Ethical Decision Making:

Corporate Governance,
Accounting, and Finance
Present By :
Myat Si Thu
Kyaw Theint Theint Soe
Yee Yee Htwe
Aye Thiri Kyaw Myint
  Significant cases of financial fraud, mismanagement, criminality,
and deceit were not only tolerated
Introduction  but in some cases were endorsed by those people in the highest
levels of corporate governance who should have been standing
guard against such unethical and illegal behavior
  Accounting is one of several professions that serve very important
Professional functions within the economic system itself.

Duties and  It is universally recognized that markets must function within the
law; they must assume full information; and they must be free
Conflict of from fraud and deception.

Interest  Insuring that these conditions are met is an important internal

function for market-based economic systems.
  Such professions can be thought of as “gatekeepers” “or
“watchdogs” in that their role is to ensure that those who enter
into the marketplace are playing by the rules and conforming to
Professionals the very conditions that ensure the market functions as it is
as supposed to function.
 We accept responsibilities based on our roles. Therefore, in
“Gatekeepers” striving to define those rules that we should apply, we see that the
ethical obligations of accountants originate in part from their roles
as accountants.
Most
Important
Ethical Issue A conflict of interest exists where a person holds a position of trust
that requires that she or he exercises judgment on behalf of
for others, but where her/his personal interests and/or obligations
Gatekeepers: conflict with those others.

Conflicts of
Interest
  Conflicts of interest can also arise when a person’s ethical
obligations in her or his professional duties clash with her or his
personal interests.
Conflicts in the  Thus, for example in the most egregious case, a financial planner
who accepts kickbacks from a brokerage firm to steer clients into
certain investments fails in her or his professional responsibility by
Business putting personal financial interests ahead of client interest.
Environment  Such professionals are said to have fiduciary duties – a
professional and ethical obligation - to their clients, duties that
override their own personal interests.
  In an effort to prevent ,Congress enacted legislation to mandate
independent directors and a host of other changes discussed in
the following slides.
 However, critics contend that these rules alone will not rid society
of the problems that led to situations
 Instead, they argue, extraordinary executive compensation and
conflicts within the accounting industry itself have created an
Responding to environment where the watchdogs have little ability to prevent
harm.
Conflicts  Executive compensation packages based on stock options create
huge incentives to artificially inflate stock value.
 Changes within the accounting industry stemming from the
consolidation of major firms and avid “cross-selling” of services
such as consulting and auditing within single firms have virtually
institutionalized conflicts of interests.
  Because reliance on corporate boards to police themselves did not
seem to be working, Congress passed the Public Accounting
Reform and Investor Protection Act of 2002, commonly known as
the Sarbanes-Oxley Act, which is enforced by the Securities and
The Sarbanes- Exchange Commission (SEC).
Oxley Act of  In addition, a number of states have enacted legislation similar to
Sarbanes-Oxley that apply to private firms and some private for
2002 profits and non-profits have begun to hold themselves to
Sarbanes-Oxley standards even though they are not necessarily
subject to requirements.
  Sarbanes-Oxley strived to respond to the scandals by regulating
safeguards against unethical behavior.
 Because one cannot necessarily predict each and every lapse of
judgment, no regulatory “fix” is perfect. However, the Act is
intended to provide protection where oversight did not previously
Sarbanes- exist.
Oxley: Intent  Some might argue that protection against poor judgment is not
possible in the business environment, but Sarbanes-Oxley seeks
instead to provide oversight in terms of direct lines of
accountability and responsibility.
  The following provisions have the most significant impact on
corporate governance and boards:
Section 201: Services outside the scope of auditors
Section 301: Public company audit committees, mandating majority
Sarbanes- of independents on any board and total absence of current or prior
business relationships
Oxley: Section 307: Rules of professional responsibility for attorneys
Provisions Section 404: Management assessment of internal controls
Section 406: Codes of ethics for senior financial officers
Section 407: Disclosure of audit committee financial expert
  Sarbanes-Oxley includes requirements for certification of the
Sarbanes- documents by officers.

