CFFE – Planning And Conducting Formal Investigation Notes

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INTRODUCTION

 

Following our continued effort to provide quality study and revision materials at an affordable price for the private students who study on their own, full time and part time students, we partnered with other team of professionals to make this possible.

Special appreciation and recognition to the lecturers who have helped in the development of our materials, These are: FA Kegicha William Momanyi (MBA Accounting, CPA, CISA and CCP), FA Bramwel Omogo (B.sc Actuarial Science, CIFA, CIIA, CFA first level and ICIFA member, Johnmark Mwangi (MSc Finance, CPAK, BCom Finance),CPA Gregory Mailu (Bsc. Economics) CPA Dominic Rasungu and CPA Lawrence Ambunya among others.

 

PAPER NO. 6 PLANNING AND CONDUCTING FORMAL INVESTIGATION

 UNIT DESCRIPTION

This paper is intended to equip the candidate with knowledge, skills and attitudes that will enable him/her to effectively plan for and conduct fraud investigations and to prepare comprehensive reports.

 

LEARNING OUTCOMES

A candidate who passes this paper should be able to:

  • Develop a fraud/corruption theory
  • Identify off and on book fraud
  • Apply the various methods and techniques of conducting fraud investigations
  • Write standard investigations and expert witness reports
  • Assist management/board in fraud/corruption prevention and detection

 

1.            Introduction to Planning and Conducting Investigations

  • Objectives of fraud/corruption investigations
  • Functions of a fraud investigation
  • Fraud investigations, forensic accounting and forensic audit
  • Fraud investigation methodology
  • Developing a fraud response plan

 

2.            Methods and Techniques of Conducting Investigations

  • Analysing documents and collecting evidence
  • Interviewing theory and application
  • Interviewing suspects and written confession statements
  • Undercover operations
  • Identifying sources of information
  • Data analysis and forensic reporting tools

 

3.            Digital Forensic Investigations

  • Conducting investigations involving computers
  • Digital investigations versus digital forensics
  • Digital forensic experts
  • Digital investigations and law enforcement
  • Digital evidence
  • Digital investigation in cloud environment
  • Phases of digital forensics and investigations

 

4.            Tracing Illicit Assets

  • General process for tracing illicit assets
  • Methods of obtaining information for locating assets
  • Direct method of tracing illicit financial transactions
  • Indirect methods of tracing illicit financial transactions
  • Locating hidden assets
  • Locating assets hidden in foreign jurisdictions

 

5.            Standard Investigation Report Writing

  • Fraud investigation report
  • Expert witness report
  • Preparation for report writing
  • Characteristics of a good report
  • Common reporting mistakes
  • Organisation of information
  • Readers and users of fraud investigation reports
  • Outlining the fraud investigation report
  • Grammatical considerations
  • Fraud investigations report structure
  • Experts report structure
  • Reporting documents
  • Fraud investigation checklist
  • Fraud investigation engagement letters
  • Fraud investigation advisory letters

 

6.            Case Study (Based on competencies acquired in Papers 3,4,5 and 6) Based on the case study

  • Determine if there is predication to conduct an investigation by explaining why you believe there is predication or not
  • Based on the allegation develop a fraud theory for the case study
  • Identify if the fraud is on-book or off-book
  • Identify the principal category of fraud in this case study and the laws violated by the fraudulent and corrupt activities
  • Plan the investigation
  • Identify the justice systems that can be used in the fraud/corruption case
  • Explain the trial processes, that is, criminal and civil justice systems in both common law and civil Law for the case study
  • Explain the methods and techniques that will be applied to investigate the case study
  • Identify the facts/evidence that can be used in a court of law to prove fraud/corruption in this case study
  • Prepare a forensic investigation/audit report that can be used in a court of law
  • Prepare an expert witness report

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Complete copy of CFFE PLANNING AND CONDUCTING FORMAL INVESTIGATION STUDY NOTES is available in SOFT copy (Reading using our MASOMO MSINGI PUBLISHERS APP) and in HARD copy 

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CHAPTER ONE

INTRODUCTION TO PLANNING AND CONDUCTING INVESTIGATIONS

Fraud examinations—which could include the investigation of fraud allegations or an inquiry into an organization’s anti-fraud policies and controls—represent perhaps the most important part of a fraud examiner’s wide and varied body of knowledge. Myriad factors can impact a fraud examination, complicating the process for the fraud examiner and the investigation team. However, careful and thorough planning will mitigate these challenges and ensure that those involved are prepared to carry out a responsible and thorough engagement that achieves its goals without jeopardizing results. Taking the time to properly plan a fraud examination greatly increases the chances of its success.

 

Why Conduct a Fraud Examination?

