Determining the Scope and Objectives of Financial Forensic Investigations Resulting from Internal Fraud by Richard Fechter, JD, CAMS, CFE
According to the Association of Fraud Examiners (ACFE) “2020 Report to the Nations,” a growing number of businesses that fell victim to occupational fraud between 2018 and 2019 disciplined perpetrators privately rather than referring them to public law enforcement for criminal prosecution. Yet, while there has been a steady increase in civil suits and private settlements related to frauds committed by businesses’ own employees, officers, and directors, most have not resulted in any recovery of losses. One reason for this can be attributed to the general lack of internal resources businesses need to objectively investigate and respond to suspected frauds. In fact, these circumstances often require the specialized accounting, auditing and investigative skills of forensic accountants to not only uncover the fraud but also to document and quantify them.
After the initial shock of an internal fraud discovery, businesses will need to develop a plan of response that addresses the various competing interests of all the company’s stakeholders. Making this process more challenging is the fact that the objective of an investigation and end goal will vary depending on everyone’s specific position within or outside a company.
Management: The primary goal is to bring the investigation to a quick conclusion. The chief financial officer may be defensive over the fact that his or her organization “allowed this to happen.” The CEO may be concerned about the investigation’s impact on share price and value, company reputation and liability, and employee morale.
Board of Directors: The goals may include conducting a thorough and complete investigation and protecting both the company’s reputation and their own personal liabilities. The board is likely to look to legal counsel and, in some cases, to forensic accounting investigators to define the parameters of the analysis.
Regulatory Agencies: The enforcement and prosecutorial objectives of agencies such as the U.S. Securities and Exchange Commission (SEC) and U.S. Department of Justice (DOJ) will often extend beyond the scope of those of the victim company’s investigation.
Legal Counsel: The challenge of acting in the best interest of the client is complicated by each party’s definition of who that client is, whether it be the management team, the audit committee, or other directors. Legal counsel will also be charged with selecting and outlining the role requirements of forensic accounting investigators who may be engaged to conduct investigations and allocate resources accordingly.
Internal Auditor: The objectives of the internal auditor may vary from staying on schedule to complete the annual audit plan, avoiding the risk of alienating the management team and protecting the internal audit team from criticism. It is not uncommon for the internal audit team to feel embarrassed, angry, and defensive that it did not detect the wrongdoing.
External Auditor: The external auditor responsible for ensuring the investigation is of adequate scope must decide whether the situation requires the specialized skills of forensic accountants, whether to add forensic accountants to the audit team, and whether the investigation will call into question the quality of past audits.
Stockholders: Maximizing stock price and/or recovery of damages are the main investigative goals of a company’s stockholders, who may become concerned once suggestions of financial impropriety surface. It is possible they may file a class-action lawsuit in order to extract the largest possible settlement from the company and other parties, including the external auditors.
Business Lenders: During an investigation, a business’s lenders will be concerned about their financial exposure to the borrower’s losses. These concerns are often reflected in and fed by media attention, and they create pressure to “get to the bottom quickly.”
Managing all of these audiences’ competing interests typically falls to the forensic investigators, who must also maintain objectivity in fulfilling their unique objectives, which may include the following:
- Identify the nature and scope of the fraud;
- Prevent and reduce future cases of fraud through the implementation of recommended best practices and internal control actions within the company;
- Participate in the design and creation of fraud-prevention programs;
- Evaluate internal control systems; and
- Investigate and collect evidence that will be placed in the hands of the judicial authority.
Registered, independent accounting and auditing firms are good places to look for forensic accounting investigators. Consultation with forensic accounting investigators may assist audit partners and their teams to assess the scope of investigations proposed or performed. For example, in some investigations, e-mail should be obtained by “copying” the relevant server files. The audit firm’s forensic team might suggest that hard drives found on laptops or desktop computers, portable mass storage devices and the like be imaged instead of simply copied, to ensure the admissibility of the evidence and to capture all the electronically stored files, including those that have been deleted and those not saved on the servers.
At each stage of the process, forensic experts with many years of experience can help organizations navigate their way through these complex issues. They can also determine the best way to address these competing interests in an objective way so that, if a criminal referral is ultimately made or a civil case seeking recovery of damages is filed, the evidence obtained in the investigation can be presented in a court of law and the desired results can be obtained.
Berkowitz Pollack Brant has the required experience in financial forensic investigations and has successfully provided such assistance on many such engagements over its history.
About the Author: Richard S. Fechter, CFE, JD, CAMS, is an associate director with Berkowitz Pollack Brant’s Forensic and Advisory Services practice, where he conducts forensic accounting investigations and provides expert analysis on the economic, finance, and accounting issues pertaining to economic damages and other business matters in complex commercial disputes. He can be reached at the CPA firm’s Miami office at (305) 379-7000 or firstname.lastname@example.org.