Chapter 6

1. Chapter 6 Legal, Regulatory and Professional Environment

2. Critical Thinking Exercise A scientist has two buckets, one holds 4 gallons and the other holds 5 gallons as well as an unlimited water supply. By using nothing but the buckets and water, how can you accurately measure 3 gallons of water?

3. Introduction • Fraud may be prosecuted criminally or civilly • Fear of getting caught • Fear of punishment • Most people are law abiding citizens • “Criminal justice funnel” • Regulatory agencies • Public Company Accounting Oversight Board

4. The Rights of Individuals AmendmentProtects • Fourth Against unreasonable searches & seizures • Fifth Against self-incrimination • Sixth Right to an attorney • Fourteenth Due process and equal protections NOTE: Employees have less protections

5. The Rights of Individuals • Interviews • Searches • Surveillance • Discharging a Suspected Wrongdoer from Employment • Privileges

6. Interviews • Miranda warnings • Right to remain silent • Answers can be used against him • Right to an attorney • If interviewee can’t afford an attorney, one will be provided at no cost • Legal counsel • Private employers don’t have to offer due process of law • Common law protections • Confessions

7. Searches • Unreasonable searches and seizures are forbidden • When is a workplace search reasonable? • Likely to reveal evidence of work-related misconduct • Search is necessary to further investigation • Search limitations • “Exclusive control” • “Fruit from the forbidden tree”

8. Surveillance • Types of surveillance • Fixed point surveillance • Mobile surveillance • Videography • Audio or electronic surveillance • Audio surveillance laws and regulations are more complicated • “One-party consent” • Video surveillance generally permissible

9. Discharging a Suspected Wrongdoer from Employment • Employment considered “at will” • Employer should document “good cause” • Conduct against written policy • Conduct made for unsafe or inefficient operations • “Punishment fits the crime” • Evidence supports questionable act by employee • Actions should be well documented • Nothing prevents employee from suing employer in civil court

10. Privileges • Protections against certain types of testimony • Attorney-client privilege • Attorney work-product privilege • Physician-patient privilege • Marital privileges • Miscellaneous privileges

11. Attorney-Client Privilege • The right to not disclose confidential communication relating to professional relationship • Client has right to compel nondisclosure • Applies only to communications intended to be confidential • Does not permit attorney to conceal physical evidence • Does not apply to future acts of crime or fraud

12. Attorney Work-Product Privilege • Protects all materials prepared by an attorney in anticipation of litigation • Shield materials that would disclose attorney’s theory of the case • Any written materials directed toward preparation of a case • Must be prepared in anticipation of litigation

13. Physician-Patient Privilege • Confidential when obtaining treatment or being diagnosed • When involved in litigation, privilege is waived • Court appointed physicians • Expert witnesses

14. Marital Privileges • Spousal immunity • Protection from testifying against own spouse • Spousal defendant • Protection from adverse testimony • Allowed in both civil and criminal cases • Covers statements made during marriage • Neither applies to crimes or torts within family

15. Miscellaneous Privileges • Confidential communications made to clergy • Government has privileges that protect the disclosure of sensitive information • Trade secrets for businesses • No privilege for accountant-client relationships

16. Probable Cause Standard used: • To make an arrest • To conduct a search • To obtain a warrant • By grand juries • Culpability scale • Witness • Subject • Target

17. Probable Cause • 4th Amendment • Terry v. Ohio • “Terry Stop” (reasonable suspicion) • United States v. Matlock • “Co-occupant consent rule” • Illinois v. Gates • “Fair probability”

18. Probable Cause • Documentary evidence • Voluntary consent • Subpoena • Search warrant • Advantages of warrant over subpoena • Allows holder to decide which documents are relevant • Avoids, but does not eliminate, possible destruction of evidence • Interview key witnesses without opportunity to prepare

19. Rules of Evidence The truth shall set you free • Evidence must be relevant and trustworthy • Must be admissible • May be testimonial • Real • Demonstrative • Circumstantial • Direct • “Facts at issue”

20. Rules of Evidence • Real evidence “speaks for itself” • Must be authenticated • Demonstrative evidence purports to educate, summarize or amplify real evidence • Tells a story or complements other evidence • Must not create prejudice • Heart of most fraud and forensic accounting investigations

