Using digit analysis to evaluate financial reporting risk in the enterprise risk management process

Abstract

Boards of Directors and their audit committees are responsible for the oversight of risk management for the enterprise. Because entities are being asked by rating agencies to more explicitly describe their enterprise risk management processes, boards and management will be well served to employ risk management tools to efficiently and effectively assist them in identifying areas of higher financial reporting risk. Studies using digit pattern analysis of earnings have consistently found that reported earnings are subject to misstatements due to inappropriate rounding. Recent actions by regulators make it clear that such misstatements, even when relatively small in magnitude, are unacceptable. This article provides guidelines and a new tool for preventing and detecting such misstatements.