Larcker, a Stanford accounting professor, and co. analyzed 30,000 conference calls during which executives announced earnings. There was a distinct pattern found in the statements of executives who later had to revise their statements in a downward direction. CEO's who are lying about their firm's earnings are more likely to distance themselves by leaving responsibility with "the team", and to use strong positive words instead of lukewarm ones. For example, the word "incredible" is one of their favorite modifiers.
Larcker and Zakolyukina find that:
Deceptive bosses … tend to make more references to general knowledge (“as you know…”), and refer less to shareholder value (perhaps to minimise the risk of a lawsuit, the authors hypothesise). They also use fewer “non-extreme positive emotion words”. That is, instead of describing something as “good”, they call it “fantastic”. The aim is to “sound more persuasive” while talking horsefeathers.
When they are lying, bosses avoid the word “I”, opting instead for the third person. They use fewer “hesitation words”, such as “um” and “er”, suggesting that they may have been coached in their deception. As with Mr Skilling’s “asshole”, more frequent use of swear words indicates deception. These results were significant, and arguably would have been even stronger had the authors been able to distinguish between executives who knowingly misled and those who did so unwittingly.
This study should help investors glean valuable new insights from conference calls. Alas, this benefit may diminish over time. The real winners will be public-relations firms, which now know to coach the boss to hesitate more, swear less and avoid excessive expressions of positive emotion. Expect “fantastic” results to become a thing of the past.
Detecting Deceptive Discussions in Conference Calls
David F. Larcker
Stanford University - Graduate School of Business
Anastasia A. Zakolyukina
Stanford Graduate School of Business
July 29, 2010
Rock Center for Corporate Governance at Stanford University Working Paper No. 83
We estimate classification models of deceptive discussions during quarterly earnings conference calls. Using data on subsequent financial restatements (and a set of criteria to identify especially serious accounting problems), we label the Question and Answer section of each call as "truthful" or "deceptive". Our models are developed with the word categories that have been shown by previous psychological and linguistic research to be related to deception. Using conservative statistical tests, we find that the out-of-sample performance of the models that are based on CEO or CFO narratives is significantly better than random by 4%- 6% (with 50% - 65% accuracy) and provides a significant improvement to a model based on discretionary accruals and traditional controls. We find that answers of deceptive executives have more references to general knowledge, fewer non-extreme positive emotions, and fewer references to shareholders value and value creation. In addition, deceptive CEOs use significantly fewer self-references, more third person plural and impersonal pronouns, more extreme positive emotions, fewer extreme negative emotions, and fewer certainty and hesitation words.