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INTRODUCTION

In a broad strokes definition, fraud is a purposeful misrepresentation which causes

another person to suffer damages, usually monetary losses. Most people consider

the act of lying to be fraudulent, but in a legal sense lying is only one small element

of actual fraud. A salesman may lie about his name, eye colour, place of birth and

family, but as long as he remains truthful about the product he sells, he will not be

found responsible of fraud. There must be a purposeful misrepresentation of the

product's condition and actual monetary damages must occur.

Fraud occurs when pressure, opportunity, and rationalisation come together.

Most people have pressures. Everyone rationalises. When internal controls are

absent or overridden, everyone also has an opportunity to commit fraud.

Fraud is not easily proven in a court of law. Laws concerning fraud may vary

from state to state, but in general several different conditions must be met. One of

the most important things to prove is a purposeful misrepresentation of the facts. The

account representative who sold a fraudulent insurance policy on behalf of a

dishonest employer may not have known the policy was false at the time of the sale.

In order to prove fraud, the plaintiff must show that the accused had prior knowledge

and voluntarily misrepresented the facts.

Increasing number of financial restatements by high profile companies,

coupled with bankruptcies of major companies caused by reported financial

statement fraud and related audit failures, have eroded public confidence in the

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financial reporting process and audit functions. This study was performed to

determine what fraud is and its characteristics, the reason for the increased fraud,

determine the effective fraud detection methods, perceptions of ethical issues,

causes of ethical failure and ethics education. In addition, in this paper will present

briefly one of the companies has face accounting financial fraud?

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OBJECTIVE OF THE RESEARCH

Overall objective for this study is, to determine the type of fraud occurring in the

accounting and how the company management will response to fraud like Enron

cases or Worldcom cases. Several issues will consider to making this objective

accomplish. In summary, the entire objective to each journal summarize as below:

i. To develop an understanding of ethics in accounting. We would understand

the importance of ethics on professions such as accounting.

ii. To be aware of who commits fraud and understand why people commit fraud.

iii. To understand the importance of fraud prevention and early fraud detection.

iv. To understand professional ethics for accountants in public accounting,

management accounting, internal auditing, not-for-profit accounting, and other

business area.

v. To understand the fraud triangle and how life pressures contribute to fraud.

vi. To understand how business world to respond fraud case.

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LITERATURE REVIEW

Case1: State and local government fraud survey for 1995

Reports on a questionnaire survey in US local and government auditors conducted

to determine the amount and type of fraud occurring in state and local government in

1995. The sample amount of respondent is 145 where they have various

backgrounds information. The respondents were asked three questionnaires dealing

with their perceptions of fraud. Most of the respondents (91 percent) considered

themselves knowledgeable about the ways in which fraud can occur. Most (69 per

cent) consider fraud to be a significant problem for government agencies today. Fifty-

seven percent felt that fraud will increase. Only 3 percent felt that it would decrease

and 40 per cent felt that it would remain the same. When asked the reasons for the

increased fraud (see Table III), the respondents most often listed the following five

reasons:

i. Poor management practices (80%);

ii. Economic pressure (71%);

iii. Weakened society values (71%);

iv. People not held responsible for their actions (66%); and

v. Inadequate training for those responsible for fraud prevention/detection

(57%).

When the respondents were then asked if they were aware of fraud in their

agencies and did they consider fraud to be a significant problem for government

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agencies today. More than 69% of respondents indicated they misappropriation of

funds (29 per cent of total occurrences) and theft (28 per cent of total). The

questionnaire reported that effective fraud detection methods are; internal audit

review (44 per cent), specific investigation by management (33per cent), employee

notification (32 per cent), internal controls (32 per cent), and accidental discovery (30

per cent).

