KSU study finds dire consequences for companies that engage in financial fraud

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  KSU accounting professor Dana Hermanson is co-author of new study of 350 accounting fraud…

Georgia (May 25, 2010) —  

KSU accounting professor Dana Hermanson is co-author of new study of 350 accounting fraud cases

KENNESAW, Ga. (May 25, 2010) — Public companies that engage in fraudulent financial reporting often end up bankrupt, being delisted from a stock exchange, or forced to sell their assets, according to a new study on financial fraud co-authored by Dana Hermanson, Dinos Eminent Scholar Chair and accounting professor at Kennesaw State University’s Coles College of Business.
 
The study, “Fraudulent Financial Reporting: 1998 - 2007” (co-authored with Mark S. Beasley of North Carolina State University, Joseph V. Carcello of the University of Tennessee, and Terry L. Neal of the University of Tennessee), examines 347 alleged accounting fraud cases investigated by the U.S. Securities and Exchange Commission (SEC) from 1998-2007. It was commissioned by the Committee of Sponsoring Organizations of the Treadway Commission (COSO), a private-sector initiative whose goal is to reduce corporate financial fraud.
 
The study found that news of alleged fraud resulted in a company’s stock price declining on average by 17 percent, beyond normal market movement, within two days of the fraud announcement. Also, news of an SEC or Department of Justice investigation was accompanied by an average 7 percent abnormal stock price decline. In nine out of 10 fraud cases, the SEC named the chief executive officer and/or the chief financial officer for alleged involvement.
 
“The consequences of fraud are severe, but the results indicate that the accounting fraud problem is not going away,” Hermanson said. “In fact, the problem has gotten larger and is even more likely to involve the CEO and/or CFO of the company.”
 
The study also found few differences in the characteristics of boards of directors between fraud companies and similar no-fraud firms. “This points to the need for more research on what boards actually do, their processes, as opposed to simply how the boards look from the outside,” Hermanson said.
 
The study updates a previous COSO study issued in 1999, “Fraudulent Financial Reporting: 1987-1997.”
 
Some of the current study’s findings include:
 
·        There were 347 alleged cases of public company fraudulent financial reporting from 1998 to 2007. In the 1987-1997 period there were 294 cases.
·        Consistent with the high-profile frauds at Enron and WorldCom, the dollar magnitude of fraudulent financial reporting soared in the last decade, with total cumulative misstatement or misappropriation of nearly $120 billion across 300 fraud cases with available information (mean of nearly $400 million per case). This compares to a mean of $25 million per sample fraud in COSO’s 1999 study.
·        Financial fraud affects companies of all sizes, with the median company having assets and revenues of just under $100 million.
·        The SEC named the CEO and/or CFO for involvement in 89 percent of the fraud cases. Within two years of the completion of the SEC’s investigation, about 20 percent of CEOs/CFOs had been indicted. More than 60 percent of those indicted were convicted.
·        Revenue frauds accounted for more than 60 percent of fraud cases.
·        Many of the commonly observed board of director and audit committee characteristics such as size, meeting frequency, composition, and experience do not differ meaningfully between fraud and no-fraud companies. Recent corporate governance regulatory efforts appear to have reduced variation in observable board-related governance characteristics.
·        Twenty-six percent of the firms engaged in fraud changed auditors during the period examined, compared to a 12 percent rate for no-fraud firms.
 
“There is still much more to learn about fraudulent financial reporting,” said Hermanson. “This is largely a CEO and CFO phenomenon, so understanding what pushes key executives to commit fraud is critical. I expect COSO to continue to sponsor fraud research and to drive the development of guidance to assist boards and auditors in fraud prevention and detection.”
 
For a free copy of the study, please go to www.coso.org/documents/COSOFRAUDSTUDY2010.pdf
 
 
 
 


 

A leader in innovative teaching and learning, Kennesaw State University offers more than 150 undergraduate, graduate and doctoral degrees to its approximately 41,000 students. With 11 colleges on two metro Atlanta campuses, Kennesaw State is a member of the University System of Georgia and the third-largest university in the state. The university’s vibrant campus culture, diverse population, strong global ties and entrepreneurial spirit draw students from throughout the region and from 92 countries across the globe. Kennesaw State is a Carnegie-designated doctoral research institution (R2), placing it among an elite group of only 6 percent of U.S. colleges and universities with an R1 or R2 status, and one of the 50 largest public institutions in the country. For more information, visit kennesaw.edu

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