Partners in White Collar Crime

Corporate fraud is usually blamed on deeply flawed people acting alone. Yet fraud is a far more social affair than managers or auditors may realize
Partners in White Collar Crime

The essentials

Organizational leaders, auditors, and fraud examiners tend to view corporate fraud as acts committed by solo offenders. Yet collusion is far more prevalent than acknowledged. Pamela Murphy, associate professor and E. Marie Shantz Fellow in Accounting at Queen’s School of Business, working with Clinton Free (University of New South Wales), paints a different picture. They show how the decision to co-offend is tied to the type of bond between co-offenders. In this conversation with QSB Insight, Murphy discusses how the social dimension of fraud holds the key to better understanding white collar crime, and why firms are more comfortable blaming a lone wolf rather than the organizational climate.

A Blind Spot in Fraud Research

In the areas of auditing and forensic accounting, conventional fraud research tends to focus on individual patterns of fraudulent activity. Although the commentary surrounding the major framework, the so-called fraud triangle (encompassing incentive, opportunity, and rationalization), mentions in passing the concept of collusion, the framework is primarily focused on the psychology of the individual perpetrator. 

I don’t think enough people even consider collusion or co-offending — that’s the first problem. Secondly, people still think of a fraudster as an inherently bad person. They don’t often think of people working together. Certainly very few seem to think that someone is brought in unknowingly or not quite fully grasping what they’re getting into. 

In the sociology literature and criminology, we know that criminal activity is learned from others. You’re recruited or already in a social group engaging in criminal activity. What we’re finding in our own work is in line with that research.

The reality is that in major accounting frauds or complex frauds, it’s unlikely that any one individual has the resources, access, and capacity to construct a sophisticated fraud without the assistance of others.

Getting Schooled in Prison

We went into our research not even thinking about collusion; we were focused on the fraud triangle. We conducted our study in three federal prisons in the U.S. that housed a high number of white collar criminals. We ended up interviewing 63 individuals convicted of a range of frauds, including financial statement fraud, insider trading, credit card fraud, money laundering, and asset misappropriation. In each case, the fraud was perpetrated by a group of two or more co-offenders. We had a series of pretty broad questions and followed their lead. In so many of the cases (almost 60 percent), they talked about how they involved other people in their fraud.

We realized that the social nature of fraud is not merely an incidental part of the crime but a potential key to understanding its distinctive features.

Three Faces of the Co-offending Fraudster

Our central finding is that the decision to co-offend in fraud is tied to the type of bond between co-offenders. From our research, we identified three types of bonds.

The first one, which describes most of the offenders in our study (21 of 37 participants), is called individual-serving functioning bonds. These bonds represent structural ties between individuals formed largely for the purpose of individual enrichment. For them, co-offending offers a more convenient, efficient, or less risky way to access fraud opportunities or criminal resources (private information or skills such as credit card technology production). In most cases, the fraud was suggested by one person with others following. 

In the second type — organization-serving functional bonds — co-offenders who share close social or work-related ties aim to enhance some dimension of organizational performance. A key pattern here is the presence of an organizational leader who encourages participation from others as well as walls of silence in which potential witnesses look the other way. The recruiter was often a charismatic CEO who appealed to the pride of followers. It starts slowly with accounting rules being interpreted aggressively, eventually turning into blatant fraud.

In the case of affective bonds, the decision to co-offend is borne out of a deep personal connection, such as marriage, intimate friendship, or kinship. Trusting behaviours reinforce these bonds and lead to indifference to regulation and outsiders. People got sucked into that out of loyalty to friends or family. Those are the saddest cases.

Workplace Climate Can Breed Fraud

I used to work for an organization that had ethical principles and policies in writing, and when I asked about them in the initial interview the managers were able to recite all of them. But when I started working there, I quickly realized that what they actually did was completely different than what they said they did. The organization was very decentralized and our small group had this climate that I didn’t know even existed elsewhere in the firm. Top management probably didn’t know. That got me thinking about different climates within an organization.

We recently completed a survey that looked at the role of instrumental climate in fraud. An instrumental climate is one in which the policies and procedures are geared toward either organizational benefits or personal benefits without concern for ethics. This climate is associated with a malevolent work environment, social incentives and pressures such as reputational concerns, and rationalizations that are primarily oriented toward others. 

It’s more challenging to think there’s something rotten at the core because the implications are more disturbing

Our survey included those we interviewed in prison in addition to fraud witnesses and auditors who investigated fraud within organizations. We found that 39 percent of the respondents said an instrumental climate was present when fraud was committed. We’re not suggesting that 39 percent of all fraud cases will involve an instrumental climate, but we do believe that an instrumental climate exists enough of the time to demand further attention. 

This is an insight that’s been largely overlooked in favour of the idea of ethically-challenged individuals pursuing opportunities. The notion of the lone gunman is a safer paradigm for organizations. You can just remove the lone gunman and then everything is fine. It’s a lot more challenging to think there’s something rotten at the core because then the implications are more disturbing.

What This Means for Executives, Auditors, and Researchers

Executives may think they’re setting the right tone but that’s not always the case. We found that this climate can exist in sub-groups within an organization, which is scary. While “tone at the top” implies one culture within an organization, our evidence suggests that organizational culture is often not pervasive and that there can be different sub-cultures within one organization. 

Organizational leaders or auditors can adapt the instrumental climate measure we developed for our survey into regular, anonymous surveys of employees. Results of these surveys could provide red flags for potential fraud and the opportunity to fix the situation before it gets out of control.

What might also help is training beginning at the very top and then all the way through the organization. Mandatory vacations with revolving role replacement and job rotations are good tactics to discourage collusion.

We believe the fraud triangle should be broadened to explicitly incorporate the concept of co-offending and instrumental climates. And we encourage practical research into how instrumental climates can be changed. For example, which policies or management actions have the greatest impact on organizational climate? 

Interview by Alan Morantz

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