Chapter 11

Fraud, Law and Regulations

© ACCA 1
Key to chapter content ICONS

© ACCA 2
CHAPTER 11: Fraud, Law and Regulations

© ACCA 3
Objective

The auditor is required:

§ To identify and assess the risks of material misstatement

of the financial statements due to fraud;
§ To obtain sufficient appropriate audit evidence regarding
the assessed risks of material misstatement due to fraud;
and
§ To respond appropriately to fraud or suspected fraud
identified during the audit.

© ACCA 4
Definitions

Error – unintentional mistakes in financial statements

including the omission of an amount or disclosure.

Fraud – an intentional act by one or more individuals that

uses deception to obtain an unjust or illegal advantage.

Fraud risk factors – events or conditions that indicate an

incentive or pressure to commit fraud or provide an
opportunity to commit fraud.

© ACCA 5
Activity: Fraud or Error?

© ACCA 6
Answer to activity: Fraud or Error?

© ACCA 7
Types of Fraud

Fraudulent Misappropriation
Reporting of Assets

© ACCA 8
Fraudulent Financial Reporting
Misstatements or omissions of amounts or disclosures
intended to deceive users of financial statements
§ Manipulation, falsification (including forgery) or alteration
of accounting records or supporting documentation from
which the financial statements are prepared.
§ Misrepresentation, or intentional omission, of disclosure
of significant events, transactions, balances or other
information.
§ Intentional misapplication of accounting principles
relating to amounts, classification, manner of presentation
or disclosure. © ACCA 9
Misappropriation of Assets

Theft or misuse of company assets.

§ Embezzlement (of monies).

§ Stealing physical assets or intellectual property
§ Using an entity's tangible assets for personal benefit
§ Causing the business to pay for goods and services not
received.

© ACCA 10
Responsibilities

Management/TCWG External auditor

§ To obtain reasonable
§ Primary responsibility for
assurance that the financial
prevention and detection of
statements are free from
fraud and error lies with
material misstatement,
management and TCWG
whether due to fraud or error

© ACCA 11
Activity: Management Override

Suggest FIVE ways in which

management might override internal
controls

© ACCA 12
Answer to activity: Management Override

© ACCA 13
Activity: Ability to Detect Fraud

Suggest FIVE factors that could affect the

auditor's ability to detect fraud.

© ACCA 14
Answer to activity: Ability to Detect Fraud

© ACCA 15
Internal Auditors

§ Internal auditors are responsible to management and

must be alert to the signs and possibilities of fraud and
error

© ACCA 16
Professional Scepticism

§ Does not accept audit evidence at face

§ Requires continuous questioning of whether information
and audit evidence suggest that a material misstatement
due to fraud may exist.

© ACCA 17
Risk Assessment Procedures

§ Understand fraud-control design, implementation and

effectiveness
§ Inquire of management
§ Inquire of TCWG
§ Inquire of others
§ Consider fraud risk factors.

© ACCA 18
 Fraud Risk Factors

Examples of potential fraud risk factors include:

§ events or conditions that indicate an incentive or pressure to commit
fraud;
§ events or conditions that provide the opportunity to commit fraud; and
§ an attitude that rationalises the fraud.

A risk of fraud in revenue recognition is presumed a significant risk

© ACCA 19
Written Representations

Written representations, regarding fraud, must be obtained

from management concerning its:

§ responsibility for the design, implementation and

maintenance of internal control;
§ disclosure to the auditor that the financial statements may
be materially misstated as a result of fraud;
§ disclosure to the auditor of knowledge of fraud or
suspected fraud.

© ACCA 20
Communication
To Management: Communicate factual findings if:
§ fraud may exist (even if potentially immaterial); or
§ fraud does exist.

To TCWG: Communicate if fraud involves:

§ management;
§ employee with a significant role in controls;
§ others, resulting in a material misstatement.

To Authorities: Seek legal advice.

