Ethics Final Exam

Differences in legal and ethical compliance approaches

legal(accountability) -regards ethics as something that has to be done -geared toward preventing unlawful conduct -uses increased monitoring and penalties to enforce rules ethical(responsibility) -defines ethics as a set of principles to guide choices -geared toward achieving responsible conduct -treats ethics as infused in business practice

success pyramid

money strategic objectives stakeholder support ethical values, ethical corporate culture and compliance-->trust, respect, reputation, ethical behavior

Avoiding and Minimizing Consequences:

1. Avoidance-this is preferable 2. Disclosure-advise of conflict to stakeholders relying on the decision 3. Management-useful if avoidance is not possible. Ex: a. Make sure employees are aware of potential conflict existence and consequences through codes of conduct and related training b. Create incentive and punishment systems to keep people on the ethical path c. Create information barriers and firewalls to prevent ethical breaches

Securities Act of 1934

-Created the Securities and Exchange Commission (SEC) -Created the regulatory framework for secondary trading of securities by registered companies on the stock exchange. This provides for continuous periodic disclosures by publicly held corporations to allow the SEC to regulate subsequent trading -Requires companies with more than $10 million in assets whose securities are held by more than 500 owners to file annual and other period reports: Reports are available to the public through the SEC's EDGAR database -Prohibits certain types of conduct in the security markets to prevent fraud --Insider trading-trade a security based on material, nonpublic information --Omission or misrepresentation of material facts related to purchase of a security

Deontology

-Determines ethicality by focusing on the motivations for an act Ethical motivation is to act based on your duties and responsibilities regardless of the consequences to yourself or society Duties and responsibilities are considered binding and permit no exceptions; it is rule based -It is only when you act out of a sense of duty that you act ethically -Kant developed 2 laws to assess ethicality: 1. Categorical imperative=only acting in a way you are prepared to have others act in a similar situation; ex: do unto others as you would want them to do to you This law must be obeyed and is unconditional and absolute for everyone; You cannot make yourself an exception to the rule 2. Practical imperative=all laws apply to everyone w/o distinction, so everyone must be treated equally. You cannot solely exploit people as a means to an end as everyone is a person of moral worth

deontology strengths

-Encourages businesses to treat stakeholders, such as employees, customers and suppliers, as more than a means to an end, and not to exploit them for short term goals -May avoid hypocrisy or unethical leadership, where a business fails to live up to its own internal codes of conduct or leaders treat the rules as for others and not for themselves -It is a good balance to consequentialism b/c if an action satisfies both theories it has a strong chance of being ethical

consequentialism weaknesses

-May be too simple, sometimes an act that is considered unethical based on this theory does not meet universal moral values -May be misused by people who want to argue that the ends justify the means o Ex: committing a financial fraud in order to avoid bankruptcy and employees losing their jobs -It is vague and difficult to quantify future good and happiness -May unfairly benefit majority stakeholders' groups at the expense of minority stakeholders -Ignores the motivation of decision makers, treats all motives as the same -Can be difficult to identify all stakeholders and foresee all consequences

deontology weaknesses

-No clear way to resolve conflicts between moral duties, what if more than one is triggered? -Difficult to identify the motivation for actions -Categorical imperatives to set a high standard that may be difficult to follow -May result in adverse consequences as it does not consider results

consequentialism strengths

-Simple theory; easy standard to apply -Resonates with results-oriented business-people due to focus on impact of decision making -Often identified as being the most ethical theory for business -It is forward looking; concentrating on the future happiness and well-being of people affected by the decision -It is unselfish: the best ethical decision is the one that promotes the greatest good for the greatest number of people

creation of the SEC

-The U.S. Securities and Exchange Commission is an independent agency of the United States federal government -The SEC holds primary responsibility for enforcing the federal securities laws, proposing securities rules, and regulating the securities industry, which is the nation's stock and options exchanges, and other activities and organizations, including the electronic securities markets in the United States

Ethical Dilemmas

-arise when values are in conflict and there are compelling alternative courses of action to choose from -no clear or easy right answer -what matters is understanding how you arrive at your decisions and why -ethical theories and frameworks can help to determine acceptance and unacceptable business actions and behavior

Special Task Committees of BOD

-audit committee -compensation committee -nomination committee

creating and implementing an ethical corporate culture

-create a governance and leadership framework -develop the core values and issues foundation: identify core values and important issues that should drive decisions and actions and ensure harmonization with strategy and operations -create the guidance and communications framework:develop mission statement and code of conduct -development commitment and understanding

structured investment vehicle

-gramm leach Bailey act in 1999 allowed commercial banks to engage in investing activities -banks could now borrow money at low rate and then lend the money through mortgage investments at a higher rate, earning money on the spread -one SIV type was a collateralized debt obligation

what is a mortgage?

