October 6, 2010

CAQ Releases Report on Deterring and Detecting Financial Reporting Fraud

~~Announces Collaboration with Financial Reporting Supply Chain Participants~~

Washington, DC – Financial reporting fraud is an ongoing concern for investors and other capital market stakeholders. While there is no silver bullet solution for eliminating fraud, a new report by the Center for Audit Quality (CAQ) concludes that increased collaboration and communication among members of the “financial reporting supply chain” can greatly advance efforts to lessen fraud risk.

The report, Deterring and Detecting Financial Reporting Fraud – A Platform for Action, is a key feature of the CAQ’s ongoing initiative to improve efforts to deter and detect financial reporting fraud. The CAQ announced that it has formed partnerships to collaborate on four initial work streams with three organizations representing participants in the financial reporting supply chain: Financial Executives International (FEI), the preeminent association for CFOs and other financial executives; The Institute of Internal Auditors (The IIA), the internal audit profession’s global voice; and the National Association of Corporate Directors (NACD), which is dedicated to advancing exemplary board leadership.

The report is the result of CAQ-sponsored roundtable discussions and in-depth interviews on the issue of financial reporting fraud at public companies. The discussions and interviews featured corporate executives, members of boards of directors and audit committees, internal auditors, and external auditors – the stakeholders that are participants in the “financial reporting supply chain” – as well as investors, regulators and academics, among others. The report offers the perspectives of more than 100 roundtable participants and related points to ponder, as well as insights gained from research and guidance on the topic of fraud.

The report defines financial reporting fraud as “a material misrepresentation resulting from an intentional failure to report financial information in accordance with generally accepted accounting principles.” 

The CAQ’s roundtable discussions identified three conditions, referred to as the “fraud triangle,” that typically are connected to financial reporting fraud: pressure or incentive, opportunity and rationalization. According to Michele Hooper, co-vice chair of the CAQ’s Governing Board, who led the initiative, “Dialogue participants consistently identified three themes for mitigating the fraud triangle: a strong, highly-ethical tone at the top that permeates the corporate culture; skepticism – a questioning mindset that strengthens professional objectivity on the part of financial reporting supply chain participants; and, strong communication among supply chain participants.”

“Those who took part in the discussions agreed that while supply chain participants work to deter and detect financial reporting fraud one company at a time, a collective sharing of ideas and resources could greatly advance efforts to mitigate financial reporting fraud,” CAQ Executive Director Cindy Fornelli explained. “The report will serve as a platform for future activities and we are delighted to be working with FEI, The IIA and the NACD. These organizations already are actively engaged in efforts to mitigate the risk of financial reporting fraud and have offered to leverage their experience and resources in an ongoing collaboration with the CAQ and other interested stakeholders.”

Initial efforts will focus on four areas:

  • Advancing the understanding of conditions that contribute to fraud
  • Developing techniques to enhance the application of skepticism
  • Moderating the risks of focusing only on short-term results
  • Leveraging the role of technology in deterring and detecting financial reporting fraud

“These four areas represent the beginning of a coordinated longer-term effort that will benefit investors and other users of financial reports,” Fornelli said. “Working together, we have an opportunity to be more effective in reducing the risk of fraud, which – if undetected – can result in a loss of confidence in our financial markets, as well as losses in shareholder value and, in some cases, the bankruptcy of the company itself.”

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The Center for Audit Quality (CAQ) is an autonomous public policy organization dedicated to enhancing investor confidence and public trust in the global capital markets. The CAQ fosters high quality performance by public company auditors, convenes and collaborates with other stakeholders to advance the discussion of critical issues requiring action and intervention, and advocates policies and standards that promote public company auditors’ objectivity, effectiveness and responsiveness to dynamic market conditions. Based in Washington, D.C., the CAQ is affiliated with the American Institute of Certified Public Accountants. For more information, visit www.thecaq.org.