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Ways to Spot Fraud in Business Financial Statements

Fraud involves carrying out illegal activities for the sole purpose of personal gain. Business Financial Statement fraud accounts for approximately 11% of white-collar crime. Fraud is committed by individuals, a group or business entities.

Examples of Fraud.

Business Financial Statement fraud examples

  • Cooking the books
  • Boosting profits whilst lowering losses.
  • Reducing or hiding liabilities and expenses from the company`s balance sheet.
  • Increasing company assets.
  • Raising revenue by including future sales.
  • Not applying correct depreciation and in doing this you raise the asset’s net worth.
  • Cookie-Jar Accounting” – Lowering actual revenue in an accounting period in order to use that money to boost a future poor performance period.

In this article we will look at ways of detecting such fraud in order to avoid fines and other issues in the future.

Red Flags

Red flags are usually an indicators fraud and other acts of meddling with company assets. Auditors from top audit firm in Dubai UAE, Investigators and Forensic accountants look for these in Financial Statements.

Ways to detect Fraud

There are a number of ways Auditors in Dubai and Fraud experts us to detect fraud carried out by employees.

Here are some of the signs in financial statements that can raise red flags:

  • Inventory shrinkage – Losing small levels of inventory is nothing new however Unexplained heavy losses on can indicate fraud. Certified Auditors can detect such discrepancies by looking at the balance sheet and also closely noting the current stock and number sold. Next, they compare these results to past and projected records and check for inconsistencies.
  • The auditor can perform random stock taking drills and analyze the results.
  • Due to difficult situations employees may take money and later try and hide their tracks. An excess number of changes to entries in the books can indicate foul play.
  • Revenue on financial statements is growing whilst cash flow remains constant.
  • A large unexplained change in assets or liabilities can be a red flag.
  • Auditor finds a Loan or bonus that cannot be accounted for.
  • Finding big changes in the accounts receivable balances.
  • Sharp escalation in revenue or sales that have no clear origin.
  • Actual cash flow is less than the revenue that has been reported
  • Revenue manipulation can leave traces in receivable balances. Auditors in UAE looks into a company`s receivables and stats and compares them to the industry standards.
  • Employees alter revenues or expenses. This can case a swing in assets and liabilities that can indicate fraud.
  • Discovering reported earnings that are healthy whilst the actual operating cash flow is on the decline.
  • Gross margin is not consistent with peer companies.
  • Gross margins or Cash flow rise far higher than the company`s prior performance or when compared to the industry`s average.
  • The book value of inventory and receivables increase drastically over a brief period of time.
  • Invoices not recorded into company books can be an indicator of fraud.
  • Loans written off by executive’s top management with no explanation.
  • Uncover telltale signs of irregularities with the use of Data Mining.
  • Perform quarterly balance sheet and payroll account reconciliations.
  • Analyze payroll records searching for any matching details such as bank accounts, names or addresses etc.
  • The company’s performance has a sudden spike during the last report period of the fiscal year.

Deeper ways to detect Financial Fraud

  • Vertical Analysis is the process of taking all on an income statement and also putting it as a percentage revenue. However, A comparison with the previous yearly trends is the made to see if anomalies appear. To calculate on a balance sheet they use the total assets to check for deviations to the norm.
  • Horizontal analysis puts all the financial information as a percentage of a selected base years` figures.
  • Comparative ratio analysis can detect any accounting irregularities. Auditors and analysts study the ratios to get information about sales leverage and sales of receivables. Inconsistencies can appear in these findings.
  • There are complex mathematical approaches to detect financial fraud used by Forensic accountants and Auditors. These are the Beneish Model M-score, The Dechow F-score, Benford’s law and Zipf’s law. As they are pretty complex we will not cover them in this article.

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