key: cord-0057930-6dg4p12t authors: Çalıyurt, Kıymet Tunca title: Introduction Chapter: Why It Is Time to Talk About Fraud Quadrangle: Negative Pressure, Unethical Rationalization, Unsufficient Control-Auditing, and Moral Erosion date: 2020-12-15 journal: Ethics and Sustainability in Accounting and Finance, Volume II DOI: 10.1007/978-981-15-1928-4_1 sha: 47b23f4a70450b61e51d1d263e3440f905252461 doc_id: 57930 cord_uid: 6dg4p12t Changing codes, tightening laws, more disclosures, more control, additional software programs, additional reports….These new legal and initiative requirements against fraud, unfortunately, didn’t stop it in the business world. The solutions we have built on the “fraud triangle” in the business world for years couldn’t help decreasing fraud. Accepted fraud triangle in management and business with the corners; Negative Pressure, Unethical Rationalization, Unsufficient Control-Auditing should be redesign again as Fraud Quadrangle with a new corner named “Moral Erosion”. It’s time to talk about “Behavioral Fraud”, which is new but trending research area in academia. Accountants and auditors usually don’t like to talk about something out numbers, standards, laws like “behavioral”. And it is also completely a different specialization. Accountants, auditors adhere to laws and standards that there are no emotions and initiatives in their world however they have been talking about interdisciplinary issues such as biological risk, climate change, artificial intelligence recently. “Behavioral Fraud” is a new area that needs to be focused on and discussed by researchers in the specialization of accounting, auditing, computer science, auditing law, human resources and statistics. Behavioral Fraud will also lead new discussions on a static and dynamic approaches to leveraging biometrics for fraud detection. New Fraud Quadrangle will help us why some people like and succeed to cheat while others don’t or can’t in the same conditions. If you ask a room full of midcareer professionals whether they have committed a crime in the past week, almost no one will respond (and perhaps understandably so). Some will be offended by the very nature of the question. But if you then ask them whether they drove just one mile over the speed limit in the past week, they will become sheepish. "Of course," they will reply, "but it was only a couple of miles an hour. The cops don't care." That may be true, but legally speaking, it is a violation of well-understood traffic laws-and therefore a crime. In most cases, it may be unintentional (speedometers tend to be subject to margins of error), but in cases of reckless driving, intentional violation of traffic laws unambiguously makes it a crime. (Ramamoorti et al. 2013) It shows that despite the SOX which was promulgated to stop fraud in business which was peaked in the 2000s, unethical behaviors in business continue without slowing down. Even if auditing standards 1 direct auditors to consider consulting with forensic specialists on certain audit engagements to enhance the detection of material fraudulent financial reporting (Asare and Wright 2018) , this regulation is only applicable in the USA. In the rest of the world where there are no similar regulations; announcing fraud case by exposed companies is not an easy decision because of its destructive results, furthermore consulting with forensic specialists by an auditor is extremely unrealistic because of its costs to auditing budget. In normal times, companies lose 6% of their revenues to fraud. In the Covid times, as CFEs, we all know that fraud will be increased and new branches will be added to fraud tree related to covid-fraud. The behavioral side of fraud should be discussed by academia and practitioners.In this chapter, our research questions are here: • Is the fraud triangle sufficient to prevent fraud? • Why do some workers behave ethically in all situations while others cheat their companies? Cressey's (1950 Cressey's ( , 1953 work on trust violation was seminal in nature, yet represented only the first of many steps toward developing our understanding of whitecollar crime. work on trust violation was seminal in nature, yet represented only the first of many steps toward developing our understanding of white-collar crime ( Fig. 1.1) . A corollary to the Fraud Triangle is the lesser-known Triangle of Fraud Action, sometimes referred to as the Elements of Fraud (Albrecht et al. 2006; Kranacher et al. 2011) . While the Fraud Triangle identifies the conditions under which fraud may occur, the Triangle of Fraud Action describes the actions an individual must perform to perpetuate the fraud ( Fig. 1.2) . Theoretical models surrounding behavioral aspects of the fraud perpetrator originated in the 1940s and 1950s, and are grounded in the early works of Edwin Sutherland and Donald Cressey Later insights, such as the Fraud Scale (Albrecht et al. 1984 ) and the Fraud Diamond (Wolfe and Hermanson 2004) , incrementally add to our understanding of fraud. Ramamoorti (2008) makes