-homeowner is take out a loan from a bank to buy a house; use the home as collateral and pay a monthly payment to the bank -bank has the right to possess the property when the borrowed money is not repaid

what is a subprime mortgage?

-mortgages designed for people who wouldn't qualify for a prime mortgage due to their low credit score or high debt to income ratio -higher default risk so lenders impose high and fluctuating interest rates *predatory lending=offering an unfair loan term to a borrower through deceptive actions and for loans they cannot afford

what is a prime mortgage?

-mortgages that meet standards set by Fannie Mae and Freddie Mac: - a borrower has a high credit score and low debt to income ratio -certain % of the mortgage paid upfront and as down payment -subject to fixed interest rate; lower default risk

consequentialism/utilitarianism

-seperates right and wrong actions by focusing on the consequences/results of those actions -Implies the goal of business is to contribute to overall good of society by providing necessary goods -focuses on the greatest good for the greatest number -underlying motivation for decision is irrelevant; focus on results -all affected people are considered impartially

Developing a Culture of Integrity

5 essential elements to develop an organizational culture of integrity and ethical behavior: 1. Clear communication 2. Personal commitment by senior management 3. Integration 4. Reinforcement 5. Education

Approach to Assuring Independence of Mind and Appearance

1. Identify and evaluate circumstances and relationships that create Threats to Independence · Adverse interest · Self interest · Self review · Management · Advocacy · Familiarity · Intimidation 2. Eliminate or reduce threats to an acceptable level by Applying Safeguards · Profession · Legislation · Regulation · By client · By firm *if unsuccessful, may need to decline or end the professional activity

3 Significant Threats to Good Governance

1. Misunderstanding objectives and fiduciary duties 2. Failure to identify and manage risks 3. Conflicts of interest

mission of the SEC

1. To protect investors 2. Maintain fair, orderly, and efficient markets 3. Facilitate capital formation

4 major ethical theories

1. consequentialism 2. deontology 3. justice and fairness 4. virtue ethics

Governance in a Stakeholder World

1. identify stakeholders interests and values 2. develop strategies, objectives and policies 3. resources, activate, guide, monitor, challenge 4. report corporate culture: values, trust challenge hypernorms: honesty, fairness, compassion, integrity, predictability, responsibility

3 main ethics and legislative governance

1. legislation prior to 1970 2. modern era-SOX 3. modern era-Dodd Frank

Principles of Corporate Governance:

A set of relationships between a company's management, its shareholders, and other stakeholders. Corporate governance also provides the structure through which the objects of the company are set, and the means of attaining those objectives and monitoring performance are determined. Good corporate governance should provide the proper incentives for the board and management to pursue objectives that are in the interests of the company and its shareholders and should facilitate effective monitoring

Aristotle's Golden Mean Principle

Advocates for balancing virtues between deficiency and excess to avoid destroying moral qualities in the face of conflicts: o Moderation o Circumspection o Restraint o Measured reaction o Calibrated moves o Judicious compromise The ideal of balance provides guidance to managers in a conflict that pits ethical values and responsibilities against each other -if you veer too sharply in one direction or another you risk trampling on some fundamental human values as you pursue others

Legal Duties=The Moral Minimum

Corporate activities may be legal, but ethically questionable Mere compliance with the law is acting at the lowest ethical level society will tolerate Ethics goes beyond legal consequences

What is Corporate Governance?

Corporate governance means controls, processes, and procedures that define the interactions between shareholders, board of directors, and management Governed by corporate law (state law) unless there are applicable federal laws or federal agency regulations Within the permitted scope, each corporation may determine its own governance system in the articles of incorporation and bylaws

Sarbanes-Oxley Act (2002)

Enacted in response to the Enron, WorldCom, Arthur Anderson scandal Goal: to impose greater regulation on public companies and their audits by requiring: o Increased corporate responsibility -Management -Conflict of interest o Increased audit accountability -Auditors -Audit committee

Deregulation Era Begins 1980's

Gramm Leach Bliley Act in 1999 o Repealed Glass Steagall Act of 1933 o Contributed to the subprime lending crisis of 2008

Reporting Results

If a professional or firm is found guilty after hearing, the details are made public, usually through the professional organization newsletter or website. Full details are published for transparency to: o Warn other members of ethical problems o Advise of sanctions they may encounter and o Preserve the profession's image as worthy of the public's trust

What is independence?

