Accounting Fraud is the intentional activities that manipulate the financial statement to confuse the reader. It usually the work performed by the accountant, management, or a whole organization to mislead the other parties such as shareholders, creditors, or other related stakeholders. It can the overstating of revenue, assets or understating expenses, liabilities in order to achieve a specific objective.
The objective of accounting fraud is to show that the company’s financial health looks better than the actual. The management of a listed company usually under pressure to meet the shareholders’ and investors’ expectations. Due to great pressure and market expectation, management tends to window dressing their financial statement. In a serious case, they even commit accounting fraud to please the shareholders. For example, some accounting scandals such as Enron, Worldcom, Tyco, Lehman Brother, and many more.
Sign of Accounting Fraud
Spotting an accounting fraud is not an easy task as it is done by the management teams who have more experience and knowledge in their business operations. However, there are some hints which we can identify the fraud.
Some companies are growing too fast while the other competitors are not doing so well. It can be a problem which we need to look carefully. The company growth should be similar to the industry average unless they have any special technique which identifies the market leader.
Other companies may manage their earnings base on wall street estimation. Their earning just meet or slightly above the expectation, which is a sign of arrangement. They set the earning to ensure it will satisfy the shareholders and public interest.
Impact of Accounting Fraud on Business
Accounting fraud has a huge impact on the business, and it is not easy to quantify the impact amount. Inaccurated financial statement will not allow the user to evaluate the company’s stability and going concerned. Investors may overpay the company’s share which has a lower value.
The accounting fraud also impacts the company and its staff when the fraud is exposed to the public. The company may lay off a huge number of employees to reduce the implication. For the serious issue, the company may face bankruptcy due to public pressure.
How to avoid Accounting Fraud
Accounting fraud happens due to the conflict of interest between management and shareholders. It is simply the conflict of interest between both parties.
They have to prepare an internal control procedure to ensure a proper way for all staff to follow. It is the accounting procedure that the company needs to comply with to produce proper financial statements. Besides that, it will ensure operational effectiveness and efficiency which will provide a huge benefit to shareholders.
In order to ensure that the internal controls are properly The company set an internal audit department to access the compliance. The internal audit department will report directly to the audit committee which is not under any influence from the management team. The committee members are non-executive directors who will act independently and for the best interest of the shareholders.
Besides the internal structure, shareholders (board of directors) will appoint the external auditor to audit the annual financial statements in order to ensure that they are free from material misstatement.
Accounting fraud mostly happens in a big company in which the owners and management teams are different people. It will lead to a conflict of interest. For the small business run by the owners, it is unlikely to face such an issue.
For a big corporation, solving and prevent accounting fraud will be much easy than a small business. As they have enough resource to set up a proper structure which is able to prevent the fraud.
On the other hand, if a small business operates by someone else besides the owner, that will be a problem. It will be hard for small businesses to have structures such as internal control, internal audit, or external auditor. The cost will be huge for them and they do not have enough resources to implement such a complicated work.