Recognizing and Preventing Fixed Asset and Inventory Fraud using Data Analysis

Recognizing and Preventing
Fixed Asset and Inventory
Fraud using Data Analysis
March 27, 2013
Special Guest Presenter:
Katrina Kiselinchev, CIA, CPA, CFE, CFF

Copyright © 2013 FraudResourceNet™ LLC

About Peter Goldmann, MSc., CFE



President and Founder of White Collar Crime 101

Publisher of White‐Collar Crime Fighter
Developer of FraudAware® Anti‐Fraud Training
Monthly Columnist, The Fraud Examiner,
ACFE Newsletter

 Member of Editorial Advisory Board, ACFE
 Author of “Fraud in the Markets”
Explains how fraud fueled the financial crisis.


About Jim Kaplan, MSc, CIA, CFE
 President and Founder of AuditNet®, the global resource for auditors
 Auditor, Web Site Guru
 Internet for Auditors Pioneer
 Recipient of the IIA’s 2007 Bradford Cadmus Memorial Award.
 Author of “The Auditor’s Guide to Internet Resources” 2nd Edition


About Katrina Kiselinchev, CPA, CIA, CFE, CFF







President of Inclusivitie, We Do “SMART”
Integration Partner with IDEA
Experience across industries, audit, fraud, and value
Achieved Value of $5+ Million & ROI of 2000+%, which
included using IDEA’s SMART Analyzer .
Adjunct Professor at Georgia State University
Specific Fraud in Fixed Asset e.g. Mischaracterized Fixed
Asset v. Expense to Increase Bottom Line.


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5

Learning Objectives
 Phantom inventory: How to Know What’s Really in your
Warehouses and What’s Not
 How Managers Conceal Inventory and Capital Asset Theft by
Reporting Fraudulently Inflated Values
 Case Studies of Inventory/Fixed Asset Theft and Concealment
 Effective Data Analytics Tests Revealing Red Flags of Inventory
Theft and Asset Value Misstatement
 What to Do After Data Analytics Has Uncovered Signs of Asset
Fraud/Misstatement


6

Agenda
 Introduction
 The Auditor’s Role
 Fraud State of the Union
 In the News: Costliest Forms of Fixed Asset & Inventory Fraud
 Fixed Asset & Inventory Fraudsters
 IMA Building an Asset Company Case
 Planning for Fixed Asset and/or Inventory Fraud
 Data Gathering & Software Introduction
 Discovery with DA: Is There Fraud at IMA Building an Asset
 Red Flag Detection & Collusion
 Finding Fixed Asset and Inventory Fraud & Next Steps


7

The Auditor’s Role

IPPF Standard 1210.A3
 Internal auditors must have sufficient
knowledge of…available technology
based audit techniques to perform their
assigned work


IIA Guidance – GTAG 13
Internal auditors require appropriate skills
and should use available technological
tools to help them maintain a successful
fraud management program that covers
prevention, detection, and investigation.
As such, all audit professionals — not just
IT audit specialists — are expected to be
increasingly proficient in areas such as
data analysis and the use of technology to
help them meet the demands of the job.


Professional Guidance


Fraud State of the Union

Source: 2012 ACFE Report to the
Nations


Fraud State of the Union

Source: 2012 ACFE Report to the
Nations


Polling Question 1
Types of Inventory Scheme
(Choose all that apply):
A.
B.
C.
D.
E.

Stealing
Diverting in Transit
Skimming
Check Counterfeiting
Adding “Phantom Inventory”


Costliest Forms of Fixed Asset
and / or Inventory Fraud
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According to ACFE's "Report to the Nation on Occupational Fraud and Abuse":
> 7% of Fraud Cases in Financial Statement Fraud with < 99 Employees
> 15% of Fraud Cases in Non‐Cash Schemes
Private Companies at 39%+ Of 2012 Fraud, $200K+ Per Incident
Banking & Financial Services, Government, and Manufacturing—Highest Fraud %


Fraud Schemes
Fixed Asset
 Booking Fictitious Assets
 Misrepresenting Asset Valuation
 Falsifying Assets to Meet Loan Covenants
 Improper Capitalization
 Stealing Assets

Inventory
 Stealing Inventory
 Diverting Inventory in Transit
 Falsifying Inventory Numbers to Boost Profits
 Manipulating inventory to conceal embezzlement (Phar‐Mor)
 Falsifying Inventory to meet Loan Covenants
 Creating “Phantom” Inventory
‐‐ Inventory on books > on hand due to theft or fraudulent reporting

