Mitigating Corporate Financial Fraud

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Mitigating Corporate Financial Fraud

• Johnnie R. Bejarano, CGFM, CPA
• Lead Faculty, University of Phoenix
• Denver Campus
• May 15, 2008
• jrbejarano_at_email.phoenix.edu

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• Without rigor, research is worthless, becomes
  fiction, and loses its utility (Morse, Barrett,
  Mayan, Olson, Spires, 2002, p. 2)

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Overview

• Problem
• Purpose of Study
• Significance of Study
• Theoretical Framework
• Research Question
• Brief History

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Overview Cont.

• Research Methodology
• Population and Sample
• Demographics
• Work Industries
• Results of Findings
• Conclusions
• Recommendations

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Problem Statement

• Corporate financial fraud in the U.S. continues
  to grow despite current anti-fraud legislation
  (Flint, 2005)
• Financial fraud has a negative affect on
  corporate earnings and a loss to investor
  confidence (Wells, 2007)
• Estimated fraud losses increased 65 from 400B
  in 1996 to 660B in 2004 (ACFE, 2004)
• 1 in 6 U.S. corporations filed fraudulent
  financial statements costing approximately 10M
  per company (ACFE, 2004)

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Purpose of the Study

• The purpose of this qualitative phenomenological
  study using a Modified van Kaam Method by
  Moustakas (1994) with semi-structured, recorded,
  transcribed interviews was to explore the
  perceptions of a purposive sample of 20 certified
  public accountants, forensic accountants, and
  criminal fraud investigators in the Denver,
  Colorado area on how to mitigate corporate
  financial fraud.

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Significance of the Study

• The results of this research might
• Add new knowledge for leaders to improve on the
  detection and prevention of financial fraud
• Expand existing literature relative to criminal
  fraud
• Expose weaknesses in current anti-fraud
  legislation
• Aid governments in monitoring contractors
• Provide new insights for policy-makers,
  regulators, auditors, rules-making bodies, SEC,
  and academia

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Application of the Research
Society
Industry
Government
Academia
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Theoretical Framework

• This study is the first of its kind to apply the
  following two theories in the context of
  explaining corporate financial fraud in the U.S.
• Agency Theory (Eisenhardt, 1985 Jensen
  Meckling, 1976)
• Differential Association theory (Sutherland,
  1947)

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Research Question

• What factors might mitigate corporate financial
  fraud in the United States?
• What personal factors existed, if any, that might
  have motivated a person to commit financial
  fraud?
• What endogenous factors existed, if any, that
  might have influenced the financial engineering
  of financial fraud?
• What exogenous factors existed, if any, that
  might have influenced the financial engineering
  of financial fraud?

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Brief History

• U.S. fraud legislation is based on the Statute of
  Frauds law enacted in England in 1677 (Charles
  II, 1819)
• Securities Act of 1933
• Securities Exchange Act of 1934
• Budget and Accounting Procedures Act of 1950
• Wire Fraud Act of 1952
• False Claims Act of 1963
• Racketeer Influenced Corrupt Organizations Act
  (1970)

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Brief History Cont.

• Foreign Corrupt Practices Act (1977)
• Federal Managers Financial Integrity Act (1982)
• Committee of Sponsoring Organizations (1985)
• Uniform Fraudulent Transfer Act of 1984
• GASB (1984) established by the FAF
• CFO Act of 1990
• Identity Theft and Assumption Deterrence Act of
  1998
• GASB Statement No. 34 (1999)
• Sarbanes-Oxley Act of 2002
• OMB Circular A123 Amended (2006)

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Research Methodology

• Qualitative Research Method (Creswell, 2003)
• Phenomenological Approach (Moustakas, 1994)
• Primary, secondary, government, industry sources
• Semi-structured interview questions (De Souza,
  Gomes, McCarthy, 2005 Reid, 1987)
• Recorded F2F interviews

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Research Methodology Cont.

• Verbatim transcripts using Sony Digital Voice
  Editor 2
• HyperRESEARCH QDA coding/analytical software
• RefViz textual analysis and visualization
  application
• EndNote X electronic bibliography application
• Triangulation of field data with scholarly
  peer-reviewed journals, government, and industry
  studies

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Population and Sample

• Population consisted of certified public
  accountants, forensic accountants, and criminal
  fraud investigators in the Denver, Colorado area
• Purposive sample of 20 professionals with a
  minimum of five years work experience

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Demographics

• Average experience was 24 years (range 10 42)
• Highest education levels reached
• 50 Bachelor
• 25 Master
• 15 Juris Doctor
• 10 Ph.D.
• Professional certifications held
• 10 CFE
• 8 CPA
• 5 CIA
• 2 CPP
• 1 CGFM

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Work Industries

• Audit services, construction, consulting
• Education, financial services, government
• Government regulator, health care
• Internal audit, law enforcement, litigation
  support
• Not-for-Profit, research and development
• Retail, and telecommunications

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Results of Findings

• The main findings that emerged from the study as
  to why people commit corporate financial fraud
  are
• Personal Factors (a) greed, (b) need, and (c)
  personal gain
• Endogenous Factors (a) pressure, (b) greed, and
  (c) checks and balances
• Exogenous Factors (a) internal controls, (b)
  need, and (c) opportunity

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Results of Findings Cont.

