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Now · 1. Financial Statement Analysis for Forensics
Learning Objectives
- Analyze financial statements for irregularities
- Calculate and interpret forensic ratios
- Trace funds and identify hidden assets
- Understanding of financial statements
- Week 3: Benford's Law
1. Financial Statement Analysis for Forensics
Horizontal Analysis: Compare line items year-over-year. Look for unusual spikes/drops.
Vertical Analysis: Each line item as % of base (revenue for IS, assets for BS). Spot changes in composition.
Ratio Analysis for Forensics:
| Ratio | Formula | Red Flag |
|---|---|---|
| Days Sales in Receivables | 365*AR/Sales | Increasing = possible fake sales |
| Gross Margin % | (Rev-COGS)/Rev | Unusual change = revenue/cost manipulation |
| Asset Turnover | Sales/Assets | Too high = possible asset inflation |
| Debt/Equity | Total Debt/Equity | Sudden change = off-balance-sheet issues |
2. Tracing Funds
- Follow the Money: Track transactions through accounts
- Link Analysis: Map relationships between entities and individuals
- Net Worth Method: Compare known assets minus known liabilities to reported income. Unreported income = unexplained increase in net worth
3. Hidden Asset Detection
- Public records search (property, business filings)
- Financial databases (bank accounts, investments)
- Lifestyle analysis (expenses vs reported income)
- Digital forensics (emails, documents, metadata)
Q1: Why might increasing Days Sales in Receivables indicate fraud?If AR grows faster than sales, it could mean: fake sales on credit (never collected), extending credit to weak customers, or improperly recognizing revenue before delivery. Q2: What is the net worth method for detecting unreported income?Calculate change in net worth + estimated living expenses = actual income. Compare to reported income. If actual > reported, difference is likely unreported income. Q3: What is horizontal analysis?Comparing financial statement line items across periods (e.g., revenue 2023 vs 2022 vs 2021). Percentage changes reveal trends and anomalies. Example: 50% revenue increase with 5% expense increase merits investigation. Q4: How do you detect revenue inflation through related parties?Identify transactions with related entities not disclosed in financial statements. Compare terms (prices, payment periods) with arm's-length transactions. Look for circular transactions that net to zero. Q5: What is the expense-to-revenue ratio analysis?Calculate each expense as percentage of revenue. Track over time and compare to industry. Example: if marketing expense drops from 15% to 5% of revenue while sales increase, investigate whether expenses were improperly capitalized. Join Discord PreviousBenford's Law & Data AnalysisNextAnti-Money Laundering (AML)