Oxley:  When a firm’s executives and auditors are required to literally sign
off on these statements, certifying their veracity, fairness and
Additional completeness, they are more likely to personally ensure the truth
of that which is included.
Requirements
  It imposes extraordinary financial costs on the firms; and the costs
are apparently even higher than anticipated.
 A 2005 survey of firms with average revenues of $4 billion
conducted by Financial Executives International reports that
Sarbanes- section 404 compliance averaged $4.36 million, which is 39%
more than those firms thought it would cost in 2004.
Oxley:  However, the survey also reported that more than half the firms
Criticisms believed that section 404 gives investors and other stakeholders
more confidence in their financial reports – a valuable asset, one
would imagine.
 The challenge is in the balance of costs and benefits.
  Sarbanes-Oxley is an external mechanism that seeks to insure
ethical corporate governance, but there also exist internal
mechanisms as well.
The Internal  One way to ensure appropriate controls within the organization is
Control to utilize a framework advocated by the Committee of
Sponsoring Organizations (COSO).
Environment  COSO is a voluntary collaboration designed to improve financial
(insert obj. 5)
reporting through a combination of controls and governance
standards called the Internal Control – Integrated Framework.
  It was established in 1985 by five of the major professional
accounting and finance associations originally to study fraudulent
financial reporting and later developed standards for publicly held
COSO companies.
 COSO describes “control” as encompassing “those elements of an
organization that, taken together, support people in the
achievement of the organization’s objectives.”
  The elements that comprise the control structure will be
familiar as they are also the essential elements of culture
discussed in chapter 5 and include:
 Control Environment – the tone, the culture, “the control
environment sets the tone of an organization, influencing
the control consciousness of its people.”
 Risk Assessment – risks that may hinder the achievement
The Control of corporate objectives
Structure  Control Activities – policies and procedures that support
the control environment
 Information and Communications – directed at
supporting the control environment through fair and
truthful transmission of information
 Ongoing Monitoring – in order to provide assessment
capabilities and to uncover vulnerabilities
  “Control environment” refers to cultural issues such as
integrity, ethical values, competence, philosophy, operating
style.
 Many of these terms should be reminiscent of issues
addressed in a discussion of corporate culture.
The “Control  COSO is one of the first times corporate culture has been
Environment” used in a quasi-regulatory framework in recognition of its
significant impact on the satisfaction of organizational
(insert obj. 6)
objectives.
 Control environment can also refer to more concrete
elements (and perhaps more audit-able) such as the division
of authority, reporting structures, roles and responsibilities,
the presence of a code of conduct and a reporting structure.
  The COSO standards for internal controls moved audit,
Moving from a compliance and governance from a numbers orientation to
concern for the organizational environment.
Numbers  It is critical to influence the culture in which the control
Orientation to environment develops in order to impact both sectors of this
environment described above.
an  In fact, these shifts impact not only executives and boards but
Organizational internal audit and compliance professionals also are becoming
more accountable for financial stewardship, resulting in greater
Orientation transparency, greater accountability and a greater emphasis on
effort to prevent misconduct.
  In fact, all the controls one could implement have
little value if there is no unified corporate culture to
The “Control support it or mission to guide it.
Environment” “If you don’t have focus and you don’t know what
(insert obj. 6) you’re about, as Aristotle says, you have no limits.
You do what you have to do to make a profit.”
  The definition of insider trading is trading by shareholders who
hold private inside information that would materially impact
Insider the value of the stock and which allows them to benefit from
Trading buying or selling stock.
  Illegal insider trading also occurs when corporate insiders provide
"tips" to family members, friends, or others, and those parties buy
or sell the company's stock based on that information.
Insider  “Private information” would include privileged information which
Trading has not yet been released to the public.
 That information is deemed “material” if it could possibly have a
(insert obj. 11) financial impact on a company's short or long-term performance
or if it would be important to a prudent investor in making an
investment decision.
  Insider trading may also be based on a claim of unethical
misappropriation of proprietary knowledge, i.e. knowledge that
only those in the firm should have, knowledge owned by the firm
and not to be used by abusing one’s fiduciary responsibilities to
Insider Trading the firm.
 The law surrounding insider trading therefore creates a
(Cont’d) responsibility to protect confidential information, proprietary
information, and intellectual property.
 That responsibility also exists based on the fiduciary duty of
“insiders” such as executives.
 • Perhaps the most effective way to avoid the
corporate failures of recent years would be
to impose high expectations of
accountability on boards of directors.
• However, much of what Enron’s board did
Going Beyond that caused its downfall was actually well
the Law: Being within the law.

an Ethical Board
Member
Being an Ethical Board Member
 For instance, it is legal to vote to permit an
exception to a firm’s conflicts of interest
policy. It may not necessarily be ethical or
best for its stakeholders, but it is legal
nonetheless.
 So what does it take to be an ethical board
member, to govern a corporation in an
ethical manner, and why is governance so
critical?
 The law offers some guidance on minimum
standards for board member behavior.
 The law imposes three clear duties on board members, the duties of
care, good faith and loyalty.
 The duty of care involves the exercise of reasonable care by a
board member in order to ensure that the corporate executives
with whom she or he works carry out their management
responsibilities and comply with the law in the best interests of
the corporation.
Legal Duties of  The duty of good faith is one of obedience, which requires board
members to be faithful to the organization’s mission. In other
Board Members words, they are not permitted to act in a way that is inconsistent
with the central goals of the organization.
 The duty of loyalty requires faithfulness; a board member must
give undivided allegiance when making decisions affecting the
organization.
Conflicts of  Board member conflicts of interests present issues of significant
challenges, however, precisely because of the alignment of their personal
Interest interests with those of the corporation.
for Board  Don’t board members usually have some financial interest in the future of
the firm, even if it is only through their position and reputation as a board
Members member?
 In the end, a healthy board balance is usually sought.
  The law answers only a few questions with regard to boards of
directors.
 Certainly Sarbanes-Oxley has strived to answer several more, but
a number of issues remain open to board discretionary decision-
Beyond the making.
law, there is  There is one area of inquiry to which one would think the law
should respond but, in fact, on which it is somewhat unclear:
ethics

Whom does the board represent? Who are its

primary stakeholders?
  By law, the board of course has a fiduciary duty to the owners of
the corporation – the stockholders.