Sixty-three percent of the respondents reported that “red flags” pointed to the

possibility of fraud. However, only 32 percent responded that management acted on

the “red flags”. The most often reported “red flags” included; internal controls ignored

(77 per cent), reports ignored (35 per cent), changes in employee lifestyle or

behaviour and inventory losses (30 per cent), internal/external audits ignored (25

percent), lastly employee comments ignored and exceedingly high expenses (24 per

cent).

Case 2: Company fraud linked to strong personalities.

One of The Edge (23-02-2009) articles stated that companies usually have an

employee with strong personalities as its head of management; the companies

would expose for fraud. People with strong personalities have strong personalities

and charismatic have the abilities to influence others, manage various stakeholders,

and even make people to do the wrong things. Fraud, in many cases often happens

when there was too much authority and power in the hands of a few people.

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The best way to protect against fraud is to teach people about ethics.

However, the downside of a Asian culture that they are having difficulties to tell their

superior about the mistakes they have done because one respects the seniors and

founders as well as you don’t question your elder and founder. This is the downside

of Asian culture and this is the distinction between the Asian and western

governance.

Once a company has a professional outlook, the governance standard would

follow and good corporate governance could be best achieved through the promotion

of transparency. A company should improve their governance mechanism and they

appoint their boards in a balanced and independent way.

Other than that, we have to recognize the auditors who are under pressure.

They must be bash and there was also an acute shortage of skilled professionals in

the industry.

Case 3: Understanding Fraud in the Accounting Environment

Fraud in the accounting environment is going increase day by day, causing

enormous losses to firms, individuals, and society and creating a moral problem in

the workplace [Levy, 1985; Gaines, 1988]. The various theories from the field of

criminology offer alternative explanations for corporate fraud, white-collar crime,

fraudulent financial reporting, and audit failures like the conflict and the consensus

theory, the ecological theory, the cultural transmission theory and anomie

theory. The consensus and the conflict approaches are two major views that

hypothesize about law and society [Carley, 1978, p.8]. The consensus approach

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sees laws developing out of public opinion as a reflection of popular will. The conflict

approach sees laws as originating in a political context in which influential interest

groups pass laws that are beneficial to them. Lombrosian approach is criminal cases

are not indicative of a general phenomenon in the field, but the result of criminal

actions of the minority of criminal types that have been attracted to the discipline of

accounting. Then, the ecological theory appears as a more viable and better

alternative to an explanation of the fraud phenomenon in accounting than

Lombrosian approach. It adopts the concept of social disorganization as a basis of

explanation of the fraud phenomena in accounting. Criminal behavior in the

accounting field is a result of a basic social disorganization. Furthermore, the cultural

transmission theory attempts to identify the mechanisms that relate social structure

to criminal behavior. One mechanism is the conception of differential association,

which maintains that a person commits a crime because he/she perceives more

favorable than unfavorable definitions of law violation. Other than that, anomie

theory, as introduced by Durkheim [1964], is a state of normlessness or lack of

regulation a disorderly relation between the individual and social order, which can

explain various forms of deviant behavior. Merton’s [1938] formulation of anomie

focuses not on the discontinuity in the life experiences of an individual but on the

lack of fit between values and norms that confuses the individual. It is all about fraud

theory. Actually, the framework will postulate that corporate fraud will occur most

often in the following situations:

i. Situations in which societal institutions have accumulated power, privileges,

and position, creating a perception of inequality in those who are not

members of these institutions.

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ii. Situations in which firms in general have attracted some criminal types. This

Lombrosian view of the phenomenon applies to various cases of accounting

frauds.

iii. Situations in which social disorganization in general and failure to apply social

control exist. Basically, weak social organization of the discipline and failure of

the general public to be concerned creates a climate conducive to accounting

fraud.

iv. Situations in which social disorganization in general and failure to apply social

control exist. Basically, weak social organization of the discipline and failure of

the general public to be concerned creates a climate conducive to accounting

fraud.

v. Situations in which people are placed in a system of values that condones

corporate fraud, white-collar crimes, fraudulent financial reporting, and audit

failures.

vi. Situations in which there is a lack of fit between values, and norms that

confuses the individual.

