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Large and important companies have collapsed around the world as a result of fraud. The fraud in the resent years has significantly increased which lead the companies to focus on it in specific and therefore lead the public to focus on it in general and we have two important examples of fraud. The first example is the Enron Corporation and its scandal in 2001 and the second example is the second example is the WorldCom scandal and fraud. We can see that the fraud in many companies has happened because of the lack of the internal audit in the company and also because of weakness of internal control system and the corporate governance. Thus, strong internal audit, internal control system and finally corporate governance will definitely prevent the company from the fraud and the company will be kept into high level of security against fraudulent. In this paper we will focus firstly on the fraud in general and the types of fraud. Secondly, we will mainly focus on corporate governance function and its role to prevent the company against the fraud. Finally, we will raise the role of internal auditor in the company.
To begin with the definition of fraud: Comer, Michael J (2003) has defined the fraud as: "any dishonesty through which one person intends to gain an advantage over another". Another important definition of fraud according to Silverstone, H and Sheetz, M (2007, p5) has defined by FBI: "white- collar crimes are characterized by deceit, concealment, or violation of trust and are not dependent upon the application or threat of physical force or violence. Such acts are committed by individuals and organisations to obtain money, property, or services; to avoid the payment or loss of money or services; or to secure a personal or business advantage". So people who do fraud are dishonest and they are taking advantage of trust other people on them and the flexibility of accounting policies to do a fraud. But we need to ask an important question and this question is did these people who commit fraud study about the fraud in universities?. In other words, do universities teach its students about the fraud and explain to them that they have to be more honest and try not to be in position of fraudlenter. Many academics and researchers agree that the universities of business have duty responsibility towards students. They said that universities are teaching the students the principles and the rules of accounting, while they should therefore teach them how they stay away from fraud. A research conducted by Vinten, G (2002, p9) suggested that "business courses should place more emphasis upon risk and fraud, rather than pretending that fraud never takes place". Consequently, the first step towards combat fraud is to teach the students in universities about it before they go and work in organisations.
Who obligates fraud?
This a consequential question because there may be some confusion surrounding this. Some think that males are more to be in fraud position, while others believe that the females are more likely to commit fraud, however, other view are supposed by others support that anyone from the society can obligate fraud men or women and they said that we cannot even distinguish between demographic or psychological of people characteristic. The last view or opinion in fact is in the right direction. For example, Silverstone, H and Sheetz, M (2007) states that women obligate merely approximate as many frauds as men. Moreover, Albrecht et al (2009) state that it is not possible under any circumstances to be predicted in advance which vendors, clients, employees and others will become lying. And they also mentioned that indeed when fraud does happen, reaction of those who around the fraud is denial and it is unbelievable that victims were trusted friends and colleagues have behaved unfaithfully.
Reasons for fraud:
There are several reasons motivating people to commit fraud and we will consider the important ones greed, economic motivation and prestige or recognition as follows:
The first reason is greed. People who have power and therefore authority in many cases carry out fraud and corruption due to their greed (ASOSAI).
The second significant reason is motivation of economic. The main important motivation for both corruption and fraud is whether gain or financial requirement. In many cases, people who found guilty of corruption or fraud by critical of not endurable financial matters (ASOSAI).
The last important reason is recognition or reputation (prestige). These people may feel that they merit more reputation or more recognition. So these people will be in some cases motivated by retaliation, envy or ego. Their believes sometimes to others are superior. As a result, they can obligate fraud and no one can imagine, detect or discover them (ASOSAI).
Thus, as we have seen these are important reasons that can lead persons to commit fraud. Some people are under pressure of their daily life, their family and sometimes their society could have a bad impact to lead them to do fraud. Also, the weak of internal control system in the company or even the corporate governance will lead as a result the company to face the fraud. In simple words, any money without any security will learn the others how they can steal it. So the main important thing is that the company must have a strong security system to be fighting against the fraud. Figure 1 shows the fraud triangle.
Figure 1 (Wells, Joseph T, 2007)
Types of fraud:
Many academics and researchers have classified the fraud into different ways but we will consider the fraud's types as Alberecht et al (2009) views: they have divided frauds into those committed against organisations and those committed on behalf of organisation:
Employee fraud: in this case the victim will be the organisation of the employee, however, according to fraud of financial statements the executive habitually obligate fraud on behalf of a company and the reason for that to make the reports of the company much better than they in fact were.
