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Who Cooked the Books?

Stephen R. Goldberg and Joseph H. Godwin

BOOKS REVIEWED

Mulford, Charles W., andEugene Comiskey. 2002. TheFinancial Numbers Game;Detecting Creative AccountingPractices (New York: John Wiley& Sons)

Albrecht, W. Steve. 2003.FraudExamination (Mason, Ohio:South-Western, a division ofThomson Learning)

The two books reviewedaddress techniques to iden-tify and investigate finan-

cial statements and employeefraud. As the reviews indicate,these books are recommendedreadings for and additions to thereference library of any financialor operational manager.

THE FINANCIAL NUMBERS

GAME

The Financial NumbersGame; Detecting CreativeAccounting Practicesprovidesreaders of financial statementswith tools they can use to identifydeceptive accounting practices.The text classifies those practicesinto five categories and providescopious examples to give the

reader an understanding of how

those practices achieve desiredoutcomes. The categories are:recognizing premature or ficti-tious revenue, aggressive capital-ization and extended amortizationpolicies, misreported assets andliabilities, getting creative withthe income statement, and prob-lems with cash flow reporting.

The authors devote a chapterto each category and illuminatemany of the practices that havemisled investors. Relevant

accounting practices aredescribed for each category andexamples are provided whereparticular firm managers havedistorted financial results. Read-ers are provided with extensivechecklists that can serve asinvaluable tools for identifyingpractices that potentially misre-port the underlying economics oftransactions in which a firmengages. For example, thechecklist related to recognitionof premature or fictitious rev-enue, if followed, takes the read-er through a companys revenuerecognition practices and pro-vides a number of crosschecksthat can help validate or repudi-ate reported numbers. One cross-check is determining whether ornot the company has the physical

capacity to support reported rev-

enue. The authors provide anumber of measures that will aidfinancial statement users assess-ment of this important issue.Improper revenue recognitionpractices make up the lionsshare of enforcement actionsbrought by the Securities andExchange Commission.

In addition to a detaileddescription of accounting prac-tices within the five categoriesmentioned above and tips on

how to spot inappropriateaccounting, the authors also pro-vide a detailed look at the finan-cial reporting landscape, motiva-tions for aberrant behavior,Securities and Exchange Com-mission initiatives aimed at cur-tailing accounting abuse, and theviews of financial professionalson the extent of the problem.Motivation to engage in account-ing shenanigans often comeswith declining economic funda-mentals, management or auditorchanges, changes in accountingstandards, or investigations by aregulatory body such as theSEC. Often these shenanigansoriginate by stretching theboundaries and flexibility pro-vided within generally acceptedaccounting principles.

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79 2003 Wiley Periodicals, Inc.Published online in Wiley InterScience (www.interscience.wiley.com). DOI 10.1002/jcaf.10140

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Beginning in 1998 with aspeech by then-chairman ArthurLevitt, the SEC has beenincreasingly active in ferretingout financial misstatement.While this book went to press

before all of the Enron account-ing tricks were revealed, anddoes not include discussion ofcongressional action such as theSarbanesOxley bill and recentSEC action, it does describe ineasy-to-read detail many of theregulatory events and cases thatmade it more difficult for Enronto continue.

The authors report on a sur-vey they conducted of financialprofessionals (CFOs, CPAs,

financial analysts, academics,and advanced MBA students)regarding earnings managementpractices. Financial professionalsgenerally agree on whichaccounting practices cross theline and that the practice is com-mon. They agree that the majorobjectives of earnings manage-ment are to reduce earningsvolatility, support stock prices,increase earnings-based compen-sation, and meet analysts earn-

ings forecasts. This survey pro-vides powerful confirmation ofthe extent of earnings manage-ment practices and steps that candetect it.

The Financial NumbersGame; Detecting CreativeAccounting Practices gives read-ers an understanding of theaccounting practices that havemisrepresented results for manycompanies and subsequentlytaken billions of dollars of capi-talization out of the markets. Italso provides tools that can helpto prevent readers from sufferingthe same fate.