Independence is required of professional accountants when performing review and other assurance work. It is linked to the fundamental principles of objectivity and integrity and comprises 2 parts: 1. Independence of mind (in fact) 2. Independence in appearance

IFAC Definitions of Independence

Independence of mind-the state of mind that permits the expression of a conclusion w/o being affected by influence that compromise professional judgement, thereby allowing an individual to act with integrity, and exercise objectivity and professional skepticism Independence in appearance-the avoidance of facts and circumstances that are so significant a reasonable and informed third party would be likely to conclude that a firm's, or an audit/assurance team member's, integrity, objectivity or professional skepticism has been compromised

Fundamental Principles of Integrity and Objectivity

Integrity-to be straightforward and honest in all professional and business relationships -Implies fair dealing and truthfulness Objectivity-not to compromise professional or business judgments because of bias, conflicts of interest or undue influence of others

Globalization Heightens the Requirement

International jurisdictions where -The rule of law is nonexistent or inconsistently applied so that ownership of assets and liabilities for breaching local conventions are in doubt -The safety of audit personnel is at risk to visit a significant asset or operation, and o Bribery dominates integrity · Records are destroyed deliberately or by natural disaster · Knowledgeable management personnel are not available to support the audit · Audit evidence is lost and is not recoverable

Virtue Ethics-Strengths

It develops a broader, more comprehensive approach to addressing ethical behavior; it is not solely focused on consequences of the actions or motivations of the decision maker It considers the whole person: recognizes the decision-maker has numerous character traits It rejects the notion that you can only be good or be profitable in business, and that person values do not apply at work

justice and fairness

Justice advocated by English philosopher David Hume o Focused on need to cooperate for mutual survival and prosperity due to scarcity of resources o Since some people can benefit at expense of others, need justice to fairly allocate benefits and burdens of society o Need: just legal system + just distribution of resources o Problem with justice=legal system and allocation may not be fair or impartial. If an employee feels they are unfairly underpaid or a victim of nepotism or favoritism they may not put in a full effort, may create disharmony, or may act unethically, with adverse consequences to the company Justice as fairness advocated by philosopher Rawls o Recognizes that it is in everyone's best interest to cooperate together; look at society as a cooperative agreement for mutual benefit o Believes society should be structured for a fair distribution of rights and benefits and that any inequalities should be to everyone's advantage o From a business perspective, this means to act ethically, should avoid: -Discriminatory prices and hiring systems -Providing goods and services to one segment of society at the expense of the other segments of society -Polluting or exploiting developing countries so that developed nations can have an opulent lifestyle o Ex: design executive pay and bonusses to also improve the welfare of all employees as well as society as a whole

Disciplinary Hearings

Laying a charge requires a hearing to determine guilt or innocence Hearings can: o Be held in camera or in public o Involve lawyers for the parties, and o Be heard by either a tribunal or panel, which often includes a layperson to ensure procedures are followed and the public interest is served Costs of the hearing can be substantial, including: o Out of pocket costs o Lost work time o Lost reputation and credibility

SOX and Recent Governance Expectations

Legal accountability to shareholders; strategic accountability also to stakeholders · Fiduciary duties o Acting in the best interest of the company (shareholders and stakeholders) o Loyalty demonstrated by independent judgement o Actions to be in good faith, obedient to the interests of all o Actions demonstrate due care, diligence, and skill (ex: financial literacy) · Conflicts o Require disclosure, and actions to manage effectively · Governance structures and issues o Guidelines and governance disclosure rule o Independence o Management board sub committees § Audit committee-independence, financial literacy, authority, mandate § Nominating/corporate governance committee § Compensation committee

Understanding the Disciplinary Process

Members of a professional association need to understand the disciplinary process, otherwise they may misjudge the importance of ethical conduct to the profession and society. You should know: o How to report a concern over conduct o What the process is for investigation of the concern o What the hearing process entails o How decisions will be made o What fines and penalties are possible o How results will be reported o How appeals will be considered

Virtue Ethics-Weaknesses

People may disagree on what virtues a businessperson should have Surveys have shown that executives view integrity as the essential leadership quality fundamental in business behavior -Virtues may be situation specific -Virtues may be in conflict, such as to whether to be truthful or compassionate in a situation

