have exclusive rights
Abnormally high rate of
customers using their coupons
Photographers given
an exclusive area.
Pre-number coupons.
Have a code on the coupon that the
Ch. 5: Computer Fraud
to customers in their specified areas.
Coupons that do not look
Customers not signing
photographer has to call in to the company (or
9. Heirloom can defraud the bank
by misstating the maximum
amount Heirloom can borrow.
Notes payable are in the borrowing
base until they are 60 days overdue.
Abnormally high number of
customers 30-60 days overdue.
Bank does not verify
data from Heirloom.
Analysis of the list, such as
• 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
10. Heirloom can defraud the
bank by misstating its financial
statements in many ways. For
example:
Unusual decrease in the
allowance or bad debt amounts.
Sales increase without a
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
Accounting Information Systems
– Understating its allowance and bad
debt expense (not writing off
comparable increase in
receivables; inventory; cost of
sales ratios to see if they are below those of
past years and those of comparable customers