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Fighting Fraud with Research

An Interview with Dr. Timothy Pearson, Executive Director of the Institute for Fraud Prevention



January/February 2010

2010-JanFeb-Tim Pearson 
Timothy Pearson, Ph.D., CPA, executive director of the Institute for Fraud Prevention, is dedicated to furthering the fight against fraud and corruption through research.

How can we deter fraud if we don’t understand it? The Institute for Fraud Prevention is supporting research to find the root causes of fraud and offering businesses and government tools for deterrence and prevention.

 

 

 

You fight fraud by gathering evidence on a suspect, compiling a report, giving your findings to law enforcement, possibly aiding in the prosecution, and then maybe seeing a conviction. But during the whole time, you might not really discover the deeper causes of that fraud. There’s little research, beyond the ACFE Report to the Nation and some business’ survey reports, to give you any idea of how that crime fits into the bigger picture of fraud in your community, your region, your country, or the world. How can we properly deter fraud if we don’t understand it?  

The Institute for Fraud Prevention (IFP) wants to change all that. 

ACFE founder and Chairman Joseph T. Wells, CFE, CPA, began the IFP in 2006 in consultation with the University of Texas at Austin and in conjunction with the American Institute of Certified Public Accountants.  

“The institute is a coalition of industry leaders, law enforcement agencies, and academic institutions all working in concert to support multidisciplinary research and education on the prevention of fraud and corruption,” said Timothy Pearson, Ph.D., CPA, executive director of the IFP. Pearson is also director of the Division of Accounting in the West Virginia University College of Business and Economics in Morgantown.  

“The IFP’s goal is to improve the ability of business and government to combat fraud and corruption,” Pearson said. Through the financial support of its contributing members, which along with the ACFE and AICPA include Grant Thornton LLP and Deloitte Financial Advisory Services LLP, the IFP has committed more than $200,000 toward fraud-related research.  

“With new contributing member BNP Paribas joining the IFP (see article, "IFP Helps Arm Business and Government with Fraud-fighting Tools," below), we expect to continue to expand our research funding efforts while building a global consortium of universities and anti-fraud experts that will serve as a global storehouse for fraud-related knowledge,” Pearson said. 

“Despite the enormous scope of the problem, relatively little academic research has been conducted on the costs of fraud; root causes; or effective methods to identify, deter, and prevent it,” he said. “The IFP wants to help correct this problem.” 

Why is it important the IFP exist? Why does the anti-fraud profession need a proponent and depository of research? 

Despite the tremendous impact fraud and corruption have on our economy, there is little research available on the costs of fraud, how it occurs, and why. Similarly, there is no repository for gathering, storing, and disseminating fraud-related research findings and descriptive statistics. The IFP’s primary goal is to develop our understanding of the causes and effects of fraud by serving as a catalyst for the exchange of ideas among top anti-fraud practitioners, government officials, and academics. The IFP fulfills its mission in two ways. First, member organizations support research by selecting projects and providing funding, guidance, and data that will help us better understand fraud with a long-term goal of reducing its incidence and effects. Second, our mission is to provide independent, nonpartisan expertise on anti-fraud policies, procedures, and best practices. 

Why do you think that in the past, relatively little fraud research had been conducted? Was it due to lack of grant money for nonviolent criminal research? 

A lack of funding and institutional and public support is certainly part of the problem, but a more significant problem is a lack of data to study. Publicly available data concerning financial statement fraud has sparked some excellent research by academia. However, apart from the periodically updated ACFE Report to the Nation, data on occupational frauds, corruption, and nonpublic company financial statement fraud is generally not available. Further, fraud is inherently a personal choice. Many persons face the same challenges as fraudsters, but only a small portion of those persons turn to illegal acts. Thus, the sociological, psychological and criminological aspects require study and getting subjects for these types of studies is a challenge. 

Can you give reasons for the necessity of basic research (in addition to a common body of knowledge) behind any established discipline? 

