Executives Implicated in Financial Reporting Fraud and Firms’ Investment Decisions

This study examines the impact of executives implicated in fraud on firms' investment decisions using AAERs in the US, aiming to address the underexplored aspect of rationalization within the fraud triangle. Executives implicated in fraud often display abnormal attitudes to justify accounting irregularities, prompting an investigation into how abnormal investment decisions are used for rationalizing fraud, given their critical role in a firm's long-term sustainability. Analysis of AAERs spanning from 1981 to 2013 reveals that implicated executives, particularly CEOs and CFOs, tend to make abnormal investment decisions, and that collusive fraud exacerbates this behavior. Notably, such executives lean towards overinvestment, particularly in R&D expenditures, to hide or justify fraud; the duration of fraud amplifies its impact on investment decisions. By shedding light on the rationalization aspect of the fraud triangle, this research contributes valuable insights for investors, regulators, and academia emphasizing the significance of public disclosure of fraud to enhance transparency in capital markets and the importance of ethics-focused education in accounting to prevent corporate fraud.