- 1. Chapter 13 Liability, Asset and Inadequate Disclosure Fraud
MEGAN FERRIS 1
2. Agenda Identify fraudulent schemes to understate liabilities
Identify fraudulent schemes to overstate assets Identify fraudulent
schemes with inadequate disclosure fraud Look at case in relation
to asset and liability fraud Waste Management AIG WorldCom Satyam 2
3. Understatement of Liability Fraud 3 4. Understatement of
Liability Fraud Understatement of Accounts Payable Record payables
in subsequent periods or dont record purchases Overstate purchase
returns and purchase discounts Record payments made in later
periods as being made in earlier periods Analytical symptoms
Accounts Payable balances that appear to high Purchase or COGS
figures that appear to low Purchase returns or discounts that
appear to high 4 5. Understatement of Liability Fraud
Understatement of Accrued Liabilities Not record accrued
liabilities Record accruals in a later period Analytical Symptoms
Expenses and/or accrued liabilities appear to low e.g. payroll,
rent, interest, utilities Income that is to smooth 5 6.
Understatement of Liability Fraud Recognising unearned revenue as
earned revenue Record unearned revenues as earned revenues (and
vice versa with cookie jar reserves) Analytical Symptoms Liability
balances that appear to low Revenue accounts that appear to high 6
7. Understatement of Liability Fraud Under-recording future
obligations Not recording warranty (service) liabilities Under
record liabilities Record deposits as revenues Not recording
repurchase agreements and other commitments Analytical symptoms
Warranty, repurchase or deposit accounts that appear to low Compare
to another account 7 8. Understatement of Liability Fraud Not
recording or under recording various types of debt Borrow from
related parties at less than an arms length transaction Dont record
liabilities Write off liabilities as forgiven Claim liabilities as
personal debt rather than debt of the entity Analytical symptoms
Unreasonable relationship between interest and debt Significant
decreases in recorded debt Significant asset purchases with no
recorded debt Liability balances that appear to low 8 9.
Understatement of Liability Fraud Omission of contingent
liabilities Don't record probable contingent liabilities Record
contingent liabilities at to low of an amount Analytical symptoms
Not very useful to discover unrecorded contingent liabilities 9 10.
Overstatement of Asset Fraud 10 11. Overstatement of Asset Fraud
Overstatement of Cash, Short-Term Investments and Marketable
Securities Record restricted cash as unrestricted Misappropriate
cash without managements knowledge Misstate marketable securities
with the aid of related parties Overstatement of Receivables and
Inventory Overstate receivables and inventory in an attempt to
cover cash theft or theft of other assets 11 12. Overstatement of
Asset Fraud Overstatement of Fixed Assets Leave worthless or
expired assets on the books Under reporting depreciation expense /
overstate residual value / increase the useful life Overstate asset
costs through related party transactions Fabricating fixed assets
12 13. Overstatement of Asset Fraud Overstatement of Assets through
Merger and Acquisitions or by Manipulating Intercompany Accounts or
Transactions Use market values rather than book values to record
assets Have the wrong entity be the purchaser Improperly allocating
book value to assets Record fictitious assets or inflate the value
of assets Overstatement of Intangible or Deferred Assets Capitalise
costs as intangible assets where they should be expensed 13 14.
Ways to Detect Overstatement of Assets Compare changes and trends
in account balances Compare changes and trends in financial
statement relationships Compare financial balances with
non-financial information (e.g. compare to the actual asset)
Compare financial statement balances and policies with those used
by other similar companies 14 15. Disclosure Frauds 15 16.
Disclosure Frauds Misrepresentation about the nature of the company
or its products Misrepresentations or omissions in the Management
Discussion and Analysis Misrepresentations or omissions in the
footnotes to the financial statements 16 17. Ways to identify
disclosure fraud Look for inconsistencies between disclosures and
information in the financial statements Inquire of management
concerning related-party transactions, contingent liabilities, and
contractual obligations Review a companys files and records with
the SEC and other regulatory agencies 17 18. Waste Management 18
19. Waste Management Company: Houston-based publicly traded waste
management company What happened: Reported $1.7 billion in fake
earnings. Main players: Founder/CEO/Chairman Dean L. Buntrock and
other top executives; Arthur Andersen Company (auditors) How they
got caught: A new CEO and management team went through the books.
