Transcript indirect methods of proof - Northern India Regional Council of ICAI

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FORENSIC ACCOUNTING
AND DIGITAL FORENSICS
CA. Charanjot Singh Nanda
Central Council Member, ICAI
Chairman, Internal Audit Standards Board
&
Chairman, Committee for Members in Industry
The Institute of Chartered Accountants of India
FORENSIC ACCOUNTING
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Use of accounting for legal purposes.
Use of intelligence-gathering techniques & accounting to
develop information & opinion for use in civil litigation.
Identifying, recording, settling, extracting, sorting, reporting,
and verifying past financial data or other accounting activities
for settling prospective legal disputes or using such past
financial data for projecting future financial data to settle legal
disputes.
AREAS OF SPECIALITY
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Bribery and Corruption
Fraud and Misconduct
Breach of Company Procedures
Ponzi and other Investment Schemes
Conflict of Interest
Money Laundering
Embezzlement and Misappropriation
Financial Reporting Fraud
Procurement Fraud
PROCESS MAP
Assignment Development
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Identify parties to the case, Co-relate matters of law,
Confirm technical capabilities
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Ensure matching of expectations
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Prepare and secure engagement letter
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Establish concrete timelines, e.g., discovery cut off, report
submission, etc.,
Establish communication protocol
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Scoping of Engagement
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Continually define/ refine universe of data, primary
and secondary
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Initiate data collection processes
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Prepare Document Request(s) as necessary
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Establish protocol to manage data requested and
obtained
Interviews and Interrogations
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Gain confidence of parties & obtain information from
parties
Background investigation on identified parties
 Use interpersonal communication techniques to analyse
responses for further investigation
 Prepare interview matrix
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Check for
Hidden agenda of parties
 Blind leads
 Communication inhibitors
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Background Research
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Combine first-hand knowledge (e.g., Interviews and
Depositions) with second-hand knowledge (e.g.,
Background Research data)
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See “Online Databases – Sources of Information”
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See “Government Sources of Information”
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Identify disparities for additional investigation
Data Collection & Analysis
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Missing information
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Privacy laws
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Unreliable informant / Inconclusive information
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Entrapment
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Engagement/personal risks
Data Collection & Analysis
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Perform any additional indirect or direct analytical
forensic techniques as needed
Validate / correlate prior data obtained through
alternate techniques
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Genogram/Entity / Party Chart
Deposition Matrix/Interview Matrix
Search Log/Background Investigation
Lifestyles Analysis
Net Worth Method
Analysis of Transactions
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Summarize and analyze the findings of all
deliverables and observations
Obtain sufficient relevant data to provide credible
evidence
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Identify any missing information or “gaps”
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DRAFT the Forensic Accountant’s Report
METHODS OF PROOF
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DIRECT METHODS
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SPECIFIC ITEM METHOD
FINANCIAL RELATIONSHIPS
FINANCIAL STATEMENT ANALYSIS
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HORIZONTAL
VERTICAL
TREND
RATIO
CASH FLOW
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METHODS OF PROOF
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INDIRECT METHODS
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NET WORTH METHOD
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EXPENDITURES METHOD
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(ASSET METHOD)
(LIFESTYLES METHOD)
(SOURCES AND APPLICATION OF FUNDS METHOD)
BANK DEPOSIT METHOD
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METHODS OF PROOF
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Information for specific industries
 Learn distinct , detailed practices in a particular
industry
 Examination techniques
 Common & unique industry issues
 Business practices
 Terminology
Example of market segments:
 Construction or entertainment industry
 Professions: lawyers or real estate agents
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METHODS OF PROOF
Direct-Specific item method
 Most common method
 Relies on specific transactions
 Uncovers specific financial transactions which
relate to illegal activity, and to the suspect
 Review books, records, bank accounts - directly
traces a transaction
 Direct (vs circumstantial) proof
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METHODS OF PROOF
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Easiest to present @ trial
Most difficult for the suspect to refute
Example: Ghost employee on the payroll
FINANCIAL RELATIONSHIPS
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SALES VERSUS COST OF GOOD SOLD
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SALES VERSUS ACCOUNTS RECEIVABLE
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SALES VERSUS INVENTORY
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ASSETS VERSUS LIABILITIES
