In theory, Statement Auditing Standard 99 should make certified fraud examiners
virtually extinct, according to Catherine M. Parente, who is a certified public
accountant and certified fraud examiner. But in reality, she says, there is
more than enough fraud to go around to keep both CPAs and CFEs busy.
A 2002 report published by the Association of Certified Fraud Examiners, based on 663 occupational fraud cases, showed that fraud caused more than $7 billion in losses. The study was based on a survey completed by 10,000 CFEs from April 2001 to February 2002.
For the last year, CPAs nationwide, especially those concentrating on auditing, have been learning how to implement SAS 99 – Consideration of Fraud in a Financial Statement. The new standard asks CPAs to approach audits with a different mindset and asks them to become more diligent in detecting relations, trends or numbers that “just don’t add up,” says Parente, who is a partner with Carlin, Charron & Rosen LLP’s litigation support and business valuation services group in Providence.
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Previously, CPAs never specifically looked for fraud or indications of it during an audit. And fraud would be reported “only if there were red flags,” said Parente, who has seen estimates showing audit costs increasing by 20 to 30 percent because of SAS 99.
“It is intended to be a good thing for business owners and loaners,” she said. “Also, it will hopefully raise the bar of auditing requirements and make an auditor consider fraud. The chances of detection will increase.”
But from the auditor’s point of view, she said, it will mean more work and costs passed to the customer.
“You may even see some resistance from (business) owners because they will get the same information,” she said. “The consumer will see no difference in the end result.”
The American Institute of Certified Public Accountants (AICPA) developed and now promotes SAS 99. Many believe that the initiative was born from corporate scandals such as Enron, but Parente said AICPA had been working on it for a few years prior in an effort to update its previous fraud standard, SAS 82. However, it does include some recommendations from the Public Company Accounting Oversight Board, created by the Sarbanes-Oxley Act of 2002.
“SAS 99 is the profession’s attempt to put more emphasis (on fraud detection) during the auditing process,” she said.
“It asks CPAs to start smelling and sniffing when they walk in the door (for an audit).”
An auditor’s report expresses an opinion on whether a set of financial standards are fairly presented in accordance with Generally Accepted Accounting Principals in all material respects, according to Parente. Audit analysis includes confirming cash on balance sheets and inventory counts, among other things.
“Audits used to be more about (analyzing records) and a CFE had more human contact (through interviews),” said Parente. “(SAS 99) moves an auditor to have more human contact.”
A CFE however does not need to follow the practices prescribed by SAS 99. And a CFE does not need to be a CPA. At different CFE national meetings, Parente has worked with law enforcement officials and lawyers.
“CFEs bring together all different skills sets,” she said.
Parente has been a CFE since April 1995, while with the firm Suls Westgate & Parente LLP, which merged with Carlin, Charron & Rosen LLP in January 2000.
CFEs, she said, are called in more often because a business owner suspects fraudulent activity. If Parente is hired as a CFE she conducts interviews and analyzes records during and after business hours. Most of her calls, she says, are reactive, but there are cases of an employer wanting to set up deterrent mechanisms in an effort to stop fraud.
“It costs more time and money though to be pro-active,” she said.
SAS 99, she says, intends for auditors to start moving “across the line, making them think more like a CFE,” said Parente.
According to the AICPA Web page on SAS 99, when an auditor is examining for material mismanagement due to fraud, they should:
• Exercise professional skepticism and consider that fraud could be present.
• Discuss among audit team members regarding how and where an entity’s risks of material mis-statement may exist.
• Obtain the information needed to identify risks through analysis and interviews.
• Identify risks that may result in fraud.
• Assess and evaluate the identified risks after taking into account an evaluation of the entity’s programs and controls.
• Communicate about fraud to management and audit committee.
• Document the auditor’s consideration of fraud.
Finding material mismanagement, says Parente, is a gray area.
“If a bookkeeper stole $20,000 annually for eight years, when the company made $1 million annually in the same amount of time, that isn’t material,” she said.
“And SAS 99 doesn’t say an auditor has to catch the fraud. There is an expectation gap between what (business) owners expect of auditors and what the standard truly requires.”
In general, she says fraud usually starts off small, with an employee stealing cash, inventory or fixed assets. It is perpetuated by a triangle set of circumstances – motive (gambling or substance abuse), opportunity (no one double-checking) and rationalization (“I’ll give back the money next week,”) she said.
“These three elements are found in every fraud,” said Parente.
The triangle, she says, is not new to CFEs but the concept is introduced to CPAs in SAS 99. Fraud is detected either through a misappropriation of assets (for example an employee selling inventory “out the back door”) or fraudulent financial reporting (such as inflating inventories to show inflated profits).
According to the CFE association report, more than 80 percent of occupational frauds involve asset misappropriations and cash was the targeted asset 90 percent of the time. Corruption schemes accounted for 13 percent of all occupational frauds and caused more than $500,000 in losses, on average.
Fraudulent statements are the most costly form of occupational fraud with median losses of $4.25 million per scheme, the report says. The average scheme in this study lasted 18 months before it was detected. Also, according to the CFE report, small businesses are the most vulnerable to occupational fraud and abuse.
The average scheme in a small business loses $127,500 while the average scheme
in the largest companies costs $97,000.