© ACCA 21
Resignation from Engagement

Resignation (“withdrawal”) will be considered if the auditor

encounters exceptional circumstances that question his
ability to continue the audit.

© ACCA 22
 Laws and Regulations

The auditor is required:

§ To obtain sufficient appropriate audit evidence regarding compliance with

provisions of laws and regulations that have a direct effect on material
amounts and disclosures in financial statements;

§ To perform specified audit procedures to help identify instances of non-

compliance that may have a material effect on the financial statements; and

§ To respond appropriately to identified or suspected non-compliance

identified during the audit.

© ACCA 23
 Non-Compliance

Definition
Acts of omission (inaction) or commission (action),
§ either intentional or unintentional,
§ committed by the entity, TCWG, management or other individuals
working under the direction of the entity,
§ which are contrary to the prevailing laws or regulations.

Non-compliance includes personal misconduct related to business

activities (e.g. accepting a bribe from a supplier) but does not include
personal misconduct unrelated to business activities.

© ACCA 24
Types of Laws and Regulations

§ Those that relate directly to the financial aspects of the

financial statements; and

§ Those that relate to the operational aspects and could

indirectly affect the financial statements.

© ACCA 25
Types of Laws and Regulations
Direct Indirect
• Form and content of the • Operating licence
financial statements (e.g. • Environmental regulations
company acts, listing
• Health and safety requirements
requirements, IFRSs)
• Regulatory solvency
• Industry-specific financial
requirements
reporting issues (e.g. charities,
pension schemes) • Data protection
• Fraud, corruption and bribery
• Money laundering
• Tax liabilities

© ACCA 26
Responsibilities

Management Auditor

§ To obtain reasonable
assurance that the financial
§ For ensuring that operations statements are free from
are conducted within the material misstatement,
laws and regulations whether due to fraud or error.
applicable to the entity.
§ Considerations are very
similar to fraud.

© ACCA 27
Indications of Non-Compliance
Whistleblower

Investigation

Fines

Unspecified payments

Excessive commissions/fees

Suspicious purchasing/selling prices

Unusual transactions

Overly complex structures

Tax evasion © ACCA 28

Discovery of Non-Compliance

The auditor needs to understand the nature of the breach,

the circumstances and the potential effect on the
financial statements.

Potential consequences (e.g. fines/penalties/litigation) may

require:
§ amendment or disclosure (e.g. provision for penalties)
§ report to regulatory authority (e.g. a money laundering
offence)
© ACCA 29
Withdrawal from Engagement

Auditor to obtain legal advice before withdrawing from an

engagement.

§ If management or TCWG do not take necessary

remedial action; or
§ If identified or suspected non-compliance raises
questions regarding the integrity of management or
TCWG

© ACCA 30
Technical article: Laws and regulations

Click the link below to

open the articles on
accaglobal

Technical articles

Laws and regulations

© ACCA 31
 Chapter 11: Summary
§ An error is unintentional – fraud is intentional.
§ Types of fraud that result in misstatement are fraudulent financial reporting and
misappropriation of assets.
§ Management is responsible for preventing and detecting fraud and errors.
§ The auditor is responsible for obtaining reasonable assurance that the financial
statements are free of material misstatement, whether caused by error or fraud.
§ Fraud risk factors include incentives/pressures, opportunities and rationalisation.
§ A risk of fraud in revenue recognition is presumed a significant risk.
§ Written representations regarding fraud should be obtained as audit evidence.
§ Actual or suspected fraud should be communicated to management and/or
TCWG on a timely basis.
§ Generally, confidentiality precludes reporting of fraud to third parties.
§ The auditor’s considerations of laws and regulations are very similar to fraud.
§ NOCLAR may affect the financial statement directly or indirectly.
© ACCA 32
 Chapter 11: Practice questions

Study Question Bank

Stone Holidays 25 mins

For AA
ØAttempt the Study Question Bank questions listed above after studying this chapter
ØAttempt Revision Question Bank questions in your revision phase, after studying all chapters

© ACCA 33
Thank you

© ACCA 34