This understanding is important because it allows you to know what should happen in a "normal" situation so you can then identify anomalies. The following table describes example inquiries you may consider making of entity personnel. Adjacent to each inquiry is a description of how the information learned from the answer can help you identify and select journal entries and other adjustments for testing. Your understanding of the financial reporting process also should include knowledge of how journal entries are initiated, recorded, and processed for example, directly online or in batch mode from physical documents , the design of any controls over journal entries and other adjustments, and whether those controls have been placed in operation.
This information will help you design suitable tests. As part of your brainstorming session, you should consider discussing how journal entries may be used to perpetrate or conceal a fraud. For example, you might discuss:. As part of your inquiries of management and others about fraud-related matters, you should consider asking accounting, data entry, and IT personnel about whether they have observed any unusual accounting entries during the audit period.
Identifying journal entries and other adjustments for testing. Your assessment of the risk of material misstatement due to fraud, together with your assessment of the effectiveness of controls, will determine the extent of your tests. SAS No. This procedure is required even if you determine that controls over journal entries and other adjustments are operating effectively.
When testing journal entries and other adjustments, it is vital that you identify and consider the entire population of journal entries and other adjustments. Be aware that some entries and adjustments may be made outside of the general ledger.
For that reason, you will need to obtain a complete understanding of how the various general ledgers are combined and the accounts are grouped to create the financial statements. In addition to these items, you should consider journal entries and other adjustments that are processed outside the normal course of business "nonstandard" entries and adjustments.
Computer assisted audit techniques may be required to identify entries that only exist electronically. Expenses were capitalized to inflate profits. Income statement amounts were moved to the balance sheet with questionable entries. Once the fraud was discovered, the internal auditors were told the billion-dollar entries were based on what management wanted.
The entries were not in accordance with generally accepted accounting principles. And why was this done? To increase stock prices. Management owned shares of WorldCom, so they profited from the climbing stock values. The fraud led to prison sentences and the demise of the company, all because of management override. Journal entries are an easy way to override controls.
Consider this scenario: Management meets at year-end, and they have not met their goals; so they manipulate earnings by recording nonexistent receivables and revenues, or they record revenues before they are earned. Auditors should test journal entries for potential fraud, but how? First, understand the normal process for making journal entries: who makes them, when are they made, and how. Also, inquire about journal entry controls and consider any fraud incentives, such as bonuses related to profits.
Then think about where fraudulent entries might be made and test those areas. Fraudulent journal entries are often made at year-end, so make sure you test those. Here are some additional journal entry test ideas:.
Data mining software can be helpful in vetting journal entries. For example, you can search for journal entries made by unauthorized persons.
Just extract all journal entries from the general ledger and group them by persons making the entries; thereafter, scan the list for unauthorized persons. Fraudulent journal entries are not the only way to override controls. The books can be cooked with related party transactions. I mean they are unusual. Management can alter profits with transactions outside the normal course of business , and these are often related party transactions. For example, Burning Fire, an audit client, is owned by Don Jackson.
Jackson also owns another business, Placid Lake. So you ask for transaction support, but there is little. They are responsible for financial disclosures and should ask the right questions. At the same time, the AICPA stressed in its report that audit committees must communicate with the internal auditors. Volkswagen CCO Kurt Michels shared how the company has intensified business partner due diligence in the wake of completing its three-year U.
The Financial Accounting Standards Board has provided a practical expedient for private companies to reduce the complexity of determining the fair value of share-based awards. David Karas was named the first-ever chief compliance officer for Hitachi in October. He caught up with Compliance Week to discuss the impetus to elevate compliance at the multinational conglomerate and what he hopes to accomplish in his new position. Tee International disclosed enhancements to its compliance, risk management, and internal controls amid an ongoing investigation by authorities in Singapore into its former group chief executive for allegedly stealing company funds.
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