Fraud Risk Mitigation in Auditing

This assignment focuses on analyzing fraud risk factors within a company using two case studies. It examines the auditor's responsibility in identifying, mitigating, and reporting these risks. The analysis covers issues like inadequate segregation of duties, hasty implementation of new IT systems, and potential for management bias. The assignment emphasizes the importance of proper internal controls, expert opinions, and timely account checks to minimize fraud risk and ensure accurate financial reporting.

By student name
Professor
University
Date: 28 August 2017.

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Contents
Question no 1…………………………………………………………………...2
Question no 2…………………………………………………………………...6
Question no 3…………………………………………………………….....….7
Refrences.....……………………………………………………………….......8
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Question no 1
Audit is an independent examination of the books of accounts of an entity conducted by the
auditors with the view to express an opinion on the financial statements whether they are prepared on
an unbiased and true basis and whether they can be relied upon to take the critical and significant
business and financial statements. It gives reasonable assurance to the users of the financial statements,
both internal and external, including government, shareholders, banks, financial institutions, creditors,
etc. to help them take decision on their investments. The regulation on audit on the entities has
increased over time by ACCA and other regulatory bodies. There has been many guidance’s being issued
by the IFRS committee for recording the transaction and maintenance of the books which needs to be
verified by the auditors while conducting the audit of the entity. The requirements of audit do not end
here and audited report is required in the stock exchanges in which the company’s shares are listed. To
conduct an audit, the auditor 1st needs to understand the business and it environment, the industry in
which it is operating, the government regulation, other economic and political factor, if any, affecting
the business and several other micro and macro economic factors to give a proper audit report. Auditors
also need to validate and comment upon the estimates and management judgements being taken upon
in preparation of the accounts such that they are viable (Raiborn, Butler & Martin 2016). They also need
to check on the materiality, going concern assumption and whether or not the basic concept of
consistency has been followed or not. With all this objectives in mind, the auditor audits the books of
accounts using substantive and analytical audit procedures. Substantive audit procedures include
vouching of the incomes and expenses recorded in the books falling above the materiality level for
whether they actually exist or not, whether they have been completely recorded, reconciling the same
from the supporting evidences in the form of vouchers, bills, invoices, etc. Substantive procedures are
usually given effect to using inspection of records, observation of processes and procedures being
followed, taking external confirmations from the parties dealing with the business or company like
debtors, creditors, banks, etc., verifying the related party transactions, etc. They also check the
arithmetical accuracy in some cases to check whether this has been taken care of or not. Besides all this,
a check is also made on the assets and liabilities recorded in the books for their actual existence and
reporting to check substance over form (Knechel & Salterio 2016).
Once all this is given effect to and still the auditor is not able to express his / her opinion, then
he/she resorts to the analytical audit procedures, which include ratio analysis of certain specific ratios,
comparison of the actual from the budgeted and expected figures, trend analysis with respect to the
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industry and the past period, etc. Before further steps, the auditor generally checks on the level of
internal control being maintained in the entity before making further audit plan and determining the
nature, extent of checking and time of audit procedures to be undertaken. If the internal control is
strong, it implies less risk, and therefore less of routine checking can be done on the other hand, if the
internal control itself is weak, the risk of material misstatements rises and in such a case the auditor
needs to increase the extent of checking (Jones 2017).
In the given case, a printing press is to be audited and the new auditor is taking over from the
old one. Besides this, as per the records, the company has had several accounting changes having huge
bearing on the results like changes in the depreciation policy, a loan being taken with some conditions,
the management being changed at the top level and the new IT system being introduced without any
proper checking and back up. All these financial and non-financial data asks for an audit, which can
justify the accounts prepared and point out the material misstatements, if any to the management. For
this, a detailed ratio analysis has been shown below from the perspective of debt management,
liquidity, asset management and profitability. Furthermore, industry ratios are missing and hence the
same has been ignored in workings (Grenier 2017).
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2013 2014 2015
Total current assets 5,385,938 7,509,150 9,600,929
Total current liabilities 3,780,000 5,120,250 6,397,500
Result 1.42 1.47 1.50
2013 2014 2015
Total current assets - Inventory - Prepaid expenses 3,129,750 4,837,788 5,420,429
Total current liabilities 3,780,000 5,120,250 6,397,500
Result 0.83 0.94 0.85
2013 2014 2015
Total Debts 3,780,000 5,120,250 13,897,500
Total Assets 5,120,250 15,903,900 26,147,991
Result 74% 32% 53%
2013 2014 2015
Total Debts 3,780,000 5,120,250 13,897,500
Total owners' equity 9,150,000 10,783,650 12,250,491
Result 41% 47% 113%
Results: Here the current ratio as well as the liquid ratio has just about reached near the industry standard of 2 & 1
respectively. However, it is still to cheive in the future. In addition, since as per the loan agreement with BDO Finance Ltd.,
current ratio was to be atleast 1.5, which the company was just about reached in 2015.
