hall asia edition pp_ch03

8/18/2019 Hall Asia Edition PP_ch03

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rinciples o! Accounting "n!or#ation$yste#s, Asia %dition&a#es A. 'all

Chapter 3Ethics, Fraud, and Internal

Control


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Objectives for Chapter 3

(road issues pertaining to business ethics%thical issues related to the use o! in!or#ation

technology)istinguish between #anage#ent !raud ande#ployee !raudCo##on types o! !raud sche#es*ey !eatures o! $A$ + - C $ internal control!ra#ewor/

b ects and application o! physical controls2


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Business Ethics

hy should we be concerned about ethics inthe business world

%thics are needed when con!licts arise3theneed to choose"n business, con!licts #ay arise between4

e#ployees#anage#entsta/eholders

Litigation

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Business Ethics

Business ethics involves !inding the answers totwo 6uestions4'ow do #anagers decide on what is right inconducting their business

nce #anagers have recogni7ed what is right,

how do they achieve it

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Four Main Areas of Business Ethics

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Computer Ethics… concerns the social i#pact o! co#puter technology

:hardware, so!tware, and teleco##unications;. What are the main computer ethics issues?

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rivacy $ecurity3accuracy and con!identiality wnership o! property %6uity in access %nviron#ental issues

Arti!icial intelligence =ne#ploy#ent and displace#ent Misuse o! co#puter


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Lega !efinition of Frau"False representation - !alse state#ent ordisclosureMaterial fact - a !act #ust be substantial in

inducing so#eone to actIntent to deceive #ust e>ist?he #isrepresentation #ust have resulted in

justifiable reliance upon in!or#ation, whichcaused so#eone to act?he #isrepresentation #ust have causedinjury or loss

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@o raud

raud

ressure pportunity

%thics

%thics

pportunityressure

igure 5B1 raud ?riangle


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#$$% ACFE &tu"' of Frau"

Loss due to !raud e6ual to + o! revenues3appro>i#ately DEE8 billionLoss by position within the co#pany4

ther results4 higher losses due to #en,e#ployees acting in collusion, and e#ployees withadvance degrees

Position % of Frauds Loss $

Owner/Executive

23% $834,000

Manager 37% 150,000

Emplo ee 40% 70,000


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Enron( Wor "Com( A"e phia)n"er 'ing *rob ems

Lack of Auditor Independence: a uditing !ir#s also engaged by theirclients to per!or# nonaccounting activities

Lack of Director Independence: directors who also serve on the boardso! other co#panies, have a business trading relationship, have a!inancial relationship as stoc/holders or have received personal loans,or have an operational relationship as e#ployeesQuestionable Executive Compensation Schemes: shortBter# stoc/options as co#pensation result in shortBter# strategies ai#ed at drivingup stoc/ prices at the e>pense o! the !ir#Fs longBter# health

Inappropriate Accountin !ractices: a characteristic co##on to #any!inancial state#ent !raud sche#es

%nron #ade elaborate use o! special purpose entities.orldCo# trans!erred trans#ission line costs !ro# current e>pense

accounts to capital accounts.

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&arbanes+O, e' Act of #$$#"ts principal re!or#s pertain to4

Creation o! the ublic Co#pany Accountingversight (oard : CA (;

Auditor independence3#ore separation between a

!ir#Fs attestation and nonBauditing activitiesCorporate governance and responsibility3auditco##ittee #e#bers #ust be independent and theaudit co##ittee #ust oversee the e>ternal auditors)isclosure re6uire#ents3increase issuer and#anage#ent disclosure@ew !ederal cri#es !or the destruction o! orta#pering with docu#ents, securities !raud, andactions against whistleblowers

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Emp o'ee Frau"

Co##itted by non+management personne=sually consists o!4 an e#ployee ta/ing cash

or other assets !or personal gain bycircu#venting a co#panyFs syste# o! internalcontrols

