Does fraud and ethics training improve the quality of companies’ annual reports?

Dr. Domenico Campa addresses this question in his research entitled ‘Regulatory enforcement and the effectiveness of fraud training: A European investigation into earnings manipulation’.

Accounting scandals worldwide

Well-known accounting scandals around the world (e.g., Worldcom, Enron, Barings, Lehman Brothers, Parmalat and Gowex) have placed managers’ and employees’ ethics, corruption and attitudes towards frauds under severe scrutiny. As frauds were the deliberated actions of managers (e.g., Parmalat, Gowex) and of employees (e.g., Barings), the issue is relevant to all levels of companies’ hierarchies.

National legislators and market regulators increased their monitoring over companies after such events by updating commercial laws and revising almost all corporate governance codes with an increasing emphasis on the independence of directors, employees’ ethics, and internal and external monitoring. Companies responded with the implementation of policies against corruption and frauds that can be found commonly and explicitly in an increasing number of firms’ voluntary disclosure now.

Different evidence

Some empirical studies indicate that ethics training programs generate positive effects on employees’ behaviour while others find that such effects are only temporary or even absent.

Why such different evidence?

Effects of firm level actions cannot be analysed without considering institutional settings

A strong legal enforcement can complement firm-level features and amplify their effectiveness. However, strength of legal enforcement and firm-level features may be substitutes. The findings from a sample of companies listed in France, Germany, Italy, Spain and the UK, show that the presence of fraud training does reduce financial statement manipulation, both considering all countries together and, on average, when countries are analysed separately. The effectiveness of fraud training is amplified when the regulatory enforcement is weak. A substitution effect between firm-level best practices and country-level regulatory enforcement exists.

Resources invested in ethics training generate benefits

Resources invested in ethics training generate benefits, at least in terms of reduced financial statement manipulation. Research results motivate managers and employees operating in contexts with a weaker regulatory environment to increase their firm-level best practices.

National authorities should encourage firms operating in countries with weaker institutions to implement firm-level best practices that compensate for regulatory enforcement deficiencies. Overall, the findings underline the importance of firm-level initiatives aimed at improving the quality of companies’ behaviour, especially when the institutional setting in which they operate is weak.

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If you are interested in more details concerning the research please feel free to contact: dcampa@inseec.com