There are many reasons why organizations choose to conduct fraud examinations. In particular, a properly executed fraud examination can address a number of organizational objectives, including:

  • Identifying improper conduct
  • Identifying the persons responsible for improper conduct
  • Stopping fraud
  • Sending a message throughout the organization that fraud will not be tolerated
  • Determining the extent of potential liabilities or losses that might exist
  • Helping facilitate the recovery of losses
  • Stopping future losses
  • Mitigating other potential consequences
  • Strengthening internal control weaknesses

 

In some instances, a fraud examination might be required by law. A duty to investigate can arise from statutes, regulations, contracts, or common law duties. For example, a

corporation’s directors and officers owe a common law duty of care to their organization and shareholders; therefore, when suspicions of fraud arise, it might be necessary for them to commission an investigation to ensure that they have full knowledge of such issues affecting the company. Likewise, some laws hold employers accountable for investigating employee complaints involving certain matters, such as retaliation, discrimination, harassment, and similar issues.

 

Tips

Fraud can be discovered in several ways; it can be discovered via a tip or complaint or through an auditing procedure or monitoring. Fraud is even discoverable by chance. According to the ACFE 2020 Report to the Nations, approximately 43% of all internal investigations originate with a tip from an employee, customer, or vendor. Management review and internal audit initiate approximately 12% and 15% of internal investigations, respectively, while the remainder are discovered through other means.

SAMPLE WORK

Complete copy of CFFE PLANNING AND CONDUCTING FORMAL INVESTIGATION STUDY NOTES is available in SOFT copy (Reading using our MASOMO MSINGI PUBLISHERS APP) and in HARD copy 

Phone: 0728 776 317

Email: info@masomomsingi.com

Because tips are the most valuable resource for discovering internal fraud, companies should encourage them by implementing easily accessible and anonymous (where permitted by law) fraud reporting tools, such as a tip hotline or dedicated web page. Additionally, these reporting programs should be designed to accept tips from external sources such as customers and vendors.

 

What Fraud Examination Entails

The term fraud examination refers to a process of resolving allegations of fraud from inception to disposition, and it is the primary function of the anti-fraud professional. The fraud examination process encompasses a variety of tasks that might include:

  • Obtaining evidence
  • Reporting
  • Testifying to findings
  • Assisting in fraud detection and prevention

 

Obtaining Evidence

The value of a fraud examination rests on the credibility of the evidence obtained. Evidence of fraud usually takes the form of documents or statements by witnesses; therefore, fraud examiners must know how to properly and legally obtain documentary evidence and witness statements.

 

Reporting

Once evidence has been obtained and analyzed, and findings have been drawn from it, the fraud examiner must report the results to the designated individuals (e.g., management, the board, or the audit committee). A fraud examination report is a narration of the fraud

examiner’s specific activities, findings, and, if appropriate, recommendations.

 

Such communications are necessary so that management can determine the appropriate course of action.

The results of an examination can be communicated in various ways. The appropriate method of communication depends on the facts at issue and the audience, but most reports are communicated orally or in writing.

 

Testifying to Findings

Often, fraud examiners are called upon to provide testimony and report their findings at a deposition, trial, or other legal proceeding. When providing testimony, fraud examiners must be truthful. They should also communicate in a clear and succinct manner.

 

Assisting in Fraud Detection and Prevention

Fraud examiners are not solely responsible for the prevention of fraud; such responsibilities typically belong to management or other appropriate authorities. Nevertheless, fraud examiners are generally expected to actively pursue and recommend appropriate policies and procedures to detect and prevent fraud, especially when their examinations identify issues with fraud controls.

 

Because of their education, experience, and training, CFEs are uniquely qualified to assist organizations in the prevention and detection of fraud.

 

Fraud Examination and Forensic Accounting

Although fraud examination shares certain characteristics with forensic accounting, they are not the same discipline.

 

Forensic accounting is the use of professional accounting skills in matters involving potential or actual civil or criminal litigation. The word forensic is defined by Merriam-Webster.com as “used in, or suitable to courts of judicature or to public discussion or debate.” Therefore, forensic accounting is actually litigation support involving accounting.

 

Accordingly, many fraud examinations can be considered forensic accounting, but not all forensic accounting is fraud examination. For example, an individual hired to appraise property in a minority shareholder derivative suit would engage in forensic accounting even if the engagement does not involve fraud.

Forensic accounting can include many professional services. Typically, forensic accountants perform assignments involving:

  • Bankruptcies, insolvencies, and reorganizations
  • Workplace fraud investigations
  • Calculations of economic losses
  • Business valuations
  • Professional negligence

 

Fraud Examination Methodology

Fraud examination is a methodology of resolving signs or allegations of fraud from inception to disposition. The fraud examination methodology establishes a uniform, legal process for resolving signs or allegations of fraud on a timely basis. It provides that fraud examinations should move in a linear order, from the general to the specific, gradually focusing on the perpetrator through an analysis of evidence.