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Management Frau"

erpetrated at levels o! #anage#ent above theone to which internal control structure relates

re6uently involves using !inancial state#ents tocreate an illusion that an entity is #ore healthy andprosperous than it actually is"nvolves #isappropriation o! assets, it !re6uently is

shrouded in a #a7e o! co#ple> businesstransactions

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Frau" &chemes

?hree categories o! !raud sche#es according tothe Association o! Certi!ied raud %>a#iners4

A. !raudulent state#ents(. corruptionC. asset #isappropriation

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A- Frau"u ent &tatements

Misstating the !inancial state#ents to #a/ethe copy appear better than it is

=sually occurs as #anage#ent !raudMay be tied to !ocus on shortBter# !inancial#easures !or success

May also be related to #anage#ent bonuspac/ages being tied to !inancial state#ents

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B- Corruption%>a#ples4

briberyillegal gratuities

con!licts o! interestecono#ic e>tortion

oreign Corrupt ractice Act o! 1E++4indicative o! corruption in business worldi#pacted accounting by re6uiring accurate recordsand internal controls

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C- Asset Misappropriation

Most co##on type o! !raud and o!ten occurs ase#ployee !raud

%>a#ples4#a/ing charges to e>pense accounts to cover the!t o!asset :especially cash;lappin 4 using custo#erFs chec/ !ro# one account tocover the!t !ro# a di!!erent accounttransaction fraud 4 deleting, altering, or adding !alsetransactions to steal assets

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.nterna Contro ObjectivesAccor"ing to A.C*A &A&

/- &afeguar" assets o! the !ir##- Ensure accurac' an" re iabi it' o! accountingrecords and in!or#ation

3- *romote efficienc' o! the !ir#Fs operations0- Measure comp iance with #anage#entFs

prescribed policies and procedures

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Mo"if'ing Assumptions to the

.nterna Contro ObjectivesManagement 1esponsibi it'

?he establish#ent and #aintenance o! a syste# o! internal

control is the responsibility o! #anage#ent.1easonab e Assurance

?he cost o! achieving the ob ectives o! internal control shouldnot outweigh its bene!its.

Metho"s of !ata *rocessing?he techni6ues o! achieving the ob ectives will vary withdi!!erent types o! technology.

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Limitations of .nterna Contro s

ossibility o! honest errorsCircu#vention via collusionManage#ent overrideChanging conditionsBBespecially in co#panieswith high growth

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E,posures of Wea2 .nternaContro s 1is24

!estruction o! an asset5heft o! an assetCorruption o! in!or#ation!isruption o! the in!or#ation syste#

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5he .nterna Contro s &hie "

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*reventive( !etective( an" CorrectiveContro s

25igure 5B5


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&A& 6% 7 CO&O

)escribes the relationship between the !ir#FsGinternal control structure,auditorFs assess#ent o! ris/, andthe planning o! audit procedures

"o# do these three interrelate$

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?he wea/er the internal control structure, the higher theassessed level o! ris/H the higher the ris/, the #ore auditorprocedures applied in the audit.


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Five .nterna Contro Components8&A& 6% 7 CO&O

1. Control environ#ent2. Ris/ assess#ent5. "n!or#ation and co##unication8. Monitoring

9. Control activities

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/8 5he Contro Environment"ntegrity and ethics o! #anage#ent

rgani7ational structureRole o! the board o! directors and the audit

co##itteeManage#entFs policies and philosophy)elegation o! responsibility and authority

er!or#ance evaluation #easures

%>ternal in!luences3regulatory agenciesolicies and practices #anaging hu#an

resources

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#8 1is2 Assessment

"denti!y, analy7e and #anage ris/s relevant to!inancial reporting4

changes in e>ternal environ#ent

ris/y !oreign #ar/etssigni!icant and rapid growth that strain internalcontrolsnew product lines

restructuring, downsi7ingchanges in accounting policies

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38 .nformation an" Communication