Professional Skepticism Required

Professional skepticism refers to constantly searching, challenging, comparing and verifying mindset a professional accountant is expected to apply so that incongruent facts and/or questionable actions are identified, investigated and satisfactorily explained A professional accountant is not expected to accept everything he/she is told or show as being accurate or true; trust but verify There should be continuous questioning of whether the fact, decision, or acting being considered is in the best interest of the client and is ethical, particularly, with regard to public interest

Starting the Disciplinary Process

The discipline process begins with either: o A complaint being lodged at the professional organization about the ethical conduct of a member or firm; or o Conviction elsewhere on a relevant legal charge The complaint or charge is investigated by staff to determine whether to lay a charge against the member or firm

Limits of Legal Compliance Programs

Those managers who define ethics as legal compliance are implicitly endorsing a code of moral mediocrity for their organization "it is not an adequate ethical standard to aspire to get through the day without being indicted"

Management Participation Threat

a member will take on the role of client management or otherwise assume management responsibilities, such may occur during an engagement to provide non-attest services · Examples: o Member serves as an officer or a director of the client o Member accepts responsibility for designing, implementing or maintaining internal controls for the client o Member hires, supervises or terminates the client's employees

framework for independent judgement

integrity, objectivity, professional skepticism-->independent judgement-->independent mind and appearance-->protect the public interest, professional service to clients

Moral Courage and Professional Accounting

o Acting in the public's best interest o Resisting self-interest and pressure from clients, friends, and others to hide the truth o Having the courage to say no to a client or third party and explaining why o Reporting a problem or potential problem to employers, clients or their audit committees o Reporting to professional accounting bodies and/or regulators when required o Whistleblowing if you are an employee or resigning from an audit or assignment if you are a public accountant

after the crash

people recognized: -financial statements need to have reasonable assurance -banks need to be prevented from making reckless investments with other people's money -Investors need more information to help them make buying and selling decisions US Government: -recognized ethics and governance flaws contributed to the economic crisis -enacted laws designed to remedy these flaws

what is ethics?

set of norms and values that are applied to distinguish what is right and wrong in order to make a decision -arises from a desire to avoid problems -deals with principles that guide human behavior -does not offer simple, boilerplate solutions

General Structure of a Corporation

shareholders=true owners of the company management=runs day to day business BOD=group of people representing shareholders; oversee the management's work *to maximize shareholder's profits and company value

Great Depression 1929-1939

stock market crash (1929): -bubble in stock market -manipulation and inflation of financial reports were common -Investors didn't know the financial condition of their investments bank crash: -made loans with people's savings they should have been protecting -failed to collect their loan repayments and people lost their savings -Invested in speculative investments to make some quick profits result: -economic depression -unemployment soared -people lost their homes, didn't have money to buy food

Self-Interest Threat

that a member could benefit, financially or otherwise, from an interest in, or relationship with, a client or persons associated with the client Examples: o The member has a financial interest in a client, and the outcome of a professional services engagement may affect the fair value of that financial interest o Excessive reliance on revenue from a single client

Adverse Interest Threat

that a member will not act with objectivity b/c the member's interest are opposed to the clients interest Ex: either the member or the client is commencing litigation against the other or expressing the intent to commence litigation

Self-Review Threat

that a member will not appropriately evaluate the results of a previous judgement made or service performed or supervised by the member or an individual in the member's firm and that the member will rely on that service in forming a judgment on part of another Examples: o The member relies on the work product of the member's firm o A partner in the members office was associated with the client as an employee, an officer, a director or a contractor

Advocacy Threat

that a member will promote a client's interests or position to the point that his/her objectivity or independence is compromised · Examples: o A firm underwrites or promotes a client's shares o A firm acts as a registered agent for a client o A member endorses a client's services or products

Intimidation/Undue Influence Threats

that a member will subordinate his/her judgement to an individual associated with a client or any relevant third party due to that individual's reputation or expertise, aggressive or dominant personality, or attempts to coerce or exercise excessive influence over the member · Examples: o The firm is threatened with dismissal from a client engagement o The client indicates that it will not award additional engagements to the firm if the firm continues to disagree with the client on accounting or tax matter o An individual associated with a client or any relevant third party threatens to withdraw or terminate a professional service unless the matter reaches certain judgements or conclusions