Case 4: Enron and Arthur Andersen: The Case of the Crooked E and the Fallen

A

One of the companies has faces the fraud cases is Enron Corporation. In this

research will explain the Enron Corporation company profile and the impact that this

issue happened. Enron Corporation is the merger of Houston Natural Gas and

InterNorth of Omaha, Nebraska. Enron was a natural gas pipeline company, trading

natural gas commodities and also acted as an intermediary by entering into contracts

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with buyers and sellers of energy, profiting by arbitraging price differences. Enron

began marketing electricity in the U.S. in 1994, and entered the European market in

1995. At its peak, Enron owned a stake in nearly 30,000 miles of gas pipelines,

owned or had access to 15,000-mile fiber optic network, and had a stake in several

electricity-generating operations around the world. In 2000, the company reported

gross revenue of $101 billion.

On August 14, 2001, Kenneth Lay was reinstated as Enron’s CEO after

Jeffrey Skilling resigned. Skilling’s resignation proved to be the beginning of Enron’s

collapse. Two months later, Enron reported a 2001 third quarter loss of $618 billion

and a reduction of $1.2 billion in shareholder equity related to partnerships run by

chief financial officer (CFO), Andrew Fastow. Fastow had created and managed

numerous off-balance-sheet partnerships for Enron, which also benefited him

personally and he also collected approximately $30 million in management fees from

various partnerships related to Enron. News of the company’s third quarter losses

resulted in sharp decline in Enron’s stock value. Those events were then followed by

even worse news-Enron had overstated earnings over the previous 4 years by $86

million and owed up to $3 billion for previously unreported obligations to various

partnerships. This news sent the stock price to further downward slide. Dynergy Inc.

and ChevronTexaco Corp. almost spared Enron from bankruptcy when they

announced tentative agreement to buy the company for $8 billion in cash and stock

but later withdrew their offer after Enron’s credit rating was downgraded to ‘junk’

status. After Dynergy formally rescinded its purchase offer, Enron filed for Chapter

11 bankruptcy on December 2, 2001.

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The term ‘special purpose entity’ (SPE) has become synonymous with Enron

collapse because these entities were at the centre of Enron’s aggressive business

and accounting practices. SPEs are separate legal entities set up to accomplish

specific company objectives. Some argued at the time that SPEs represented a

‘gaping loophole in accounting practice’. If Enron SPEs have been made prominent

throughout the congressional hearings and litigations proceedings. These are widely

known as ‘Chewco’, ‘LJM2’, and ‘White wing.’ Both Chewco and LJM2 are managed

by Fastow and Kopper where Chewco is in connection with a complex investment in

natural gas pipelines and LJM2 partnership to deconsolidate its less productive

assets. The White wing partnership purchased assortments of power plants,

pipelines and water projects originally purchased by Enron which is crucial to

Enron’s move from being an energy provider to become a trader of energy contracts.

White wing was the vehicle through which Enron sold its physical energy production

assets. In addition to these partnerships, Enron created financial instruments called

‘Raptors’, which were backed by Enron stock and were designed to reduce the risks

associated with Enron’s own investment portfolio. Raptors covered up potential

losses on Enron investments as long as Enron’s stock market price continued to do

well. Enron also masked debt using complex financial derivative transactions. Taking

advantage of accounting loans to account for large loans from Wall Street firms as

financial hedges, Enron hid $3.9 billion in debt from 1992 through 2001. At least $2.5

billion of those transactions arose in the three years prior to the Chapter 11

bankruptcy filing. These loans were addition to the three years leading up to its

bankruptcy.

