Governance and Fraud
Order Instructions:
Part 1 1000 words maximum
Part 2 1000 words maximum
Part 1; There have been numerous corporate scandals in the past 15 years, most of which caused the companies affected to subsequently experience financial difficulties. Prominent frauds include HIH Insurance and Onetel (Australia), Satyam computers (India), Societe-General and Parlamat (France), World.com, Enron and Waste management (USA), Barings Bank and Equitable life Ins (UK) Royal Dutch Shell (Holland), Olympus (Japan), Duetche Bank (Germany) and Siemens (Greece).
(i) Select a fraud from three different countries and describe the nature of the fraud.
(ii) Explain the causes of the frauds using the fraud triangle.
(iii) Using the fraud triangle as a framework, compare and contrast the influence of cultural and social factors in each international jurisdiction on the cause of the frauds.
Part 2; Answer the following questions based on the case study below:
Alex McAdams, the recently retired CEO of Athletic Shoes, was honoured to be asked to join the Board of Consolidated Mins (CMI) International Inc. Alex continues to sit on the Board of Athletic Shoes, as well as the Board of Pharma Advantage another publicly traded company on the New York Stock Exchange. However, CMI, as it is known, is a major step up for Alex.
CMI was formed as the United Mines Company in the 1870s, by an American railway magnate, and in 1985 it became Consolidated Mines International Inc. It operates mines in Central America and northern South America. In 2004, its revenue were approximately $4.5 billion and it employed about 25,000 people worldwide.
In deciding whether to accept the board seat, Alex conducted his own due diligence. As a result, there were two issues that he wanted to raise with Cameron Derry, the CEO of CMI. One concerned the allegations of questionable business practices. The other concerned the political instability in several of the Latin American countries in which the CMI mines are located. Today Alex was meeting with Cameron at the Long Bar Lounge.
During lunch Cameron candidly talked about the history of the company and the bad press that it often received. “In the 1920s we were accused of bribing government officials and using our political connections to have unions outlawed. In the 1950s we were accused of participating in the overthrow of a Latin American government. In the 1990s there were charges that we were exploiting our employees, polluting the environment, and facilitating the importation of cocaine into the U.S. But, none of these allegations has ever been proven in court of law,” said Cameron. “And we’ve even successfully sued one newspaper chain that published a series of these unproven stories about us”.
“As for the political environment, Alex, you’re right. There is no effective government in many of the countries in which we operate. In fact it is often the paramilitary that are in control of the countryside where we have our mines. These are very unsavoury organizations, Alex. They have their own death squads. They have been involved in the massacre, assassination, kidnapping, and torture of tens of thousands of Latin Americans, most of them peasants and workers, as well as trade unionists and left wing political figures.”
“Do they interfere with CMI’s operations?” asked Alex.
“No, and that’s because we’ve been paying them off. It’s now 2014 and we’ve been paying them since 1997. To date we’ve given them about $1.7million in total. Don’t look so shocked, Alex. Occasionally, we have to do business with some very unsavoury characters. And the United Peoples Liberation Front that controls much of the region around our mines is probably the worst of the lot. They are involved in disappearances, murder, rape and drug trafficking. The payments we make to them are for our protection. If we don’t make these payments it could result in harm to our personnel and property.”
“That’s extortion!”
“We don’t call it that. We list these payments as being for ‘security services, but we have no invoices to support the payments, and beginning in 2002 we began making direct cash payment to them. But, we now have an additional problem. The United State government has declared the United People Liberation Front to be a terrorist organization, and our outside legal counsel has advised us to stop making the payments. But if we stop I’m afraid of what might happen to our employees. I don’t want to support drug trafficking and terrorism, but I need our mines to stay open.”
“I’m telling you this Alex, because when you join the Board, the first item on next months’ agenda is these payments. I want the Board to approve that we continue to make these payments in order to ensure the safety of our Latin American employees and operations.”
(i) Discuss the ethical issues in the case above with reference to the principles of professional conduct.