One more way to sort fraud according to Alberecht et al (2009) is to use the ACFE's definition of occupational fraud as "the use of one's occupation for personal enrichment through the deliberate misuse or misapplication of the employing organisation's resources or assets". The ACFE has comprise three significant sorts of occupational fraud: the first one is asset misappropriations and consist the theft or misuse of an organisation's assets, the second type is corruption, at this situation the fraudsters use their influence in a business transaction to benefit for themselves or another person, the last type is fraudulent statement, this include forgery of a company's financial statements.
Another way to sort fraud is according to victims:
Company is the victim of the fraud.
- Employee embezzlement, in this case obligator is a company's employee.
- Vendor fraud, obligator is a company's vendor.
- Customer fraud, obligator is a company's customer.
Management fraud, shareholders and debt holders of a company are the victims.
Investment scams and other consumer frauds, in this stage unwary individual are the victims.
Miscellaneous frauds, anyone may be become victims.
A fraud fighting professional:
There is no course in universities called prevention of fraud or fighting against fraud, but, the students who do like to prepare fighting against fraud, they have to choose the right courses that enable them to be successful fraud fighter. Some universities are providing special courses such as Sheffield Hallam University in the UK and this course is called a forensic accounting, so this course will provide the skills to students which make them a successful fraud fighter. In the next section, we will give some of the significant skills for professionals who are fighting the fraud according to Alberecht et al (2009) as follows:
Analytical skills, detect fraud and investigate it are more mainly analytical processes. To detect the fraud the investigator should inspect the symptoms that he has found, is the main important point. It is not possible for anyone to be an excellent fraud fighter without following analytical skills.
Communication skills, a good fraud fighter has to know when and how he can ask questions because he will interview for example some witnesses, thus, he should therefore structure his questions to make them more effective and his method of asking questions also has to be more effective to extract the information from the interviewer. Consequently, good communication skills will lead to a good fraud fighter.
Some understanding of accounting and business, when the fraud fighters have an understanding of accounting and business, this will help them in many cases.
The ability to speak and write in a foreign language, some companies have branches around the world and therefore there are multinational companies. So the fraud fighter should be able to speak and write a foreign language such as French or for example Chinese language.
Technology skills, the fraud fighter may collect information from database, so the technology permits examiner's fraud to analyse a large database more quickly and they can trust these results.
The analytical, communication and technology skills are consequential for the fraud fighter, while other skills as understanding of some accounting and business and the ability to speak and write in a foreign language are not too important but they should be taking into account.
Requirement of professional:
Event to be a professional fraud fighter, the professional must have more than one year experience in an area of specialty related to detection of fraud either direct or indirect and according to Alberechet et al (2009) the following sorts will be acceptable as fraud related experience:
Accounting and Auditing:
Anyone can be qualified if he has an experience whether an auditor or accountants. For example, if he/she has an experience as an auditor either internal or external auditor. Moreover, when someone has an experience as accountant and has involved and deal for detection fraud, evaluating accounting systems for weaknesses or for example designing internal controls can be professional.
Criminal and sociology:
Merely experts with research or education in the white collar crime and fraud can be qualified as fraud fighters.
When somebody has an experience in the investigation of civil or criminal fraud or also has experience in white collar crime.
Directors' security for companies and associations and they deal with some issues of loss prevention could claim their experience with fraud issues.
Anybody with experience in the legal field may be qualified. For instance, these people may include fraud litigators and prosecuting lawyers.
Thus, when anyone expertise does not fall into one of these sorts could not be qualified as fraud fighter professional.
We have discussed above the fraud from different point of view and we do need to proceed further to find out about the role of corporate governance, and internal audit on prevent the organisation from fraud.
Corporate governance has become one of the important subjects after a series of various financial crises that have occurred in the world, especially in developed countries. Such as crisis have occurred in East Asia and Latin America in 1997 and the collapse of Enron Company, which was operated in marketing of electricity and natural gas in the USA in 2001, as well as collapse of WorldCom company of America communications in 2002. These collapses and crisis are due to the management and accounting corruption and fraud. In addition to that as some have suggested that the most important reason for the collapse of the organisations is the lack of management to good practice in monitoring and supervision. Moreover, these crises are as a result of the lack of transparency and lack of interest in applying the principles which verify the accounting disclosure. As a result of all this increased attention to the concept of corporate governance and has become one of the main pillars that must underpin the economic units. So many organisations and bodies have been set to confirm the advantage of this concept and encourage its application in various companies such as Cadbury committee which was formed to develop a framework of corporate governance on behalf of Cadbury Best Practice in 1992 in the UK.