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Limitations in generally accepted accounting principles (GAAP) are at least

partly to blame for Enron executives’ ability to hide debt, keeping it off the company’s

financial statements. Very specific accounting rules create opportunity for clever

lawyers, investment bankers, and accountants to create entities and transactions

that circumvent the intent of the rules while still conforming to the ‘letter of the law’. In

some cases, it is clear that Enron neither abode by the spirit nor the letter of these

accounting rules. It also appears that the company’s lack of disclosure regarding

Fastow’s involvement in the SPEs fell short of accounting rules compliance. These

‘loopholes’ allowed Enron executives to keep many of the company’s liabilities off the

financial statements being audited by Andersen, LLP.

Besides of the Enron executives that is responsible for the company’s

collapse, many fingers also pointed to Enron’s auditor, Andersen, LLP, which issued

‘clean’ audit opinion on Enron’s financial statements from 1997 to 2000 but later

agreed that a massive earnings restatement was warranted. Andersen’s involvement

with Enron ultimately destroyed the accounting firm. Andersen was originally

founded as Andersen, Delaney & Co. in 1913 by Arthur Andersen, an accounting

professor at Northwestern University in Chicago. Andersen was the only one of the

major accounting firms to back reforms in the accounting pensions in the 1980s.

Andersen had also previously taken an unpopular public stand to toughen the very

accounting standards that Enron exploited in using SPEs to keep debt off its balance

sheets.

While Andersen previously had been considered the cream of the crop of

accounting firms, just prior to the Enron disaster Andersen’s reputation suffered from

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a number of high profile SEC investigations for its role in the financial statement

audits of Waste Management, Global Crossing and many more. Due to this negative

events and associated publicity, Andersen found its once-applauded reputation for

impeccable integrity questioned by the market. By 2001, Enron has become one of

Andersen’s largest clients. Despite the firm’s recognition that Enron was a high-risk

client, Andersen apparently had difficulty sticking to its guns at Enron. Comments by

investment billionaire, Warren E. Buffet, summarize the perceived conflict that often

arises when auditors receive significant fees from audit client: ‘Though auditors

should regard the investing public as their client, they tend to kowtow instead

to the managers who choose them and dole out their pay.’ Buffet continued by

quoting out an old proverb: ‘Whose bread I eat, his song I sing.’ It also appears

that Andersen knew about Enron’s problems nearly a year before the downfall.

According to a February 6, 2001 internal firm e-mail, Andersen considered dropping

Enron as a client.

In the aftermath of Enron’s collapse, Andersen began to unravel quickly,

losing over 400 publicly traded clients by June 2002-including many high-profile

clients with which Andersen enjoyed long relationships. In addition to losing clients,

Andersen lost many of its global practice units to rival accounting and consulting

firms, and agreed to sell a major portion of its consulting business to KPMG

consulting for $284 million as well as most of its tax advisory practice to Deloitte &

Touche. Andersen faced an uphill battle in its fight against the federal prosecutors’

charges of a felony count for the obstruction of justice, regardless of the trial’s

outcome. Andersen, along with many others, accused the justice department of a

gross abuse of governmental power, and announced that it would appeal the

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conviction. However, the firm also announced that it would cease to audit publicly

held clients by August 31, 2002.

Case 5: Professional accounting bodies’ perceptions of ethical issues causes

of ethical failure and ethics education

This paper sought to examine the perceptions of professional accounting body

members of IFAC about ethical issues, causes of ethical failure, and the role of

professional bodies in ethics education. The results demonstrate that conflict of

interests, including self interest threats, are perceived by professional bodies to be

the most likely occurring ethical issues faced by accountants in public accounting

practice and business entities. These issues were also relatively significant in the

government and not-for-profit sectors. This finding is consistent with prior research

that has shown that an organizational climate where members of an organization

look out for their own self interest is a major source of unethical behavior.

From the finding, key ethical risks suggested are: self interest, failure to

maintain objectivity and independence, improper leadership and poor organizational

culture, lack of ethical courage to do what is right, lack of ethical sensitivity and

failure to exercise proper professional judgment. Given these areas of ethical risk,

the challenge is for professional bodies to work with accounting academics in

universities and colleges to improve the ethical knowledge and behavior of

accountants in the workplace. Earnings management has increasingly become

issues for the accounting profession and the results of this study demonstrate that

professional bodies rated this issue highly, particularly for accountants in business

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entities. Of interest is that in this instance earnings management was perceived to be

less of an issue for accounting practices and the government or not-for-profit sectors.

