Fraud Chapter 11

Identify an example of a perceived pressure that can motivate financial statement fraud.
a. The ability to obfuscate the fraud behind complex transactions
b. Failure to meet Wall Street's earnings expectations
c. Rationalizing that all companies use aggre

b. Failure to meet Wall Street's earnings expectations

Which of the following is an example of a perceived opportunity that can lead to financial statement fraud?
a. Inability to compete with other companies
b. Independent audit and a strong board of directors
c. Thinking that fraud is good for the company
d.

d. Inadequate internal controls

. There has been an auditor change at Company X. Which of the following situations may NOT signal a potential fraud problem?
a. Failure to pay an audit fee
b. Auditee believing that the auditor's fees are too high
c. Suspected fraud or other problems by t

b. Auditee believing that the auditor's fees are too high

Which of the following statements is true?
a. Most financial statement frauds occur in large historically profitable companies.
b. Most people who commit management fraud are first-time offenders.
c. An active board of directors or audit committee does li

b. Most people who commit management fraud are first-time offenders

Your firm has just acquired a new audit client. The new client is highly leveraged with borrowing from several institutions. It is planning to expand the business by obtaining additional debt finance in the near future. Based on these facts, which one of

c. Loans and other financing transactons between related entities

. The study done by the Committee of Sponsoring Organizations (COSO) on financial statement frauds that occurred during the period from 1987-1997 had many key findings. Which of the following is NOT one among them?
a. Frauds were most commonly perpetrated

b. Most of these firms had audit committees that met at least four times a year

Your audit team working with a newly acquired client, discovers that there has been fraudulent financial reporting for the past 5 years. Who is most likely to have been involved in the fraud?
a. Middle management in positions of trust
b. Disgruntled emplo

c. Top management

. Company XYZ had a long-standing relationship with a leading law firm. In fact, the law firm's business with this company was one of its most profitable relationships. If the law firm decides that it no longer wants to conduct business with the company,

c. a large cause for concern that financial statement fraud may be occurring

. While generally accepted accounting principles do allow flexibility, standards of _________, ________, and ________ must always prevail in the financial statements.
a. subjectivity; integrity; validation
b. objectivity; integrity; judgment
c. recording;

b. objectivity; integrity; judgement

. Frauds are more likely to occur in:
a. large, historically profitable companies.
b. companies with an active board of directors.
c. smaller companies where one or two individuals have almost all control in decision making.
d. any company, as the probabi

c. smaller companies where one or two individuals have almost all control in decision making

Understanding a company's relationships with financial institutions and bondholders is important because:
a. it can indicate the extent to which the company is leveraged.
b. it can reveal whether significant short selling of the company's stock has occurr

a. it can indicate the extent to which the company is leveraged

Examining a company's relationships with other individuals and entities can reveal important information about financial statement fraud. Identify the piece of information that is correctly linked to its source.
a. Examining relationships with financial i

b. Examining relationships with related parties will show whether there are unusual transactions that significantly improve the company's reported financial performance

Which of the following organizational characteristics is an indicator of a possible fraud?
a. A board of directors comprised mainly of outsiders.
b. An independent internal audit department.
c. An audit committee comprised mainly of insiders.
d. An overst

c. An audit committee comprised mainly of insiders

. According to study of financial statement frauds by the Committee of Sponsoring Organizations (COSO) , the average fraud lasts for how many months?
a. 12 months
b. 18 months
c. 24 months
d. 30 months

c. 24 months

According to study of financial statement frauds by the Committee of Sponsoring Organizations (COSO), who is the most common perpetrator of financial statement fraud?
a. Chief Executive Officer
b. Chief Financial Officer
c. Chief Operating Officer
d. Fina

a. Chief Executive Officer

Which of the following is NOT a kind of questions that should be asked in order to understand the exposure to management fraud?
a. Is a legitimate business purpose apparent for each separate entity of the business?
b. Have significant recent changes occur

d. How many employees are there in the organization who have many years with the organization?

Should nonfinancial indicators be used for assessing fraud risk? Why or why not?
a. No. A company's financial statement data need not always be consistent with its nonfinancial measures.
b. Yes. Management can more easily manipulate financial numbers but

b. Yes. Management can more easily manipulate financial numbers but if finds it harder to keep all the nonfinancial information consistent with the financial information

Which of the following is a finding of the Treadway Commission?
a. Financial statement frauds occur very often, the average fraud lasts about two years.
b. The CEO perpetrates the fraud in 72% of the cases.
c. While financial statement frauds occur infreq

c. While financial statement fraud occur infrequently, they are extremely costly.

Which of the following related party transactions need to most carefully examined for fraud?
a. Transactions that generate operating income
b. All transactions that appear anywhere within the company
c. Absence of loans or other financing transactions bet

d. Transactions that result in goodwill being recognized in the financial statements

In addition to changes in financial statements, which of the following can indicate financial statement fraud has occurred?
a. Information in the footnotes to the financial statements
b. Stable dividend payout ratio
c. Increased hiring of qualified employ

a. Information in the footnotes to the financial statements

What is the meaning of "short sell"?
a. Buy shares from a brokerage firm and enter into a forward transaction to sell the shares at today's price on a future date.
b. Sell the shares at today's price to an investor and enter into an option agreement to bu

d. Borrow shares from a brokerage and sell the shares at today's price with the intention to repay the borrowed stock they sold at some future time when the stock is trading for a lower price