Definition of corporate governance:
There are many different definitions of corporate governance but we will merely consider two significant concepts. Rezaee, Z (2002, p117) states that "corporate governance is not an abstract goal, but exist to serve corporate purposes by providing a structure within which stockholders, directors and management can pursue most effectively the objectives of the corporation". And the important definition as Cadbury states is "corporate governance as holding the balance between economic and social goals and between individuals and communal goals".
Even though corporate governance definition is distinct from different point of view, it is agreed in principle that it contributes in determing the responsibility and duty of individual employees of the organisation.
Corporate governance responsibility;
In this section, we will highlight the three main important responsibility of corporate governance as Rezaee,z (2002) points out:
1-high level of quality of financial reporting will be achieved merely through open and honest communication and intimate working relationship between the audit committee, the corporation's board of directors , internal auditors ,management and external auditor.
2-strong corporate governance, help in supervision in prepare the financial reporting and will break down cases of the possibility of financial statement fraud 3-investors's assurance will increase in the capital market as a result of transparency , integrity and quality of financial reports , while in cases of financial statement fraud decrease such assurance
Thus, such these responsibilities will as a result increase the quality of information that will be provided by companies. Moreover, it will guide and govern the performance of activities in all organisations. Consequently, this will lead to do business efficiently and meet the performance rights and obligations in professional and legal reference.
Principles of corporate governance:
Duty: the responsibility of directors: corporate governance is working to make the governance of board directors held to the general assembly and therefore to make all the decisions for the assessment and monitoring. Duty of directors who consent the strategic trend of the organisation within a structure of wise authorises and who employ, observe and prize management (ICAEW, 2010).
Accountability: the board of directors and their accountability to shareholders. The board provide information to shareholders who have the power to reprise or eliminate the directors who are not trusted to maintain the company (ICAEW, 2010).
Transparency or clearness: transparency is the face of the entire fairness impartiality and concern for the safety of operations, transactions and related by the roles that exercised by executives, non executives' directors and the external auditors. Clearness of understable information with which significant testing of an entity and its activities can be made. The disclosure of fiscal and operational information and inside processes of management supervision and control allow aliens to value the company (ICAEW, 2010).
Fairness: governance works to achieve non _discrimination against a group or with a class of groups against other group. So the shareholders have the right to defend about their interests and get access to sufficient data and protect them from any operations that may affect the integrity of their decisions. Justice that all shareholders are treated similarly and have the chance for re corrects for desecration of their rights (ICAEW, 2010).
How is important corporate governance?
Corporate governance is the most important process necessary for the proper corporate and confirms the integrity of its management, as well as to fulfil the obligation, commitment and to ensure that companies achieve their objectives in legal and economic infrastructure. The importances of corporate governance are shown as follows:
Collapse of many companies around the world has considered the investors about their entities. ICAEW (2010) has shown that "high profile corporate collapses due to a number of circumstances including financial reporting irregularities leading to a lack of investors' confidence and public trust".
The world now has become a small village due to globalisation. So many investors raise their capitals across the world and they considered about their investment in the organisations and are looking for good corporate governance to save and maintain their investment. For instance, developing markets in particular require revealing superior corporate governance to implant investor assurance. Thus encouraging entrance to the worldwide capital essential for job formation and economic expansion (ICAEW, 2010).
Investors as institutional investors are interested in long term investment. Consequently, weak corporate governance will not help them to go on. For example, IACEW (2010) points out those institutional investors chase long term investment and frequently receive dynamic responsibility in bringing underperforming entities to task.
Corporate governance and corporate failure:
There is an argument that increasing in number of collapse many companies across the world is as a result of weakness corporate governance or internal auditor function. In this section we are considering on corporate governance and its related to failure many companies a research conducted by Ramaswamy, V (2005, p68) indicates that "an increasing number of researchers are finding that poor corporate governance is a leading factor in poor performance, manipulated financial reports, and unhappy stakeholders" and he also mentioned that sadly the core of corporate principles_ the board of directors in assured cases become a lure for disreputable practices.
Thus, as discussed above poor corporate governance and unethical behaviour by the board of directors will lead as a result to collapse many organisations for sure. So what do we have to do to make it works? The answer is that corporate governance should be improved and this means that it needs evolution not revolution. A necessary steps forward to improve corporate governance and should be taken even to carry on with the developments in our daily life.