The responding professional bodies were clearly committed to a significant

role in ethics development and acknowledge that ethics should be part of the

accounting curriculum just like other technical accounting skills. From this study it is

evident that professional bodies are supportive of ethics being part of post

qualification studies, given that there was strong support for ethics to be a part of

continuing professional development and career development across all

geographical regions. Given that the greatest challenges to ethical behavior are

arguably related to the culture and values of firms, the professional bodies are best

placed to promote ethical behavior in the workplace via membership and ongoing

educational development of members. It has been suggested that subcultures can

act as corporate watchdogs. Therefore, if professional bodies can make a major

contribution to improving the ethical climate in organization via continuing

professional development of members, they may assists more readily in the

restoration of public confidence in business following the wave of corporate scandals

around the world.

Despite these limitations it is concluded that there is positive feedback in

relation to the need and scope of ethics education for accountants by professional

bodies that have been surveyed internationally. Moreover, the results of this study

indicate that there is a general belief that ethics education should incorporate a

range of ethical issues that can assist in the education of accountants in public

practice, business entities, the government and not-for-profit sectors.

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DISCUSSION AND CONCLUSION

From this study, it is evident that professional bodies are supportive of ethics being

part of post qualification studies, given that there was strong support for ethics to be

a part of continuing professional development and career development across all

geographical regions. Moreover, the results of this study indicate that there is a

general belief that ethics education should incorporate a range of ethical issues that

can assist in the education of accountants in public practice, business entities, the

government and not-for-profit sectors. Ethics is most important to treat in education

and then it can reduced and prevent fraud cases in life. We can see from this study

that fraud cases will increase day by day and that is because lack of manner, honor,

honest and discipline by individual, institutions, power and government. For example,

Enron Corporation cases, nontransparent financial statements did not clearly detail

its operations and finances with shareholders and analysts. In addition, its

complex business model stretched the limits of accounting, requiring that the

company use accounting limitations to manage earnings and modify the balance

sheet to portray a favorable depiction of its performance. According to McLean and

Elkid in their book The Smartest Guys in the Room, "The Enron scandal grew out of

a steady accumulation of habits and values and actions that began years before and

finally spiralled out of control." From late 1997 until its collapse, the primary

motivations for Enron’s accounting and financial transactions seem to have been to

keep reported income and reported cash flow up, asset values inflated,

and liabilities off the books. There are too many action can be taken by

management, government, legal, and individual such as investigation, reported to

law agency, tightening legal in Labor Act and so on. Think carefully before do it

something.

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REFERENCES

Ahmed Riahi-Belkaoui, R. D. (2000). Understanding Fraud in the Accounting. Managerial Finance , 26 (11), 33-41.

Beverly Jackling, B. J. (2007). Professional accounting bodies' perceptions of ethical issues, causes of ethical failure and ethics education. Managerial Audit Journal , 22 (9), 928-944.

Enron Ligitation (U.S).

Gary M.Cunningham, J. E. (2006). Enron and Arthur Andersen:The Case of the Crooked E and The Fallen A. Global Perpectives on Accounting Education , 3, 27-48.

Goh, J. (2009, February 23). Company fraud linked to strong personalities. The Edge .

John D. Martin, G. F. (2002). Collegiate Case study : Accounting Fraud. The Nation's Newspaper, USA Today.

Zabihollah Rezaee, E. J. (1997). Forensic accounting education: insights from academicians and certified fraud examiner practitioners. Managenerial Auditing Journal , 12 (9), 479-489.

Ziegenfuss, D. E. (1996). State and local government fraud survey for 1995. Managerial Auditing Journal , 11 (9), 50-55.