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Audit Strategies and Multiple Fraud Opportunities of Misreporting and Defalcation

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  • Evelyn Patterson
  • James Noel

Abstract

We examine how an auditor assesses the risk of fraud and formulates an audit plan when the auditee has the opportunity to commit various types of fraud. Unlike previous studies, the audi†tee can misappropriate assets (defalcation), misreport financial information (fraudulent financial reporting), or misreport financial information in combination with defalcation. Our results identify four possible equilibria whose characteristics depend on the auditee's relative rewards and penalties from the various types of fraud, the cost of audit effort, and expectations about the auditee†firm's performance. When the cost of audit effort is sufficiently small, fraud risk assessment depends on the auditee's rewards and penalties associated with each type of fraud, but not on the auditor's beliefs about firm performance. The auditor develops an audit plan that focuses on the type of fraud the auditee is most motivated to commit, and in turn, the audit plan deters all other types of fraud.

Suggested Citation

  • Evelyn Patterson & James Noel, 2003. "Audit Strategies and Multiple Fraud Opportunities of Misreporting and Defalcation," Contemporary Accounting Research, John Wiley & Sons, vol. 20(3), pages 519-549, September.
    • Handle: RePEc:wly:coacre:v:20:y:2003:i:3:p:519-549
    DOI: 10.1506/F9KW-QM6U-6NXF-QCUN
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    Cited by:

    1. Monica Ramos Montesdeoca & Agustín J. Sánchez Medina & Felix Blázquez Santana, 2019. "Research Topics in Accounting Fraud in the 21st Century: A State of the Art," Sustainability, MDPI, vol. 11(6), pages 1-31, March.
    2. Nikolaos Anastasopoulos & Dimitrios Asteriou, 2021. "Optimal dynamic auditing based on game theory," Operational Research, Springer, vol. 21(3), pages 1887-1912, September.
    3. Dellaportas, Steven, 2013. "Conversations with inmate accountants: Motivation, opportunity and the fraud triangle," Accounting forum, Elsevier, vol. 37(1), pages 29-39.
    4. Dean Neu & Jeff Everett & Abu Shiraz Rahaman, 2013. "Internal Auditing and Corruption within Government: The Case of the Canadian Sponsorship Program," Contemporary Accounting Research, John Wiley & Sons, vol. 30(3), pages 1223-1250, September.
    5. Andrew Yim, 2009. "Efficient Committed Budget for Implementing Target Audit Probability for Many Inspectees," Management Science, INFORMS, vol. 55(12), pages 2000-2018, December.
    6. Appelgren, Leif, 2020. "A survey of models for determining optimal audit strategies," Advances in accounting, Elsevier, vol. 48(C).
    7. Anastasopoulos, Nikolaos P. & Anastasopoulos, Markos P., 2012. "The evolutionary dynamics of audit," European Journal of Operational Research, Elsevier, vol. 216(2), pages 469-476.

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