Whom does  However, many scholars, jurists and commentators are not
comfortable with this limited approach to board responsibility and
the instead contend that the board is the guardian of the firm’s social
responsibility, as well.
Board
Represent?
  Some executives may ask whether the board even has the legal
right to question the ethics of its executives and others.
Legal, but not  If a board is aware of a practice that it deems to be unethical but
Ethical? that is completely within the realm of the law, on what basis can
the board require the executive to cease the practice?
What to do?  They can prohibit it in order to protect the long-term sustainability
of the firm.
  Notwithstanding the form of the unethical behavior, unethical acts can
negatively impact stakeholders such as consumers or employees who
can, in turn, negatively impact the firm, which could eventually lead to a
firm’s demise.

What to do?
It is in fact the board’s fiduciary duty to
protect the firm and, by prohibiting unethical
acts, it is doing just that.
Conflicts of  Conflicts of interest also extend beyond the board room and
Interest in executive suite throughout the financial arena.
 After all, what more can an auditor, an accountant or an analyst
Accounting offer than her or his integrity and trustworthiness?
and the  Therefore, treating clients fairly and building a reputation for fair
dealing may be a finance professional's greatest assets.
Financial  Conflicts – real or perceived - can erode trust, and often exist as a
Markets (insert obj. result of varying interests of stakeholders.
9)
  If you were to look in a standard business textbook, you might find
the following definition of accounting: "the process by which any
business keeps track of its financial activities by recording its debits
How do we and credits and balancing its accounts."
 Accounting offers us a system of rules and principles which govern
define the format and content of financial statements.
“Accounting?”  Accounting, by its very nature, is a system of principles applied to
present the financial position of a business and the results of its
operations and cash flows.
 It is hoped that adherence to these principles will result in fair and
accurate reporting of this information.
  Linking public accounting activities to those
conducted by investment banks and securities
analysts creates tremendous conflicts between one
component’s duty to audit and certify information
Conflicts in with the other’s responsibility to provide guidance
on future prospects of an investment.
Accounting
 Companies that engaged in investment banking
would pressure their research analysts to give high
ratings to companies whose stocks they were
issuing, whether those ratings were deserved or not.
  The financial relationship between public accounting firms and
their audit clients
Would standards  Conflicts between services offered by public accounting firms
be enough?  The Lack of Independence and Expertise of Audit Committees
Causes of  Self-regulation of the Accounting Profession
Conflicts where  Lack of Shareholder Activism
rules might not  Short-term Executive Greed vs. Long-term Shareholder Wealth
respond:  Executive Compensation Schemes
 Compensation Schemes for Security Analysts
  In 1960, the after-tax average pay for corporate chief-executive
officers (CEO) was 12 times the average pay earned by factory
workers.
 By 1974, that factor had risen to 35 times the average but, by
2000, it had risen to a high of 525times the average pay received
Executive by factory workers!
Compensation  The most recent reported figure evidences an estimate of a ratio
of 411 for 2005.
 Importantly, these numbers only address the average pay; the
differences would be more dramatic if we compared the top salary
for CEOs and minimum-wage workers.
  The relationship between profits and executive compensation
The is not always direct.
Relationship  In 1998, Forbes also reported that there was little correlation
between CEO pay and performance. Comparing CEO
Between compensation to stock performance over a five year period,
Profits and Forbes described fifteen CEOs who earned over $15 million
while their company’s stock lagged well behind the market
Compensation average of 23%.
 One CEO, Robert Elkins of Integrated Health Systems, received
over $43 million during this five-year period while his
company’s stock valued declined by 36%.
  Lofty compensation packages are thought to serve corporate
interests in two ways.
The Ethics of  They provide an incentive for executive performance, and they
Compensation serve as rewards for accomplishments.
:  In terms of ethical theory, they have a utilitarian function when
they incentivize executives to produce greater overall results, and
In Theory they are a matter of ethical principle by compensating individuals
on the basis of what they have earned and deserve.
  Reasonable doubts exist about both of these rationales.
 First, there is much less correlation between pay and performance
than one would expect.
The Ethics of  At least in terms of stock performance, executives seem to reap
Compensation large rewards regardless of business success.
 Of course, it might be argued that in difficult financial times, an
: executive faces greater challenges and therefore perhaps
In Practice deserves his salary more than in good times.
 But the corollary of this is that in good financial times, as when
Exxon-Mobil earns a $30 billion profit, the executives have less to
do with the success.
Thank You!