ASSIGNMENT – CASE STUDY

Case 56
Stefan Krank had been the most successful fund manager at Fortune Investments for the
past five years. During this time, he had earned a large salary, which was supplemented by
considerable annual bonuses from the many profitable investment portfolios he had
managed for his wealthy private clients. Consequently, he and his family had become
accustomed to a very lavish lifestyle, which was threatened when he started to have a run
of bad luck on the markets.
Over the past few months, he had been unable to deliver the predicted levels of returns for
his clients, so he decided to resort to drastic measures. Initially he tried to recover the
position by investing funds in high-risk securities to generate higher returns, even though his
clients had only ever agreed to medium risk levels for their investments. However, even this
tactic failed to deliver sufficient profits and some investments actually lost considerable
amounts of money. In desperation Krank’s behaviour took a very disturbing turn when he
started a fraudulent investment operation where he paid returns to his existing investors
from new capital paid into the fund by new investors, rather than from profit earned. He
enticed new investors into the scheme by offering them far higher returns than were
available from other comparable investments, often in the form of short-term profits which
were both abnormally high and unusually consistent. Unfortunately in order to maintain this
deception of seemingly perpetual high returns, Krank required an ever-increasing flow of
money from new investors which was clearly unsustainable. Over time returns became far
more volatile simply because of the higher risk investments and reduced amounts of new
investment capital becoming available.
James Reynolds, a wealthy client who wanted to extract value from a fund managed by
Krank for his impending retirement, noticed that returns on his fund were showing
increased volatility. He demanded an explanation from Krank, who responded by advising
him that he must have looked at his fund on a bad day. He assured Mr Reynolds he always
aimed to maximise returns on his clients’ investments even if this meant bending the rules
occasionally. He further claimed that Mr Reynold’s fund would both grow in value and
stabilise very soon. Mr Reynolds was unconvinced by Krank’s weak and unsubstantiated
explanation; so, he referred the matter to Krank’s manager. identifying any weaknesses and
recommends improvements to the system of internal controls

Sol
The scenario presented highlights several weaknesses in internal controls within the fund
management operation, particularly in the context of Stefan Krank's fraudulent activities.
Here are some key weaknesses and suggestions for corrective measures:
1. Lack of Oversight and Monitoring:
  Weakness: There seems to be a lack of effective oversight and monitoring of
fund managers' activities, as evidenced by Stefan Krank's deviation from
agreed risk levels and engagement in fraudulent practices.
 Correction: Implement a robust system for continuous monitoring of
investment portfolios, with regular reviews and audits. Introduce checks and
balances to ensure that fund managers adhere to agreed-upon risk levels and
ethical standards.
2. Inadequate Risk Management:
 Weakness: Krank's decision to invest in high-risk securities without the
consent of clients indicates a lack of adequate risk management practices.
 Correction: Strengthen the risk management framework by clearly defining
risk tolerance levels for each client and implementing pre-approval processes
for high-risk investments. Regularly assess and update risk management
policies to adapt to changing market conditions.
3. Insufficient Due Diligence on Investments:
 Weakness: Krank's pursuit of high returns without proper evaluation of
investment opportunities led to losses and fraudulent activities.
 Correction: Enhance due diligence procedures for selecting and monitoring
investments. Implement thorough research and analysis protocols before
making investment decisions. Establish an investment committee to review
and approve investment strategies.
4. Inadequate Communication and Transparency:
 Weakness: Krank's attempt to downplay increased volatility and provide weak
explanations to clients demonstrates a lack of transparency and
communication.
 Correction: Establish clear communication channels between fund managers
and clients. Implement regular and transparent reporting mechanisms to
keep clients informed about the performance of their portfolios. Encourage
an open dialogue and address client concerns promptly and honestly.
5. Lack of Whistleblower Protection:
 Weakness: The absence of a mechanism for clients like James Reynolds to
report concerns without fear of retaliation allowed fraudulent activities to
persist.
 Correction: Establish a whistleblower protection program to encourage clients
and employees to report suspicious activities or concerns. Ensure
confidentiality and protection against retaliation for those who come forward
with information.
 6. Independent Auditing and Verification:
 Weakness: Krank's fraudulent scheme went undetected for a significant
period, indicating a lack of independent verification.
 Correction: Engage external auditors to conduct regular and thorough audits
of fund management operations. Ensure independence and objectivity in
auditing processes to detect irregularities and fraudulent activities.
7. Compliance and Ethics Training:
 Weakness: Krank's willingness to bend rules highlights a potential lack of
awareness and commitment to ethical conduct.
 Correction: Provide regular training on compliance and ethics for all
employees, emphasizing the importance of adhering to regulations and
ethical standards. Establish a code of conduct and ensure that employees
understand the consequences of non-compliance.
By addressing these weaknesses and implementing corrective measures, the fund
management operation can strengthen its internal controls, enhance transparency, and
mitigate the risk of fraudulent activities.