FRAUD EXAMINATIONS

Professor Steve AlbrechtsFraud Examinations is a com-

prehensive treatise on thenature, causes, and investigationof fraud. Though largely writtenbefore the recent Enron debacle,its timing couldnt be better inlight of recent massive corporate

frauds la Enron and Adelphia.Thus, this material is both time-ly and topical. While this bookis intended as a textbook, it isquite suitable as a quick studyor reference on fraud, fraudinvestigations, and fraud man-agement for accounting andfinance professionals.

Throughout the book,numerous narratives andexcerpts describing actual fraudsare created or excerpted from

confessions, fraud investigationreports, and court documents.These examples are used toillustrate the nature of fraud,peek into the minds of perpetra-tors, and to punctuate theauthors points. The descriptionof actual frauds, sometimes inthe perpetrators own words, areriveting and provide clear andsobering insights into when,why, and how highly trustedindividuals commit fraud.

Part one of the book is anintroduction to fraud. The firsttwo chapters describe types offraud, the fraud environment,and characteristics of the perpe-trators of fraud. Chapter 2 intro-duces thefraud triangle, whichdescribes the three key elementscommon to all frauds:perceivedpressure, perceived opportunity,andrationalization. The ele-ments of perceived pressure andperceived opportunity are analo-gous to the familiar concepts ofmotive and opportunity as seenon television crime shows.Rationalization refers to the per-petrators reasons for viewingtheir actions as acceptable. Thethird chapter provides an intro-duction to the methods of man-aging fraud. Fraud prevention,

detection, and investigation tech-niques are introduced.

Part two of the book detailsmethods used to prevent fraud.Specific recommendations aremade that would reduce or miti-

gate the elements of the fraudtriangle. Standard methods toreduce fraud are presented, suchas implementing strong internalcontrols and monitoringemployees, as are more subtleapproaches, such as creating aculture of honesty, openness,and assistance.

Part three of the book dealswith methods of fraud detection.Most of this will be familiar toanyone that has taken a universi-

ty course in auditing. However,the excerpts and narrativesdescribing actual frauds illustratethe importance of implementingthe described procedures.

Fraud investigation isaddressed in part four. This sec-tion provides intimate details ofthe fraud examiners arsenal ofweapons. Many of the tech-niques presented are typicallyassociated with police detectivessuch as field surveillance, inter-

rogation techniques, and publicrecords searches. In fact, admin-istering the Miranda warningand the rules of evidence are dis-cussed in this section. A compre-hensive treatment of the art ofinterviewing fraud suspects ispresented, including how to wordquestions to get useful answers,how to read an intervieweesbody language, and how to dealwith hostile interview subjects.

Management fraud is cov-ered in part five. The three chap-ters cover financial statementfraud, revenue and inventoryfraud, and liability, asset, andinadequate disclosure fraud.Some of the examples used inthis section are quite familiar tofinance and accounting profes-sionalsZZZBest, Phar-Mor,

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2003 Wiley Periodicals, Inc.

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Crazy Eddies, Cendant, and Lin-coln Savings and Loan. Most ofthe techniques described in thischapter are taught in a typicalundergraduate auditing course,but are presented in this book

from a fraud perspective. Thissection makes quite interestingreading in light of Enron andother recent accounting scandals.

Part six of the book dealswith specialized fraud issues.One chapter deals with frauds

against organizations and dis-cusses embezzling, theft ofinventory, and bribery. The fol-lowing chapter deals with bank-ruptcy fraud and divorce, whilethe final chapter in this part

deals with fraud in e-commerce.The e-commerce chapter is rela-tively light in content whencompared to other chapters.

The final section of thebook deals with resolving fraudissues through civil and crimi-

nal litigation. The litigationprocess is described in both are-nas, as is the role of a fraudexaminer in litigation.

Overall, this book is a com-prehensive treatment of fraud,

fraud management, and theinvestigation of fraud. I recom-mend it for its comprehensive-ness, clarity, and the authorsability to make the abstract pos-sibility of fraud real with the useof actual fraud cases.

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2003 Wiley Periodicals, Inc.

Stephen R. Goldberg, Ph.D., CPA, and Joseph H. Godwin Ph.D., CPA, are professors of accounting atGrand Valley State University. Their teaching and research interests focus on financial accounting, interna-

tional accounting, financial derivatives, and economic value added. They have published articles in a num-ber of academic as well as practitioner-oriented journals.