Fraud

FraudPresentation by Mr. Abhijit Sanzgiri

Definition of Fraud Under IPC – a person is said to do a thing ‘fraudulently’ if he does that thing with an intent to

defraud but not otherwise.

Defraud/Fraud per se not defined under IPC. Section 415/420 defines cheating, dishonesty etc..but not fraud.

Fraud (in terms of contract) is defined in section 17 of Indian Contract Act and makes the contract voidable at the option of other party.

Companies Bill 2009/2011 contains a definition as under:

Fraud in relation to affairs of a company or any body corporate, includes any act, omission, concealment of any fact or abuse of position committed by any person or any other person with his connivance in any manner, with intent to deceive, to gain undue advantage from, or to injure the interests of, the company or its shareholders or other persons associated with the company, whether or not there is any wrongful gain or wrongful loss.

As per Oxford dictionary – Fraud is a wrongful or criminal deception intended to result in financial or personal gain

Broadly, Fraud is • any dishonest activity • causing actual or potential financial loss to any person or entity • including theft of money or property by employees/ persons external to the

company • whether or not by use of deception • includes deliberate falsification, concealment, destruction or use of a falsified

document• Improper use of information or position.

4 general elements of Fraud:• Knowledge that the statement was false when uttered (Mens rea)• Material false statement• Reliance on the false statement by the victim• Damages as a result.

So, what is Fraud?

Global Survey

4

A typical fraudsters is : % Case 2007 % Case 2011

Male 85% 87%

35 - 45 years old 39% 41%

Works in Finance function or in finance related role 36% 32%

Holds senior management position 49% 35%

Employed by the company for more than 10 years 22% 33%

Works in collusion with other perpetrators 32% 66%

Source: KPMG Analysis on Global Pattern of Frauds, 2011 ( 348 cases across 69 countries)

Methods used to over ride controls 2007 2011

Weak internal controls exploited 49 74

Reckless dishonesty regardless of controls 36 15

Collusion to circumvent good controls 15 11

Total 100 100

Communication of fraud details 2007 2011

No details were communicated 50 54

Limited announcements made 15 33

Detailed announcements made 35 13

Total 100 100

Global Survey

Source: KPMG Analysis on Global Pattern of Frauds, 2011 ( 348 cases across 69 countries)

FINANCIAL STATEMENT FRAUD• Manipulation, falsification or alteration of accounts.

a. Related party transactionsb. Diversion of fundsc. Non existent cash & bank balancesd. Unrecorded liabilitye. Inflated revenue

• Misrepresentation or internal omission from financial statements.• Intentional misapplication of accounting principles relating to amounts, classification, presentation or

disclosure. ASSETS MISAPPROPRIATION: ( Inventories, fixed assets, Cash)• Cheque tampering• Payroll frauds – ghost workers, excess payments, payments for leave• Reimbursements – submitting false bills for claims, duplicate payments, unauthorized disbursements• Assets & Inventory frauds – theft / embezzlement• Billing frauds – paying for goods / services not received, fictitious suppliers CORRUPTION – BRIBERY: • Kickbacks – Incentives – Commission – Conflict of Interest OCCUPATIONAL FRAUD:• Use of one’s occupation for personal enrichment through deliberate misuse or misapplication of the

employing organizations resource of assets.

TYPES OF FRAUD

FINANCIAL LOSS(Direct, Loss of market share)

REPUTATIONAL LOSS:

INCREASED REGULATORY SCRUTINY HUMAN CAPITAL

(Low employee morale & motivation, Attrition )

IMPACT OF FRAUD

Impact Of Fraud

OPPORTUNITY

Poor Anti Fraud Controls, Weak Internal Controls, Reduction in staff strength, cost cutting etc.

RATIONALISATION

A. I’ll payback, if caught.

B. Others also do it.C. I am not paid

enough.

PERCEIVED PRESSUREA. Economic downturnB. Increasing

competitionC. High InflationD. Wage reductionE. High market/

stakeholder’s expectations.

Key factors causing Fraud

Why didn’t the auditors discover fraud? – This is first question asked by everyone when a fraud is discovered

An audit is not a substitute for the management control and no guarantee is given or to be implied that an audit will necessarily disclose fraudulent misappropriation. {Tonkwane Sawmill Co. Ltd. vs Filmatter 1975 (2) SA 453(W)}

Why couldn’t a properly planned and executed audit by an independent audit firm detect a fraud? Fraud entails sophisticated procedure aimed to concealment. Auditor’s detection of fraud depends

more on the expertise of the perpetrator than on the auditor’s knowledge and experience. Auditors should not be liable for tracking down ingenious and carefully laid schemes of fraud, when

there is nothing to arouse their suspicion – International Laboratories Ltd v/s Dewor (1933) DLR 665. Auditor should be worried by factors that provide an incentive to commit fraud – paragraphs 48/49

of SAAS 240R.

Auditor has no statutory obligation to detect fraud. If a reasonably competent and cautious auditor could have detected a fraud, then the duty to detect fraud exists. Role of the auditor is to plan his audit so that there is a reasonable expectation of discovery.