1. Short term solvency or liquidity Ratios
2. Debt Management Ratios
Results: The Debt equity ratio here has increased from 0.4:1 to 1.13:1 over the period of 3 years which is still below the
industry standards of 2:1 but as per the loan agreement, the ratio was required to be within 1, which has been crossed in
2015 financial year.
Current Ratio = Total current assets/ Total current liabilities
Liquid ratio /Quick Ratio = (Total current assets - Inventory - Prepaid
expenses)/ Total current liabilities
Debt ratio = (Total Debts / Total Assets) or ((Total assets- total owners'
equity)/total assets)
Debt to Equity Ratio = (Total Debt/Total owners' equity) or ((Total
assets- total owners' equity)/total owners' equity)
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2013 2014 2015
Sales 34,212,000 37,699,500 43,459,500
Accounts Receivable 2,482,500 4,320,000 5,073,309
Result 13.78 8.73 8.57
2013 2014 2015
No. of days 365 365 365
Receivable turnover 13.78 8.73 8.57
Result 26.49 41.83 42.61
2013 2014 2015
COGS 28,207,500 31,620,000 36,855,000
Inventory 2,256,188 2,671,362 4,180,500
Result 12.50 11.84 8.82
2013 2014 2015
No. of days 365 365 365
Inventory turnover 12.50 11.84 8.82
Result 29.19 30.84 41.40
2013 2014 2015
Sales 34,212,000 37,699,500 43,459,500
Net Fixed Assets 7,544,062 8,394,750 15,572,062
Result 4.53 4.49 2.79
2013 2014 2015
Sales 34,212,000 37,699,500 43,459,500
Total Assets 12,930,000 15,903,900 26,147,991
Results 2.65 2.37 1.66
2013 2014 2015
Net income 2,359,190 2,291,362 2,972,183
Sales 34,212,000 37,699,500 43,459,500
Result 6.90% 6.08% 6.84%
2013 2014 2015
Operating Profit 6,780,000 7,230,000 8,308,088
Sales 34,212,000 37,699,500 43,459,500
Result 19.82% 19.18% 19.12%
2013 2014 2015
Net income 2,359,190 2,291,362 2,972,183
Total owners' equity 9,150,000 10,783,650 12,250,491
Result 25.78% 21.25% 24.26%
Results: Asset management ratios show a drastic fall in both the receivables cycle and the inventory turnover cycle as both
of them increased by around 50% which shows that the company hasn't been able to maintain effctivity over the business
cycle and the control procedures haven't been as was required.
3. Asset management Ratios
Results: All the 3 ratios calculated here are evident of the fact that the ratios have been stagnant in the last 3 years near to
6% and has neither increased or decreased even after taking benefit of increased loan in the capital structure.
Inventory Turnover = COGS/Inventory
Days' Inventory = 365/Inventory Turnover
Fixed Assets Turnover = Sales/net Fixed Assets
Total Assets Turnover = Sales/Total Assets
Profit Margin / Net Profit ratio = Net income / Sales
Operating Margin ratio = Operating Profit/Sales
Return on Equity = Net income/total owners' equity
Receivables Turnover Ratio = Sales/Accounts Receivable
Days Receivable = 365/Receivable turnover
4. Profitability ratios
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Solution 2
Risk assessment and analysis is an important part of auditing. It is important for the auditor to apply all
kinds of procedures to identify all the probable risk factors. There are generally three types of risk
associated with an audit, inherent risk, control risk and detection risk. Inherent risk occurs when things
are not in the hands of the management even after applying all the possible control measures. Control
risk occurs when the management fail to ascertain proper control level in the organisation and detection
risk occurs in situation where the auditor fails on his part to detect the major risks and errors (Fay &
Negangard 2017). The main implication of the same is that it is the duty of the auditor to make sure that
proper judgement is established on his part. In case of DIPL, there are two cases of inherent risk and the
same has been explained here under-
First case is where the management is considering changing the methods of valuation and adopting new
procedures that are deviation from the normal routine matters. In these cases, it becomes difficult for
the auditor to ascertain the proper trail of work. The CEO of the company wants to change the method
of calculation of depreciation by taking the life of asset to be twenty years, whereas as per the industry
standards the life must be thirty years. Therefore, this is a deviation from the normal procedures and
the company has taken no research before applying them. The second case is the installation of the new
It system without proper research, oat may be possible that it leads to overvaluation of the accounts.
