Chapter 1

Introduction to Fraud Examination

 Learning Objectives
• Define fraud examination and differentiate it from auditing.
• Understand the fraud theory approach.
• Define occupational fraud.
• Define fraud.
• Define abuse.
• Know the difference between fraud and abuse.
• Describe the criminological contributions of Edwin H. Sutherland.
• Understand Donald Cressey’s hypothesis.
• Give examples of non-shareable problems that contribute to fraud.
• Understand how perceived opportunity and rationalization contribute to fraud.
• Explain W. Steve Albrecht’s “fraud scale.”
• Summarize the conclusions of the Hollinger-Clark study.
• Summarize the results of the 2012 Report to the Nations on Occupational
Fraud and Abuse.
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Discipline of Fraud Examination
• Resolving allegations of fraud from tips,
complaints, or accounting clues
– Documentary evidence
– Interviewing witnesses
– Writing investigative reports
– Testifying
– Assisting in the detection and prevention of fraud
• Forensic accounting vs. fraud examination

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 Auditing vs. Fraud Examination
Issue Auditing Fraud Examination
Timing Recurring Nonrecurring
Scope General Specific
Objective Opinion Affix blame
Relationship Nonadversarial Adversarial
Methodology Audit techniques Fraud examination
techniques
Presumption Professional Proof
skepticism

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Fraud Examination Methodology
• Predication
– Totality of circumstances that would lead a
reasonable, professionally trained, and prudent
individual to believe a fraud has occurred, is
occurring, and/or will occur
– Fraud examinations must be based on
predication.

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 Fraud Theory Approach
• Analyze available data
• Create a hypothesis
• Test the hypothesis
• Refine and amend the hypothesis

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Tools Used in Fraud Examination

Observation
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 Defining Occupational
Fraud and Abuse
The use of one’s occupation for personal
enrichment through the deliberate misuse or
misapplication of the employing
organization’s resources or assets

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 Elements of Fraud
• A material false statement
• Knowledge that the statement was false
when it was uttered
• Reliance on the false statement by the
victim
• Damages resulting from the victim’s
reliance on the false statement

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 Occupational Fraud and Abuse
Research
• Edward Sutherland
• Donald Cressey
– Cressey’s Hypothesis

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 Opportunity

Fraud
Triangle

Pressure Rationalization
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 2012 Report to the Nations on
Occupational Fraud & Abuse
• Global survey
• Measuring the costs of occupational fraud
– 5 percent lost to fraud
– $3.5 trillion worldwide

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 Position of Perpetrator

Employee 41.6%
Position of Perpetrator

Manager 37.5%

Owner/Executive 17.6%

Other 3.2%

0% 10% 20% 30% 40% 50%

Percent of Cases

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 Median Loss by Position

Employee $60,000
Position of Perpetrator

Manager $182,000

Owner/Executive $573,000

Other $100,000

$0 $200,000 $400,000 $600,000

Median Loss

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Gender of Perpetrator

Female
35.0%

Male
65.0%

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 Median Loss by Gender
$250,000

$200,000
$200,000
Median Loss

$150,000

$100,000 $91,000

$50,000

$0
Female Male
Gender of Perpetrator

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 Department of Perpetrator
Accounting 22.0%
Operations 17.4%
Sales 12.8%
Executive/upper mgmt 11.9%
Department of Perpetrator

Customer service 6.9%

Other* 5.9%
Purchasing 5.7%
Warehousing, inventory 4.2%
Finance 3.7%
Information technology 2.0%
Manufacturing & production 1.9%
Board of Directors 1.4%
Human resources 1.2%
Marketing/PR 1.1%
Research and development 0.7%
Legal 0.6%
Internal audit 0.6%
0.0% 5.0% 10.0% 15.0% 20.0% 25.0%
Percent of Cases

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 Median Loss by Department
Executive/upper mgmt $500,000
Finance $250,000
Board of Directors $220,000
Purchasing $200,000
Department of Perpetrator

Accounting $183,000
Legal $180,000
Marketing/PR $165,000
Manufacturing & production $160,000
Human resources $121,000
Operations $100,000
Other* $100,000
Information technology $100,000
Research and development $100,000
Sales $90,000
Warehousing, inventory $67,000
Internal audit $32,000
Customer service $30,000
$0 $100,000 $200,000 $300,000 $400,000 $500,000 $600,000
Median Loss

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 Criminal History of Perpetrator
Never charged or convicted 87.3%
Perpetrator’s Criminal History

Charged but not convicted 5.9%

Had prior convictions 5.6%

Other 1.2%

0.0% 20.0% 40.0% 60.0% 80.0% 100.0%

Percent of Cases

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 Median Loss per Number of
Employees
<100 $147,000
Number of Employees

100-999 $150,000

1,000-9,999 $100,000

10,000+ $140,000

$0 $50,000 $100,000 $150,000 $200,000

Median Loss

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 Initial Detection of Frauds
Tip 43.3%
Management Review 14.6%
Internal Audit 14.4%
By Accident 7.0%
Account Reconciliation 4.8%
Detection Method

Document Examination 4.1%

External Audit 3.3%
Notified by Police 3.0%
Surveillance/Monitoring 1.9%
Confession 1.5%
IT Controls 1.1%
Other 1.1%
0% 10% 20% 30% 40% 50%
Percent of Cases

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Occupational Fraud and Abuse
Asset Fraudulent
Corruption
Misappropriations Statements

Conflicts
of Interest Cash Financial

Bribery Inventory &

All Other Assets Nonfinancial

Illegal
Gratuities

Economic
Extortion
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 Frequency of Types of
Occupational Fraud and Abuse
Percent of Casesa Median Loss
Asset Misappropriation 86.7% $120,000
Corruption 33.4% $250,000
Financial Statement
7.6% $1,000,000
Fraud
aThe sum of percentages listed in this column exceeds 100 percent because some cases involved
fraud schemes that fell into more than one category. The same is true for every scheme
classification chart in this book that is based on the 2011 Global Fraud Survey.

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