Unfathomable facts may often turn out to be indicators of underlying frauds.
The process of risk assessment is similar I to a health check up carried out by a doctor. A doctor assesses the health of a patient not only by standardized evaluations of blood pressure or pulse rate but also general evaluation of his body by looking for symptoms indicative of some unknown problem. For instance, a mysterious lump could be a symptom of some kind of cancer, requiring further tests. In risk assessment, similarly, while the assessor uses a checklist to ensure that all financial readings relating to business assets and revenues are within acceptable norms, he also physically observes the control procedure and the overall system in operation to spot red flags of any kind. It is at this stage that he may notice certain facts which are unfathomable. Whether a satisfactory and acceptable explanation is eventually available is a different issue, but experience shows that more often than not, such facts are red flags of wrongdoings.
The following is one such case where, in spite of a regular audit carried out by a reputed global firm, a major fraud was detected only by a risk assessment expert, on the observation of an incomprehensible fact. A popular pharmaceutical company was being taken over by a new group. A risk assessment was conducted through specialised fraud examiners. They completed all the routine tests and found very serious lapses in the analytical tests’ results. Last audit reports and other data available also seemed to indicate the good health of the company. They decided to conduct a ‘walk through’ test of some accounting systems in important areas such as purchases, sales, collections to name a few. It was in this part of the review that they found something strange. While examining a test collection transaction, they observed that the concerned debtor had tendered his payment to the company through five different cheques on the same day. This was strange and illogical because none of the cheques matched with any of the sales invoices debited to his account, neither were they continued payments of two or more invoices. It was battling as to why the debtor would give so many cheques. When asked to explain, the accountant was visibly shaken up. He stated that the debtor may have given different cheques because he may not have had sufficient funds in one account. This explanation seemed reasonable prima facie, but there was something in his manner that seemed to ring a warning bell to the assessors. They decided to extend their walkthrough test to a larger sample and predictably, found several such instances where other debtors had tendered several cheques of varying amounts, on the same day, not related in any way to invoice amounts debited. In some of the cases, the amounts paid were actually greater than the aggregate amounts recoverable from the debtors. On investigating further, they observed that, the name of the debtor was never mentioned in the bank deposit slip. Thus cheques received from a particular debtor could be easily credited to another favored debtor. This was achieved through collusion between: (a) The sales manager, who would discretely hand over the cheques received by him to the cashier b) The cashier who would make a receipt in the name of the favored debtor and (c) The chief accountant who would mastermind allocating cheques received from innocent debtors to favored debtors.
The innocent debtors who should have been given due credit initially, were given credit later through other debtors’ cheques as and when received, and this process went on almost endlessly and no debt was allowed to become overdue. In order to satisfy the auditors, the following strengths were highlighted: (a) None of the debts was overdue, (b) Discounts, rebates, and credit notes were rare, (c) Collections were always through account payee cheques and deposited promptly. What further helped the perpetrators, was that the debtors rarely replied to auditors’ requests for balance confirmations. Occasional replies, from some debtors did indicate differences in balances, but such differences were materially small. The auditors had reported this to the management but they never considered it to be a serious issue in the light of the aforesaid strengths. On a full investigation, it was learnt that about Rs. 3 crore was siphoned away in a two year period.
The point emphasized here is that strange, inconsistent facts or unusual events must not be ignored since they could be indicators of wrongdoing.