The new system has been installed without any reconciliation; any research, and in case it fails it might
affect the overall profitability of the company. Thus, it is important for the auditor of the company, to
make sure that the management is providing proper disclosure for any kind of changes they are
incorporating (Sonu, Ahn & Choi 2017).The results after implementation must also be monitored so that
any case of misevaluation may be ascertained. This in these areas there are no proper control by the
management and thus leads to inherent risk on part of the company The management should provide
the auditor with all the proper details that might be needed. The auditor must do its own research
before commenting on the validation of the new IT system. It is important that expert opinion must be
taken before such changes are made. Strong control measures should also be incorporated, so that risk
is reduced. These are the few ways by which risk can be identified and mitigated (Bae 2017).
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Solution 3
Fraud occurs when the management or the employee of the company indulges in certain
activities for their own personal gains that are harmful for the working of the organisation. It occurs
when the internal controls are not strong which gives the employees to do such activities. Often the
management might be the culprit, the auditor should not rely on what the management portrays and
should apply his own research techniques before reaching a conclusion In case of DIPL, and there are
two cases where we see that fraud risk factor is present.
First case is in the non-segregation of important work, which gives the employees a chance to
easily defalcate the money. In case of DIPL, a single person has been given the responsibility to manage
the accounts and reconcile the same. This shows that the management of the company is lacking proper
internal control measures. The auditor should make sure that the work is properly segregated between
the employees, proper authority must be established and in any case the employees indulges in any kind
of fraud they must be penalised. The second case of fraud is the installation of the new It system by the
management. The management has undertaken the same in allot of haste. It has not applied any
research before doing the same. There are high chances that personal motives of the magemnt might be
involved in the same. In this case, we see that before installation of the system no reconciliation of the
cost and the result was done, it may be possible that the new system fails. This will affect the overall
profitability of the company. In all cases the management should make sure that, the accounts are not
under or overvalued. In any case, the auditor finds that there are certain fraud risk factors involved, the
auditor can question the management and then can modify the audit report. . Expert opinion of the
outsiders must be taken in case of the same. Thus, it is important that the auditor must see that proper
records must be checked in relation to the new system .The main job here is to make sure that the
books of account shows the true state of affairs and any kind of fraud risk factors must be identified and
must be eliminated. In these few ways, the auditor can help I identification and mitigation of the overall
fraud risk factors that might be associated with the company. It is the duty of the auditor and the
management to make sure that suppose visits and timely checking of the accounts are done to keep a
check on the sincerity of the employees. In addition, the management must establish proper controls.
All these will help in mitigation of the major fraud risk factors in the company and support the auditor in
conducting his audit properly (DeZoort & Harrison 2016).
References
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Bae, SH 2017, 'The Association Between Corporate Tax Avoidance And Audit Efforts: Evidence From
Korea', Journal of Applied Business Research, vol 33, no. 1, pp. 153-172.
DeZoort, FT & Harrison, PD 2016, 'Understanding Auditors sense of Responsibility for detecting fraud
within organization', Journal of Business Ethics, pp. 1-18.
Fay, R & Negangard, EM 2017, 'Manual journal entry testing : Data analytics and the risk of fraud',
Journal of Accounting Education, vol 38, pp. 37-49.
Grenier, J 2017, 'Encouraging Professional Skepticism in the Industry Specialization Era', Journal of
Business Ethics, vol 142, no. 2, pp. 241-256.
Jones, P 2017, Statistical Sampling and Risk Analysis in Auditing, Routledge, NY.
Knechel, WB & Salterio, SE 2016, Auditing:Assurance and Risk, 4th edn, Routledge, New York.
Raiborn, C, Butler, JB & Martin, K 2016, 'The internal audit function: A prerequisite for Good
Governance', Journal of Corporate Accounting and Finance, vol 28, no. 2, pp. 10-21.
Sonu, CH, Ahn, H & Choi, A 2017, 'Audit fee pressure and audit risk: evidence from the financial crisis of
2008', Asia-Pacific Journal of Accounting & Economics , vol 24, no. 1-2, pp. 127-144.
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