INCREASING FIRM VALUE THROUGH DETECTION
Strategic Management Journal
Strat. Mgmt. J., 24: 587–614 (2003)
Published online in Wiley InterScience (www.interscience.wiley.com). DOI: 10.1002/smj.330
INCREASING FIRM VALUE THROUGH DETECTION
AND PREVENTION OF WHITE-COLLAR CRIME
KAREN SCHNATTERLY*
Carlson School of Management, University of Minnesota, Minneapolis, Minnesota,
U.S.A.
White-collar crime can cost a company from 1 percent to 6 percent of annual sales, yet little is known about the organizational conditions that can reduce this cost. Previous governance research has examined the link between block holders, boards of directors, or CEO compensation and fraud. In this study, these traditional measures of governance are found to have little impact.
Instead, operational governance, including clarity of policies and procedures, formal crosscompany communication, and performance-based pay for the board and for more employees, significantly reduces the likelihood of a crime commission. Copyright 2003 John Wiley &
Sons, Ltd.
INTRODUCTION
The economic impact of fraud is immense. Estimates of the cost of white-collar crime to companies in the United States range from $200 billion
(Touby, 1994) to $600 billion per year (Association of Certified Fraud Examiners (ACFE), 2002).
This is massively greater than street crime losses of $3–4 billion (Baucus and Baucus, 1997) and total economic loss to victims of personal and property crimes of $15.6 billion (Bureau of Justice
Statistics, 1999). Fraud can significantly impact the financial performance of a firm as it can cost a typical company between 1 percent and 6 percent of annual sales (Hogsett and Radig, 1994;
Touby, 1994; ACFE, 2002). White-collar crime alone causes 30 percent of new business failures
(Agro, 1978), without regard to the quality of the firms’ strategy or assets.
Key words: fraud; crime; governance; internal control
*Correspondence to: Karen Schnatterly, Carlson School of Management, University of Minnesota, 321 19th Avenue South, Minneapolis, MN
Strat. Mgmt. J., 24: 587–614 (2003)
Published online in Wiley InterScience (www.interscience.wiley.com). DOI: 10.1002/smj.330
INCREASING FIRM VALUE THROUGH DETECTION
AND PREVENTION OF WHITE-COLLAR CRIME
KAREN SCHNATTERLY*
Carlson School of Management, University of Minnesota, Minneapolis, Minnesota,
U.S.A.
White-collar crime can cost a company from 1 percent to 6 percent of annual sales, yet little is known about the organizational conditions that can reduce this cost. Previous governance research has examined the link between block holders, boards of directors, or CEO compensation and fraud. In this study, these traditional measures of governance are found to have little impact.
Instead, operational governance, including clarity of policies and procedures, formal crosscompany communication, and performance-based pay for the board and for more employees, significantly reduces the likelihood of a crime commission. Copyright 2003 John Wiley &
Sons, Ltd.
INTRODUCTION
The economic impact of fraud is immense. Estimates of the cost of white-collar crime to companies in the United States range from $200 billion
(Touby, 1994) to $600 billion per year (Association of Certified Fraud Examiners (ACFE), 2002).
This is massively greater than street crime losses of $3–4 billion (Baucus and Baucus, 1997) and total economic loss to victims of personal and property crimes of $15.6 billion (Bureau of Justice
Statistics, 1999). Fraud can significantly impact the financial performance of a firm as it can cost a typical company between 1 percent and 6 percent of annual sales (Hogsett and Radig, 1994;
Touby, 1994; ACFE, 2002). White-collar crime alone causes 30 percent of new business failures
(Agro, 1978), without regard to the quality of the firms’ strategy or assets.
Key words: fraud; crime; governance; internal control
*Correspondence to: Karen Schnatterly, Carlson School of Management, University of Minnesota, 321 19th Avenue South, Minneapolis, MN
References: Abrahamson E, Park C. 1994. Concealment of negative organizational outcomes: an agency theory perspective. Academy of Management Journal 37(5): 1302–1334. Agro D. 1978. White collar crime: we cannot afford it! Government Accountants Journal 28(Spring): 53–57. Albrecht WS, Wernz GW, Williams T. 1995. Fraud: Bringing Light to the Dark Side of Business Alexander C, Cohen MA. 1996. New evidence of the origins of corporate crime Alexander C, Cohen MA. 1999. Why do corporations become criminals? Ownership, hidden actions and Almaney A. 1974. Communication and the systems theory of organization. Journal of Business Communication 12(1): 35–43. Anonymous. 1994. Ethics policies help reduce internal control costs Anthony RN. 1988. The Management Control Function. Arndt M, Bigelow B. 2000. Presenting structural innovation in an institutional environment: hospitals’ use of impression management Association of Certified Fraud Examiners. 2002. Fraud statistics web page Baucus MS, Baucus DA. 1997. Paying the piper: an empirical examination of longer-term financial Baucus MS, Near JP. 1991. Can illegal corporate behavior be predicted? An event history analysis. Beasley MS. 1996. An empirical analysis of the relation between the board of director composition and Beatty RP, Zajac EJ. 1994. Managerial incentives, monitoring and risk bearing: a study of executive Bell TB, Knechel WR, Payne JL, Willingham JJ. 1998. Bologna J. 1980. Motivated climate prevents white collar crime Bowman EH. 1984. Content analysis of annual reports for corporate strategy and risk Boyd BK. 1994. Board control and CEO compensation. Boyd BK. 1995. CEO duality and firm performance: a contingency model Bruns WJ Jr. 1968. Accounting information and decision-making: some behavioral hypotheses. Accounting Review 43(3): 469–480. Bureau of Justice Statistics website. 1999. National Crime Victimization Survey Buss D. 1993. Ways to curtail employee theft. Nation’s Business 81(4): 36–37. Coffey BS, Fryxell GE. 1991. Institutional ownership and dimensions of corporate social performance: an Daboub AJ, Rasheed AMA, Priem RL, Gray DA. 1995. Daft RL, Macintosh NB. 1984. The nature and use of formal control systems for management control Strat. Mgmt. J., 24: 587–614 (2003) Firm Value and White-Collar Crime DeFond ML, Jiambalvo J. 1991. Incidence and circumstance of accounting errors. Accounting Review 66(3): 643–745. Ettore B. 1995. An ounce of prevention. Management Review 84(4): 6. Fama EF. 1980. Agency theory and the theory of the firm. Fama EF, Jensen MC. 1983. Separation of ownership and control Fan X, Chen M. 2000. Published studies of interrater reliability often overestimate reliability: computing Fellner BS, Mitchell LL. 1995. Communication: an essential element in internal control Finkelstein S, D’Aveni RA. 1994. CEO duality as a double edged sword: how boards of directors balance