Fraud examinations involve efforts to resolve allegations or signs of fraud when the full facts are unknown or unclear; therefore, fraud examinations seek to obtain facts and evidence to help establish what happened, identify the responsible party, and provide recommendations where applicable.

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When conducting a fraud examination, the fraud examiner should do the following:

  • Assume litigation will follow.
  • Act on predication.
  • Approach investigations from two perspectives.
  • Move from the general to the specific.
  • Use the fraud theory approach.

 

Assume Litigation Will Follow

Each fraud examination should be conducted with the assumption that the case will end in litigation. This will ensure that the fraud examiner maintains compliance with the proper rules of evidence and remains well within the guidelines established by the legal systems.

 

Act on Predication

Fraud examinations must adhere to the law; therefore, fraud examiners should not conduct or continue fraud examinations without proper predication. Predication is the totality of circumstances that would lead a reasonable, professionally trained, and prudent individual to believe that a fraud has occurred, is occurring, or will occur. In other words, predication is the basis upon which a fraud examination, and each step taken during the examination, is commenced.

 

A fraud examiner acts on predication when there is a sufficient basis and legitimate reason to take each step in an examination.

 

Approach Investigations from Two Perspectives

Fraud examiners should approach investigations from two perspectives: (1) by seeking to prove that fraud has occurred and (2) by seeking to prove that fraud has not occurred. To prove that a fraud has occurred, the fraud examiner must seek to prove that fraud has not occurred. The reverse is also true. To prove fraud has not occurred, the fraud examiner must seek to prove that fraud has occurred. The reasoning behind this two-perspective approach is that both sides of fraud must be examined because in most legal systems, proof of fraud must preclude any explanation other than guilt. Additionally, approaching fraud examinations from two perspectives preserves the fraud examiner’s objectivity and helps ensure that bias does not influence an examination’s results.

 

Move from the General to the Specific

Fraud examinations commence when the full facts are unknown or unclear; therefore, they should proceed from the general to the specific. That is, fraud examinations should begin with general information that is known, starting at the periphery, and then move to the more specific details.

 

For example, consider the order of interviews in fraud examinations. In most examinations, fraud examiners should start interviewing at the periphery of all possible interview candidates and move toward the witnesses who appear more involved in the matters that are the subject of the examination. Thus, the usual order of interviews is as follows:

  • Neutral third-party witnesses, starting with the least knowledgeable and moving to those who are more knowledgeable about the matters at issue
  • Parties suspected of complicity, starting with the least culpable and moving to the most culpable
  • The primary suspect(s) of the examination

 

Use the Fraud Theory Approach

When conducting fraud examinations, fraud examiners should adhere to the fraud theory approach. The fraud theory approach is an investigative tool designed to help fraud examiners organize and direct examinations based on the information available at the time.

 

The fraud theory approach provides that, when conducting investigations into allegations or signs of fraud, fraud examiners should make a hypothesis (or theory) of what might have occurred based on the known facts. Once fraud examiners have created a hypothesis, they should test it through the acquisition of new information (or correcting and integrating known information) to determine whether the hypothesis is provable. If, after testing a hypothesis, fraud examiners determine that it is not provable, they should continually revise and test their theory based on the known facts until it is provable, they conclude that no fraud is present, or they find that the fraud cannot be proven.

 

Simply put, the fraud theory approach involves the following steps:

  • Analyzing available data
  • Creating a hypothesis
  • Testing the hypothesis
  • Refining and amending the hypothesis

 

The following internal fraud case study illustrates the concepts involved in the fraud examination process. Although the case study is based on an actual incident, the names and certain other facts have been changed for purposes of illustration.

 

LINDA REED COLLINS CASE STUDY

Linda Reed Collins is purchasing manager for Bailey Books Incorporated in St. Augustine, Florida. Bailey, with $226 million in annual sales, is one of the country’s leading producers of textbooks for the college and university market, as well as technical manuals for the medical and dental professions.

 

Bailey’s headquarters consists of 126 employees, plus numerous sales personnel in the field.

Because of the competitive nature of the textbook business, the company’s profit margins are quite thin. Bailey’s purchases average about $75 million annually, consisting mostly of paper stock and covering used in the manufacturing process. The great majority of the manufacturing is done in Mexico through contracts with the Mexican government.

 

The purchasing function is principally handled by three purchasing agents. Linda Reed Collins is the purchasing manager and has two other buyers who report to her, plus another 18 clerical and support personnel.

 

Because Bailey Books is required by investors and lenders to have audited annual financial statements, Bailey employs a large regional certified public accountant (CPA) firm to conduct its annual audit and has a staff of five internal auditors.

 

All internal fraud matters within Bailey are referred to Loren D. Bridges, a CFE. Often, internal fraud issues at Bailey involve skimming by Bailey’s cashiers, but Bridges also receives a constant stream of complaints alleging misconduct by Bailey Books’ salespeople and distributors.