21. Rules of Evidence • 5 considerations must be given to any piece of documentary evidence • Document must not have been forged • Original documents are preferable • “Best evidence rule” • Document must not be hearsay or objectionable • “Statements against interest” • Document needs to be authenticated • Document must be reliable

22. Criminal Justice System • Most cases never end up in the criminal justice system • 3 routes that a target may enter criminal justice system • Warrantless arrest by police based on probable cause • Investigation that leads to the filing of an “Information” • Grand jury proceeding that leads to an indictment and subsequent arrest warrant by a judge • “Without unnecessary delay”

23. Criminal Justice System • Sufficient evidence exists to bring case to trial • Indictment stage • Defendant is officially charged • Arraignment hearing • Defendant is informed of the crime and charges against him • Advised of rights • Asked to enter plea • Guilty • Not guilty • Nolo Contendere

24. Criminal Justice System • Bench trial • Trial by jury • Judge decides matters of law • Jury decides if evidence is sufficient • “Mitigating circumstances” • After verdict, convicted person may appeal verdict, sentence, or both • Prison system • Community-based • Minimum security • Medium security • Maximum security

25. Criminal Justice System • Parole • Reward for good behavior • Probation • Alternative to prison • Recidivism • Discretion • Businesses and other organizations may be prosecuted

26. Civil Justice System • Right a wrong or resolve a dispute • Recover losses and reap punitive damages • Cease and Desist Orders • How can fraud examiners and forensic accountants be utilized?

27. Complaints and Pre-Trial Activity • Civil lawsuits begin with complaint • Fraud civil complaints must be specific • Fraud misrepresentations • The impacted victim • How misrepresentations were false • Discovery • Interrogatories • “Requests to produce documents” • Depositions • “Requests for admission”

28. Negotiated Remedies • Out-of-court settlements • Both sides come to settlement position • Attorneys negotiate • Mediation • Independent 3rd party with no authority to decide case • Assists both sides • Work for mutually agreeable resolution • Arbitration • Independent 3rd party acts as judge and jury • Authority to determine outcome of case • Binding or non-binding verdict

29. Pre-Trial Motions and the Civil Trial • If attempts to settle case fail, pre-trial motions follow • Differences between civil and criminal trials • Jury 6 persons • If opposing attorneys agree, unanimous verdict not required • Requires preponderance of evidence rather than “beyond a reasonable doubt” • Post-judgment discovery

30. Regulatory System • Basic Accounting Principles – a Survivor’s Guide to Accounting • The AICPA and Statement on Auditing Standards No. 99 • The Sarbanes-Oxley Act of 2002 • The Public Company Accounting Oversight Board (PCAOB) • COSO’s Enterprise Risk Management Framework (ERM) • PCAOB’s Auditing Standards Nos. 3 and 5 • IIA Practice Advisories 1210.A2-1 and 1210.A2-2

31. Basic Accounting Principles – A Survivor’s Guide to Accounting • Balance Sheet • Income Statement • Statement of Cash Flows • Accrual Accounting

32. The AICPA and Statement on Auditing Standards No. 99 • Auditing standards for non-public companies • Reasonable assurance • Professional skepticism • Compilation and review standards • Other attestation standards • Consulting standards • Code of professional conduct

33. Fraudster’s Perspective • Criminals exploit your humanity • “Trust, but verify” • White collar crime is a crime of deceit • White collar criminals are artful liars

34. The Sarbanes-Oxley Act of 2002 • Higher standards for corporate governance and accountability • Independent regulatory framework • Enhance quality and transparency of financial reports • Severe civil and criminal penalties for corporate wrongdoers • New protections for corporate whistleblowers

35. Public Company Accounting Oversight Board (PCAOB) • Registration with the board • Auditing, quality control, and independence standards and rules • Inspections of registered public accounting firms • Investigations and disciplinary proceedings

36. COCO’s Enterprise Risk Management Framework (ERM) • Principles and components of effective risk management processes • How risks should be identified, assessed and addressed • Create anti-fraud environment • Help entities achieve operational and financial objectives and goals

37. PCAOB’s Auditing Standards Nos. 3 and 5 • AS3 – Audit documentation • AS5 – Integrated Audit • Anti-fraud controls • Control activities • Risk assessment • Control activities • Information and communication • Monitoring

38. The Role of Corporate Governance • Protect investors • Create long-term shareholder value • Restore investor confidence • Support strong and efficient capital markets • Committee must ensure its independence • “Tone at the top”