A forensic audit is an examination of a company’s financial records in order to derive evidence which can be used in legal proceeding. Forensic accounting, forensic auditing or financial forensics is “the specialty practice area of accounting that describes engagements that result from actual or anticipated disputes or litigation”.
Forensic investigations and forensic auditing have become an important tool for the business and legal environment, to ensure the integrity of company finances.
Unlike a regular audit, where the objective is to ensure the true and fair presentation of financial statements, a forensic audit involves accounting skills to investigate fraud, misappropriation, embezzlement, or theft and to analyse the financial information in relation thereto.
Thus, a forensic audit includes additional steps which are required to be performed by the auditor, in addition to the regular audit procedures.
Financial forensic audits fall into several categories, including damages calculations, whether suffered through delict or breach of contract, post-acquisition disputes such as earn-outs or breaches of warranties, insolvency and reorganization.
Forensic audits may also be performed to investigate specific frauds, such as tax-fraud, money laundering, business valuation and computer forensics or e-discovery.
Certain forensic accountants specialise further in forensic analytics, which is the procurement and analysis of electronic data to reconstruct, detect or otherwise support a claim of financial fraud.
THE PROCESS OF A FORENSIC AUDIT
During the process of investigating and whilst conducting a forensic audit, an auditor is appointed for purposes of identifying fraud patterns and trends through reviewing electronic, digital and other evidence.
Accordingly, an auditor would look out for, inter alia, the following:
Conflict of interests – When a person uses his/her influence for personal gains which are detrimental to the company. For example, if an employee allows or approves inaccurate expenditure.
Bribery – Offering money to get things done or influence a situation in favour of someone else.
Extortion – Where a person or entity demands money in order to award a contract or a benefit.
Asset Misappropriation – Misappropriation of cash, creating fake invoices, payments made to non-existing suppliers or employees or entities, misuse of assets, or theft of Inventory.
Financial statement fraud – Fraud is committed when a company fraudulently portrays their financial position and performance as better than what it actually is, or by failing to apply the requisite financial reporting standards. The aim of presenting fraudulent accounting records is to improve liquidity, ensure top management, continue receiving bonuses, or to deal with pressure for market performance.
A forensic accountant typically holds the following qualifications:
CA (SA) – Chartered Accountant, registered in accordance with the South African Institute of Chartered Accountants (SAICA), which is the pre-eminent accountancy body in South Africa;
Certified Forensic Accounting, accredited by the Institute of Commercial Forensic Practitioners, the South African Institute of Chartered Accountants and the Chartered Institute of Management Accountants, in terms of SAICA and CIMA;
Certified Public Accountant (CPA) qualification. They may be involved into both litigation support (providing assistance on a given case, primarily related to the calculation or estimation of economic damages and related issues) and investigative accounting, namely looking into illegal activities;
LLB- Bachelor of Laws.
FORENSIC AUDITING PROCESS:
A forensic auditor is required to have special training in forensic audit techniques and in the legalities of accounting issues.
A forensic audit has additional steps that need to be performed in addition to regular audit procedures, including the following:
Planning the investigation – The auditor is required to understand what the focus of the audit is. For example, possible fraud may be suspected. The forensic auditor will plan their investigation to achieve objectives such as:
- Identify what fraud, if any, is being carried out;
- Determine the time period during which the fraud has occurred;
- Discover how the fraud was concealed;
- Identify the perpetrators of the fraud;
- Quantify the loss suffered due to the fraud;
- Gather relevant evidence that is admissible in the court;
- Suggest measures that can prevent such frauds in the company in future.
Collecting Evidence – By the conclusion of the audit, the forensic auditor is required to understand the possible type of fraud that has been carried out and how it has been committed. The evidence collected should be adequate enough to prove the identity of the accused, the details of the fraud scheme, and document the amount of financial loss suffered and the parties affected by the fraud.
A logical flow of evidence will help the court in understanding the fraud and the evidence presented.
Forensic auditors are required to take precautions to ensure that documents and other evidence collected are not damaged or altered by anyone.
Common techniques used for collecting evidence in a forensic audit include the following:
- Substantive techniques – For example, doing a reconciliation, review of documents, etc
- Analytical procedures – Used to compare trends over a certain time period or to get comparative data from different segments
- Computer-assisted audit techniques – Computer software programs that can be used to identify fraud
- Understanding internal controls and testing them so as to understand the loopholes which allowed the fraud to be perpetrated.
- Interviewing the suspect(s)
Reporting – A report is required so that same can be presented to the court, detailing the fraud. The report should include the findings of the investigation, a summary of the evidence, an explanation of how the fraud was perpetrated, and suggestions on how internal controls can be improved to prevent such frauds in the future.
Court Proceedings – The forensic auditor needs to be present during court proceedings to explain the evidence which was collected and how such information was identified. An Auditor must be able to simplify the complex accounting issues and explain in layman’s terms to the court, so that any persons who have no or little understanding of the accounting terms can still understand the fraud that was carried out.
In light of the above, it is evident that a forensic audit is a detailed engagement which requires the expertise of both accounting and auditing procedures, as well as expert knowledge regarding the legal framework.
A forensic auditor is required to have a detailed understanding of various frauds that can be carried out and of how evidence needs to be collected, interpreted and presented in court.