 

On January 28, Bridges received a telephone call in which the caller, who was male, wanted to keep his identity hidden. The caller, however, claimed to have been a “long-term” supplier of books, sundries, and magazines to Bailey. The caller said that ever since Linda Reed Collins took over as purchasing manager for Bailey several years ago, he has been systematically forced out of doing business with Bailey. Although Bridges queried the caller for additional information, the caller hung up the telephone.

 

Under the facts in this case study, there could be many legitimate reasons why a supplier to Bailey would feel unfairly treated. Linda Reed Collins could be engaged in fraud, as the caller claimed, or the caller could be someone who has a personal vendetta against Collins and wants to get her fired. That is, Bridges does not have enough information to know if the caller was forced out of doing business with Bailey or why this might have been the case.

Because Bridges does not have all of the facts, he should investigate the matter using the fraud theory approach.

 

Analyzing Available Data

Under the fraud theory approach, Bridges should begin by analyzing the available data so he can create a preliminary hypothesis as to what has occurred.

Also, if those responsible determined that an audit of the entire purchasing function is warranted, the audit would be conducted at the time this determination is made. When conducting the audit, the internal auditors should keep in mind that there is a possibility that fraud might exist.

 

Creating a Hypothesis

Once Bridges has analyzed the available data, he should create a preliminary hypothesis as to what has occurred. The hypothesis should be a worst-case scenario. That is, based on the

caller’s statements, Bridges should determine the worst possible outcome. Under these facts, the worst possible outcome would be that one of Bailey’s purchasing agents has been accepting kickbacks to steer business to a particular vendor.

 

Fraud examiners can create hypotheses for any specific allegation (e.g., a bribery or kickback scheme, embezzlement, conflict of interest, or financial statement fraud).

 

Testing the Hypothesis

Once Bridges has created a hypothesis, he should test it through the acquisition of new information or by correcting and integrating known information.

 

Testing a hypothesis involves creating a what-if scenario. For example, in the facts of the Linda Reed Collins case study, Bridges hypothesizes that, based on the anonymous tip, a vendor is bribing a purchasing agent to receive more business that previously went to other vendors. He would test this hypothesis by looking for some or all of the following facts:

  • A vendor is receiving an unusually large amount of business.
  • Purchases of high-priced, low-quality goods or services over an extended period.
  • A purchasing agent has a personal relationship with a vendor.
  • A purchasing agent with the ability to steer business toward a favored vendor.
  • A purchasing agent’s lifestyle suggests unexplained wealth or outside income.

 

Bridges could readily look for facts indicating a bribery scheme. He could readily establish whether a vendor is receiving an unreasonably large proportion of Bailey Book’s business when compared to similar vendors. Bridges could ascertain whether Bailey Books was paying too much for a particular product, such as paper, by simply calling other vendors and determining competitive pricing. He could determine whether a vendor has a personal relationship with a purchasing agent by discreet observation or inquiry. Bridges could determine whether a particular purchasing agent had the ability to steer business toward a favored vendor by determining who is involved in the decision-making process. Also, he could learn about the agent’s lifestyle by examining public documents such as real estate records and vehicle titles or by looking at the agent’s social media accounts.

Refining and Amending the Hypothesis

If, after testing a hypothesis, the fraud examiner determines that it is not provable, the fraud examiner should continually revise and test it based on the known facts. For example, if Bridges tests his hypothesis that a vendor is bribing a purchasing agent of Bailey Books and learns that the facts do not fit the presence of a bribery scheme, he should revise his hypothesis and retest it. (Obviously, if a fraud examiner tests their hypothesis and determines that the facts do not fit the presence of a bribery scheme, it could be that no fraud is present or that the fraud cannot be proven.)

 

Develop a Fraud Response Plan

When evidence of misconduct arises, management must respond in an appropriate and timely manner. During the initial response, time is critical. To help ensure that an organization responds to suspicious fraud-related activity efficiently and effectively, management should have a response plan in place.

 

A fraud response plan outlines the actions that members of an organization will take when suspicions of fraud have arisen. Because every fraud is different, the response plan should not specify how every fraud examination should be conducted. Instead, it should help organizations manage their responses and create environments to minimize risk and maximize the potential for success.

 

Additionally, a response plan allows management to respond to suspected and detected incidents of fraud in a consistent and comprehensive manner. Having a response plan in place sends a message that management takes fraud seriously.

 

More specifically, the fraud response plan should guide the necessary action when potential fraud is reported or identified.

 

Also, a response plan should not be unduly complicated; for a response plan to work in high- pressure and time-sensitive situations, it must be simple to understand and administer.

 

While the appropriate response will vary based on the event, management should include a range of scenarios in the response plan, taking into consideration previous frauds within the organization and fraud risks specific to the industry or business sector in which it operates.

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