This is a challenging question. The desire for knowledge drives researchers. Practitioners have pressing business problems to solve so the luxury of reflection and analysis is not often feasible, nor is there a convenient way for practitioners to share experiences and knowledge in a rigorous way. In my opinion, what makes basic research so valuable is it reveals insights that are too difficult to casually observe. Persons with expert insights learn from experience. In professions there can exist a schism between practice and academia. At IFP we hope to bridge the gap by 1) promoting perhaps what might be described as a more “applied” focus in both research and education and 2) by encouraging collaboration between academics and practitioners. One way we tried to attack this problem is to solicit white papers on research opportunities in fraud to draw in the academic community. 

Why is it important that businesses worldwide step up and become Contributing Members of the IFP? How would they inquire about doing that? 

Well, I am very biased about this. To ask hard questions we need to have more research done. Without funding and data, smart researchers will only work on problems they can examine. One problem is that people don’t like to acknowledge or disclose fraud. Can you imagine what the Internet would be like if organizations didn’t pull together to address viruses and security?  

We have a similar problem with fraud, but it’s a hidden problem. If we can get organizations to share their experiences and provide resources to examine their experiences in a rigorous way then maybe we can stop fraud before it happens. Perhaps we can stop enough to spare some of the horrible consequences. 

We are beginning to explore other types of membership opportunities that would allow organizations or individuals to provide us with their time, data, or perhaps a modest financial contribution to help in our efforts. 

What can fraud examiners do to support the IFP? Why is the IFP important to a fraud examiner who works not in academia, but in the trenches? 

CFEs can help the IFP by thinking of ways academia can address their questions. Academics sometimes get a bum rap because they are perceived to work on theoretical projects as opposed to practical or applied research. I don’t think these are mutually exclusive. Academics’ research methods can help to develop testable hypotheses and then examine the data for evidence supporting the theory. Perhaps the research could simply describe the problems CFEs face that will help continue to refine common definitions of fraud schemes to help communication between them and academics.  

Can you specifically describe some examples of how an anti-fraud practitioner might be able to use IFP research results? What are some good ways of disseminating this information to fraud examiners? 

We have focused on projects that have an impact on practice and education. In a recent research study, two IFP researchers teamed up with a representative from LexisNexis to identify the costs and examine best practices in frauds arising from identity theft. This research should help smaller financial institutions around the United States and perhaps around the world to perform a self-study to identify weaknesses in their own systems of deterrence and prevention. Those identified weaknesses become an opportunity to improve their own operations and customer service as well as reduce operational costs. 

One ongoing project is attempting to find personality characteristics of individuals who might be more prone to taking shortcuts to achieve outcomes under pressure. If such a screening tool could be developed, then it might lead to a means to avoid putting persons who are sensitive to pressures in positions of authority where they may be more likely to commit fraud. 

The U.S.’s Financial Crisis Inquiry Commission (some of whom are CFEs) is just beginning its investigation into the frauds that could have helped cause this latest recession. Will the IFP be requesting research proposals to academically research these same causes? Do you think the IFP will be involved with the commission at some level? 

The commission’s work will be critical to uncovering the dynamics that drove our economic meltdown. The IFP board will be meeting to discuss ongoing research, new research projects, and setting research priorities for the future. We are open to a dialogue with the commission to see where the skill sets of academic researchers can help untangle some of the intuitive assertions. 

What other plans are in the works for the IFP? What are your aspirations for the future of the institute?  

We are constrained by having an entirely volunteer board and administrative structure. My hope is that in the future, when a new fraud scheme is uncovered or when a highly effective anti-fraud practice becomes known, The IFP can serve as a resource to promote best practices. Similar to the way the Computer Emergency Response Team responds to new computer viruses, I hope the IFP can be the trusted conduit for disclosure and dissemination of anti-fraud solutions. 

