What are fraudulent financial reports and why do they exist?

Fraudulent financial reporting is a deliberate misstatement or omission of financial accounting information intended to deceive the investors.

The reasons for fraudulent financial reporting includes (a) pressures from owners, creditors and the markets in general; (b) opportunities for fraud (due to lack of emphasis on business ethics),  (c) incentives and personal conflicts of interests.

Measures designed to prevent fraudulent financial reporting include external auditing, independent board of directors, active regulators, vigilant capital markets and overall ethical corporate culture.

Fraudulent financial reporting takes place in the context of earnings management. The management changes the accounting policies, or the way estimates are calculated with the intention to improve the firm’s results.

Fraudulent financial reporting occurs due to:

personal incentives

pressures from the market

lack of ethics

deliberate compliance with the projections of financial analysts

attempts to affect the price of stock

Fraudulent reporting can be controlled with external auditing, regulations and an independent board of directors. However, an ethical corporate culture is the main prerequisite for fair financial reporting.

 

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