A genetic algorithm approach to detecting temporal patterns indicative of financial statement fraud

Abstract This study presents a genetic algorithm approach to detecting financial statement fraud. The study uses a sample comprising a target class of 51 companies accused by the Securities and Exchange Commission of improperly recognizing revenue and a peer class of 339 companies matched on industry and size (revenue). Variables include 76 comparative metrics, based on specific financial metrics and ratios that capture company performance in the context of historical and industry performance, and nine company characteristics. Time‐based patterns detected by the genetic algorithm accurately classify 63% of the target class companies and 95% of the peer class companies. Copyright © 2007 John Wiley & Sons, Ltd.