a strong case for the integration of additional behavioral sciences content, including psychology, sociology, criminology, and anthropology, into accounting and anti-fraud curricula. Incidents such as trust violation, motivation, deception, and rationalization are part of human Dorminey et al. (2012) behavior that must be incorporated into the study of fraud. A similar argument can be made for further examination of technology in anti-fraud efforts. Among the 18 proactive activities for fraud prevention announced by ACFE 2020 report, two activities are; • to teach auditors, accountants the importance of ethics in daily business, • to train human resources department staff to recruit ethical staff for the companies should be focused on by researchers and practitioners. We see that IFAC, IESBA renews its code of ethics to prevent unethical behavior in the accounting world. The reason for the renewal of the code of ethics for accountants is to prevent unethical erosion among the accounting and auditing practitioners. When we take a quick look at the accounting scandals between 2018 and 2020, we see how ethical code renewal is important, but not enough. Laws, regulations, and other written papers are not enough against fraud caused total losses of more than $3.6 billion annually. So we need to discuss on new approaches and dimensions like Behavioral Biometrics in fraud. According to the survey results of ACFE Report to the Nations, 18 common antifraud controls in the victim organization were listed in report. Figure 1 .1 shows that independent external audits of the organization's financial statements are the most common of the controls examined in the survey; 83% of the victim organizations had their financial statements audited by an outside auditor. While ACFE classifies such audits as an anti-fraud control for purposes of our study, it is important to note that this mechanism is not primarily designed to detect or prevent all frauds. Other common anti-fraud controls include a code of conduct (present in 81% of victim organizations), an internal audit department (74%), and management's certification of the financial statements (73%) (ACFE 2020) ( Fig. 1.3 ). In the same report, it is mentioned that (page 19), external auditing is not successful to detect fraud. Only 4% of frauds were detected by external auditors. While implementing controls to prevent and detect fraud is a necessary part of managing fraud risk, not all anti-fraud controls are created equally. To help organizations understand the potential impact of various controls, ACFE compared the median losses and median durations of the frauds in their report based on whether each specific control was present at the victim organization during the fraud's occurrence. Over the last ten years of the studies, four of the controls-have seen a consistent and notable increase in implementation rates. These controls are among those most commonly associated with a robust anti-fraud program, which indicates that increasing numbers of organizations are taking the threat of fraud seriously and implementing measures specifically designed to help them mitigate these risks ( Fig. 1.4) . In ACFE Report 2020, a heat map is showing the frequency and median loss of fraud schemes based on the perpetrator's department ( Fig. 1.5 ). Hennessey, who had managed the 307,000-bushel capacity grain facility since 1989, is accused of stealing more than $5 million from the elevator. As early as 2003, he began writing checks to himself coded as soybean, wheat, and corn purchases to disguise their true nature. The deception escalated from there. Unauthorized checks signed by Hennessey included at least $1.4 million to his personal credit cards with the majority paid to his Cabela's account, over $500,000 for taxidermy services, and more than $2 million toward hunting trips to Alaska, South Africa, New Zealand, and Australia. Federal prosecutors believe the checks written from the co-op's account added up to approximately $5.3 million, which Hennessey did not dispute (Bedord 2019) . Erik Ahlgren, lawyer for Ashby Farmers Elevator Cooperative, on Oct. 15, 2018, tells members that he has filed a civil suit against former general manager Jerry Source https://www.agweek. com/business/agriculture/ 4515868-ashby-co-op-mem bers-authorize-board-sell Hennessey and his wife, Rebecca, and has urged a Federal Department of Justice to investigate possible criminal bank fraud. Seated second from left is Russell Dewey, the co-op's board chairman (Ferguson 2019) . His sentencing is scheduled for June 21, 2019, at the federal courthouse in Fergus Falls, Minnesota. Hennessey could serve 6½ to 8 years in federal prison, according to court documents. In addition, he would have to pay up to $250,000 in fines and restitution of $6.5 million to victims and the IRS (Bedord 2019) ( Fig. 1.6) . -The elevator failed to supply financial audits to CoBank, who had been doing business with the elevator since 1985. -The board of directors put too much trust in