What excites you about leading the IFP? What is your philosophy on anti-fraud research? 

I have always been interested in issues that I would describe as “incentives and conflicts of interest.” My dissertation looked at issues of public accounting providing auditing services and consulting for the same clients. More recently, I have been interested in issues of identity, trust, and privacy in networked environments, so a natural question is “How do we protect identities and prevent fraud online?” At my university, West Virginia University, we began focusing on forensic science and related areas almost a decade ago, and as a part of that effort we also have moved into the business issues surrounding fraud and forensics. We are conducting research and offering courses dealing with fraud, financial crimes, and forensic accounting. As the IFP’s executive director, I hear from academics and anti-fraud professionals about what they are interested in, and I find that fruitful collaborations often spring from the networks we can build through attending meetings, sharing research ideas, or posing questions. For example, we were able to help one set of researchers begin a dialogue on obtaining subjects for a study on the collaboration of external auditors with their forensic accounting colleagues when assessing fraud risks. We also have a psychiatrist collaborating on a project to help us understand the kinds of information that can be gathered to describe “riskier” types of managers – those who are willing to take greater chances at the expense of the company’s benefit. Also, when we work with organizations like LexisNexis we can participate in their thought leadership position papers. 

How can higher-education, anti-fraud students become involved with the IFP’s efforts? 

Clearly, doctoral students can tailor their dissertation work to focus on fraud issues. We have supported two master’s students at WVU who helped with the IFP’s administrative task. In the future, the IFP might support graduate education as the National Science Foundation does for science and engineering. 

How can the IFP expand its international scope? 

We have academic partners in Australia and Europe. We are fortunate to have BNP Paribus as a large international financial institution on our board. Anywhere there is fraud and corruption, the IFP can help through research and education. As we grow, more of our research will naturally be international in scope and attract interest from abroad. In some cases, we have begun to talk with interested academic and potential contributing partners we’ve met at the ACFE’s annual conferences or through other referrals or inquiries. Our goal is to continue to dialogue with parties from across the globe. For example, I traveled to Bahrain and the United Arab Emirates last summer to meet with several organizations interested in reducing fraud and anti-fraud education. Longtime ACFE member, Sri Rammamorti, who has served on the IFP board, accompanied me. Our board members and intellectual partners serve as a vital source for new partners. 

The IFP has provided many grants to research projects. What is the IFP board’s determining factors in awarding the grants? 

While I cannot speak for the individual board members, the process is to ask researchers to submit projects that matter to people in the trenches. Why do people commit fraud? Are there any predictive behaviors or transactions that can help? That is, can the series of business transactions, which in isolation appear quite normal, reveal a developing fraud scheme? 

Potentially fruitful IFP research projects include the disciplines of accounting, law, psychology, sociology, criminology, intelligence, information systems, computer forensics, and the greater forensic science fields. Contributing member organizations commit $40,000 annually for three years and their representatives meet biannually with IFP members, intellectual partners, and researchers to select research projects for funding, evaluate ongoing research progress, and interact with anti-fraud professionals. 

The biannual IFP meetings serve as opportunities for members and researchers to interact for three main purposes: reviewing the results of completed projects, reviewing the status of ongoing projects, and listening to proposals for new projects. At the conclusion of each IFP meeting, the members evaluate the results of all three sets of presentations. Generally, the members are looking for proposals and research that has practical anti-fraud applications, while maintaining a commitment to academic rigor. 

You presented at the recent IFP biannual meeting some of the preliminary results of research on which you collaborated, “Best Practices in On-Boarding New Accounts for Financial Institutions – Preventing Identity Fraud and Money Laundering.” Can you briefly describe the results? 

