Identifying Financial Reporting Fraud Using Internal Control and Internal Information Quality Constructs

ABSTRACT Financial reporting fraud (FRF) has significant consequences for free markets. We examine the relationship between Internal Information Quality (IIQ) and Accounting and Auditing Enforcement Releases (AAERs) and class-action lawsuits from 2005 to 2018. We propose that lower IIQ results in a higher likelihood of FRF and that filing speed has a convex relationship with FRF. We observe a positive relationship between the presence of material weaknesses and class-action lawsuits. The absence of restatements due to error decreased the odds of an AAER by 97.6 percent and of a class-action lawsuit by 80.1 percent. Each day a firm delayed filing financials, the odds of an FRF lawsuit increased by up to 3.3 percent. A convex relationship exists between filing speed and AAERs, with firms that file either faster or slower than the average having an increased probability of an AAER. We relate these observations to IIQ and provide recommendations for stakeholders. Data Availability: Data are available from public sources cited in the text. Code is available upon reasonable request. JEL Classifications: M41; M42; K22; G38; C25.