A Fish Rots from the Head Down: How Founders Lead Startup Fraud

Despite growing scholarly attention on entrepreneurial misconduct, little is known about how founders shape and sustain fraudulent practices through their influence over employees. Using an in-depth case study of Theranos—a fraudulent startup—we develop a grounded process model that explains how startup fraud is not simply the result of regulatory gaps or individual overreach but a multilevel embedded phenomenon. We provide insights into how founders shape employee responses to fraud in startups, eliciting both resistance and complicity. Employees, in turn, engage in a fluctuating moral evaluation process, oscillating between condoning and condemning fraud. We contribute to the literature on startup fraud by distinguishing it from fraud in established organizations, advancing a social process perspective on employee moral processes, and illuminating how founders enact multilevel influence mechanisms that embed fraud in startup contexts.