This is part of a series of IFP’s collaborative projects with LexisNexis. We’re beginning to focus on identity theft prevention by analyzing personally identifiable information (PII) from individuals attempting to open new accounts in financial institutions. After we gather the PII in real time, we can pinpoint suspects. We then conduct more due diligence before exposing the individuals and the financial organizations to fraud. In our follow-up projects, we will look at best practices in internal processes within financial organizations that could improve efficiency and effectiveness and reduce the costs of fraud prevention monitoring and minimize losses. 

Can you give an update on the IFP’s plans to publish Fraud and Society: An International Journal of Fraud Studies? Can you describe the purposes of the journal? 

Fraud and Society: An International Journal of Fraud Studies will be the official publication of the IFP. The journal will be designed to disseminate timely, widespread fraud research to the anti-fraud and financial forensics academic and practice communities. The journal will be devoted to advancing the dialogue between academics and practitioners on current issues (e.g., new opportunities and challenges, emerging areas, global developments, effects of regulation or pronouncements, and effects of technology) facing the fraud examination and financial forensic communities. We have an outstanding proposal from an international publisher that focuses on forensics to help produce the print and online versions of the journal. We hope to get a favorable arrangement worked out soon. The editorial staff will include faculty from WVU, our academic partners, and the publisher. 

The journal will define “fraud examination and financial forensics” broadly to include the disciplines of accounting, finance and other business areas, law, psychology, sociology, criminology, intelligence, counterfeiting, information systems, computer forensics, and the greater forensic science fields as they relate to fraud, corruption, abuse, and financial crimes.  

The journal will also recognize a multifaceted group of constituents including corporate and industry stakeholders, professional services providers, law enforcement, the legal community, government and regulatory stakeholders, professional organizations, and academics specializing in fraud and financial forensics. The journal’s primary goal will be to communicate our understanding of the causes and effects of fraud, corruption, abuse, and financial crime by serving as a catalyst for the exchange of ideas among top practitioners, government officials, and academics. 

Dick Carozza is editor-in-chief of Fraud Magazine. 

 

Institute For Fraud Prevention Seeking Partners At All Levels 

The Institute for Fraud Prevention continues to seek new members as it expands its scope, according to Timothy Pearson, Ph.D., CPA, executive director of the IFP.

“We’re seeking additional financial partners [Contributing Members] to serve on the IFP board,” Pearson said. “And we’re always looking for new Intellectual Partners plus academic members for our IFP Research Consortium.” (For a list of all current partners, see “IFP Helps Arm Business and Government with Fraud-Fighting Tools” below.) 

“If your organization is interested in serving on the IFP board as a Contributing Member, you will help determine the IFP’s research priorities and be influential in future directions,” Pearson said. 

“Each IFP Contributing Member agrees to pledge $40,000 per year for a minimum of three years,“ he said. “The board is also considering other avenues of funding and support for the IFP. Smaller pledges and investment of time or sharing of data are also of great value to helping the IFP pursue its mission.“ Individual ACFE members are also encouraged to financially support the IFP. 

For ways to be involved and applicant information contact Pearson. Visit the IFP Web site to learn more. 

 

IFP Helps Arm Business and Government with Fraud-fighting Tools

The Institute for Fraud Prevention (IFP) is the first multidisciplinary research center specifically focused on the study of fraud and corruption, so it plays a critical role in helping arm business and government with the tools to combat these crimes, according to Timothy Pearson, Ph.D., CPA, the IFP’s director.  

Grant Thornton joined the IFP as a contributing member in 2007, and Deloitte Financial Advisory Services followed suit in 2008.  

“Both institutions have not only provided significant financial support to the IFP, but they have also provided critical thought leadership in helping to shape our research agenda,” Pearson said.  

BNP Paribas, the largest French company and fifth-largest banking institution in the world, joined in 2009. 

Since its inception, the IFP has aligned itself with university partners and respected anti-fraud researchers. Its first executive director was William Black, J.D., Ph.D., associate professor of economics and law at the University of Missouri-Kansas City (UMKC). A well-recognized anti-fraud scholar, Black’s research focused on “control frauds,” schemes in which executives or political leaders use their organizations as financial weapons. Black was executive director from 2006 to 2007 when the IFP was housed at UMKC through a collaborative agreement with the university.  

