Financial Statement Fraud: Strategies for Detection and Investigation

Foreword

FINANCIAL STATEMENT FRAUD certainly is not new, although there are few times in history when it has received more public scorn. Some would claim that its genesis is in the corporate structure. The first entity to issue shares to the public was the Dutch East India Company, which was granted a government monopoly over the Asian trade in 1602. In the same year, the Amsterdam Stock Exchange was founded. It quickly grew to an organization of 50,000 civilian employees with 40 warships, 20,000 sailors, and 10,000 soldiers. And soon, tiny Holland ruled the world of commerce.

But, as Lord Acton so famously said, power corrupts. By 1637, corporations had become so powerful in the Netherlands that stock market speculation led to a frenzy that nearly destroyed the entire credit system. At the time, audits were almost unheard of. They didn't gain prominence until nearly two centuries later, after the infamous American stock market crash of 1929. Until then, the price of shares was largely determined by insiders engaging in "pump and dump" schemes; the value of stock would be pumped through shameless and aggressive promotion, only to be dumped before the bottom fell out. In response to the massive frauds uncovered during the Great Depression, the U.S. passed the Securities Act of 1933. Among other provisions, it required for the first time that publicly traded companies be independently audited. That, in turn, gave real impetus to the CPA profession.

However, audits did not turn out ...