As our upcoming Ethics 2019 lecture for January-February 2019 makes clear, many of the most spectacular cases of fraud during the last two decades that were, at least initially, successfully concealed from auditors involved the long running falsification of documents. Bernie Madoff and Enron come especially to mind. In hindsight, the auditors involved in these individual cases failed to detect the fraud for multiple reasons, one of which was a demonstrated lack of professional skepticism coupled with a general lack of awareness.
Fraud audit and red flag testing procedures are designed to validate the authenticity of documents and the performance of internal controls. Red flag testing procedures are based on observing indicators in the internal documents and in the internal controls. In contrast, fraud audit testing procedures verify the authenticity of the representations in the documents and internal controls. While internal controls are an element of each, they are not the same as the testing procedures performed in a traditional audit. Considering that fraud audit testing procedures are the basis of the fraud audit program, the analysis of documents will differ between the fraud audit and the traditional verification audit. Business systems are driven by paper documents, both imaged paper documents and electronic documents. Approvals are handwritten, created mechanically, or created electronically through a computerized business application. Therefore, the ability to examine a document for the red flags indicative of a fraud scenario is a critical component in the process of fraud detection.
The ACFE points out that within fraud auditing, there are levels of document examination: the forensic document examination performed by a certified document examiner and the document examination performed by an independent external auditor conducting a fraud audit are distinct. Clearly, the auditor is not required to have the skills of a certified document examiner; however, the auditor should understand the difference between questioned document examination and the examination of documents for red flags.
Questioned, or forensic, document examination is the application of science to the law. The forensic document examiner, using specialized techniques, examines documents and any handwriting on the documents to establish their authenticity and to detect alterations. The American Academy of Forensic Sciences (AAFS) Questioned Document Section and the American Society of Questioned Document Examiners (ASQDE) provide guidance and standards to assurance professionals in the field of document examination. For example, the American Society for Testing and Materials, International (ASTM) Standard E444-09 (Standard Guide for Scope of Work of Forensic Document Examiners) indicates there are four components to the work of a forensic document examiner. These components are the following:
1. Establish document genuineness or non-genuineness, expose forgery, or reveal alterations, additions, or deletions.
2. Identify or eliminate persons as the source of handwriting.
3. Identify or eliminate the source of typewriting or other impression, marks, or relative evidence.
4. Write reports or give testimony, when needed, to aid the users of the examiner’s services in understanding the examiner’s findings.
CFEs will find that some forensic document examiners (FDEs) limit their work to the examination and comparison of handwriting, however, most inspect and examine the whole document in accordance with the ASTM standard.
The fraud examiner or auditor also focuses on the authenticity of the document, with two fundamental differences:
1. The degree of certainty. With forensic document examination, the forensic certainty is based on scientific principles. Fraud audit document examination is based on visual observations and informed audit experience.
2. Central focus. Fraud audit document examination focuses on the red flags associated with a hypothetical fraud scenario. Forensic document examination focuses on the genuineness of the document or handwriting under examination.
Awareness of the basic principles and objectives of forensic document examination is of assistance to any auditor or examiner in determining if, when and how to use the services of a certified document examiner in the process of conducting a fraud audit.
ACFE training indicates that documentary red flags are among the most important of all red flags. Examiners and auditors need to be aware not only of how a fraud scenario occurs, but also of how to employ the correct methodology in identifying and describing the documents related to a given scenario. These capabilities are critical as well in order to be successful in the identification of document related red flags. Specifically, a document must link to the fraud scenario and to the key controls of the involved business process(es).
The target document should be examined for the following: document condition, document format, document information, and industry standards. To these characteristics the concepts of missing, altered, and created content should be applied. The second aspect of the document examination is linking the document to the internal controls. Linking the document examination to the internal controls is a critical aspect of developing the decision tree aspect of the fraud audit program. Using a document examination methodology aids the fraud auditor in building his or her fraud audit program.
The ACFE’s acronym MAC is a useful aid to assist the auditor in identifying red flags and the corresponding audit response. The ‘M’ stands for missing, either missing the entire document or missing information on a document; the ‘A’ for altered information on a document; and the ‘C’ for created documents or information on a document. Specifically:
A missing document is a red flag. Missing documents occur because the document was never created, was destroyed, or has been misfiled. Documents are either the basis of initiating the transaction or support the transaction.
The frequency of missing documents must be linked to the fraud scenario. In some instances, missing one document may be a red flag, although typically repetition is necessary to warrant fraud audit testing procedures. The audit response should focus on the following attributes assuming the document links to a key control:
— Is the document externally or internally created? The existence of externally created documents can be confirmed with the source, assuming the source is not identified as involved in the fraud scenario.
— Is the document necessary to initiate the transaction or is the document a supporting one? Documents used to initiate a transaction had to have existed at some point; therefore, logic dictates that the document was destroyed or misfiled.
— One, two, or all three of the following questions could apply to internal documents:
• Is there a pattern of missing documents associated with the same entity?
• Is there a pattern of missing documents associated with an internal employee?
• Does the document support a key anti-fraud control, therefore being a trigger red flag, or is the missing document related to a non-key control?
With regard to missing information on a document, several questions arise, one of which is: are there tears, torn pieces, soiled areas, or charred areas that cause information to be missing? To address any of these situations, finding a similar document type is needed to determine if the intent of the document has changed because of the missing information. Another question is: is information obliterated (e.g., covered, blotted, or wiped out)? Overwriting is commonly used to obscure existing writing. Correction fluid is also a common method, but the underlying writing can be read and photographed using transmitted light from underneath the document.
Scratching out writing with a pen will obliterate writing successfully if it results in the page being torn. Spilled liquids can also obliterate writing.
‘A’, altered, pertains to changing or adding information to the original document. The information may be altered manually or through the use of desktop publishing capabilities. For example, manual changes tend to be visible through a difference in handwriting, and electronic documents would generally be altered via the software used to create the document.
Any altering of information would be detected through the same red flags as adding information. In the context of fraud, forgery is the first thing that comes to mind in any discussion of the altering of documents. Forgery is a legal term applied to fraudulent imitation. It is an alteration of writing as to convey a false impression that a document itself, not its contents, is authentic, thereby imposing a legal liability. It is an alteration of a document with the intent to defraud. It should be noted that it is possible for a document examiner to identify a document or signature as a forgery, but it is much less common for the examiner to identify the forger. This is due to the nature of handwriting, whereby a forger is attempting to imitate the writing habit of another person, thereby suppressing his own writing characteristics and style, and in essence, disguising his or her writing.
A ‘C’, or created document is any document prepared by the perpetrator of the fraud scenario. This type of changed document can include added or created documents or added and created text on a document. The document can be prepared by an external source (e.g., a vendor in an over-billing scheme) or an internal source (e.g., a purchasing agent who creates false bids).
Some signs of document creation can include the age of the document being inconsistent with the purported creation date, or the document lacking the sophistication typically associated with normal business standards. Added or created text can inserted with the use of ink or whatever type of writing instrument was used on the original. It can also be added through cutting and pasting sections of text, then photocopying the document to eliminate any outline. When pages are suspected of being added in this manner, a comparison of the type of paper used for the original and the photocopy should be made. In terms of computer-generated and machine-produced documents differences in the software used may result in textual differences.
As the MAC acronym seeks to demonstrate, fraudulent document information can be categorized as missing information, incorrect information, or information inconsistent with normal business standards. Therefore, the investigating CFE or auditor needs to have the requisite business and industry knowledge to correctly associate the appropriate red flags with the relevant documentary information consistent with the fraud scenario under investigation.