(ii) What should Alex do? Justify and analyse the case above using AAA ethical decision making model and arrive at a decision.
SAMPLE ANSWER
Governance and Fraud
Part 1
Corporate scandals in India, USA and Australia have indicated that corporate accounting fraud is the greatest problem in the corporate world that is rising in occurrence and severity. Research shows that the alarming rates of fraud have damaged the reliability of financial reports, resulted to considerable economic losses and corroded the assurance of investors on the efficacy and consistency of financial statements (Jones, 2011).
Corporate accounting fraud is an economic or political scandal that arises from the disclosure of fiscal offenses by trusted organization managerial. Such fiscal offenses often involve multifaceted ways of mishandling or misusing funds, overstatement of corporate value assets, understatement of corporate expenses, overstatement of revenues, or under-reporting the extent of liabilities (Romney & Steinbart, 2008).
In the US, corporate accounting fraud has crippled many companies. The Enron Corporation, an American energy company located in Texas, was declared bankrupt in 2001 following claims of immense accounting fraud that led to the loss of $78 billion in stock market value, leading to the fall of Arthur Andersen and the enactment of the Sarbanes-Oxley Act of 2002. Following a severe fall in the company’s stock price in 2001, the shareholders of Enron filed a $40 lawsuit, which prompted the U.S. Securities and Exchange Commission (SEC) to begin an investigation. Dynegy, Enron’s rival made an offer to buy the Enron at an extremely low price, but Enron put down the offer, and Enron was compelled to apply for bankruptcy under Chapter 11 of the U.S. Bankruptcy Code. Enron Corporation’s $63.4 billion in assets made it the biggest corporate bankruptcy in the history of the United States until WorldCom took up the bankruptcy record in the following year.
Regardless of legislative reactions to the rising trend of corporate accounting fraud in the United States, which led to much stricter corporate guidelines with amendments to the UN Sentencing Guidelines and the enactment of the Sarbanes-Oxley Act of 2002, colossal corporate fraud still continues to prevail in the country.
The collapse of a prominent Australian corporation OneTel has indicated the inadequacy of corporate governance practices in Australia (Albrecht & Albrecht, 2004). HIH Insurance was liquidated in 2001 with losses ranging between AU$3.6 billion and AU$5.3 billion. In a similar way, just prior to its collapse, OneTel, which was once ranked as the fourth largest telecommunications company in Australia and one of the ASX’s fastest growing companies, revealed an operating loss of AU$291 in 2000. The collapse OneTel was triggered by many problems including questionable related party dealings, potentially unnecessary management compensations, unproductive working capital management, improper auditing, destructive financial reports, untenable business policies, and poor corporate governance. The failure of this Australian company highlights the significance of not only having good corporate governance practices but also ensuring thorough execution of the same rather than plain paid “lip service” (Jones, 2011).
The fundamental problem of Australian companies as highlighted in OneTel is their keenness in pursuing low yielding businesses and failing to set aside adequate capital to cater for future liabilities. Predictably, the problem has been catalyzed by the failure of management and the board of directors to efficiently implement and scrutinize due diligence practices.
India has also experienced massive corporate fraud particularly since the wake of the 21st century. In 2009, it was revealed that the chairman of Satyam Computer Services, one of Inida’s largest computer IT companies serving many global corporations such as 185 Fortune, had manipulated corporate books in various commercial dealings. Satyam’s chairman was also found to have engaged in mishandling of assets, increasing expenses, forging documents, and manipulating of profits, inventory value and income, since 2001. The losses encountered by Satyam were estimated to be US1.5 billion, that is, two and a half times the sum of the Enron Scandal (Bhasin, 2013).
The fraud triangle consists of three components that act together to lead to fraudulent behavior and they include pressure, opportunity, and rationalization (Albrecht & Albrecht, 2004). Pressure involves the motivation of a person to commit fraud. It includes financial, lifestyle, and emotional motivation. In Enron’s case, financial pressure existed for top management to meet the Wall Street analysts’ expectations. As for Satyam and OneTel, the top management engaged in fraud due to lifestyle motivation.
