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Business Ethics 5

Areas to be covered
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Ethics in Financial Markets & Investor Protection Ethical responsibility Towards Competitors & Business Partners

Introduction
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Enron, WorldCom, Tyco, Sunbeam, Satyam , Anderson, J. P. Morgan : are names of the companies, accounting firms & investment firms that have all been implicated in some ethically questionable activity in the past few years, activities that have resulted in fines or criminal convictions Most of the unethical behavior involved some aspect of finance from manipulating special purpose entities to show growth Ethics in the financial services area is perhaps the most visible area in business ethics

Ethical Issues in Finance


1. Frauds in Financial Statements ` Fictitious Revenues ` Concealed liabilities & Expenses ` Improper disclosures ` Fraudulent Asset Valuations ` Avoidance of tax 2. Other Unethical Practices like Insider Trading ` Unethical mergers & acquisitions ` Hostile Takeovers ` Management Buyouts ` Money Laundering

Characteristics of Management prone to fraud


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Unduly aggressive financial targets Domination by person or group without controls Major performance related compensation Pressure to reduce tax liabilities Aggressive accounting practices to keep stock prices high Inadequate monitoring of significant controls Weak corporate ethics Non financial personnel involved in accounting matters

Insider Trading
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Ivan Boesky 1980s practice of Insider Trading Trading on price sensitive information by company employees or individuals closely connected with the firm Unethical because it is thought to violate equality of opportunity

Main arguments against insider trading is that 1. It is against the principle of Equality of Opportunity 2. Unfair to those who dont have the privileged information
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Mergers & Acquisitions


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Help a company develop a competitive advantage & thereby increase shareholder value

Ethical challenges before Mergers ,Acquisitions & Takeovers


Challenges are mainly in situations where the purpose behind Mergers, Acquisitions are not in good interest of the company ` Can destroy industries ` Can increase unemployment ` Can disrupt relationship with suppliers & customers ` Takeovers may involve breach of trust between stakeholders & business ` Sometimes in takeovers time, money & energy may get wasted

What the firm can do


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Must respect certain contracts or promises Must follow procedures & policies in financial transactions that it can actually fulfill Compensation to those who are affected by decisions of firms Look at the intensity of the expectations of stakeholders of the company one is going to takeover What could be the replacement for such expectations Look at the Future economic impacts for rejecting such expectations Impact of such a situation on the future stakeholders

Hostile Takeovers
Hostile Takeovers :Takeovers that are against the interests of managers of the target company & bring opposition from the boards or employees of the target company. Oppositions could arise because of: ` Protecting their own interests ( e.g. threat of loosing their positions) ` Disagreements over the price that managers of target company may quote

Anti Takeover Devices


Methods through which managements protect themselves from Takeovers /Bidders Poison pills Greenmail Golden parachute People pill Sandbag

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Poison Pills
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Making takeover prohibitively expensive for the bidders Bringing Changes in Articles of Association so that a group of shareholders have special rights ( special right to buy & sell preferred stock at highly favorable price, special voting rights etc.) Poison pills are ethical if they are designed to protect the shareholders against unwanted takeover bids Unethical if they are used to protect the interests of management at the cost of shareholders & if takeovers are rejected merely because they are contrary to managers personal interests

Greenmail
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Greenmail occurs where a potential takeover agent purchases stock in a company After the purchases total to be 5 % the agent must announce his intention if any to takeover Share prices go up in anticipation of takeover battle Management of the target company sends greenmails to prevent a shareholder from taking over the company Takeover agent can end up in selling the shares back to company at higher prices when the attacked company struggles to prevent the takeover Potential bidders act could be considered unethical if he increases his stake in expectation of receiving greenmails from the company Greenmails can considered to be unethical because the target company may have to take unnecessary debts to raise funds to finance the buyback of the shares at a premium price or the management may use owners money for this purpose which could be put in more productive use

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Golden parachute
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When a company gives lucrative benefits to its top executives who are likely to lose their jobs after takeover because otherwise executives might selfishly implement costly defensive tactics to save their jobs Benefits may include stock options, bonuses etc.

People pill
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Management threatens that in the event of hostile takeover, the entire management team will resign The practice is unethical if managers are doing it solely for their own interests

Sandbag
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Company avoids takeover in the hope that another more favorable company will try to take them over

Management Buyouts
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A Takeover Where management decides to bid for the company Afterwards they can convert the company into a private company & can make profits When managers making the bid come from outside the target firm then it is management buyin Managers can act unethically by promoting their own interests at the time of bidding , by making buyouts at cheaper rate They can give preference to those activities that have their own long term interests Unethical if managers ignore the interests of shareholders at the time of buyouts & dont give them accurate information

Money laundering
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It involves hiding , moving & investing the proceeds of criminal transactions It involves disguising assets so that they can be used without detection of the illegal activity that produced them Through it the criminal transforms the monetary proceeds derived from criminal activity into funds with a seemingly legal source Mostly possible in cross border transactions E.g. case of Satyam

Ethical Issues in Accounting & Other Functions

Ethics of Accounting Profession


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Accounting is a unique profession in the financial world because the accountant is responsible for giving the financial pictures that are necessary for companies to stay in existence & Auditors are responsible for verifying that the pictures are accurate & truthful

Types of Financial Accounts


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Financial Accounts : Accounts used to report to shareholders.These accounts are submitted to general public Internal Management Accounts : Show the internal operations of the business & its financial activities, details about the functioning of different departments, the work they perform, the cost involved the earnings etc.

Accounting Services
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Auditing : to give an accurate statement to the members about the state of affairs of a company & to follow Companies Act 1985 To meet the objectives of the Companies Act 1985 & articles of Association of the company To be reasonably skillful & careful in identifying the true nature of the accounts Related Services : tax services, management consultancies, environmental audits etc.

Rules regulating professional conduct of Accountants


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In India Companies Act 1985 regulate the form & content of the financial statements

Steps for Reliable Management Accounts


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Define objectives & determine their measurement method Allocate funds to different activities according to their importance Frame rules that have a positive effect on business activities

Ethical Audit
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To check the actions of a firm which are directed at maximizing long term owner value & extent of distributive justice It assesses the business structures , procedures, systems & policies Measures the extent to which the activities of a business comply with the standards it has publicly declared to its external customers It captures the companys ethical profile Assists the company to scan the environment to identify the issues which are most likely to provoke actions by pressure groups

Objectives of an Ethical Audit


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To determine the extent of maximizing long term ownership value & distributive justice Critical assessment of how well a business is actually run Scrutinizing the basis on which accounts are drawn Investigating into practices like restructuring, acquisitions etc. To help in establishing ethical conduct of business To improve the quality of governance by evaluating the performance & ensuring that financial information is available & reliable To help stakeholders to evaluate the performance of the directors & also the directors to evaluate the performance of stakeholders

Ethical Issues in Information Technology


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Software Audits : computer programs used by an auditor to examine an enterprises computer files E.g. CAATs ( Computer Assisted Audit Techniques ) are used to facilitate a continuous review of the systems

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