• The key findings regarding detection and
  prevention of fraud techniques were
• Detection Techniques (a) hotlines, (b)
  environment, and (c) internal controls
• Prevention Techniques (a) tone at the top, (b)
  internal controls, (c) hotline, and (d) training
• Industry Specific Techniques (a) accountability,
  (b) change orders, (c) data mining, (d) duties,
  (e) internal controls, and (f) monitoring

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Results of Findings Cont.

• The top findings regarding education and
  training, and U.S. government intervention were
• Education and Training (a) accounting, (b)
  experience, and (c) auditing
• U.S. Government Intervention (a) resources, (b)
  enforcement, (c) proactive, (d) funding, and (e)
  reform

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Conclusions

• Differential Association Theory and Agency Theory
  may help model the patterns of behavior exhibited
  by perpetrators of corporate financial fraud
• Understanding key behavioral factors might help
  leadership mitigate corporate financial fraud by
  improving detection and prevention techniques
• More education and training is needed in college
  and industry regarding fraud detection, fraud
  prevention, and ethics
• Anti-fraud legislation contains weaknesses,
  inefficiencies, and is costly

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Recommendations

• Implications for Action
• More emphasis needs to be placed on mitigating
  corporate financial fraud
• More emphasis in education and training in
  accounting curricula and industry on fraud
  awareness, detection, prevention, and ethics
• Anti-fraud legislation needs to be more proactive
  and reformed to lower the cost of compliance

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Recommendations Cont.

• Recommendations for Governments
• Understand and apply the principles of fraud
  detection and prevention
• Know key behavioral patterns and act on your
  suspicions
• Be aware of internal corruption such as sole
  source procurements, unauthorized use of
  government assets
• Watch out for change orders from contractors
• Validate allowable reimbursable costs
• Encourage whistle blowing
• Have a fraud, waste and abuse hotline

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• Questions?

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References

• Association of Certified Fraud Examiners (2004).
  2004 Report to the nation on occupational fraud
  and abuse. Retrieved September 12, 2004, from
• http//www.cfenet.com/resources/RttN.asp
• Charles II, 1677 An act for prevention of frauds
  and perjuryes. (1819). Statutes of the Realm, 5,
  1628-1680. Retrieved June 3, 2007, from
  http//www.british-history.ac.uk/report.asp?compid
  47463
• Creswell, J. W. (2003). Research design
  Qualitative, quantitative, and mixed methods
  approaches (2nd ed.). Thousand Oaks, CA Sage
  Publications.
• De Sosa, M. L., Gomes, W. B., McCarthy, S.
  (2005, April). Reversible relationship between
  quantitative and qualitative data in
  self-consciousness research A normative semiotic
  model for the phenomenological dialogue between
  data and capta. Quality Quantity, 39(2),
  199-215.
• Eisenhardt, K. M. (1989). Agency theory An
  assessment and review. Academy of Management
  Review, 14(1), 57-74.
• Flint, A. J. (2005, June). Solutions to
  corruption in the auditing profession. Review of
  Human Factor Studies, 11(1), 113-129.

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References

• Jensen, M. C., Meckling, W. H. (1976, October).
  Theory of the firm Managerial behavior, agency
  costs and ownership structure. Journal of
  Financial Economics, 3(4), 305-360.
• Morse, J. M., Barrett, M., Mayan, M., Olson, K.,
  Spiers, J. (2002, Spring). Verification
  strategies for establishing reliability and
  validity in qualitative research. International
  Journal of Qualitative Methods, 1(2), 1-19.
• Moustakas, C. E. (1994). Phenomenological
  research methods. Thousand Oaks, CA Sage
  Publications.
• Reid, G. C. (1987). Applying field research
  techniques to business enterprise. International
  Journal of Social Economics, 14(10), 3-25.
• Sutherland, E. H. (1947). Principles of
  criminology (4th ed.). Philadelphia J. B.
  Lippincott.
• Wells, J. T. (2007). Corporate fraud handbook
  Prevention and detection (2nd ed.). Hoboken, NJ
  John Wiley Sons.