AICPA Fraud Task Force & Six Men &
$4B in Fraud

It All Started With a Loan Failure
Description: The perpetrator and his companies were the guarantors of
several large loans related to entertainment contracts. The loans were
participation loans with several foreign banks. Fraud began with failure to
record or disclose a liability caused by a failed loan.
Perpetrator’s internal accountants relayed that the bankers had requested
that the loss be kept off financial statements and that the external CPAs did
not know about it. The fraud grew to include overstatement of assets and
understatement of liabilities to keep the businesses functioning.
Dollar loss: $236 million.
What was done to conceal the fraud: Extensive internal collusion helped to
hide the fraud.
“Audit evidence” provided to external CPAs included falsified contracts and
invoices that presented certain assets as company‐ owned.
Assets that were sold were not removed from the books, assets that were
borrowed were presented as owned, and certain guarantees of loans were
not disclosed.
How scheme was detected: A whistleblower tipped off authorities to the
fraud.

Perpetrators


Case Study 1: IMA ASSETS CO.
Initial Contact:
ORANGE U GLADICALL,  Tipster Calls Hotline at IMA Building
Co. with anonymous tip that there is massive theft going on
in the warehouse, as well as overstatement of assets to
meet loan covenants.
 “Concerns about All the Fixed Asset  & Inventory Fraud”
 “Scared to Come Forward”
 We Need Someone from the Outside
 “We Need a Data Analysis Expert… .. Massive Data”


Data Analytics for Fraud:
Software Overview
Data Analytics

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

Traditional Auditing

Large Amounts of Data
Identify Red Flags Faster
Increased Coverage
Determine Trends
Continuous Analysis
Process Improvement

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

Small Amounts of Data
Delay in Identifying Red Flags
Decreased Coverage
Harder to ID Trends

Show First View of IDEA


19

Software Overview & Introduction
 Set Working Folder
 Import Data
 Check Control Totals


Software Overview & Introduction
 Set Working Folder
 Import Data
 Check Control Totals


IMA Building an Asset Co
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1000+ Assets with No Physical Review
Inability to Generate + Cash Flows while Reporting Earnings Growth
No Inventory Comparison of Price v. Unit Cost
Caught Operations Manager Stealing a TV Via Video Camera
Tight Loan Covenants & EBITDA Nearing Every Quarter
Two People in Fixed Assets and Inventory at Corporate
All Locations Decentralized

Operations Manager
Fixed Asset Clerk
Counted On Tapes Not Working
Reviewed Tapes & Notified Management
No Raise in 3+ Years
Manager Says Okay to Not Do Physical Counts
10 Year Employee
TV Worth $500+
Operations Manager Terminated After Exit Interview
Claims Happened Only 1 Time
Needed Money to Help Pay Rent

.


Polling Question 2

What Is/Are Added Tests for IMA Building an Asset Co.
to Consider?
A.
B.
C.
D.

Add Test of Recalculation of Depreciation
Add Test of Comparison of Anticipated Value to Book Value
Neither of the Above
Both a and b


Client Communication:
Planning for Fixed Assets and/or
Inventory Fraud

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Walk‐through of Asset & Inventory Addition & Screening
Procure‐to‐Pay Cycle & COGS Transfer
Complete Audit Plan with Data Analysis Incorporated
Include Capital Purchase & Inventory Process & Gap
Comparisons to Similar Vendor & Contract Pricing


Observations Found
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
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No Asset Valuation Other than Write‐Up With Acquisitions
No Policy or Review of Capital vs. Expense
No Recalculation of Depreciation or Cost v. Depreciation
No Capital or Inventory Budgetary Review
No Oversight of Transfer of Inventory to COGS
Monthly Inventory Turned in From Site
Recurring Negative Cash Flows


Data Gathering for Data Analysis
Request All Meta Data Fields & Files
Inventory
Assets:
 Vendor Name
Asset ID
 Vendor ID & Site & Address
 Depreciation for Period
 Purchase Order
 Total Depreciation
 History for X Time Period
 Book Value
 Posted & Approved by ID
 Item Description
 Budgets by Vendor / Item
 Date of Sale
 Comments
 Date of Disposal
 Unit Cost
 Loss / Gain on Sale
 Transfer to COGS
 Date of Sale
 Date of Transfer
 Changes to Fields & Who Made Them

Discovery with Data Analysis:
Is There Fraud at IMA?
Audits to Perform:
 Inventory:
 Join for Cost v. Price
 COGS Transfer


Fixed Assets:
 Review Cost v. Book Value
 Review Cost v. Value
 Duplicates
 Recalculate Depreciation
 Come Up with Tests for Sales, Accounts Payable, Closing Entries
 Request Data in Line with Tests.

