Who are you looking at? P R O F E S S O R K A R E N V A N P E U R - PowerPoint PPT Presentation

Who are you looking at? P R O F E S S O R K A R E N V A N P E U R S E M P H D ( W A I K A T O ) , C A ( N Z ) , C P A ( U . S . ) Department of Accounting, University of Waikato

Financial Statement Fraud: Governing Bodies and the Auditors CAN A COR P OR ATE GOVE R N I N G B OD Y TAKE ACTI ON S TH AT M I GH T GI VE TH E M A B E TTE R CH AN CE OF P R E VE N TI N G M ATE R I AL F I N AN CI AL F R AU D ? Department of Accounting, University of Waikato

What are their responsibilities?  Governing bodies  Auditors Department of Accounting, University of Waikato

According to New Zealand Statute ... oversight, providing direction, conducting practices with due care, acting in ‘good faith and in the best interests of the company” (NZ Companies Act, 1993, S131) Department of Accounting, University of Waikato

According to New Zealand Listing Regulations  ‘keep the market ... informed on matters that may affect the price of their securities’  restricts insider conduct  But may rely on ‘professional or expert advice given’ (CA, S138) Department of Accounting, University of Waikato

In comparison to U.S. Listings Regulation An emphasis on within-board skills and sub- committee involvement  Foreign Corrupt Practices Act 1977  Sarbanes-Oxley (2002) : Audit Committee requirements  Exchange provisions and requirements Department of Accounting, University of Waikato

The accounting professions and standards setting bodies may disagree .... the accounting profession and standard setters express interest in ensuring the governing body and management have a strong role in fraud prevention Department of Accounting, University of Waikato

International Standard of Auditing The prim ary responsibility for the prevention and detection of fraud rests w ith both those charged w ith governance... and m anagem ent (ISA (NZ) 240, para 4) Department of Accounting, University of Waikato

... and It is im portant that m anagem ent... governance, place a strong em phasis on fraud prevention... a com m itm ent to creating a culture of honesty and ethical behaviour .... ... includes considering the potential for override of controls.. [and] earnings m anagem ent (p4) Department of Accounting, University of Waikato

.... And therefore ... identifying fraud w ithin the organisation is view ed by the accounting profession as an im portant role of the governing body Department of Accounting, University of Waikato

The auditor’s role ... ...is to provide reasonable assurance that the financial statements are ‘True and fair’ and that they are free from material misstatement (ISA (NZ) 240) Department of Accounting, University of Waikato

The auditor shall identify and assess the risks of m aterial m isstatem ent due to fraud...(ISA (NZ) 240k p25) Department of Accounting, University of Waikato

That is, and according to the accounting profession, the role of the auditor is to ... evaluate fraud potential .... follow up suspicions of fraud .... communicate issues appropriately Department of Accounting, University of Waikato

... A view reluctantly (?) formed over time 1997: no requirem ent to look other than to ‘take into consideration risk...’, low er level of assurance on fraud 2003: Follow up suspicions em erging from ‘norm al’ audit evidence gathering procedures 2007: Plan, consider risks, discuss, design tests in response to know n risks.... Department of Accounting, University of Waikato

This is where the courts step in.. Department of Accounting, University of Waikato

How can a board structure themselves as to best prevent corporate financial fraud? Department of Accounting, University of Waikato

Relationships between Corporate Governance and Fraud in U.S. Listed Companies N I CO L A B U R K E , K A R E N V A N P E U R S E M , I A N E G G L E T O N Department of Accounting, University of Waikato

Governance ‘characteristics’ said to contribute toward corporate fraud protection...  Independence  Expertise  Communication practices  Their own relationships with the company By  Board sub-committees  Board member composition  Board communication practices  Shareholder representative characteristics Department of Accounting, University of Waikato

What was examined  519 U.S. Fraud-committing companies (2004-2006)  Data from SEC’s Accounting Enforcement Releases, official sites, corporate reports  Matched pairs reduces to refined sample of 152 fraud and no-fraud companies (76 each)  Regression to identify governance characteristics associated with fraud Department of Accounting, University of Waikato

Board Sub-Committee Characteristics and Communication Practices Audit committee member  numbers  Independence  financial expertise  meeting frequency  average tenure  (other) directorships held Nominating Committee  Existence  Numbers Department of Accounting, University of Waikato

Board member composition characteristics  Number of directors  Number of independent directors  Whether the chief executive officer is also a director  Ownership share by inside (and outside) directors Department of Accounting, University of Waikato

Shareholder representative characteristics  Outside blockholder ownership numbers and proportion * Auditor  Tenure  International firm (or not) * External to Board control Department of Accounting, University of Waikato

Tests applied:  Companies matched by industry, size, leverage, age, growth...  Univariate matched t-tests  Validating tests  Logistic regression What governance characteristics ‘accom pany’ the presence of fraud in these com panies? Department of Accounting, University of Waikato

Findings 5 characteristics significantly associated with fraudulent corporate financial statements include: Number of directorships held by (AC) directors 1. Smaller proportion of independent directors 2. Companies without a Nominating Committee 3. CEO who is also Chairman 4. That is.... Independence issues Department of Accounting, University of Waikato

Surprise finding #5 The only other significant correlation w as betw een the percentage of com pany ow nership held by outside blockholders and the presence of corporate financial fraud... Department of Accounting, University of Waikato

Findings as to the auditor? Neither the size of the firm nor their tenure proved to be significant to fraud practice. Limitation: We only examine select measures of auditor independence, other auditor independence studies may identify further issues Department of Accounting, University of Waikato

Implications Would be risky for the governing board to rely on the auditor alone to pick up instances of corporate fraud. Ambiguous guidance makes it difficult to anticipate responsibility, and the governing board may be in a stronger position to structure the company to help prevent corporate financial fraud Department of Accounting, University of Waikato

That is, w hile the auditors have a grow ing responsibility to ‘look’ for m aterial fraud, our findings suggest that potential for fraud prevention m ay lie in the structure (and independence) of the board. Department of Accounting, University of Waikato

Thank you! Department of Accounting, University of Waikato