Red flags in detecting credit cooperative fraud: the perceptions of internal auditors.
| Autor | Magro, Cristian Bau Dal |
| Cargo | Texto en ingles - Ensayo |
1 Introduction
Constant market changes mean that the monitoring of organizations' internal controls and processes does not happen in the same proportion, thus exposing them to vulnerability and threat of fraud. Therefore, strict and timely monitoring of structures and internal control processes is necessary to appropriately deter, detect and respond to fraud.
Internal auditing is fundamental because of the responsibility of systematization, control, efficiency and effectiveness of all processes; it highlights the flaws that can lead to fraudulent acts. Boynton, Johnson and Kell (2002) point out that internal auditing assists management in fulfilling its responsibilities, and is a control component of resource allocation (waste and neglect) and a factor in anticipating occurrences (Santos & Vier, 2014).
From this perspective, internal auditing plays an important role in minimizing the occurrence of fraudulent acts, helping goals to be achieved through a systematic and disciplined approach, in order to evaluate and improve the effectiveness of risk management, control and governance processes (Pickett, 2005; Rittenberg & Schwieger, 2005). Similarly, the Brazilian Accounting Standard T 12 (2008) establishes internal auditing as the set of technical procedures used to examine the integrity, adequacy and effectiveness of internal controls and of entities' physical, accounting, financial and operational information.
The function of internal auditing is to adapt, evaluate and confirm the operation of internal control; to establish effective procedures for risk management; and to confirm the quality and reliability of the information generated by management (Pickett, 2005). As well as internal auditing, in 2002 the US government established the Sarbanes-Oxley Act, in order to restore capital markets' and professional auditors' credibility, facing the great amount of fraud in internationally renowned companies. The Sarbanes-Oxley Act created a new environment for corporate governance and a set of responsibilities and sanctions for managers, in order to curb harmful practices.
Despite the existence of mechanisms and laws and of internal auditing to mitigate the occurrence of fraudulent acts, KPMG Forense (2009), in a study of Brazilian companies, indicates that 70% had suffered some kind of fraud over the last two years. In addition, American investigation company Kroll found that 74% of all Brazilian companies had suffered at least one episode of fraud over the last 12 months (Kroll, 2013).
The increase in the occurrence of fraud has expanded the responsibility of internal auditors concerning detection and prevention. In this way, red flags are mechanisms that can be used by internal auditors to anticipate possible frauds. Red flags represent key symptoms to detect fraud, and internal auditing professionals can use them to better identify possible aggressions to organizations' assets (Pinheiro & Cunha, 2003).
Due to the increase in fraud that has been globally reaching public and private companies, and to the importance of red flags to detect fraud through internal auditors, it is necessary to investigate the use of these instruments by internal auditing (Pinheiro & Cunha, 2003). Moreover, the risk of fraud is perceived as dominant in all organizational segments and forms (KPMG, 2009), and it is important to carry out research involving credit unions.
Studies by Murcia, Borba and Schiehll (2008), and by Reina, Nascimento and Reina (2008) discuss red flags to detect fraud in financial statements, and the role of independent auditors, responsible for issuing the auditing report on financial statements, in minimizing these occurrences. This evidence demonstrates the gap in this research, which differs by discussing the warning signs of fraud within management, control and internal organization of credit unions, using the role of internal auditors in the prevention and detection of fraud as a premise.
Auditors' perception of the effectiveness of red flags was observed by Moyes (2011), Moyes, Young and Mohamed (2013), Moyes, Lin, Landry and Vicdan (2006), who offer relevant results on fraud in financial reports; nevertheless, they do not discuss the benefits of warning signs in the prevention and detection of fraud referring to the personal aspects of organizational members, of internal controls and of management, amongst others, that occur in the internal environment. Therefore, the contribution and the novelty of this research is that it provides, to internal auditors, warning parameters that are capable of anticipating the occurrence of fraud which is not only referring to financial statements, since they occur throughout the organizational process.
