Audit and Assurance Practice Exam

True or False: Managers often commit fraud by misclassifying assets as expenses in the acquisition and payment cycle.

1. True

2. False

3. Only in manufacturing

4. Only in service industries

The correct answer is: True

The statement is true because managers may engage in fraudulent activities by misclassifying assets as expenses in order to manipulate financial statements. This type of misclassification can lead to a lower reported profit for the period, which may benefit management by decreasing tax obligations or meeting financial covenants tied to performance metrics. When assets are recorded as expenses, it results in a lower asset base on the balance sheet and can also influence the income statement by overstating expenses in the period, thus understating profits. This kind of manipulation can be driven by various motives, including the desire to influence performance measures, deceive stakeholders, or create an opportunity for personal gain through bonuses tied to financial results. This particular form of fraud is not restricted to specific industries, as it can occur in both manufacturing and service industries. Improperly classifying assets can happen whenever there is a potential for financial statement manipulation, signifying that the concern is relevant across diverse sectors, and therefore does not apply only to manufacturing or service industries specifically.