Opportunity refers to the condition or situation that allows a person or an organization to commit the fraud, hide it, and switch it to personal gain (Barney, 2009). The conditions at Enron, Satyam, and OneTel that provided an opportunity to commit the fraud were the companies’ control framework; the control environment, the control procedures, and the accounting system. The companies’ top management failed to accept the responsibility to provide conducive work environment. In addition, proper and effective accounting systems could have provided an audit trail, particularly a paper trail that could make it easier to detect fraud. Furthermore, the conditions in the three countries provided opportunities for the perpetrators to switch the misrepresentations into personal gains. During the respective frauds, top management received large bonuses.
Rationalization is a form of mental justification by perpetrators of their illegal behavior. Most perpetrators in the three fraud scenarios were first-time offenders with no criminal history that allowed them to use rationalization to hide their dishonesty. Due to the fact that the crimes committed were non-violent, the perpetrators did not appreciate the consequences of their actions.
The frauds committed by the three companies were influenced by cultural and social factors. The Enron scandal was triggered by the pressures for economic success that had commenced in the late 20th century and was characterized by a perceived expansive growth that heightened the expectations of corporate success. Enron was a victim of these expectations which resulted to the growth of a fraud designed to mislead the public until the economic face improved.
The management in all the three companies did not carry out effective fraud education training to the employees to tell and show them the devastating consequences of fraud. Since the top executives of the companies condoned fraud, the other employees did not feel that fraud had devastating consequences and thus, they could not hesitate to commit fraud. The frauds were also influenced by permissiveness of the activities in their cultural environments and lack of an ethical environment that condemns fraud.
Part 2
- Ethical issues in the case with reference to the principles of professional conduct
The principles of professional conduct are varied due to the fact that every profession has its own code (Weissman & Debow, 2003). However, all codes often work towards the promotion of the public interest, integrity, objectivity, independence, confidentiality, technical and professional standards, competence and due care, and ethical behavior. These principals also apply to all members in public practice.
As regards public interest, while acting in the course of the interests of their employers, professionals must put into account legal requirements and any loyalties and responsibilities owed to the community. Thus, in all its endeavors, CMI should ensure that it does not disregard public interest while furthering its own interests. Integrity requires members to show straightforwardness, sincerity, and honesty in their approach to professional work. An employee who discovers that his employer has committed or is about to commit an unlawful act should make all relevant efforts to convince the employer not to continue perpetuating the unlawful act and to rectify the matter. Objectivity requires professionals to be fair and not allow prejudice and conflict of interest to override their objectivity.
The principle of independence requires that professionals should act independently without any interest that is considered inconsistent with objectivity and integrity. Despite the fact that employees cannot be independent of their employers and there are certain legal duties such as keeping information confidential, they also have responsibilities towards directors, shareholders, other executives and employees, and third parties such as customers, banks and suppliers. Another principle of professional code of conduct is confidentiality. It is important to respect the confidentiality of information acquired in the course of work and disclosure to a third party without specific authority is unethical. Professionals also need to observe ethical behavior by conducting themselves in a manner consistent with the good reputation of their profession and refraining from any conduct which might bring discredit to their profession (Flanagan & Clarke, 2007).
The principles of professional ethics require all professionals to promote and support the highest level of ethics in their profession and uphold the highest standards of professional conduct. Professionals are also required to use only ethical and legal means in their course of operations while protecting the public against unfair practices and fraud and promoting all practices that bring respect and credit to the profession. It is also an ethical requirement for professionals to provide accurate and truthful information with regard to the performance of their duties at all times.
The facts of the case indicate that CMI has several ethical issues. The first ethical issue is with regard to integrity. The company’s bribing of government officials and using its political connections to outlaw unions raises integrity issues. It also raises the issue of employee mistreatment whereby the top executive officials make decisions to mistreat other employees, even to the point of breaking the law. The outlawing of unions deprives employees a platform for them to raise their concerns on issues such as paid leave, working hours, wages, discrimination, sexual harassment, and wrongful and unfair dismissal.