Penalties: Settled a shareholder class-action suit for $457
million. SEC fined Arthur Andersen $7 million. 19 20. Waste
Management Asset Overstatement Avoided depreciation charges by
increasing useful life and salvage values Landfill development
expenses improperly capitalized Expenses necessary to write off
costs of unsuccessful and abandoned landfill projects not recorded
Failed to record expenses for decreases in the value of landfills
as were filled up 20 21. Waste Management Liability Manipulation
Failed to establish sufficient reserves (liabilities) to pay for
income taxes and other expenses Established inflated environmental
reserves (liabilities) in connections with acquisitions so that
excess reserves could be used to avoid recording unrelated
operating expenses 21 22. AIG American Insurance Group 22 23. AIG
Company: Multinational insurance corporation. What happened:
Massive accounting fraud to the tune of $3.9 billion was alleged,
along with bid-rigging and stock price manipulation. Main player:
CEO Hank Greenberg. How he got caught: SEC regulator
investigations, possibly tipped off by a whistleblower. Penalties:
Settled with the SEC for $10 million in 2003 and $1.64 billion in
2006, with a Louisiana pension fund for $115 million, and with 3
Ohio pension funds for $725 million. Greenberg was fired, but has
faced no criminal charges. 23 24. AIG Investigations around two
transactions between AIG and Berkshire Hathaways General Re Corp In
2005 loans worth $500 million were dressed as revenue to boost AIGs
revenue More issues have since come to light in regards to other
accounting transactions 24 25. WorldCom 25 26. WorldCom Company:
Telecommunications company; now MCI, Inc. What happened: Inflated
assets by as much as $11 billion, leading to 30,000 lost jobs and
$180 billion in losses for investors. Main player: CEO Bernie
Ebbers How he got caught: WorldCom's internal auditing department
uncovered $3.8 billion of fraud. Penalties: CFO was fired,
controller resigned, and the company filed for bankruptcy. Ebbers
sentenced to 25 years for fraud, conspiracy and filing false
documents with regulators. 26 27. WorldCom Internal Audit uncovered
massive fraud $3.8 billion of line expenses incorrectly recorded as
capital investments Further $3.3 billion of profits incorrectly
recorded. This was done through manipulation of reserves By the end
of 2003 estimated that assets were overstated by $11 billion 27 28.
Satyam 28 29. Satyam Company: Indian IT services and back-office
accounting firm. What happened: Falsely boosted revenue by $1.5
billion. Main player: Founder/Chairman Ramalinga Raju. How he got
caught: Admitted the fraud in a letter to the company's board of
directors. Penalties: Raju and his brother charged with breach of
trust, conspiracy, cheating and falsification of records. Released
after the Central Bureau of Investigation failed to file charges on
time. 29 30. Letter to the BOD The balance sheet carries as of
September 30, 2008 Inflated (non-existent) cash and bank balance of
Rs 5,040 crore (as against Rs 5361 crore reflected in the books) An
accrued interest of Rs 376 crore which is non-existent An
understated liability of Rs 1,230 crore on account of funds
arranged by me An over stated debtor position of Rs 490 crore (as
against Rs 2651 reflected in the books) This gap amounted to about
$1.6 billion in total 30 31. Letter to the BOD The gap in the
balance sheet has arisen purely on account of inflated profits over
a period of last several years Started as marginal, and continued
to grow Justifies his actions Nether himself or the Managing
Director sold shares Did not take a dollar /rupee nor profit from
the fraud None of the board members not their immediate family knew
about the companies fraudulent financial position 31 32. It was
like riding a tiger, not knowing how to get off without being eaten
32 33. Satyams Auditor - PWC PwC India was the auditor of Satyam
Two audit partners on trial Two audit managers have been banned for
life After the scandal 10% of PwC partners walked out, with many
staff expected to follow PWC India was fined $6million for: Failing
to act as a watchdog Failing to follow most basic auditing
standards Routinely neglecting quality control 33 34. Conclusion 34
35. Conclusion Identified fraudulent schemes to understate
liabilities Identified fraudulent schemes to overstate assets
Identified fraudulent schemes with inadequate disclosure fraud Look
at cases in relation to asset and liability fraud Waste Management
AIG WorldCom Satyam 35 36. Questions? 36 37. References AICPA
(2003). Fraud at Waste Management. AICPA. Retrieved from
www.aicpa.org/InterestAreas/AccountingEducation/.../wastemanage.ppt
Albrecht, W.S; Albrecht, C.O; C.C. Albrecht and Zimbelman, M.F.
2012. Fraud Examination. Australia: South Western Cengage Learning
Callahan, D. (Nov, 2010). AIG: Before the Crash, There Was the
Fraud. Retrieved from
www.cheatingculture.com/accounting-fraud/2010/11/8/aig-
before-the-crash-there-was-the-fraud.html Desai, M. (Sept, 2013).
Satyam scam: US finds PwC 'India' guilty. Indian Express. Retrieved
from www.indianexpress.com Doval, P., (Feb, 2012). ICAI bans PW
India's top auditor for life in Satyam case. Times of India.
Retrieved from www.timesofindia.indiatimes.com 37 38. References
JJ, (Mar, 2007). WorldCom Scandal: A Look Back at One of the
Biggest Corporate Scandals in U.S. History. Yahoo. Retrieved from
www.voices.yahoo.com/ McKenna, F. (May, 2011). Satyam: Not The Only
Case PwC Worried About. Forbes. Retrieved from www.forbes.com Raju,
R (Jan, 2009). Satyam Chairman B Ramalinga Rajus statement to the
Board. Retrieved from www.hindu.com/nic/satyam-chairman-
statement.pdf SEC (2002). Waste Management Founder, Five Other
Former Top Officers Sued for Massive Fraud. SEC. Retrieved from
www.sec.gov/news/headlines/wastemgmt6.htm Tran, M., (Aug, 2002).
WorldCom accounting scandal. The Guardian. Retrieved from
www.theguardian.com 38