Risks Owner of fraud

3 pillars

Oversight

CultureRisk

Assessment

Anti Fraud Governance Program• Supervision

of Audit Committee

• Role of Independent Directors

• Adopting Corporate Governance in letter & spirit

• Periodic reviews of internal controls

• Exception reporting for red flags

• EvaluateIdentify

• Tone at the top• Organization

values• Code of Conduct

& Ethics• Zero Tolerance• Quick and stern

actions• Spreading

awareness• Rewarding

integrity• Leading by

example• Whistle Blower

Policy• Explicit

Communication

Understanding the ways in which fraud occur – how can it damage the company – recognize it & introduce controls to prevent it from happening – monitoring ongoing effectiveness of fraud control plan – responding to actual instances of fraud.

Fraud Risk Management

• Evaluate

Identify

Identifying frauds ideally through brain storming with concerned functional heads. An auditor must be aware that the possibility for fraud exists. He should build up an audit

program that incorporates Generally Accepted Auditing Standards. Auditor should identify and assess risk of material misstatement due to fraud in financial

statements. He must apply audit procedures that by very nature address this risk adequately. Auditor must perform his audit in a manner that provides reasonable assurance that fraud

and other irregularities will be detected. {Pacific Acceptance Corporation v/s Foisyth (1970) 92 WN (NSW 29) and Diary Containers Ltd v/s New Zealand Bank Ltd. (1995)2 NZLR 30}

Prioritizing high risk fraud areas. Assessing the vulnerability of the organization to fraud. Assessing the pervasiveness, magnitude & likelihood of the fraud. Documenting the process and conclusions. Periodic reviews and updates.

Fraud Assessment

Clear cut job responsibilities – prevent functional overlaps & having proper job focus. Awareness & training Code of Conduct & Ethics Pre Employment Screening Vendor Referral checks Compilation of fraud database or Fraud risk scenarios Fraud hotlines Company’s Zero Tolerance Policy for Frauds Mandatory vacations Job Rotation Constant review & approval of Anti- fraud programs & controls Filtering suspicious transactions

Fraud Prevention

Transaction monitoring Exception reporting analysis Due dupes – Data Analysis –Data Mining .

Data analysis is the identification, retrieval, restoration & analysis of Electronic Information to identify, classify, predict and prevent fraudulent behavior.

Red Flag Alerts- Warning signals. Fraud audits. Anomaly Detection : identify exceptions – develop profile – screen – review exceptions – drill

down.

Fraud Detection

Analyze

Compare

Decide

Whistle Blowers – Complaints. Internal controls Lifestyle Symptoms Internal audits Behavioral Symptoms Accounting anomalies External Audits Analytical Symptoms

Statistics :- More than 50% frauds are detected after 6months. In 50% of the cases, amount recovered was <25%. Only 37% frauds happened due to collusion with outsiders. 20% banks have dedicated forensic technology tools. 28% banks have intelligence gathering mechanisms. 50% frauds are dedicated by Internal Audit. 20% cases still detected by accidents. 43% cases detected by anonymous complaints.

Fraud Detection

ControlsSegregation of duties

Maker checker concept

Authorizations

Reconciliations

Balance confirmations

Escalation Matrices / Deviation approvals

Exception reportings

• Speed of investigations – First 24 hours crucial

• Composition of Fraud investigation team – appointing expert

• Knowing where to look for data – collection of data & evidences through interviews and reviews. Seeking external opinions.

• Analyzing evidence – preserving evidence – presenting evidence (liasioning with police or other law enforcement agencies)

Fraud Investigations

Recovery of amounts. Prevention of further damages or losses Action against the employee or person concerned Minimizing reputational damage Dissemination of fraud learning's Strengthening controls & plugging gaps Review of fraud – risk controls & fraud identification

processes Claiming from Insurance company (fidelity claims)

Remedial Actions

BANKING BUSINESS• Cheque Kiting exploits a system in which, when a cheque is deposited to a bank account, the

money is made available immediately even though it is not removed from the account on which the cheque is drawn until the cheque actually clears.

• Forgery and altered cheques.• Accounting frauds.• Demand draft fraud.• Rogue traders.• Fraudulent loans.• Forged or fraudulent documents.• Bill discounting fraud.• Duplication or skimming of card information• Impersonation – Identity theft• Money Laundering• Phishing and internet fraud.

Frauds In Financial Services

Internal Controls can weaken over time due to technological advances, human intervention (management over-ride / collusion), new fraud schemes etc.

Anti Fraud controls go along way in deterring individuals from perpetrating the fraud because the message going down the line is that senior management is cognizant of this crime and is committed to prevent it within the organization.

Frauds will only increase in the years to come. Frauds in administration and procurement is on the rise.

It is only when the tide goes out that you realize who is swimming naked – Warren Buffet.

It was like riding a tiger and not knowing how to get out without being eaten – Ramalinga Raju.

Facts and Quotes

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