The power of Benford's Law has never been as critical given the rise of big data and computing power. The digital analysis tool has been used in numerous high-profile forensic investigations, including investigations of voter fraud in the 2009 Iranian election and Greece's efforts to hide its debt in 2015.
A Benford's Law review of 5,400 contracts at a Canadian nonprofit organization found the numeral "4" as the first digit 16% of the time, compared to the expected 9.7%. That finding enabled the internal auditor to uncover questionable contracts in amounts between $40,000 and $49,999 that totaled $ 15 million. Those contracts were approved by an employee who directed them to vendors who were his associates.
In addition to detecting fraud, internal auditors can use Benford's Law to identify inefficient processes and computer bugs. It does this by determining the expected frequency for any digit in a set of discrete numbers such as journal entries, disbursements, and revenues. This means that a digit in a number in a given data set is mathematically predictable. Because the expected frequency for each digit is known, every item in excess of that frequency is deemed unusual.
With large amounts of data to analyze, Benford's Law can detect anomalies better than traditional audit techniques. For example, research shows that companies whose financial statements are significantly out of compliance with Benford's Law are likely to get caught for accounting irregularities. A before-and-after comparison of restated earnings showed that the new, real numbers aligned with Benford analysis.
Internal auditors can leverage audit software with Benford's Law functionality. Additionally, some audit departments can work with the organization's IT function to adopt a step-by-step Benford analysis using established formulas to analyze company data for unusual patterns.
Because few fraudsters know about Benford's Law, the numbers they cook up stand out. As a result, the position of each digit in their transactions will not follow Benford's analysis, revealing their crime (see "Benford's Basics" on page 19).
For example, during a purchasing audit at a retail company, internal auditors discovered there were 550 purchase orders issued with the first two digits "96," compared with the expected count of 289 purchase orders. Benford's Law analysis showed 145 purchase orders of between $9,600 and $9,690 were approved by a director whose approval...