CASE 55
The YAHTY organisation provides investment services to individuals living away from their
country of residence. For example, a person may be required to work in a foreign country
for two or three years, but will retain an investment portfolio of shares, bank account
deposits, pension contributions, etc. in their home country. The YAHTY organisation
manages this portfolio for the individual until they return to their country.
YAHTY employs 35 investment accountants to provide the investment services. Each
accountant controls the portfolio of up to 200 clients, with an average fund value of
€500,000. Decisions regarding the companies to invest in, the pension scheme funds to use,
etc. are made by the individual financial accountant. The accountant retains a computer
record for each client which shows the funds invested in, the values and recent transfers.
As long as the individual requirements of the client are met, then the YAHTY organisation is
deemed to have been successful in managing that client. A senior accountant provides
additional investment advice should the need arise.
For each client, the investment accountant is the authorised signatory on the client
accounts, enabling funds transfers to be made by that individual. Any payment over
€100,000 has to be authorised by the senior accountant.
Most transfers are between €10,000 and €50,000 – the senior accountant only checking
material transactions. At any time, the list of investments on the computer must agree to
share certificates, etc. retained by the accountant. The list of investments is not, however,
linked to the payments systems in YAHTY.
Documentation for each transfer has to be retained by each investment accountant.
Documents regarding fund transfers are retained in date order within a central filing
system. This procedure provides YAHTY with significant savings in storage costs while
ensuring that documentation can be obtained when necessary.
When a client returns to their home country, the investment manager transfers all funds
back
into the client’s name. A list of the investments is printed off from the accountant’s
computer
system and this is given to the client along with share certificates, pension scheme reports,
etc. Full transaction histories are not available due to the time required for obtaining
detailed
historical documentation from the filing system already mentioned above.
To ensure completeness and accuracy of transfer, the senior accountant reviews all funds
with a value of more than €750,000 by checking the list of investments to the supporting
documentation. identifying any weaknesses and recommends improvements to the system
of internal controls

Sol
1. Segregation of Duties:
 Weakness: Investment accountants have significant control over client
portfolios, including the ability to transfer funds without requiring
authorization for payments up to €100,000.
 Improvement: Implement a segregation of duties by introducing a dual-
authorization process for all fund transfers, regardless of the amount. This can
involve a secondary approval from another accountant or the senior
accountant.
2. Authorization Limits:
 Weakness: The senior accountant only reviews material transactions over
€100,000, potentially allowing unauthorized transfers below this threshold to
go unnoticed.
 Improvement: Lower the authorization limit for the senior accountant to
ensure a more comprehensive review of transactions. Regularly review and
adjust these limits based on the organization's risk tolerance and business
needs.
3. Reconciliation of Investments and Payments:
 Weakness: The list of investments on the computer is not linked to the
payments system, which could lead to discrepancies and errors.
 Improvement: Implement a reconciling process that ensures the list of
investments on the computer is regularly compared and reconciled with the
 payments system. This will help identify and rectify any discrepancies
promptly.
4. Transaction Documentation:
 Weakness: Full transaction histories are not readily available when clients
return home, as detailed historical documentation is stored separately.
 Improvement: Develop a more efficient system for maintaining and accessing
transaction histories. Consider digitizing documents and implementing a
centralized database that allows for quicker retrieval of historical records
when needed.
5. Client Fund Transfer Process:
 Weakness: The process of transferring funds back to clients may lack
completeness and accuracy due to the absence of detailed transaction
histories.
 Improvement: Enhance the fund transfer process by ensuring that
comprehensive transaction histories are readily available. This can be
achieved by integrating historical data with the client's investment record or
creating a summary report that accompanies the fund transfer.
6. Periodic Internal Audits:
 Weakness: There is no mention of periodic internal audits to assess the
overall effectiveness of internal controls.
 Improvement: Conduct regular internal audits to identify potential
weaknesses, assess compliance with policies, and ensure that internal
controls are functioning as intended. Implement corrective actions based on
audit findings.
7. Client Communication:
 Weakness: Clients receive a list of investments and related documents when
they return home, but there may be room for improvement in
communicating the transfer process and ensuring client satisfaction.
 Improvement: Establish a standardized communication process to inform
clients about the fund transfer procedure, including the availability of
documentation. Gather client feedback to identify areas for improvement in
service delivery.
8. Training and Awareness:
 Weakness: The information doesn't explicitly mention ongoing training or
awareness programs for investment accountants to stay updated on best
practices, regulations, and potential risks.
  Improvement: Implement regular training programs to keep investment
accountants informed about changes in regulations, industry best practices,
and any updates to internal policies. This ensures a well-informed and vigilant
team.
By addressing these weaknesses and implementing the suggested improvements, YAHTY can
enhance the reliability, accuracy, and efficiency of its investment services while minimizing
the risk of errors and fraudulent activities. Regular monitoring and adaptation of internal
controls are crucial to maintaining a robust system.