Which of the following is NOT one of the components of the fraud exposure rectangle?
a. Accounting system controls
b. Management and directors
c. Financial results and operating characteristics
d. Organization and its industry

a. Accounting system controls

Which of the following is a performance evaluation method that focuses on both financial and nonfinancial
indicators of performance such as customer satisfaction?
a. 360 degree survey
b. Critical incidents method
c. Balanced scorecard
d. Pareto chart

c. Balanced scorecard

Which of the following is the term for a practice where the effective dates on stock options are deliberately changed for the purpose of securing extra pay for management?
a. Backtracking
b. LEAP
c. Arbitrage
d. Backdating

d. Backdating

. Which of the terms refers to the ability to anticipate a fraud perpetrator's likely method of concealing a fraud?
a. Zero-order reasoning
b. Deductive reasoning
c. Strategic reasoning
d. Low-order reasoning

c. Strategic reasoning

Which of the following occurs when an auditor and auditee only consider conditions that directly affect themselves but not the other party?
a. Zero-order reasoning
b. Deductive reasoning
c. First-order reasoning
d. Higher-order reasoning

a. Zero-order reasoning

Which of the following is depicted when the auditor simply considers his or her own incentives, such as audit fees, sampling costs, and penalties?
a. Higher-order reasoning
b. Zero-order reasoning
c. First-order reasoning
d. Deductive reasoning

b. Zero-order reasoning

Which of the following refers to when the auditor considers conditions that directly affect the auditee?
a. Low-order reasoning
b. Zero-order reasoning
c. Deductive reasoning
d. First-order reasoning

d. First-order reasoning

An auditor adjusts the audit plan by introducing unexpected audit procedures in response to what the auditor believes management may be doing to conceal a fraud based on management's strategic reasoning. Which order of reasoning is occurring here?
a. Low-

c. Higher-order reasoning

10-K forms refer to which of the following?
a. the corporate reports filed with the SEC.
b. the tax returns filed with the IRS.
c. the press releases to the newswires.
d. the bankruptcy filing document.

a. the corporate reports filed with the SEC

Which of the following are considered the backbone of capitalism and allow investors, lenders, and regulators to measure the performance of a business?
a. Government policies
b. Financial statements
c. Stock prices
d. Credit reports

b. Financial statements

Which is a common method of providing executive compensation by allowing top management to purchase stock at a fixed share price?
a. Stock splits
b. Arbitrage
c. Dividends
d. Stock options

d. Stock options

Which of the following observations concerning backdating of options is true?
a. It will not result in restatement of financial statements.
b. The extraordinary timing and frequency of occurrences defied statistical probability.
c. There is no concrete ev

b. The extraordinary timing of frequency of occurrences defied statistical probability

. A CEO believes that the company should try to keep the stock price high by manipulating the financial statements to protect its shareholders. Which element of the fraud triangle is discussed here?
a. Perceived opportunity
b. Trauma
c. Rationalization
d.

c. Rationalization

. Which types of questions should be asked about a company's relationship with financial institutions?
a. Is a significant part of the company's income or revenues derived from one or two large transactions?
b. Has management placed unreasonable demands o

d. Is the organization highly leveraged through bank or other loans?

In this phase of the economy, most businesses appear to be highly profitable.
a. Trough
b. Recession
c. Recovery
d. Boom

d. Boom

What are special purpose entities (SPEs)?
a. Fictitious organizations formed in order to perpetrate a financial statement fraud.
b. Business interests formed solely in order to accomplish some specific task or tasks.
c. Bodies formed to establish audit re

b. Business interests formed solely in order to accomplish some specific task or tasks

. Many financial statement frauds have been perpetrated because:
a. management needed to report high income to support stock prices.
b. management wanted to decrease the total tax payable by the company.
c. management wanted to show artificial losses to e

a. management needed to report high income to support stock prices

. According to the study done by the Securities and Exchange Commission, greatest number of enforcement actions was in the area of ________.
a. improper use of off-balance-sheet arrangements
b. improper expense recognition
c. improper accounting for busin

d. improper revenue recognition

Which legislation led to the establishment of the Public Company Accounting Oversight Board?
a. Private Securities Litigation Reform Act
b. Sarbanes-Oxley Act
c. Gramm-Leach-Bliley Act
d. Glass-Steagall Act

b. Sarbanes-Oxley Act

Which of the following is NOT an activity specifically listed in the text as prohibited by the Sarbanes-Oxley Act for an auditor of a company to perform contemporaneously?
a. Appraisal or valuations services
b. Actuarial services
c. Income tax preparation

c. income tax preparation services

Corporate financial statement fraud resulted in how many of the ten largest corporate bankruptcies in United States history occurred in 2001?
a. seven
b. six
c. nine
d. eight

a. seven

Which of the following actions by the company auditor increases the potential to detect fraud?
a. comparing current procedure test results to a prior year
b. performing new procedures not conducted in prior years
c. assigning the same audit staff to the a

b. performing new procedures not conducted in prior years

Which of the following is an example of examining nonfinancial data to detect fraud?
a. noting an increase in billing charges per customer
b. comparing the dates of sales to shipment dates
c. comparing line item current expenses to prior
d. calculating th

b. comparing the dates of sales to shipment dates

Which of the following would be least likely to indicate potential fraud activity?
a. increased borrowing at one specific bank
b. increased numbers of short sales by investors
c. increased business with related parties
d. increased customer appreciation a

d. increased customer appreciation activities

. According to the text authors, educators have failed in three areas and contributed to "the perfect fraud storm" that saw a rise in fraud activity in recent years. Which of the following is NOT one of those areas?
a. They have not trained students how t

c. they have not taught accounting students how to detect fraud during audits

Which of the following is least likely to indicate possible financial statement fraud?
a. purchase of a small competitor that resulted in goodwill
b. transactions that generate nonoperating income
c. an unusually large transaction that resulted in income

a. purchase of small competitor that resulted in goodwill