Other ethical issues are in respect to the company’s pollution of the environment, exploitation of employees, and facilitation of the importation of cocaine into the US. These issues are against the principle of protection of public interests. In addition the company’s funding of the United Peoples Liberation Front raises ethical concerns due to the fact that the organization is involved in harmful activities such as drug trafficking, rape, murder and disappearances. Making payments to this unsavoury terrorist organization raises the question of public interests, integrity, and competence and due care.
- What Alex should do using AAA ethical decision making model (The Institute of Chartered Accountants in Australia, d.)
- Determine the facts
Alex should establish the facts as to who, what, where, when, and how the problem was committed. Alex should find out the facts before raising the matter with Cameron. He should document his findings, noting that the employees have been mistreated, the company is funding a terrorist organization, polluting the environment, and facilitating drug trafficking.
- The significant stakeholders and definition of the ethical issues
Stakeholders of CMI include Cameron Derry, directors of the organization, shareholders, and creditors. The ethical issues include Alex’s responsibility to Cameron Derry versus his own integrity, Alex’s responsibility to the organization versus his responsibility to Cameron, and Alex’s responsibility to the organization and Cameron versus public interest. Overall, Alex’s dilemma is what further action he should take regarding the information he has gathered.
- The applicable fundamental principles and any other rules or values
Alex needs to demonstrate integrity, technical and professional standards, and competence and due care.
- The alternatives
By doing nothing, Alex would breach the principles of integrity, technical and professional standards, and competence and due care. Resignation would satisfy the three principles, though it would abrogate responsibility. Raising the concerns with the board members informally would not give Alex an opportunity to explain himself. By trying to convince Cameron Derry to stop breaching ethical and legal duties, Alex would be acting in consistence with integrity and it allows Alex the opportunity to explain himself.
- Assessment of the consequences
If Alex decides to do nothing and allow the company to continue funding the terrorist organization, it would pacify the ethical problems affecting the company, and this would cause devastating legal consequences to the operations of the company. This would cause Alex to breach his ethical standards as outlined in the Code. If he chooses to resign, the problem might never be identified, which may cause detrimental problems to the company. If he talks informally with the board members, it may preserve Alex’s integrity and may lead to an independent investigation, though it can have a negative impact on Alex’s career aspirations. If he tries to convince Cameron to put an end to harmful practices, Cameron might consider rectifying the problem.
- Decision-making
In light of the analysis, first, Alex can once more convince Cameron to rectify the issue basing on his findings. If this is not successful, Alex can raise his concerns with the board and other stakeholders. If again not successful, Alex can resign.
References
Albrecht, S. & Albrecht, C. (2004). Fraud Examination and Prevention.
Barney, J. L. (2009). Corporate scandals, executive compensation, and international corporate governance convergence: a US-Australia case study. Temp. Int’l & Comp. LJ, 23, 231.
Bhasin, M. L. (2013). Corporate Accounting Fraud: A Case Study of Satyam Computers Limited. Open Journal of Accounting, 2: 26-38.
Flanagan, J., & Clarke, K. (2007). Beyond a Code of Professional Ethics: A Holistic Model of Ethical Decision‐Making for Accountants. Abacus, 43(4), 488-518.
Jones, M. J. (2011). Creative Accounting, Fraud and International Accounting Scandals. John Wiley & Sons.
Romney, M. B. & Steinbart, P. J. (2008). Accounting Information Systems. Reading, mass: Addison-Wiley.
The Institute of Chartered Accountants in Australia. Joint Guidance Notes GN – Members in Business Guidance Statement. Retrieved from: http://www.apesb.org.au/attachments/GN1.pdf
Weissman, H. N., & Debow, D. M. (2003). Ethical principles and professional competencies. Handbook of psychology.
We can write this or a similar paper for you! Simply fill the order form!