Hennessey. -A financial audit or review was never done under Hennessey's leadership. The requirement for all grain buying license holders to submit financial statements on a regular basis was removed from Minnesota statutes in 2012. -Because no one was really watching what he was doing, Hennessey was able to take advantage of a broken system for at least 15 years. -The elevator's bank account only required one signature on checks (Bedord 2019) . According to Little, we, as fraud examiners, know there are at least five keys to deterring a fraud like this. They are: • Build a strong "tone at the top" in the organization. Management must be vigilant and broadcast to employees that fraud and abuse will not be tolerated. • Perform a risk assessment. Try to understand where the risk of fraud exists in your organization, and build controls and systems that anticipate that risk. • Create strong internal controls and procedures. There must be checks and balances built into the prescribed policies and procedures. Document, document, document-everything must be set forth in writing, so that there is no uncertainty as to the proper procedure. • There must be periodic monitoring. Regardless of strong procedures, monitoring assures that the procedures are being followed as prescribed. • When fraud and/or abuse is found, it must be thoroughly investigated and prosecuted to the fullest extent. This will drive home that fraud will not be tolerated within the entity. Subsequent to any investigation of abuse, systems may need to be updated with what is learned (Little 2019). Elizabeth Holmes dropped out of Stanford University at 19 to start blood-testing startup Theranos, and grew the company to a valuation of $9 billion. But it all came crashing down when the shortcomings and inaccuracies of the company's technology were exposed, and Theranos and Holmes were charged with "massive fraud" (Hartmans and Leskin 2020) ( Fig. 1.7) . The Securities and Exchange Commission (SEC) charged Theranos, a Silicon Valley company founded on supposedly revolutionary, portable blood-testing technology, its founder and CEO Elizabeth Holmes, and its former President Ramesh Balwani with fraud this week related to false statements and representations made while raising more than $700 million from investors (Wilder 2018) . If convicted, Holmes could face up to 20 years in prison. A California judge initially set an August 2020 start date for the federal trial, but the case has been delayed until March 2021 due to the corona virus pandemic (Hartmans and Leskin 2020) . There are new developments in the court case involving Elizabeth Holmes, the founder of the failed blood-testing startup Theranos. A judge is dismissing several criminal charges against the former Stanford dropout, saying the government needs to narrow its fraud case against her. Holmes is accused of falsely claiming Theranos technology could run dozens of blood tests with a single drop of blood. She will face trial in federal court this August with penalties of up to 20 years in prison and millions of dollars in fines. Holmes and former Theranos COO Ramesh "Sunny" Balwani have pleaded not guilty (7news 2020). Company Ted Baker ( Fig. 1.8) . Ray Kelvin opened his first Ted Baker in Glasgow in March 1988, and the company expanded to become an FTSE 250-listed luxury clothing range with 490 Francis Barradell was personally reprimanded by the regulator and fined an additional £46,800. The misconduct arose from KPMG providing expert witness services to Ted Baker in a London lawsuit, according to the FRC. As well as heralding an annus horribilis for KPMG, which was singled out for the "unacceptable" decline in the quality of its auditing, it also served to illustrate CMA concerns about the Big Four dominating the market, strengthening the case for a second, smaller firm to be brought in for FTSE 350 members, as well as illustrating the potential clash of interest between separate departments of the same firm (Blackburn 2018) . The FRC gave KPMG a severe reprimand and a fine of £3 m, discounted for settlement to £2.1 m, over misconduct relating to the provision of expert witness services. The audit committee noted the FRC's clarification that this matter did not allege that KPMG was without integrity and objectivity. The annual report went on to state: 'As such, the audit committee took the view that KPMG could continue to act as an independent and effective auditor' (Sweet 2019). At the beginning of 2018, it was announced that the Securities and Exchange Commission (SEC) was investigating its "aggressive accounting" practices, a probe that widened throughout the course of the year when in October 2018, its $22 billion non-cash charges related to acquisitions came under scrutiny, with the Department of Justice also launching an investigation. In June, it was removed from the Dow Jones Industrial Average, the only member left of the original 1896 index and in John L Flannery stepped down as Chairman and CEO. GE's market value fell by more than $200 billion