New York – A novel study approaches the prediction of financial statement manipulation not from traditional accounting-based models, but from psychology and deception detection research. FactSet Research Systems and Glass Lewis & Co., two of the independent research firms tracked by Integrity provided key material for this study.
Psychology and deception detection research find that the language of true narratives differs from the one of false narratives. David Larcher and his team at Stanford University analyzed the linguistic features in CEOs’ and CFOs’ quarterly earnings conference calls to identify financial statement manipulation.
Larcher’s report, titled Detecting Deceptive Discussions in Conference Calls, identifies trends in the language of deceptive executives:
“We find that answers of deceptive executives have more references to general knowledge, fewer non-extreme positive emotions, and fewer references to shareholders’ value and value creation. In addition, deceptive CEOs use significantly fewer self-references, more third person plural and impersonal pronouns, more extreme positive emotions, fewer extreme negative emotions, and fewer certainty and hesitation words”.
FactSet Research provided the electronic transcripts of quarterly conferences while Glass Lewis & co. provided the restatements used by the researchers. Using these documents the researchers created models to predict deception in financial statements.
Main assumptions in the study include that the executives under scrutiny know whether financial statements have been manipulated, and that they have not rehearsed the language used in the calls. Nevertheless, the authors express that “overall, our results suggest that linguistic features of CEOs and CFOs in conference call narratives can be used to identify deceptive financial reporting”.