Predicting Corporate Fraud | Big Think

Predicting Corporate Fraud
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Robert Davidson describes research he's conducted that may offer a way of predicting which corporations might commit fraud.
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ASSISTANT PROFESSOR, GEORGETOWN UNIVERSITY:

Robert Davidson joined the faculty at Georgetown University in August 2011. He completed his PhD and MBA at the University of Chicago in June 2011 and completed his undergraduate degree at Wayne State University in June 2003.
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TRANSCRIPT:

Robert Davidson: How might you be able to differentiate between the executives who ultimately decided to commit fraud and those who didn't? You look at all these incentives and over a 20 year period there's thousands of executives who have strong incentives from their career perspective, from the value of their stock options to inflate the numbers, and only a tiny fraction, you know, less than one percent, that we know of, ever wind up doing this. So maybe there's something unique that we can find about these people.

We started brainstorming and thinking about just anything about someone's lifestyle, beliefs, personal behaviors that might be relevant in this area. And we had a list of all sorts of things like if they had extramarital affairs or we thought about trophy wives or just anything. And some of the things were more just sort of joking around. But then we had a list of things that we thought would make good sense. One of them was if an executive had previously broken the law. Another one would be the relative materialism or frugality of an executive; how they spend their money. And it turns out that we're able to get pretty good data on these two things for a large number of senior executives. So instead of just having an idea, it's actually something that we can test. So in this paper we found that executives who had previously broken the law were maybe two and a half to three times more likely to commit accounting fraud in the analysis we did.

What was perhaps a little more surprising was that if we looked at executives whose only legal violation was a minor speeding ticket or some other traffic violation, we still find significant results. Now, they're definitely weaker but they're still meaningful and significant in the tests that we run. We go one step further. When the SCC investigates a firm they usually name the people that the evidence suggests specifically perpetrated the fraud. And when just looking at who the SCC actually singled out, we found those with these prior legal violations were six to seven times more likely to be the one the SCC indicates had actually committed the act.

The second characteristic we looked at, depending on what area of say psychology or sociology you're looking at, you can think about it as either frugality or materialism, they're roughly two sides to the same coin. I mean if you live a really frugal lifestyle, you're not really materialistic, and if you're really materialistic you're not frugal.

So we were able to get pretty good data on cars, boats and real estate that an executive owns. Ideally we'd have paintings or huge diamonds or something of that sort but you really can't accurately collect data like that for a large group of people. So we came up with just a binary measure whether we treated an executive as frugal or materialistic or unfrugal depending on the value of any vehicles they owned, the length of any boats they may have owned and then sort of an excess value of their real estate. We realized there's a cost to living. People need to pay to live. And depending on where an executive works that cost can vary dramatically. So we wound up basically subtracting the average cost of living for wherever they happen to be and we said if an executive's home was more than double what the average is, we'd consider that relatively unfrugal.

We'd found some interesting research that suggested frugal CEOs placed more emphasis on controls and on monitoring. And we thought strong monitoring and good controls probably reduces the likelihood that fraud takes place. So we didn't find a really strong theory to suggest that these materialistic CEOs would commit fraud themselves, but we thought it was reasonable that if they weren't placing emphasis on controls that somebody in the firm might do it. And that's really what we found. We didn't find that these materialistic CEOs were accused specifically by the SCC of committing fraud, but we found fraud was much more likely to happen at their firms.

[hasanhuh]

Alright. Now what about executives that do terrible things legally because our system sucks?

[WhisperingChocoTaco]

this guy should blink at least once
nevermind, i caught it at 2:42

[KilgoreTroutAsf]

I wonder when did exactly Big Think stop being about inverviews with philosophers, scientists and thinkers and became basically Bloomberg TV.

[Overonator]

Correlation does not necessarily equal causation.

[lifevthellotoworld]

I very much enjoy introverted and monotone speakers like this one. They tend to be smart and know their shit.

[andysndrs]

I just finished a Fraud Auditing class last semester. Was very fascinating. 

[Cryptonymicus]

Who is "we" and who did the "research" and what is "fraud" but a measure of the laws and regulations that have not yet been twisted or completely undone by corporate executives?

[aurnob]

Where the CEO is raised as a kid (school and town associated cultures) and his parental background would dictate large part additionally. Not to also mention the CEO's private social circles and or their work circles.

[SpencerHHO]

The negative impacts of a firm or corporation go way beyond criminal activity. Just because someone hasn't committed an act of fraud in the eyes of law doesn't mean that they haven't essentially defrauded other people. 

[jakopic]

Psychopaths most preferable profession is CEO. So this is nothing new.

[MMasterDE]

Looking at past criminal record to determine probability of future criminal actions is rather obvious, but the people who has been good at never getting caught for past criminal actions, might just be good at not getting caught for future criminal actions too. This is an obvious issue with the statistics, but it doesn't really affect the end-result, because if the person is never caught committing corporate fraud it is almost as it doesn't happen. It does play a role in trying to catch those who are currently hard to catch though.

[ElCastinho]

This guy never blinks. Bugs the hell out of me. Found it hard do actually listen to what he had to say once I noticed. He brought up interesting topics nevertheless.

[revdraco]

Predicting corporate fraud is easy. . . it goes like this.

If it's a corporation. . .

[danbison]

I feel like I am in the uncanny valley.

[hui-dongim]

the content is great but what impressed me the most is that he only blinked once during the whole time.

[SuperKalmageddon]

Am i the only one unsettled by his unblinking stare

[Gareth_Mayers]

jezz he is an intense dude its like watching bane but much colder. he could pass as a robot, feels like he is treating me to pay attention.

[MrSlatra]

Lack of regulation/control leads to fraud, sort of...

[ChrisArnol]

He is staring into my soul... I can feel it.

[SaliamonXP]

have anyone noticed that this guy NEVER blinks?!