Familiarity Threat

that, due to a long or close relationship with a client, a member will become too sympathetic to the client's interests or too accepting of the client's work or product · Examples: o A member's close friend is employed by the client o Senior personnel have a long association with a client

ethical theories

they provide guidance on principles to consider when making decisions on ethical dilemmas in business -each theory has strengths and weaknesses -no single theory will solve all business ethics dilemmas

securities act of 1933

truth in securities act: increased investor protections -requires companies raising public money in the US to register with the SEC and follow its regulations on the issuance of the original corporate security. This is a one time disclosure law for the initial sale of stock -requires that investors receive financial and other important info on the issuers of publicly sold securities and prohibits misrepresentation in the security sales: *the securities sold in the US must be registered by filing: -description of the company's properties and business -description of the security to be offered for sale -Info about the management of the company -financial statements certified by independent accountants

Conflicts of Interest

· A conflict of interest occurs when the independent judgement of a person is swayed, or might be swayed, from making decisions in the best interest of others who are relying on that judgement · Judgment bias may occur because of any interest, loyalty, concern, emotion or other feature tending to make judgement less reliable than normal · Ex: accepting a gift from a vendor bidding for a contract when you are on the decision-making committee

Ethical Tone at the Top

· A leader can achieve a reputation as a moral manager if they promote the corporation's ethics and values agenda through: o Serving as a visible role model o Communicating regularly and persuasively about ethical standards, principles and values o Using the rewards system to hold ALL employees accountable to ethical standards

Ethical Leadership is Vital

· An ethical leader must embody the organization's vision and values, and influence others to follow his or her lead · An ethical leader must: o Ensure that the vision and values of the organization are ethically sound o Identify with, support and display a commitment to them o Communicate them to others o Ensure that the organization's ethical culture (code, training, decision making, performance indicators, reward systems, and monitoring system) support its vision and values o Motivate other leaders and employees to adhere to them o Monitor and reward or penalize performance based on these values

Officers

· CEO, and possibly CFO, appointed by the board or nominated by board and elected by shareholders · Officers are agents of a corporation o Have actual and apparent authorities to bind the corporation to a contract entered into in the course of business § Actual authority: authorized in the corporate governing documents or employment contract § Apparent authority: implied by the title such as CEO, CFO o Officers owe the same fiduciary duties to corporation-obedience, loyalty and due care · Key functions o Manage day to day business operations and strategic planning o Responsible for maintaining proper internal controls § Effective internal control based on · Standardized protocol on performing each duty · Segregation of duties to provide checks or fraud § Possibility of circumventions by collusion or fraud · Hire, develop, and retain competent and ethical employees · Set a tone at the top committed to ethics and integrity · Adopt a Code of Ethics and provide periodic employee training

Other Board Committees

· Compensation committee o The Dodd Frank Act of 2010 requires public companies to have a compensation committee o Makes sure the managers are compensated corresponding to their qualifications and in appropriate manner · Nomination/corporate governance committee o SEC requires public companies to disclose their standards and procedures for nominating BOD o Required to recruit independent board members with diverse mix of skills and experience o Conducts succession planning and board oversight

Failure to identify and manage risks

· Corporate risk management systems are tasked with identifying, assessing and managing risks to the company · Fraud and ethics risks are difficult to discover and the costs of doing so are greater than directors and officers have been willing to undertake · Most companies don't have a systematic investigation process for assessing risks to stakeholders as part of an ethics audit or training · Ethics risks often become crises if not diagnosed early enough, so ethics risk management should become part of the due diligence requirements for directors and officers

Basic Common Principles of Ethical Conduct

· Current ethical conduct standards vary between jurisdictions and organizations · However, the basic principles of ethical behavior in the accounting profession apply to all the organizations · The movement toward global ethical principles, accounting and auditing standards, may lead to common standards of performance

Board of Directors

· Duty of loyalty and good faith o Act in the best interests of corporation o Recognize and deal with conflicts of interest § Process-declare, refrain from voting, no appearance of conflict to taint co-decisions, redesign o Not divulge confidential info received as a director, nor use it for personal advantage o May not divert opportunities for self-dealing · Duty of care, diligence and skill that a reasonably prudent person would exercise in comparable circumstances o Informed judgements, consideration of relevant info, active role in key matters

Typical Framework for a Code of Conduct

· Effective codes of conduct for professional accountants blend fundamental principles with a limited number of specific rules. o Introduction and purpose o Fundamental principles and standards o General rules-professional accountants in public practice/in business o Specific rules-professional accountants in public practice/in business o Discipline o Interpretation of rules

Misunderstanding objectives and fiduciary duties

· Employees may cut ethical corners if they believe that is what management wants or they are encouraged to do so by incentive programs · Lack of guidance, compliance and reporting mechanisms can result in misunderstanding and misapplication of duties