?he A"$ should produce high 6uality in!or#ationwhich4

identi!ies and records all valid transactionsprovides timely in!or#ation in appropriate detail toper#it proper classi!ication and !inancial reportingaccurately #easures the !inancial value o!transactions

accurately records transactions in the time period inwhich they occurred

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.nformation an" Communication

Auditors #ust obtain su!!icient /nowledge o! the "$ tounderstand4the classes o! transactions that are #aterial

I how these transactions are initiated JinputKI the associated accounting records and accounts used in processing

JinputKthe transaction processing steps involved !ro# theinitiation o! a transaction to its inclusion in the !inancialstate#ents JprocessKthe !inancial reporting process used to co#pile!inancial state#ents, disclosures, and esti#atesJoutputK

2E

Jred shows relationship to the general A"$ #odelK


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08 Monitoring?he process !or assessing the 6uality o! internal

control design and operationJ?his is !eedbac/ in the general A"$ #odel.K

$eparate procedures3test o! controls by internalauditors

ngoing #onitoring4co#puter #odules integrated into routine operations

#anage#ent reports which highlight trends ande>ceptions !ro# nor#al per!or#ance

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Jred shows relationship to the general A"$ #odelK


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98 Contro Activities

olicies and procedures to ensure that theappropriate actions are ta/en in response toidenti!ied ris/s

all into two distinct categories4"? controls3relate speci!ically to the co#puterenviron#ent

hysical controls3pri#arily pertain to hu#anactivities

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5:o 5'pes of .5 Contro s

;enera contro s< pertain to the entitywideco#puter environ#ent

%>a#ples4 controls over the data center, organi7ationdatabases, syste#s develop#ent, and progra##aintenance

App ication contro s< ensure the integrity o!speci!ic syste#s

%>a#ples4 controls over sales order processing,accounts payable, and payroll applications

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&i, 5'pes of *h'sica Contro s

?ransaction Authori7ation$egregation o! )uties

$upervision Accounting Records Access Control

"ndependent eri!ication

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*h'sica Contro s

5ransaction Authori=ationused to ensure that e#ployees are carrying

out only authori7ed transactionseneral :everyday procedures; or specific:nonBroutine transactions; authori7ations

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*h'sica Contro s

&egregation of !uties"n #anual syste#s, separation between4

authori%in and processin a transactioncustod& and recordkeepin of the asset subtasks

"n co#puteri7ed syste#s, separation between4

pro ram codin pro ram processin pro ram maintenance

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*h'sica Contro s

&upervisiona co#pensation !or lac/ o! segregationH so#e#ay be built into co#puter syste#s

Accounting 1ecor"sprovide an audit trail

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*h'sica Contro s

Access Contro shelp to sa!eguard assets by restricting

physical access to the#.n"epen"ent >erification

reviewing batch totals or reconcilingsubsidiary accounts with control accounts

5+


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Authori7ation

Authori7ation

&ournals

rocessing

Custody Recording

?a 1

este" Contro Objectives for 5ransactionseste" Contro Objectives for 5ransactions

Controlb ective 1

Controlb ective 2

Controlb ective 5

5

?RA@$AC?" @

$ubsidiaryLedgers

eneralLedger

igure 5B8


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*h'sica Contro s in .5 Conte,ts

5ransaction Authori=ation?he rules are o!ten e#bedded within

co#puter progra#s.%)"-&"?4 auto#ated reBordering o! inventorywithout hu#an intervention

5E


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&egregation of !uties A co#puter progra# #ay per!or# #any tas/s thatare dee#ed inco#patible.?hus the crucial need to separate progra#develop#ent, progra# operations, and progra##aintenance.

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&upervision ?he ability to assess co#petent e#ployees

beco#es #ore challenging due to the greatertechnical /nowledge re6uired.

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Accounting 1ecor"s ledger accounts and so#eti#es source docu#ents

are /ept #agneticallyno audit trail is readily apparent

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Access Contro )ata consolidation e>poses the organi7ation to

co#puter !raud and e>cessive losses !ro# disaster.

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hall asia edition pp_ch03

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