Corporations Listed In Fortune 500 More Likely To Commit Financial Fraud, Study Finds

Big name corporations with robust growth profiles are more likely to be caught up in corporate fraud than smaller, struggling firms.

Corporate fraud is an illegal, unethical, and highly strategized maneuver committed by a company or an individual associated with the company in order to defraud investors, and the government of millions and even billions in tax revenue. The fraud schemes involve approaches to misrepresent the company’s financial standing by use of false accounting practices.

In a corporate world, this type of elite, while-collar crime is not very uncommon. In fact, it’s been going on since the 15th century England. 

In the study published in Justice Quarterly, the researchers zeroed in on data on more than 250 U.S. public corporations that had involvement in financial securities fraud identified in more than 1000 Securities and Exchange Commission filings from 2005 to 2013.

Upon comparing their characteristics to a control sample of over 500 firms (from Compustat) that were not listed in SEC fiscal evasion filings, they found growing fads in the risk of fraud including corporations that were listed in the Fortune 500, traded on the NYSE and had strong growth prospects.

“Prestigious companies, those that are household names, were actually more prone to engage in financial fraud, which was very surprising,” said Jennifer Schwartz, WSU sociologist and lead author on the study in a news release.

“We thought it would be companies that were struggling financially, that were nearing bankruptcy, but it was quite the opposite. It was the companies that thought they should be doing better than they were, the ones with strong growth imperatives–those were the firms that were most likely to cheat.”

Corporate financial securities frauds are usually surreptitious and nonviolent in nature. They are also understudied especially when compared with street crimes, even though they can inflict far worse devastating effects on the economy.

Detection and prosecution of this type of elite crime can also be highly challenging because the individuals involved in it usually go to great lengths in order to conceal their activities.

“What these companies were doing was essentially fudging the numbers, lying to investors, other companies and the SEC,” said Schwartz. “Eventually, you have to make up for the money that was lost, that really never existed, so shareholders lose money, people lose retirement plans, people lose jobs. It’s very, very damaging.”

For the study, the team looked at the time period where a massive financial collapse that shook Wall Street to its core, took place. They also incorporated data on the fraud scandals of WorldCom and Enron, and the subsequent regulatory Sarbanes-Oxley Act of 2002.

The intent of the study was to figure out the operations at publicly traded companies in which there was high probability for perpetrating fraud.

They found that big corporations with Fortune 500 status were represented nearly four times as often among the firms that had committed fraud than the control group with no history of financial fraud. Similarly, firms that traded on NYSE were represented 2 times more among fraudulent firms compared to non-fraud, which is higher than those that trade on other exchanges like the NASDAQ or OTC.

The study also found that fraud is more prevalent when the CEO was also the chair of the board, but the potential link between the extent of fraud and position in the company is yet to be established.

“We need to look more at corporate leadership arrangements, and the responsibility of individuals in creating the culture of the company itself,” explained Schwartz. “How can leaders encourage companies to be more successful not only in terms of profit or growth but also in terms of corporate social responsibility?”

Journal Reference: Financial Prominence and Financial Conditions: Risk Factors for 21st Century Corporate Financial Securities Fraud in the United States