Proving intent proves to be tricky

ACFE Cookbook: Explaining the many recipes for financial statement fraud

"The ACFE Cookbook" is a column devoted to examining recent cases and news involving alleged financial reporting fraud. Our focus is global, so no matter where you are, if you see news of financial reporting fraud, we'd like to hear about it for possible coverage. Send your links, news or information on public reports of alleged fraud to 
gzack@bdo.com. — ed.

One of the more fascinating aspects of financial reporting fraud cases is the element of intent. Unlike asset misappropriations and most corruption cases, fraudulent intent isn't always as obvious when the charges involve financial statement manipulation.

Accounting rules can be complicated and subject to a great degree of judgment and estimation. Therefore, often when a company issues a restatement of its financial statements to correct an error, no criminal fraud charges are brought. Regulators attribute the correction to nothing more than a misapplication of accounting principles because clear evidence of intent is lacking.

It can be extremely difficult to prove that company employees knew the correct accounting treatment but intentionally violated those rules to present a rosier-than-actual picture of financial performance. [See "I didn't intend to deceive anyone: Fraud rationalizations and the guilty mind." — ed.]

A recent and still ongoing case that will tackle the issue of fraudulent intent involves Tesco PLC, the massive U.K. grocery chain, which — at least until recently — was one of the more highly respected members of the FTSE 100.

The Tesco tale began in September of 2014, when the company announced it had inflated profits for the first half of 2014 by an estimated £250 million. However, after a month-long investigation by outside forensic accountants, Tesco announced that the figure was more like £263 million. In addition, the investigators found that £118 million related to the first half of 2014, while the remaining £145 million actually went back to previous years, which meant more financial statements (at least two additional years) were misstated than previously believed.

A whistleblower's tip precipitated the investigation. Tesco has suspended at least eight senior executives so far, and it would surprise nobody if the company took further disciplinary action.

Tesco then turned the report from its forensic accountants' investigation over to the Financial Conduct Authority (FCA), which has the authority to prosecute anyone who makes deliberate or recklessly misleading statements to the stock exchange. The investigation by forensic accountants "has established the what but the FCA investigation will establish the why and how," said Tesco's recently appointed chief executive, Dave Lewis, in the article, Tesco's profits black hole bigger than expected and runs back several years, by Zoe Wood, The Guardian, Oct. 23, 2014.

By late October of 2014, the U.K.'s Serious Fraud Office (SFO) began its own investigation, which resulted in the FCA's decision to back off. In December of last year, we learned that the SFO investigation will extend to suppliers that paid allowances to Tesco.