We contribute to the discussion around the fact that internal auditing, used in the prevention and detection of fraudulent acts, is an ex-ante phenomenon to the issuance of auditors' reports, which also aims to observe whether there is possible fraud in financial statements. This study is based on the argument that internal auditors may not be held responsible for the non-identification of fraudulent acts, and that their perception of fraud can be distorted by emotional and professional bonds they have with the organization and its members. As previously stated, the powers and the institutional environment in which internal auditors operate is different from that of independent auditors; they have specific and standardized assignments, without any institutional or personal connections with the audited organizations.
In addition, the subject of assessment and detection of fraud by auditors is incipient in Brazil (Murcia, Borba & Schiehll, 2008). Uretsky (1980) suggests the need for an interdisciplinary approach to the study of fraud and the need for research on the use of red flags as situational indicators. Similarly, the figures presented by KPMG (2009) and Kroll (2013) on cases of fraud in Brazilian companies demonstrate the potential of the Brazilian environment for studies involving the topic of red flags.
Finally, studies on the relevance of red flags in assessing the risk of fraud were focused on external and independent auditors who work in sectors other than financial. Thus, this study is distinguished from the approach focused on the perception of internal auditors about the relevance of red flags to evaluate fraud in Credit Unions.
Credit unions were chosen by their level of importance in promoting growth as well as the economic and social development in Brazil, where the service network of credit unions represents 18% of bank branches, and occupies the 6th position in the ranking of assets--and is, therefore, among the largest retail financial institutions in the country. Thus, auditing mechanisms are used by credit unions to maintain their integrity and image with members, customers and society, and in to achieve greater reliability when carrying out operations and processes.
In this context, this study aims to determine the relevance internal credit unions' auditors attribute to red flags in assessing the risk of fraud.
2 Internal auditing in the prevention and detection of fraud
Internal auditing is designed to add value and improve the operations of an organization, assisting in the achievement of organizational objectives by a systematic and disciplined approach to evaluate and improve the risk management of operational efficiency, control and governance process (Pickett, 2005; Rittenberg & Schwieger, 2005).
Internal auditors have proper knowledge to analyze the possible occurrence of fraud and to conduct routine follow-up investigations. Corroborating the fact, evidence point out that the fraud at WorldCom was detected at first by the internal auditing team (Rittenberg & Schwieger, 2005).
Specifically, with respect to fraud, Cushing and Romney (1994) state that the same runs through the first ownership of an asset. Then the asset is changed so that it can be useful to the agent. Finally, the asset is concealed by adultering documents and/or records. This method is important and leaves a trace that can help auditors uncover the possibility of fraud.
Moreover, when there is fraud, organizations find it difficult to assess the damage; this is justified because not all fraud is discovered and reported, and the victim not always seeks civil or criminal compensation. Evidence indicates that in 68% of cases of fraud there is no recovery of values. Organizations located in Brazil remain passive in relation to acts of fraud, making it a fertile ground for its occurrence (KPMG, 2009). In addition, 55% of organizations consider that the internal auditing is responsible for implementing anti-fraud controls, focusing on technology tools and data analysis to identify red flags (KPMG, 2009).
Inefficiency in internal controls, the country's economy, failure in the banking system, inefficient police, type of business, collusions, management replacement, incompetence and ignorance are some of the factors that can contribute to the occurrence of fraud in organizations (Krambia-Kapardis, 2003).
The factors that favor the occurrence of fraud are relevant, but the steady increase in cases has been attributed to the benefits and impunity, when often organizations fail to prosecute and the fraudsters do not have suffer adequate punishment by Justice. On the other hand, detecting the presence of fraud is difficult because of the flexibility and subjectivity inherent to the implementation of certain standards, as well as the lack of record of all transactions in the so-called official accounting (Murcia et al., 2008).
Doubts about the credibility of auditing do not minimize its importance and usefulness in the discovery of fraud. Auditing provides anticipation and offers actions against fraudulent acts (Pinheiro & Cunha, 2003). Critical sense, auditing technique, document analysis technique, sampling, circularization and survey used by auditors in performing their...
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