Codes of Conduct

· Employer-corporation or accounting firm · Local professional accounting bodies-in the US, local state organizations control their own members, using national codes as a guide, policing and disciplining members · IFAC-international federation of accountants · AICPA-American institute of certified public accounts

Dodd-Frank (2010)

· Enacted in response to the subprime mortgage crisis of 2008 to: o Provide financial stability o Increase consumer protections through more regulation of the investment marketplace · Requires public companies to have a compensation committee o Committee members must be independent · Created the Consumer Financial Protection Bureau (CFPB) o Requires public companies to have a policy defining how to recover performance based executive compensation (claw back provision) o Must provide truthful information about mortgages and credit scores o Create 24-hour toll free hotline to report issues with financial services · Created the Financial Stability Oversight Council (FSOC) o Consists of heads of all the regulatory agents to identify ongoing risks to the financial system o Comments to the SEC about accounting issues o Reports annually to U.S. Congress about financial market and regulatory matters · Prohibits retaliation by employers against whistleblowers o Whistleblower's identification stays confidential o Whistleblower can bring a lawsuit if discharged or discriminated by employer · Give whistleblower financial reward o Qualification § Those who provide original information that leads to SEC enforcement action § SEC collects over $1 million fines form that action o Rewards: 10-30% of total fine collected by SEC

Ethical Corporate Culture: Important Aspects

· Ethical leadership by executives and supervisors · Reward systems incorporate ethical considerations · Perceived fairness, treatment of employees · Open discussion of ethics in the organization · Authority structure emphasizes employer's accountability and responsibility to question their own actions and an obligation to question authority when something seems wrong · Organizational focus communicates care for employees and community above self interest · Official policies and procedures-codes of ethics, principles and conduct · Supporting offices-ethics officer, department, · Supporting structures-hotlines, whistleblower protection, training

Ethics and Governance

· Ethics is about right and wrong · Business ethics is about right and wrong or appropriate behavior in business · Governance is about setting or approving appropriate strategies, objectives and policies, ensuring their appropriate achievement and reporting to stakeholders to ensure continuing support

Additional Legislation Post Great Depression

· Glass-Steagall Act of 1933 (Banking Act of 1933): -Banking reforms to separate investment and commercial banking functions -Intended to safeguard against commercial bank failures from speculative investment mistakes Investment advisors act of 1940: Created a framework for registration and regulation of investment advisors ---Those who advise about securities investments must register with the SEC

hypernorms

· Honesty-to disclose all material facts and issues · Fairness-to be fair and equal to each of the stakeholders and others · Integrity-to have strong moral principles · Compassion-to have concern for contemporary issues and people · Predictability-to be comparable-past vs. current, itself vs. other companies in the same industry · Responsibility-to deliver as promised

Standard Setters

· IFAC-international federation of accountants · PCAOB-public company accounting oversight board · FASB-financial accounting standards board · IASB-international accounting standards board · GAAP-generally accepted accounting principles · GAAS-generally accepted auditing standards

Who sets the Independence Rules?

· IFAC/IESBA-international independence standards · AICPA-private company audits · Government Accountability Office-entitles audited under Government Auditing Standards · SEC &PCAOB-public company audits · State boards of accountancy · State CPA societies · Federal and state agencies *most independence rules are very similar to each other; to the extent more than one rule applies, you should comply with the most restrictive rule

virtue ethics

· Inspired by Greek philosopher Aristotle Determine ethicality by focusing on the moral character of the decision maker o To make an ethical decision, you must internalize the character traits of a virtuous person o A moral action is not only what conventional morality or moral rules require but also what a well-intentioned person with a good moral character would deem appropriate Virtue theory emphasizes the need for moral education because character traits are developed in one's youth Virtuous Character Traits Applied · Integrity in all business dealings · Honor terms of contracts rather than look for loopholes · Loyalty to employees, customers, and suppliers · Courage to be candid and transparent with relevant stakeholders · Forthright when explaining good and bad business behavior

Ethical Leadership Qualities

· Key characteristics of an ethical leader to build trust with other leaders and employees and overcome organizational cynicism o Integrity o Trustworthiness o Honesty o Sincerity o Forthrightness or candor · They must be moral people as well as moral managers