In addition to its funding members, the IFP derives support and guidance from two other principal constituencies: its intellectual partners and its University Research Consortium.  

“One of the core beliefs of the IFP is that any serious approach to fraud prevention must be holistic,” Pearson said. “That is, we cannot look at fraud simply as an accounting problem, but rather we must examine it from the perspective of many disciplines: psychology, criminology, law, sociology, accounting, and business administration to name only a few.  

“When seeking out input on the need for fraud-related research, we should not limit our perspectives to those of the business and accounting world.” he said. 

The IFP has sought out key law enforcement agencies, regulators, and established anti-fraud associations to serve as intellectual partners.  

“These entities play a critical role in guiding our research funding efforts by providing insight into law enforcement priorities, current or looming threats, and general fraud-related topics of concern that merit study,” Pearson said.  

The IFP’s current intellectual partners include the: 

• U.S. Federal Bureau of Investigation 

• U.S. Government and Accountability Office 

• U.S. Postal Inspection Service 

• National White Collar Crime Center 

• U.S. Department of Labor 

• U.S. Bureau of Alcohol, Tobacco, Firearms and Explosives 

• U.S. Secret Service 

• Council of Better Business Bureaus  

The third constituency of the IFP is its Research Consortium – universities that have historically supported fraud-related study and research:  

• West Virginia University 

• Brigham Young University 

• Australian National University 

• University of National and World Economy 

• University of Tennessee 

• North Carolina State University 

• St. John’s University 

• Saint Xavier University 

• Northeastern University 

• University of Central Florida 

• University of Alabama 

• Loyola University of Chicago 

• Kennesaw State University 

• York College 

• Utah State University  

“These institutions provide access to, and institutional support for, top anti-fraud researchers,” Pearson said. “These researchers, in turn, not only produce the research that IFP funds, but they also work with our funding members and intellectual partners to recommend topics for additional studies, outline the most effective methodologies for yielding useful information, recommend need for access to data or research subjects, and identify qualified academics and researchers to conduct the studies.” 

 

Institute for Fraud Prevention Sets 2010 Research Priorities 

According to Timothy Pearson, Ph.D., CFE, CPA, executive director of the IFP, the institute has several potential areas of inquiry for this year:  

1) A meta-data analysis of industry frauds  

Fraud at the industry level has been studied anecdotally and presented in various reporting formats. The IFP believes that a longitudinal “meta-data” analysis of industry reports conducted by academics and practitioners would provide valuable insight. The research study should include repeated observations of the same items over long periods of time (longitudinal) and then researchers apply meta-analysis to systematically combine the results of several studies that address a set of related research hypotheses. The analysis should include – to the extent possible – long-term trend data and possibly the correlation of industry frauds to economic conditions. Industries could include: health-care, banking, financial services, insurance, securities, consumer lending, public sector, contract/procurement, and bankruptcy and tax fraud. 

2) Small business fraud 

The U.S. economy relies substantially on small businesses. Prior research suggests that small businesses are disproportionately affected by fraud including financial reporting fraud, asset misappropriation, and corruption. The IFP is seeking research proposals that would help participants in the small business marketplace better understand the types of frauds that plague smaller companies and the impact of those frauds. The investigation should also address how small business could prevent, deter, and detect fraud as early as possible.  

One possible research strategy is to look at small business failures associated with U.S. Small Business Administration loans, noting whether fraud caused the business failure and if owners/managers committed fraud during the application process for loans when operating the business and/or during the bankruptcy process. The Bankruptcy Almanac might be another source of data for an examination of small business frauds. 