Improve corporate governance:
Although, many reports have been carried out to improve the corporate governance, the companies' fraud is still going on without stopping and decreasing. So how can corporate governance be improved. Some researchers considered mainly about improving corporate governance by focusing on the role of audit committee. For example, Rezaee, Olibe and Kingsley O (2003, p532) have stated that "to effectively fulfil its oversight function, the audit committee should be independent, competent, financially literate, adequately resourced and properly compensated". However, other researchers and academics have focused merely on improving corporate governance. For instance, Vinten, G (2002) has suggested the following:
Board members have to be suitably developed, qualified and inducted.
All different type of cons and pros of corporate governance should be discovered and best rehearsal dispersed.
Practical research on corporate governance should be sponsored by company instead of the black box.
The group of stakeholders such as organised shareholder and institutional investors should be allowed a vote in the boardroom.
National research agendas should be developed, with fundamental gathering and dispersion of outcomes.
Moreover, according to Ramaswamy, V (2005) has pointed out that entities require a centralised plan and a seted up structure to evaluate and observe internal controls' efficiency and the alignment between internal control, corporate governance and external reporting activities.
Internal auditing is an independent activity inside the organisation. It aims to ensure that the system and procedures of the company is accordance with law and there are no errors in the financial statements and their responsibility is directed to management.
Definition of internal auditing,
According to Spencer P, K.H (2004, p51) internal auditing is "an independent, objective assurance and consulting activity designed to add value and improve an organisation's operations. It helps an organisation accomplish its objectives by bringing a systematic, disciplined approach to evaluate and improve the effectiveness of risk management, control and governance process". So the internal audit structure commits to assist establish structure of authority, risk supervision and direct. Meanwhile, it commits to offer an objective view on whether these systems are in position and effective, somewhat that is currently true at the controls of management plan for every type of organisations.
The role of internal auditor:
The role of internal auditor is different from company to another and it relies on the activities of the company and the requirements of management. So we will highlight the significant roles:
The first role is that financial and operational information have to be examed by internal auditor. For example, IAS 610 (2008) points out that this will comprise re examine of the resources used to recognise, quantify, categorise and report such information and particular investigation into individual things with extensive examining of dealings and steadiness.
The second role is to re exam the company's effectiveness and non financial controls of an entity. Millichamp, A and Taylor, J (2008) has stated that one of the role of internal auditor is to re evaluate of the economy, competence and efficiency of operations plus non fiscal directs of a company.
Additional role is that to detect fraud. IAS 610 (2008) states that internal auditor should have a specific inquiry interested in specific areas such as supposed fraud.
Another significant role is internal auditor has to check whether the entity is compliance with laws and regulations or not. For instance, Millichamp, A and Taylor, J (2008, p236) states that internal auditor have to "review of compliance with applicable laws and regulations".
The last role is to detect risks that companies are facing and stop these risks. Jeffrey, C (2008) states that the role of internal auditor can assist managers to break down the risks by identify and rank these risks.
These are an important roles of internal auditor, especially their roles in detect fraud in the company and to help the management to break down any risks that their companies may face. If the internal auditor behave ethically and in accordance with auditing standards, his/her role will completely maintain and save the shareholders' investments in the company because he/she will do notice and observe the preparation of the company accounts and all the activity of the company.
Need for good internal auditors:
There is no doubt that good internal auditor will as a result direct to control the activities of the company effectively. However, Hirth J, R.B (2008) has stated that having an excellent internal auditor will not guarantee excellent controls but will ensure at least a high level of possibility of healthier controls. The question which is still remaining, is how can we achieve a high standard of internal auditor?. Hirth J, R.B (2008) has discuses this question as below:
Better people: people who are high qualified and so professional with extensive experience in accounting, finance and information technology are in need even to reach high quality of internal auditor. Thus, such these people can be prepared to discover recent technologies, recognise and assist diminish rising risks and build up innovative solutions to difficult business troubles. In simple words, knowledge such these people are very important and valuable to the company, especially after performing audits.
Better risk assessment: the risk assessment continues to be the main principles of internal auditor. The focus and the effort of internal auditor is defined by risk assessment. Realisation it accurate thought an inclusive risk assessment will force better outcomes, reach better efficiencies and cover up the vital things that whichever put in or maintain importance in the company. So to avoid waste of time and effort the internal auditors should get it right.
Better use of technology: with better use of technology internal auditors can perform well. So that they can monitor operations, scan key performance indicators instead of relying on sampling random groups of transactions.
Better knowledge of limitations: the internal auditor works intimately with managers to identify his role so that he/she can accurately be successes and fulfil his/her command.
Better overall process:The internal auditor should have evaluated, hone and study their own process so that they can ensure their efficiency and their highly productive