Legal Compliance vs. Ethical Compliance

· Legal compliance mechanism-frameworks that a company and its personnel are required to follow o Legislative governance system (laws and regulations) o Corporate governance system o Professional standards o Codes of conduct, ethics programs, mission statements · Legal compliance alone is inadequate to inspire ethical behavior · Ethical compliance mechanism-creating a corporate culture that inspires individuals to commit to ethical obligations o Consistency between policies and actions o Ethical leadership o Fair treatment of employees o Open discussion of ethics o Culture of trust, integrity and fairness · You cannot have a culture of compliance without a culture of ethics

Liability of Directors and Officers

· May be personally liable for corporate loss caused from illegal or negligent conduct · Protected under Business Judgement Rule: o Not personally liable for the corporate loss for honest errors or judgements § Acted in good faith in the best interest of the corporation and § Performed due diligence of a reasonably prudent investor · Made informed decision · Had a rational basis to support the position · Was free from conflict of interest

International Comparison of Codes

· Move toward principle-based, international accounting and reporting standards · Codes of member countries are being harmonized to IFAC standards: o IFAC members=professional accounting organizations, securities regulators and similar groups from 130 countries o IFAC has created boards for global standards, including the international code of ethics · There is currently no obligation for the professional accountant codes of major industrial nations to duplicate the IFAC code, so it is important to study the relevant country codes and compare them to IFAC · The most significant code of conduct in the United States is the AICPA code of professional conduct. It was revised in 2015 to harmonize with features in the IFAC code

Shareholders

· No direct right to corporation management or dividend distribution · Most states corporations law requires annual shareholders meeting, which is normally their primary participation in the business o Receive annual reports, elect BOD, vote on matters of corporate policy o Some publicly owned companies do quarterly earnings call · Key functions: o Amend/repeal the articles of incorporation and the bylaws o Approve fundamental corporate changes Ex: dissolution, stock issuance, mergers, substantial changes in operations, sale of a significant portion of assets o Inspect corporate books and records in good faith o Bring a shareholder derivative lawsuit-on behalf of the corporation to recover for wrongs done to the corporation

Fundamental Principles in Code of Conduct

· Professional accountant members should at all times: o Act in the public interest o Maintain the good reputation of the profession and its ability to serve the public interest o Perform with -Integrity -Objectivity and independence -Professional competence, due care and professional skepticism -Confidentiality o Not be associated with any misrepresentation or misleading information and o Continually asses the risk of failing to observe these principles

Shortfalls with and in Professional Codes

· Professional accountants lack of understanding of the significance and content · Consultation encouraged, but not universally available · Sanctions for violations not clear · Judgement for ethical analysis and practical ethical decision making

Sources of Ethical Guidance

· Professional accountants must respond to standards created by various accounting organizations inside and outside their own country · No single organization sets the expectations that a professional accountant should meet · This has suggested a need for more globalization of these standards and expectations, with the international federation of accountants (IFAC) code likely to become the dominant ethics framework

Codes of Conduct for Professional Accountants:

· Purpose o Provide guidance on expected conduct of members to maintain quality of service so that: § The public interest is protected and § The reputation of the profession will not be damaged · Why? o Service-need to perform in professional manner o Public trust-protect as it is required for members to serve their clients effectively o Credibility-maintain fiduciary relationship

requirements other

· Requires external auditors to retain audit working papers for at least 7 years · Requires lead audit partners to be rotated off an audit engagement every 5 years · No audit team member can be hired by a company during the 1 year preceding an audit · Prohibits external auditors from providing certain non-audit services to their audit clients, such as: o Internal audit outsourcing o Legal services o Bookkeeping services o Tax compliance services is OK

Increased audit accountability

· Requires public companies to have an audit committee to oversee the financial reporting system and financial reports o Committee members must be independent from management o One member of the audit committee should be a financial expert and the others must be financially literate o The audit committee must have a sufficient budget of time and money to complete its work o Must establish procedures for the receipt, retention, and treatment of complaints regarding accounting, internal accounting controls, and auditing matters o Appoints external auditors-must choose an auditor registered with the PCAOB o Auditor must report to the audit committee without management being present · Created the Public Company Accounting Oversight Board (PCAOB) o Oversees public company audits on protect investors o Promulgates rules and standards for financial reports of public companies o Regulates registered accounting firms and auditors § Audit firms, brokers and dealers must register with the PCAOB *SEC oversees PCAOB and appoints board members

