CFA Red Flag & Anomaly Detection 2 — Questions and Answers
Question 1: An employee in accounts payable consistently processes vendor payments just below the $10,000 approval threshold. This is an example of which red flag?
- Lapping scheme
- Structuring or smurfing (Correct answer)
- Ghost employee fraud
- Skimming
Correct answer: Structuring or smurfing
Structuring (smurfing) involves deliberately keeping transactions below reporting or approval thresholds to avoid detection.
Question 2: During an audit, you notice a vendor's address matches the home address of an employee in the purchasing department. This is a red flag for:
- Asset misappropriation
- Conflicts of interest and related-party fraud (Correct answer)
- Financial statement fraud
- Payroll fraud
Correct answer: Conflicts of interest and related-party fraud
A vendor address matching an employee's home address is a classic red flag for conflicts of interest or shell company fraud.
Question 3: Which analytical technique compares the first digits of numbers in a dataset to Benford's Law to detect potential fraud?
- Regression analysis
- Digital analysis (Correct answer)
- Ratio analysis
- Trend analysis
Correct answer: Digital analysis
Digital analysis applies Benford's Law to test whether the frequency of leading digits in a dataset follows the expected natural distribution.
Question 4: A company's gross margin suddenly drops by 15% in one quarter with no corresponding change in revenue or market conditions. This anomaly most likely suggests:
- Overstated liabilities
- Understated revenue
- Inventory fraud or cost manipulation (Correct answer)
- Fictitious sales returns
Correct answer: Inventory fraud or cost manipulation
An unexplained drop in gross margin often signals inventory theft, cost overstatement, or manipulation of cost of goods sold.
Question 5: Which of the following is a behavioral red flag commonly exhibited by employees committing fraud?
- Taking all scheduled vacation days
- Refusing to take vacations or delegate duties (Correct answer)
- Frequently requesting internal audits
- Reporting coworkers' suspicious activities
Correct answer: Refusing to take vacations or delegate duties
Fraudsters often refuse to take vacations or cross-train others because their absence could expose the scheme.
Question 6: An auditor notices that journal entries are frequently recorded on weekends or holidays with no business justification. This is a red flag for:
- Payroll padding
- Financial statement manipulation (Correct answer)
- Expense reimbursement fraud
- Vendor kickbacks
Correct answer: Financial statement manipulation
Journal entries posted outside normal business hours, especially at period-end, are a common red flag for financial statement manipulation.
Question 7: A company shows rapid revenue growth but its accounts receivable grows at a much faster rate. This anomaly is a red flag for:
- Overstated expenses
- Channel stuffing or fictitious revenue (Correct answer)
- Understated liabilities
- Embezzlement of cash
Correct answer: Channel stuffing or fictitious revenue
When receivables grow disproportionately faster than revenue, it may indicate channel stuffing or recording fictitious sales that are never collected.
CFA Red Flag & Anomaly Detection 2
An employee in accounts payable consistently processes vendor payments just below the $10,000 approval threshold.
This is an example of which red flag?