Auditing standards prescribe that the auditor should consider client management’s attitude toward fraud when making fraud risk assessments. However, little guidance is provided in the auditing standards or the existing fraud literature on observable indicators of fraud attitude. One of these indicators is narcissism, a personality trait linked to unethical and fraudulent behavior.
Based on an experiment in which information about and from the CEO is manipulated, the researchers proof that narcissistic client behavior and fraud motivation are significantly and positively related to auditors’ overall fraud risk assessments.
The implication of this study could be that more emphasis is in a audit planning stage on potential risk enhancing characteristics of client’s management. Is it for example possible to detect narcissistic traits based on observation of information from the company and interactions with managers, and more specifically, board members?
Eric N. Johnson, John R. Kuhn Jr., Barbara A. Apostolou, and John M. Hassell (2013) Auditor Perceptions of Client Narcissism as a Fraud Attitude Risk Factor. AUDITING: A Journal of Practice & Theory: February 2013, Vol. 32, No. 1, pp. 203-219. https://doi.org/10.2308/ajpt-50329
Expert Opinion Jim Emanuels
This research is innovative to the extent that it proves that auditors are able to take characterological features of organizational leaders into account in their risk judgement and would actually perceive an increase in audit risk if these leaders demonstrate behavior that can be labelled as narcissistic. The findings are in line with Judd et al (2017), who conclude that organizations with a CEO narcissism face higher audit fees, indicating that more work has to be done, and/or that auditors incorporate risk premiums in their fees for these clients.
In the Harvard Business Review, Tomas Chamorro-Premuzi observes an increase in narcissistic CEO’s, caused by “our admiration for charismatic leaders” that comes at the price of perpetuating the proliferation of narcissistic leaders. While in the end often ineffective, costly and destructive for any organization, the inflated reputation of success and overconfidence of some CEO’s may actually boost the confidence of employees, stakeholders and business partners for a while.
Patrick Wright in HRMagazine, reports research that confirms the “host of dysfunctional outcomes” caused by CEO narcissism. At the same time his study shows a brighter picture overall as only 5% of the CEOs could clearly be classified as narcissists and the majority was found to be more likely humble than narcissistic.
The problem for the auditor however, is that since he or she cannot be sure of the existence of narcissism, the risk of a false negative of 5% is still very high. The auditor should not trust on the ethics and reasonable behavior of the CEO, when in fact 5 of every 100 CEO’s are narcissists who manipulate their employees and are reluctant to present less than favorable business outcomes in financial reports. This would imply that auditors better start with the assumption that CEO’s may be narcissist, which would increase the cost of the audit.
Another thought would be to train auditors in observing and assessing specific features of behavior and communication that give away the real personality of the CEO. Is it possible to recognize a narcissistic CEO? Well, you never can tell for sure, but here are some clues.
Firstly, there is a standardized instrument used in psychiatry, that indicates narcissism (the NPI-16). You can either explicitly ask the CEO to take the questionnaire or assess with your team what you believe the score of the CEO would be. This may provide you a first indication. The reason you could try just asking the CEO more or less if he thinks he is a nracist is that narcissists tend to be honest hon ow good and great they are (this may sound familiar in the recent debate about some political figurs in the global arena…). And if you are really a daredevil you may try to criticize the client and observe his (most narcissists are men) response.
Second, in terms of communications, there is evidence that narcissistic CEO’s tend to communicate verbally and in writing (for example in press releases) using the first person singular (“I” and “me”). Thirdly, pictures of narcissistic CEO’s tend to show them alone, standing out, and on a full page rather than moderately sized. At the same level, signatures of narcissistic CEO’s tend to be long and winding (expressing and signaling their importance). All of this is based on research…and this research (for example Johnson et al, 2012) shows that auditors are already to some extent capable to distinguish between clients' managers, based on the characteristics mentioned.
Furthermore, it is interesting to see whether the organization itself can have features that mitigate the negative influence of a CEO, such as strong and independent supervisory board (non-executive directors) and a competent and committed audit committee. This has not been studied in depth, but at the University of Groningen together with the UNiversity of Amsterdam we are currently conducting an experimental studied into the mitigating effect of audit committee strength on the perceived risk of narcissistic CEOs. To be continued…
Scott Judd, Kari Joseph Olsen, and James Stekelberg (2017) How Do Auditors Respond to CEO Narcissism? Evidence from External Audit Fees. Accounting Horizons: December 2017, Vol. 31, No. 4, pp. 33-52. https://doi.org/10.2308/acch-51810.
NPI-16: see for example https://www.sciencedirect.com/science/article/pii/S0092656605000504