Airport screeners have one job: to inspect luggage and passengers for banned items. While it sounds simple enough, a report published in the Wall Street Journal back in 2005 found that even when all of the information and items were right in front of them, screeners still miss banned items.

Auditors are a lot like airport screeners when it comes to detecting fraud.

When British authorities digitally placed images of knives, guns and other banned objects into luggage, screeners did a mediocre job of detecting these items. With time and practice, their performance improved dramatically. But once those images were changed, performance dropped and was no better than when the program initially started.

We Only See What We Expect to See

Why do airport screeners and auditors have a difficult time detecting anomalies? Part of the problem is that we only see what we expect to see.

If accountants haven’t received adequate training in fraud and what red flags to look for, it becomes nearly impossible to determine if a financial statement is fraudulent. To put it simply, you can’t detect something that you don’t know exists.

Auditors tend to look for the things they expect to see. They look at the numbers, and then look for support for those numbers. Or, they look for whatever they’re told is there.

An auditor with instinct will look at facts, listen to what he’s told, and then investigate further to find out what’s really there.

Some auditors have difficulty pinpointing red flags because there’s so much “noise” or distraction. The same thing occurs with airport screeners. The more items that were in the luggage, the harder it was for screeners to find weapons and other banned items.

It becomes increasingly challenging to detect a single item when that item is a part of a much more complex scene.

Auditors face a similar challenge. Each year, they look over hundreds, sometimes thousands, of events, transactions and journal entries. With so much “noise,” detecting fraudulent items becomes ever-more challenging.

Lack of Training

Just as it can be difficult for auditors to see through the “noise” to identify fraudulent items, it can also be challenging to detect something that auditors know nothing about.

J.David Smith, a cognitive scientist, tested recognition using origami-like items. The 88 participants were able to eventually identify 76% of the items. When Smith changed the targets slightly, however, performance dropped significantly.

In the same way, auditors can have great difficulty recognizing misstatements or fraud if they have not previously been exposed to it or trained to look for it.

Audit work papers tend to look the same each year. Clients are already well aware of this, and understand that if they can make the information look like what the auditor is already used to seeing, the auditor is likely to accept the information as being true. The client then takes extra precaution to make all of the information appear “normal.”

A big part of the issue is that auditors are only trained to look for irregularities, like account relationships, variations, trends, ratios, etc. Sophisticated fraudsters know what auditors are looking for and what will get their attention. To cover their tracks, they manipulate data in such a way that relationships never pop up and all of the data is in line with what the auditor expects to see.

To see past this, auditors need an extensive amount of training, and they need to have a comprehensive understanding of the business. Only then can appropriate expectations be established, and the auditor can remain skeptical even when things appear to be “business as usual.”

The trouble is that even those who are highly experienced and trained can still have great difficulty in this department.

Auditors are great at auditing what’s in front of them, but they’re terrible at recognizing the things that aren’t there but should be. These oversights are compounded when clients are the ones who prepare the audit work papers.

You Toe the Line When Your Job is On the Line

Auditors generally have no incentive to find fraud. The moment they suspect something is amiss, they’re fired by the client. As a result, auditors overlook misstatements and fraud just to hold onto clients and their business.

Auditors are usually under a great deal of pressure to keep clients happy and to make sure they come in under budget. Oftentimes, this results in the auditor engaging in false sign-offs. They don’t actually perform the work, but they sign off on it as if they had.

SAS 99

In an attempt to overcome the mounting cases of corporate scandals, Congress enacted Sarbanes-Oxley. The American Institute of CPAs would then adopt SAS 99.

Under SAS 99, auditors have a responsibility to not only plan but perform audits to determine whether financial statements contain any material misstatement, be it through fraud or error.

Although auditors have a duty to detect fraud, there’s still the issue of lack of incentive. Will auditors detect fraud if they haven’t been thoroughly trained on those methods? Is there really any amount of training that could realistically allow auditors to fulfill their duty under SAS 99?

Finding Solutions

While no perfect solution has been discovered, there are several steps auditors can take to reduce the problem.

For one thing, accounting firms may consider hiring candidates who are skilled at finding fraud patterns. Screening potential employees for their detection ability can go a long way in resolving the issue.

Ethics training can also help, but firms may take things a step further by only choosing to hire ethical candidates. No amount of training can overcome an unethical employee.

These are two good places to start, but until we change the way auditors are paid, cases of fraud will likely always be an issue. How can auditors truly be independent and unbiased when their job depends on a positive outcome for the client? Lawsuits, rules and regulations can pave the way, but as long as clients continue to pay auditors, the problem will never truly be resolved.

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