over two years (Blackburn 2018) . The company dropped as much as 14% Thursday after accounting expert and Madoff whistleblower Harry Markopolos published a report alleging fraud. The team led by Markopolos claims to have already found $38 billion in fraud, and called the sum "merely the tip of the iceberg." GE's CEO Lawrence Culp responded in turn, calling the report "market manipulation" and claiming Markopolos released the document for personal gain. The accounting expert stands to make millions if his claims are true, both from an undisclosed hedge fund partner that is betting against GE and with cash rewards from a government whistleblower program (MarketsInsider 2019). Regardless of whether your organization is legally mandated to have a code of conduct (as public companies are), every organization should have one. A code has value as both an internal guideline and an external statement of corporate values and commitments. A well-written code of conduct clarifies an organization's mission, values, and principles, linking them with standards of professional conduct. The code articulates the values that the organization wishes to foster in leaders and employees and, in doing so, defines desired behavior. As a result, written codes of conduct or ethics can become benchmarks against which individual and organizational performance can be measured (Ethics and Compliance Initiative 2020). The International Ethics Standards Board for Accountants is an independent standard-setting body that develops an internationally appropriate International Code of Ethics for Professional Accountants (including International Independence Standards). The Code requires professional accountants to comply with the fundamental principles of ethics. The Code also requires them to apply the conceptual framework to identify, evaluate, and address threats to compliance with the fundamental principles. Applying the conceptual framework requires exercising professional judgment, remaining alert for new information and to changes in facts and circumstances, and using the reasonable and informed third-party test (IESBA 2018). The new International Code of Ethics for professional accountants that were unveiled last month has been 'long in making' according to Kim Gibson, CPA, a member of the International Ethics Standards Board of Accountants (IESBA) and chair of the board's Rollout and Implementation Working Group. Gibson has mentioned that new standards are designed to: -be easier to use, navigate, and enforce. -be more relevant for professional accountants in business. -be distinguished more clearly between requirements and application material (Tysiac 2018) . In early April 2018, the IESBA released a completely rewritten and revamped Code of Ethics for professional accountants (PAs). Renamed "International Code of Ethics for Professional Accountants (including International Independence Standards) ("the Code" or "the revised and restructured Code"), the Code will become effective in June 2019. It packages all substantive advancements in ethics and independence over the last four years into a single document and includes the new provisions relating to non-compliance with law and regulations ("NOCLAR"), which are already effective since July 2017, and the revised independence provisions relating to long association which comes into effect in December 2018. The fundamental principles within the Code-integrity, objectivity, professional competence and due care, confidentiality, and professional behavior-establish the standard of behavior expected of a professional accountant (PA), and it reflects the profession's recognition of its public interest responsibility. Those fundamental principles as well as the categories of threats to them, -self-review, -self-interest, -advocacy, -familiarity, -intimidation threats. are unchanged. Also, unchanged are the overarching requirements to apply the conceptual framework to comply with the fundamental principles and where applicable, be independent. In addition to the structural revisions made to the entire Code, the substantive revisions include: • An enhanced conceptual framework, which includes extensive revisions to "safeguards" throughout the Code that are better aligned to threats; • Strengthened independence provisions regarding the long association of personnel with audit clients; • Strengthened provisions relating to offering and accepting of inducements, including gifts and hospitality that apply to both PAs in business ("PAIBs") and PAs in public practice ("PAPPs"); • Strengthened provisions dedicated to PAIBs, including: -A new section relating to pressure to breach the fundamental principles; and -Revised provisions relating to the preparation and presentation of information. • Clarifications about the applicability of PAIB provisions to PAPPs; • New material to emphasis the importance of understanding facts and circumstances when exercising professional judgment; and • New material to explain how compliance with the fundamental principles