Increased corporate responsibility

· Requires that the CEO and CFO, in every annual or quarterly filing with the SEC, to certify that: o To the best of their knowledge, the financial statements are free of material misstatements o They have taken responsibility for the internal control systems, including designing, implementing and maintaining internal controls o They have evaluated the effectiveness of the system of internal control · Requires CEO and CFO include a statement in the annual report to: o Identify the framework used to evaluate the effectiveness of internal control o Confirm the system of internal control has been assessed by an independent public accounting firm that is registered with the PCAOB (Public Company Accounting Oversight Board) · Anyone may be subject to fines and imprisonment up to 20 years for altering, destroying, mutilating, concealing, or falsifying records to impede a legal investigation · In addition, a CEO or CFO who misrepresents the financial statements may be subject to o Forfeiture of bonus or other incentive-based compensation o Prohibition from serving as an officer or director o Forfeiture of profits received from the sale of issuer's stock · Provides protections for whistleblowers

Regulator's Guidelines

· SEC-US Securities and Exchange Commission · PCAOB-public company accounting oversight board · New York Stock Exchange

Director's Responsibilities

· Safeguard the interests of the company's shareholders · Review overall business strategy, and in some jurisdictions take stakeholder interests into account · Select and compensate the company's senior executives · Evaluate internal controls and external auditor, and recommend the company's outside auditor for election by the shareholders · Oversee the company's financial statements · Monitor overall company performance · Ensure: o An effective system of internal controls and internal audit o An effective whistleblower system reporting to the audit committee o Effectiveness of the company's risk management program o Efficacy of the company's ethical corporate culture

Possible Sanctions

· Sanctions leviable on professional or firm o Caution, reprimand, or peer review o Requirement to complete courses o Suspension: For a specified period For an indefinite period Until specific requirements are completed From appearing before regulatory agencies, including SEC From auditing SEC registrant companies o Expulsion from membership o Compensation for damages, fines and/or costs of hearing o Ancillary orders for community, work

Audit Committee

· Sox requires public companies to have an audit committee · Tasks o Appoint/nominate an external auditor and determine the audit fee o Oversee financial reporting and disclosure process o Oversee internal controls and internal audit functions o Establish procedures for handling employee complaints about accounting, internal accounting controls, and audit matters (whistleblowing systems) · At least one committee member should be financially sophisticated and able to do all of the following: o Understand GAAP and financial statements o Access the general application of HAAP to accounting for estimates, accruals, and reserves o Experience preparing, auditing, analyzing, or evaluating financial statements o Understand internal control, and o Understand audit committee functions · Public companies without a financial expert in the audit committee should disclose the reason for not having one · Audit committee financial experts can obtain the foregoing attributes based on: o Education and experience in financial/accounting as an officer, controller, public accountant, or auditor, o Experience in actively supervising any of the above-mentioned positions, o Experience in overseeing or assessing companies or public accountants in the preparation, auditing, or evaluation of financial statements o Other relevant experience

Professional Accounting Expectations Set By

· Standard setters · Commonly understood standards of practice · Research studies and articles · Regulators guidelines · Court decisions · Codes of conduct

Other Laws and Regulations

· State laws governing financial industry and professionals · State boards of accountancy · Court decisions=common laws · AICPA: professional organization that provides guidance and disciplinary action to CPAs · Financial Accounting Standards Board (FASB): establishes standards for financial accounting and reporting (GAAP). Those standards dictate how financial reports must be prepared

Corporate Psychopaths

· The term corporate psychopaths has been created to capture the essence of people who: o Lack a conscience, have few emotions, and display an inability to have feelings, sympathy, or empathy for other people o Ruthlessly manipulate others to further their own aims and objectives o Callously disregard the needs of others and cause harm to the welfare of others o Are prepared to lie, bully, and cheat to get what they want o Although they may appear to be smooth, charming, sophisticated, and successful, they are usually destructive to the organizations they work for · Incapable of being ethical or moral leaders · Likely to be extremely destructive within an organization · May tend to be drawn to certain industries, like investments and banking · Important to identify such people and make sure they do not get into positions of power and damage or destroy a corporation culture

Conceptual Framework Definitions

· Threats-relationships or circumstances that could compromise a member's compliance with the rules · Safeguards-actions or other measures that may eliminate a threat to an acceptable level · Acceptable level-a level at which a reasonable and informed third party who is aware of the relevant information would be expected to conclude that a member's compliance with the rules is not compromised

Summary of Ethical Theories

• Consequentialism - results driven: bring greatest good for the greatest number • Deontology - motivation driven: follow duties, rules and responsibilities • Justice & Fairness - cooperation driven: fair distribution of rights and benefits • Virtue Ethics - character driven: act with virtue