Annals of Spiru Haret University. Journalism Studies 19(1), 2018, pp.

29–33

PROFESSIONAL SKEPTICISM IN DETECTING FRAUDULENT

PUBLIC SECTOR FINANCIAL REPORTING

LUMINIȚA IONESCU
se_lionescu@spiruharet.ro
Spiru Haret University

ABSTRACT. The aim of this paper is to explain the professional skepticism of controllers
and auditors in detecting fraudulent financial reporting, and the connection between
accounting procedures and control mechanisms. Financial reporting in the public sector is a
priority for governments all over the word and internal control could prevent a significant
portion of economic crime. Sound internal controls, and also internal audit, are the best way
public sector organizations can mitigate fraud. Implementing internal control mechanisms
in preventing and detecting fraud is recommended as good practice that public entities can
follow in establishing effective fraud management programs.

Keywords: professional skepticism; accountability; fraud; government

1. Introduction
According to ISA 240 The Auditor’s Responsibilities Relating to Fraud in an Audit
of Financial Statements, fraudulent financial reporting involves intentional
misstatements including omissions of amounts or disclosures in financial
statements to deceive financial statement users. The importance of detecting fraud
in financial reports is related to prevention of public money wasting and increasing
efficiency in the public sector (Ionescu, 2017). According to COSO (2007),
fraudulent financial reporting can involve many factors and take many forms, but it
may entail gross and deliberate distortion of corporate records, such as inventory
count tags, or falsified transactions, such as fictitious sales or orders, and it may
entail the misapplication of accounting principles.
In the last decades, massive scandals related to the internal fraud in financial
reporting, have shaken the public sector and the general trust in the public
management.
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2. Professional Skepticism and Accounting
According to COSO, no system of internal control can guarantee that all control
weaknesses that may result in material errors will be prevented and detected; as
public organizations increase in size, evaluators at the highest organizational levels
often monitor by evaluating the results from lower-level monitoring; root causes of
control weaknesses relate either to the failure of controls to operate as designed due
to unintentional or intentional errors or to the improper design of controls so as to
address the risk effectively.
In accordance with ISA 200 Overall Objective of the Independent Auditor, and
the Conduct of an Audit in Accordance with International Standards on Auditing,
the auditor shall maintain professional skepticism throughout the audit, recognizing
the possibility that a material misstatement due to fraud could exist,
notwithstanding the auditor’s past experience on the honesty and integrity of the
entity’s management and those charged with governance.
Accordingly, it is necessary to retain the attitude of professional skepticism
even when there is previous experience on the honesty and integrity of
management, since the circumstances could change, so the auditor must collect
convincing evidence in order to be still confident in that. Thus, any auditor must
continuously examine the reliability and whether obtained information and
evidence indicate existence of significant misstatement due to fraud (Pretnar,
2014).
In the time of crisis, controllers and auditors should rely on accounting
principles and accounting standards. The measurement of fair value is critical to
the implementation of international accounting standards and is associated with
assets, liabilities and finally with financial reporting. The accurate fair value in
accounting is an important premise for building trust in public administration and
public management in the context of gobalization.
Fraudulent financial reporting can be accomplished in differents ways, such as:
inflating assets, understating liabilities, inflating revenues, understating expenses,
creating timing differences, misclassifying balance sheet items and committing
disclosure fraud (Zack, 2009). In order to prevent public sector fraudulent financial
reporting, the auditors must understand and observe the accounting principles and
accounting standards.
The evolution of financial reporting from accounting principles to international
reporting could be observed in the figure below:

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Figure 1 The evolution of financial reporting

Source: Author’s own work.

3. Detecting Fraud in Financial Reporting

Detecting fraud in financial statements may involve different schemes (Hurtt,
2010):
(a) Falsification (including forgery), alteration or manipulation of financial records,
supporting documents or business transactions;
(b) Material intentional omissions or misrepresentations of events, transactions or
other significant information based on which financial statements are prepared;
(c) Deliberate misapplication of accounting principles, policies, and procedures
used to measure, recognize, report and disclose economic events; and
(d) Intentional omissions of disclosures or presentation of inadequate disclosures
regarding accounting principles and policies.

But, according to COSO, the responsibility for reliable financial reporting resides
first and foremost at the corporate level. Therefore, top management-starting with
the chief executive officer-sets the tone and establishes the financial reporting
environment. In this case, reducing the risk of fraudulent financial reporting must
start within the reporting company.
The controllers could identify a significat number of practices already in place
in many companies that can help all public companies meet their responsibilities
and reduce the incidence of fraudulent financial reporting. The most common
practices are:
-the establishment by the board of directors of an informed, vigilant and effective
audit committee to oversee the company’s financial reporting process;
-establishing and maintaining an internal audit function;

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-involving several other groups within the business and professional community,
enabling them to work closely with key participants in the financial reporting
process.
Implementing internal control and internal audit could prevent a series of cases of
fraud and theft of public funds (Ionescu, 2012). Table 1 presents the specialists
and advisors who could detect fraud in financial reporting:
Table 1 Advisors who could detect
fraud in financial reporting
Advisors and specialists
Professional accountants
Controllers
Auditors
Lawyers
Investment bankers
Financial analysts
Business advisors
Source: Author’s own work.

We observe in table 1 that these different categories of specialists operate from

inside or outside the public company, this way they could influence the top
management’s decisions and the modality of spending funds. These advisors can
affect the outcome of the financial reporting process and they could detect minor or
major fraud in the financial statements.
In accordance with ISA 330 The Auditor’s Responses to Assessed Risks, the
auditor shall design and perform further audit procedures whose nature, timing and
extent are responsive to the assessed risks of material misstatement due to fraud at
the assertion level.
It is worth considering the role of consultants as transmitters of business
methods and carriers of organizational change approaches, as well the intrinsic link
between clients and consultants, and the role of knowledge in the consulting
performance (Lazaroiu, 2015).

4. Conclusions
Professional skepticism of controllers and auditors in detecting fraudulent financial
reporting in public organizations is a modern and important issue, closely related to
the accounting system, the internal control system and auditing procedurs.
Over recent decades, accounting irregularities and financial reporting fraud
have resulted in massive corporate scandals and fraud in the public sector, which
have often impacted many organizations both financially and reputationally. The
most common victims of fraud are those companies with no internal controls or
auditing procedures in place, in which case, the external auditor must maintain
professional skepticism throughout the audit, before releasing the public audit
report.
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COSO (2007). Internal Control – Integrated Framework. Guidance on Monitoring Internal
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Fighting Corruption”, Annals of Spiru Haret University Economic Studies 4: 57–62.
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Economy,” Psychosociological Issues in Human Resource 3(2): 71–76.
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