FINANCIAL STATEMENT FRAUD
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FICTITIOUS REVENUES
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TIMING DIFFERENCES
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CONCEALED LIABILITIES AND EXPENSES
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IMPROPER DISCLOSURES
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IMPROPER ASSET VALUATION
FINANCIAL STATEMENT ANALYSIS
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PERCENTAGE ANALYSIS
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HORTIZONAL
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PERIOD TO PERIOD
INDUSTRY STANDARDS
COMPETITORS
VERTICAL
 COMMON SIZE STATEMENTS
 TREND ANALYSIS
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FINANCIAL STATEMENT ANALYSIS
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RATIO ANALYSIS
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LIQUIDITY
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ASSET MANAGEMENT
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DEBT MANAGEMENT
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PROFITABILITY
FINANCIAL STATEMENT ANALYSIS
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CASH FLOW ANALYSIS
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OPERATING
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INVESTING
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FINANCING
INDIRECT METHODS OF PROOF
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CIRCUMSTANTIAL PROOF
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Inadequate books/records
Suspected: books do not reflect all income
Significant increase in net worth
Gross profit % changes significantly
Expenses exceed reported income without cause
Suspected income from unidentified sources is large
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INDIRECT METHODS OF PROOF
SOURCES OF INFORMATION
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Deeds of ownership,
titles, liens, filings
The target
Informants/associates
Real estate records
Bankruptcy records
State motor vehicle
records
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Surveillance
Credit card
applications/statements
Tax returns
Insurance records
Employment records
Cancelled checks
Deposit slips
Loan Applications
INDIRECT METHODS OF PROOF
NET WORTH METHOD
 Used to prove illicit income
 Person’s assets or expenditures exceed known sources of
income
 4 ways to dispose income:
 Save it
 Buy assets
 Pay off debt
 Spend it
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INDIRECT METHODS OF PROOF
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NET WORTH METHOD FORMULA
Assets
-Liabilities
=Net worth
-Prior year’s net worth
=Increase in net worth
+Living expenses
=Income (or expenditures)
-Funds from known sources
=Funds from unknown sources
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INDIRECT METHODS OF PROOF
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EXPENDITURE METHOD
 CLUES
 Lavish residence
 Expensive cars/boats
 Vacation home
 Exotic vacations
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WHEN TO USE...WHEN TARGET
 Operates mostly on a cash basis
 Little or no net worth but large expenditures
 Little or no change in assets or liabilities
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INDIRECT METHODS OF PROOF
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BANK DEPOSIT METHOD
WHEN TO USE
 Assets & liabilities are fairly constant
 No indications of extravagant lifestyle
 Target’s known income is being deposited into
financial institutions
HOW
 Analyze bank deposits, cancelled checks, currency
transactions
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INDIRECT METHODS OF PROOF
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BANK DEPOSIT METHOD FORMULA
Total deposits to all accounts
-Transfer and redeposits
=Net deposits to all accounts
+Cash expenditures
=Total receipts from all sources
-Funds from known sources
=Funds from unknown or illegal sources
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DIGITAL ANALYSIS TECHNIQUES
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SOFTWARE PROGRAMS PERFORM
 DATA MINING
 Extracting information from databases
 Comb DB for obscure patterns
 Sort data to detect potential fraud
 same address for two employees
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DATA ANALYTICS
 Statistical process used to analyze data
 Identify red flags, transaction trends, patterns,
anomalies
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DIGITAL ANALYSIS TECHNIQUES
FUNCTIONS
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Sorting
Record selection
Joining files
Multi-file processing
Correlation analysis
Date functions
Graphing
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Verifying multiples of a
number
Compliance verification
Duplicate searches
Vertical ratio analysis
Horizontal ratio analysis
DIGITAL ANALYSIS TECHNIQUES
FUNCTIONS
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Data file inquiry
Random unit sampling
Calculate totals
Calculate averages
Specific criteria searches
Unusual item inquiries
Link analysis graphics
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Identify gaps in sequence
Identify duplicates
Differentiate normal
patterns from suspect
patterns
Benford’s Law analysis
Stratification
DIGITAL ANALYSIS TECHNIQUES
EXAMPLES
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Identify invoices w/o
PO
Look for invoices from
vendors not “approved”
Analyze claims paid by
insurance providers
Look for high volume
purchases from one
vendor
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Match names, addresses,
phone numbers, numbers
between employee and
vendor files
Identify dormant accounts
with activity
Search for large,
rounded transaction
values
DIGITAL ANALYSIS TECHNIQUES
COMMERCIAL SOFTWARE
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Excel
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ACL
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IDEA
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Active Data for Excel
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Auto Audit
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SNAP! Reporter
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Data Watch’s Monarch for Windows
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Oversight Systems