3) An investigation of e-mail/instant messages as a form of audit evidence 

Investigators use e-mails to provide evidence of the fraud act, concealment, and conversion; document intent, opportunity, and motive; and to bridge other investigative gaps. E-mail is so important to the litigation process now that the United States has passed e-discovery laws that require companies to retain and provide e-mail and other electronic evidence during civil lawsuit adjudication.  

E-mail communications have been successfully used in some industries to monitor or audit activity. For example, the U.S. Securities and Exchange Commission and the Financial Industry Regulatory Authority monitors securities traders for illegal trading activities. The IFP is seeking an objective and reasoned analysis of the potential benefits, strengths, weaknesses, and concerns with internal and/or external auditors having access to e-mail during the audit process. Further, is there an effective and efficient method for internal and/or external auditors to monitor/and or “test” e-mails for evidence of potential major fraud such as financial statement fraud (for instance, by monitoring or searching for certain e-mail traffic or language patterns)? The analysis should consider not only company-based electronic communication – including instant and text messaging – but also personal communications channels and devices. 

4) An investigation of interviewing as a form of audit evidence 

Interviewing is a critical investigative tool. Investigators also use interrogation techniques, or admission-seeking interviews. Interviewing, in the form of depositions, is also important in the civil litigation process. The accounting profession is expending additional resources to prepare auditors to conduct effective interviews including training on detecting deception. The IFP is seeking an objective and reasoned analysis of the benefits, strengths, weaknesses, concerns, and the role of interviewing in the audit process. 

5) An investigation of adding personnel with fraud examination and financial forensic skills to audit teams 

Much discussion has centered on the incorporation of “fraud specialists” as part of the audit team. Some firms have already chosen to make anti-fraud professionals an integral part of audit teams, whether through direct employment, consulting engagements, or on an ad-hoc basis to react to suspicions of material misconduct. The IFP is seeking an investigation into the ways in which forensic professionals are included in audit engagements and their relative effectiveness in detecting fraud or resolving allegations. The results of the study should include an objective and reasoned analysis of the potential benefits, strengths, weaknesses, and concerns that auditors and fraud specialists might have in incorporating forensic professionals as part of engagement teams. 

6) An investigation into motivation of fraudsters 

Little research exists on the dimensions comprising the fraud triangle (or diamond). The IFP is particularly interested in research projects that address fraudsters’ motivations and how personality traits, intelligence, and culture, for example, motivate trusted parties to commit fraud. Do the same motivations apply to all types of fraud or do they differ especially for financial statement fraud? 

7) The Business Case and Return on Investment of anti-fraud controls and related measures 

Conventional wisdom says that organizations often won’t invest resources in fraud prevention and anti-fraud controls. This “Business Case” project should address the measurement issues in prospectively valuing the cost and benefits of anti-fraud controls in a variety of settings. The methodology should lead to a Return on Investment estimate and a Business Case, which can be generalized across business processes and industry settings. 

 

IFP Headquarters at West Virginia University

Timothy Pearson is a busy man as he juggles his two positions: executive director of the Institute for Fraud Prevention and director of the Division of Accounting at the West Virginia University (WVU) College of Business and Economics in Morgantown. Pearson’s research includes the use of data analytics in fraud prevention and detection, identity fraud prevention, the psychology of fraud, and the role of external auditors in monitoring and reporting on fraud.  

Under Pearson’s stewardship, the IFP in 2008 entered into an affiliation with West Virginia University, which currently houses IFP headquarters. Richard Riley, Ph.D., CFE, CPA, Louis F. Tanner Distinguished Professor of Public Accounting in WVU’s Division of Accounting, is the IFP’s informal director of research.  

WVU is widely recognized as a leader in fraud and forensic accounting education. In 2004, faculty from WVU’s Division of Accounting developed the national model for a fraud and forensic accounting curriculum under a grant from the National Institute for Justice. For four years, the division has hosted the annual International Fraud and Forensic Accounting Education conference to support the development of research and educational innovations in the field. 

 

 

 

 

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