The Institute for Fraud Prevention has released a study saying that most financial statement fraud is orchestrated by an organization’s chief executive, who is usually aided by outsiders in the overriding of internal controls.

The institute is a non-profit consortium of universities dedicated to researching the causes of fraud. Working under an IFP grant, two academics at St. John's University reviewed public filings made by 834 firms that filed financial restatements between 1997 and 2002 to try and find trends in financial statement fraud.

Not surprisingly, the study found that the losses are far greater when the outside audit firm allegedly aided the fraud, and that restatements are more common in New Economy industries such as information technology, energy trading and telecommunications.
 
The researchers also found that the average number of people connected with the alleged fraud cases was 7. In more than half of the schemes examined, a company besides the restating organization -- usually an investment bank, auditing firm, or colluding business partner -- was implicated as a participant. The average shareholder losses were more than twice as large in cases in which it was determined that the outside audit firm has aided in the control fraud. 
 
Among the report’s policy recommendations to regulators were:

  • Continue to require chief executives and chief financial officers to certify reports to shareholders, as mandated by the Sarbanes-Oxley Act;
  • Do not take any action aimed at tightening the number of class action securities fraud lawsuits, which the report described as, “a vital mechanism for detecting and remedying financial statement fraud;” and,
  • Do not move forward with any proposal to limit the liability of auditing firms or corporate board members for financial statement fraud.

The full study is available online at www.theifp.org.

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