Polling Question 3

Which Tests Should IMA Run Initially for Inventory?
A.
B.
C.
D.

Join Comparison Price v Cost
Recalculate Depreciation
COGS Transfer to Sale
Both a and c


Discovery with DA: Spend
Audits to Perform:
Inventory:
Summarize by Item
Price v. Cost
Duplicate Tests
COGS Transfer

Red Flag #1:‐ #3 Pricing Issues on
52”  & Blu‐Ray, Transfer $, Dates


Discovery with DA: Duplicates

Red Flag #4: Same Assets Listed
Multiple Times


Polling Question 4

Which Red Flags Were Discovered with Initial
Inventory Testing?
A.
B.
C.
D.

Pricing Issues on DVDs
Pricing Issues on TVs 52”
COGS Transfer Dates e.g. Expense Recognition
B & C


Polling Question 5

Which of the following is/are Red Flag(s)/
Finding(s) Identified in IMA Building?
A.
B.
C.
D.

Improper Depreciation Calculated
Vendor Spend is Excessive Over Budgeted Amounts
Terminated Employees Receiving Paychecks
None of the Above


Discovery with DA:
Cost v. Book Value & Depreciation

Red Flag #5 ‐ #7:
Significant Discrepancies in Cost v. Book Value
Cost v. Anticipated Value
Improper Depreciation Calculation


Total Issues Found & Next Steps
1)  Complete Summary of Data & Findings
a) Total by Inventory Discrepancies
b) Total by Asset Discrepancies
c) Total by Depreciation Discrepancies
2)    Determine Additional Tests to Run & Perform
3) Discuss Findings with CEO Initially & Recommendations
4) Complete Interviews with Employees
5) Review Gaps & Control Deficiencies & Provide Recommendations
6) Recommend Management Review for Cost v Benefit & Implement ASAP
7) Determine if Client has Fraud Insurance Rider.  If not, recommend.
8) Contact Insurance Carrier (if applicable) & Begin Claim Process.
9) Contact Authorities & File Report.
10) Determine if Prosecution is Viable e.g. Dollar Amount, Management, etc.
11) Complete Report (See ACFE.com)
12) Complete Supporting Doc for Insurance Co. & Authorities

Preventing Fixed Asset & Inventory
Fraud
Prevention and Detection at IMA Building:
Assets

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

Obtain Expected Industry Valuation After X Period & Decline By Year
Compare Unit Costs & Assets vs. Industry Standards
Add System Preventative Controls e.g. X Value Per X Asset
Default Depreciation to X System Level on Set‐Up
Add Test of Comparison of Anticipated Value to Book Value
Recommend & Implement Capital & Inventory Budgetary Review

Inventory
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Add Test of Inventory to Transfer Period Review
Add Control of Oversight of Transfer of Inventory to COGS
Add Surprise Physical Counts for Inventory & Fixed Assets
Perform Physical Counts of All Assets & Inventory of High Volume Sites
Extrapolate and Adjust Asset & Inventory Values

Preventing Fixed Asset &
Inventory Fraud
Continuous Monitoring
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Complete Risk Assessment & Annual Audit Plan with Data Analysis
Determine Monthly & Quarterly Tests by Priority
Implement Data Analysis Testing
Perform & Complete Ongoing Control Assessments


Polling Question 6

What Could Have Prevented IMA’s Asset Issues ?
A.
B.
C.
D.

Procurement Manager from Sole Vendor Selection
System Depreciation Calculation
Implement Data Analysis Testing
None of the above.


Thank You!
Website: http://www.fraudresourcenet.com
Jim Kaplan
FraudResourceNet™
800-385-1625
jkaplan@fraudresourcenet.com
Peter Goldmann
FraudResourceNet™
800-440-2261
pgoldmann@fraudresourcenet.com
Katrina Kiselinchev
Inclusivitie, LLC
832-236-4778
katrina@inclusivitie.com
http://www.inclusivitie.com

Questions?
 Any Questions?
Don’t be Shy!


Coming Up Next Month

 Detecting Healthcare
Vendor Fraud Using
Data Analysis (DA-2)
April 17
 Anti-Fraud
Professionals’ Role in
Building an Anti-Fraud
Culture (OF-1) April 23


Recognizing and Preventing Fixed Asset and Inventory Fraud using Data Analysis

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