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A Disposition-Based Fraud Model: Theoretical Integration and Research Agenda

Abstract

For several decades, most discussion on financial fraud has centered on the fraud triangle, which has evolved over time through various extensions and re-interpretations. While this has served the profession well, the articulation of the human side of the act is indirect and diffused. To address this limitation, this research develops a model to explain the role of human desires, intentions, and actions in indulgence of, or resistance to, the act of financial fraud. Evidence from religion, philosophy, sociology, neurology, behavioral economics, and social psychology is integrated to develop and support an alternative fraud model, called the disposition-based fraud model (DFM). To articulate the model, its two primary components, disposition and temptation, are further developed and extended. Although the DFM is generally applicable to any act of fraud, this paper focuses on executive fraud. The similarities and differences between the DFM and extant fraud models are discussed. Importantly, in light of the DFM, a re-interpretation of the fraud triangle is made to improve our understanding of the human element in it. Additionally, potential implications of the model for corporate governance are discussed, suggestions for further research are offered, and the DFM’s strengths and limitations are noted.

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Notes

  1. 1.

    Table 5 of the report (p. 14) shows that an overwhelming majority was composed of senior management, including vice-president, controller, CEO, CFO, and CEO/CFO.

  2. 2.

    This notion is supported by the studies suggesting tone at the top as a key fraud risk factor (see, e.g., Apostolou et al. 2001).

  3. 3.

    According to the New Testament, temptation approaches human beings in diverse ways and tries to motivate them to follow the voice of egoism and anxiety and strive for power and profit instead of listening to conscience.

  4. 4.

    According to Kennett (2001, p. 57), the craving provides a context in which the less desirable object becomes more attractive without the benefit of any supporting change in beliefs.

  5. 5.

    This state of stability is relative, not absolute, for at times there may be perfectly valid grounds for the agent to revise his intentions without breaking his resolve.

  6. 6.

    This analogy is made by Kahneman (2011).

  7. 7.

    The valuations of those who had no chance to ring the bell are the same as those of the control group that did not have to wait.

  8. 8.

    Thus, rationalizations aimed to avoid cognitive dissonance make the compromise feasible because they “endorse” the moral compromise as justified.

  9. 9.

    See Chapter 8 in Ramamoorti et al. (2013), for a detailed discussion on emotional manipulation in fraud.

  10. 10.

    Hume first published The Treatise of Human Nature during the 1730s.

  11. 11.

    For a discussion of disposition and its relationship with morality, see Raval (2013).

  12. 12.

    The classification, R(s) and R(t), in Raval (2013) is simplified here as P(E) and P(I), respectively, for ease of communication and recall.

  13. 13.

    Using an analysis of narcissism as an essential characteristic trait of CEOs by Kets de Vries et al. (1985), Amernic and Craig (2010). propose a somewhat comparable dichotomy: Constructive Narcissists and Destructive Narcissists. The former overlaps with P(E) and the latter, P(I).

  14. 14.

    Interestingly, other religions also point to the role of disposition. For example, Rumi (Baldock 2006, pp. 164–167) suggests this classification: Angels, Descendents of Adam, and Beasts, roughly comparable to the enlightened, passionate, and indolent disposition, respectively.

  15. 15.

    For a detailed discussion, see Raval (2013, pp. 5–6.)

  16. 16.

    I consider self-control and self-regulation as synonyms.

  17. 17.

    Kennett (2001) argues that the yielding to an urge results when “motivating reasons” outpace “normative reasons.”

  18. 18.

    Referring to Vedic scriptures, Sivananda (1954, p. 42) identifies two approaches to resist temptation: internally induced Dama (restraining the senses) and externally induced Sama (neglecting or withdrawing from the tempting stimuli).

  19. 19.

    The founder of the Jesuits, St. Ignatius of Loyola, writes in his widely known Spiritual Exercises (1548): I resist [an evil thought] promptly and it is overcome; the second I resist it, it recurs again and again and I keep on resisting until the thought goes away defeated.

  20. 20.

    Buddha described the discipline of moderation as madhyamarg, which translates as the middle road.

  21. 21.

    The use of the term ego in ego depletion is not clear. Ego in Sanskrit equates to Aham, or pride, which is a dispositional property of Swabhava, or one’s character.

  22. 22.

    Prison-Bound KPMG Ex-Partner Remorseful for Insider Tips, M. Rapoport, The Wall Street Journal, June 26, 2014, C3.

  23. 23.

    According to the 2014 ACFE Report to the Nation (p. 58), only 5 % of the fraudsters in their study had been convicted of a fraud-related offense prior to committing the crimes in their study.

  24. 24.

    In a verdict issued in the Federal Court in Manhattan, the jury found five former employees guilty of collaborating with Bernard Madoff in his Ponzi scheme: two computer programmers (Jerome O’Hara and George Perez), two portfolio managers (Annette Bongiorno and JoAnn Crupi), and operations director Daniel Bonventre. (Jury Finds Staff Aided Madoff Con, The Wall Street Journal, Tuesday, March 25, 2014, A1-2).

  25. 25.

    This trend seems pervasive in financial reporting fraud. During the period 1998–2007, the SEC named the CEO and/or CFO in 89 % of fraud cases for some level of involvement in financial fraud (Beasley et al. 2010).

  26. 26.

    See http://timesofindia.indiatimes.com/business/india-business/Full-text-of-Rajus-resignation-letter-to-the-Board/articleshow/3946538.cms?referral=PM, accessed May 5, 2014.

  27. 27.

    Zero tolerance for breakdowns in resolve would lead to strong frontline safeguards, but once these are broken, there is no further diligence imposed. Breaking the barriers, however well-guarded, could lead to the feeling that the resolve is no longer relevant. It is also likely that the person would lower the threshold on seeking feedback of further divergence, if any, since the breakdown has already been accepted.

  28. 28.

    An argument can be made, however, that greed drives the perception of short-term rewards as more attractive than long-term gains.

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Acknowledgments

I appreciate the helpful comments provided by Andrew Gustafson, Bev Kracher, Ed Morse, George MrKonic, Pamela Murphy, Sanjay Singh, James Weber, an anonymous reviewer, and participants of the roundtable/workshop at the Heider College of Business, Youth Leadership of Omaha, Creighton University Law School, and the Asian World Center, Creighton University. I also gratefully acknowledge the financial support received from the Heider College of Business and the Graduate School at Creighton University.

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Raval, V. A Disposition-Based Fraud Model: Theoretical Integration and Research Agenda. J Bus Ethics 150, 741–763 (2018). https://doi.org/10.1007/s10551-016-3199-2

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Keywords

  • Financial fraud
  • Disposition
  • Temptation
  • Self-regulation
  • Self-efficacy
  • Executive fraud