supports the exercise of professional skepticism in an audit or other assurance engagements ( Fig. 1.9 ). In recent years, unethical behavior has increased due to many changing situations. The current fraud prevention measures are not very effective. Following reasons which may help increasing fraud in business should be examined by researchers: • We need lecturers on accounting ethics that few lecturers can teach on accounting ethics course within the scope of theoric and pratic, • most of the graduates from business schools do not know anything about accounting ethics because they cannot find any course in the curriculum, • the ethics course is not compulsory in most faculties of business or public administration, • accounting and auditors focus on earning much more profit than quality, • the lack of legal knowledge of accounting and auditors, • different and continuously changing accounting systems for micro, small, medium, and public companies, The new structure and drafting convention for the code establishes a new emphasize the code's scalability (IFAC 2018) • continuously changing of accounting standards, • increase in e-trade even there is no enough knowledge on how to audit by accountants and auditors, • increase in the number of companies with high intangible assets that these kind of assets are available underestimating or overestimating, • insufficient knowledge of accounting standards, • rise of women in the business world, • non-financial issues related to fraud issues (Brazel et al. 2009). 2 When discussing fraud in the business world, it is important to focus in much more specific sub-areas and train educators in this regard. • Behavioral Fraud, 3 • gender fraud, and • biological cheating is some of them when talking about evolving cheating. The most important issue is to talk about how ethics should be taught to accountants and how we are going to use new code especially in underdeveloped and developing countries? Armstrong has stated (1993) that ethics should be taught both in existing accounting courses and in a separate course in accounting ethics and professionalism. The author further advocates that a sandwich approach be used, consisting of a general course in ethics taught heath. However, could "moral erosion" cause of accounting fraud that cannot be solved by code and education? Which brings us back to behavioral cheating? We see that the "pressure, rationalization, lack of control triangle that has been taught for years is not enough. Now, the fraud in business needs to be examined as a quadrangle, -Negative pressure, -Unethical rationalization, -Unsufficient control-auditing, and -Moral erosion" (Fig. 1.10 ). 2 This paper investigates whether publicly available non-financial measures (NFMs), such as the number of retail outlets, warehouse space, or employee head counts, can be used to assess the likelihood of fraud. During the trial of former HealthSouth CEO Richard Scrushy, federal prosecutors argued that Scrushy must have known something that was amiss with HealthSouth's financial statements since there was a discrepancy between the company's financial and nonfinancial performance. The prosecution noted that, twice during the seven-year fraud, revenues and assets increased even though the number of HealthSouth facilities decreased. "And that is not a red flag to you?" asked prosecutor Colleen Conry during the trial (Florida Times-Union [2005] ). Conry's question implied that HealthSouth's financial information was inconsistent with its nonfinancial information, and thus, the risk of financial statement fraud (hereafter, fraud) at HealthSouth should has been a concern. The defense witness responded that the inconsistency was not apparent at the time and that HealthSouth's external auditors also failed to note the inconsistency. 3 The term "Behavioral Fraud" used for the first time in literature. Theranos founder Elizabeth Holmes has several charges partially dismissed Deterring fraud: the internal auditor's perspective. 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Forensic accounting and fraud examination What we can learn from a five millon dollar agricultural cooperative fraud The bombshell report accusing GE of 'Enronesque' fraud is just the latest in the company's long history of accounting controversies The A.B.C.'s of behavioral forensics: applying psychology to financial fraud prevention and detection 5 things you need to know about the new international ethics code Theranos appeal not enough to cover up massive alleged fraud The fraud diamond: considering the four elements of fraud Her research interests are in accounting, auditing, fraud, social responsibility, corporate governance, finance and business ethics, with a special interest in aviation management, NGOs, women rights in business. She has been as visiting researcher in Massachussetts University Amherst Business School. She is the founder of the International Group on Governance, Fraud, Ethics and Social Responsibility (IGonGFE&SR) which was founded in 2009