Excessive CEO ego is the biggest warning sign that a company may commit fraud, according to a new study.
“In gathering the financial and non-financial data on these cases, we found kind pattern emerging,” said Michel Magnan, an accounting professor at Concordia and one of the three researchers who wrote the study. “Most of these companies had two attributes: They were essentially market darlings, that is most of these companies were really liked by financial analysts, they had very positive revues,” he said.
“The other angle is that these companies were much in the public eye, in terms of getting media attention.”
The attention, Magnan said, is what can start the problems.
“At some point CEOs might start believing their own press.”
The study examined 15 Canadian companies the Ontario Securities Commission had ordered to stop trading because of fraud.
Accountants, auditors and regulators have largely ignored the role played by excessive ego, or hubris, according to the study.
The researchers also found most firms that engage in fraud have unusual business models.
The study pointed to one business model that was particularly difficult to understand.
Though the company, Mount Real, does describe its business in a paragraph, the description will probably only leave an outsider scratching their head, said one of the researchers. As an added bonus, the company claimed to have annual revenues of over $100 million, more than 20 times their actual sales.
Most of the firms studied also had higher values on the stock market than they were actually worth, according to the study.
The study also looked at Cinar Corp., a Montreal-based company that developed children’s television programs.
According to Magnan court rulings in the Cinar case has backed up their findings. A recent judgement in the Cinar case, which saw animator Claude Robinson awarded over $5 million for copyright infringement and rendered after the study was written, describes the company’s management in similar terms to the study. In addition to copyright violations, Cinar, had previously been found guilty of tax fraud and investing over $120 million without the consent of the company’s directors.
Magnan co-wrote the study, which has not yet been published, with Denis Cormier of Université de Québec Montréal and Pascale Lapointe-Antunes of Brock University.
According to Magnan, ego is the main factor that led successful executives to risk their reputations, and in some cases their freedom. In almost all the cases studied the executives who committed the fraud ended up losing all the money they had made with their companies, both legally and illegally.
“They believed they could do anything without getting caught,” he said.
Magnan said the key to preventing fraud in a company lies in the hands of the board of directors. He suggested boards look at the company’s overall strategy and ensure it is based on facts and evidence.
He also said board members should meet with other executives and not just the CEO. “If the CEO is surrounded by yes men, that’s a bad sign,” said Magnan.