Is there an ethical duty of DDT manufactures related to their export of DDT to countries that do not ban its use as the USA does

  • Corporations often “vote with their feet” in terms of doing business where expenses are lowest and revenues are highest. Buying low and selling high is a basic economic formula for success that has motivated international trade in many ways over the centuries.  This is popularly discussed when governments consider tax policies and is also applicable when they also consider the less obvious factor of environmental protections laws. If Mexico has no ban on DDT (a pesticide used in agriculture) and the USA has banned the use (but not the manufacture) of DDT, should a corporation buy land in Mexico, import DDT from the USA, grow larger crops, and export them to the USA?
  • What ethical duties does the corporation have to the workers in Mexico, the neighboring landowners, and the USA consumers about the potential dangers of using DDT?
  • Is there an ethical duty of DDT manufactures related to their export of DDT to countries that do not ban its use as the USA does

Hi all,

I want to show (as much as possible) both sides of the coin here. I do not want to claim that usage of DDT is justified, but the point I will try to make is why corporation usage DDT on the first place. So, if you think corporations should not use harmful chemicals, please know I am on your side.

DDT or dichloro-diphenyl-trichloroethane was developed as synthetic insecticides in the 1940s. It was initially used to combat malaria, typhus, and for insect control in crop and livestock production (EPA, n.d.).

Around the planet more than 3 billion people are in risk on malaria.in 2010 malaria caused .7 million deaths, mostly in Africa. DDT is used to control malaria in Africa, it is not expensive and works for long time (Dasgupta, 2012). 

All over the world, DDT is used on 300 agricultural crops to keep the pest away (Kapoor,2010).

So to play devil’s advocate, we can see how DDT is used to prevent malaria or grow more food to feed hungry people. We can argue that there must be organic alternative to DDT, I am sure there is, but those are not as cheap as DDT is and there countries those use DDT do not have resource to afford those alternative.

Before I answer the actual question, I will quickly summarize why DDT was banned on the first place. DDT is very persistent in the environment, and even after stopping the usage, DDT still exist. DDT accumulate in fatty tissues and has found to cause tumors in some animals. And for the same reason DDT is classified to be human carcinogen. PA banned use of DDT in 1972 for these reasons (EPA,n.d.).

The USA has banned the use (but not the manufacture) of DDT, should a corporation buy land in Mexico, import DDT from the USA, grow larger crops, and export them to the USA?

Now that we understand the adverse effects DDT has on humankind or animals, no corporation should use it anywhere on this planet. Buying a land and using DDT there will expose Mexican people to DDT and American people who will consume the grains or whatever is grain using DDT will be exposed to DDT too.

EPA banned DDT in the USA for its effects on environment, people and animals, and if a Corporation buys a land in Mexico, usage DDT there to grow crops and export it back to USA, it is unethical, since they would knowingly affect environment and people in both the USA and Mexico.

What ethical duties does the corporation have to the workers in Mexico, the neighboring landowners, and the USA consumers about the potential dangers of using DDT?

The main ethical duty would be not use anything harmful that is harmful to environment, people and animal. In order to make more profit they might cause cancer among the workers in Mexico, the neighboring land owners, their livestock, the Mexican people who consume the food and the people in the USA who eat the food from those lands. Just to give another perspective, in today’s world of social media, people from all around the world are united on platforms like Facebook, twitter and other social platforms. And if the corporation choose to use DDT in Mexico, there is a fair amount of chance that customers in the USA will find out about that and as a result there will be a irreparable damage to the corporations reputation.

As an ethical corporation, they should educate workers in Mexico, the neighboring landowners and the customers in USA about harms of DDT. And now educating people does not take lot of resources, it is as easy as making some videos and upload those on YouTube or Facebook, or putting some boards near the farmlands.  

In the USA there is a clear trend among customers to choose to eat organic, so if the corporation does not use DDT and use Organic method to grow food instead, there is a higher probability that the corporation will do better in Mexico and in the USA.

Is there an ethical duty of DDT manufactures related to their export of DDT to countries that do not ban its use as the USA does?

If the corporation is ethical then they should not manufacture DDT on the first place, knowing their product is putting the whole planet, the humankind and animals at risk. But the counter argument from the corporation would be, there are countries those allow using DDT, and if we do not sell them they will get it from somewhere else anyway. In this scenario, the corporation (DDT manufacturer) should be ethical enough to educate the countries and customers about harmful effects of DDT. Now, there is a possibility the countries already know about those effects, and still choose to use DDT. This DDT manufacturing corporation should divert there resources to produce some alternative to DDT which won’t be harmful and not costly, so they can offer a viable alternative and yet do not lose business and customers.

Given the fact that since 1996. EPA is trying to ban usage of harmful chemicals such as DDT around the world, it will be only wise to divert resources to research and develop alternative to DDT those are not bad as it is.

References –

Retrieved on 7/7/2018. Retrieved from https://www.epa.gov/ingredients-used-pesticide-products/ddt-brief-history-and-status

Dasgupta, S (October, 2012). Health Costs and Benefits of DDT Use in Malaria Control and Prevention. Retrieved from http://blogs.worldbank.org/developmenttalk/health-costs-and-benefits-of-ddt-use-in-malaria-control-and-prevention

Kapoor, C(April,2010). Benefits of DDT. Retrieved from http://benefitof.net/benefits-of-ddt/

Conflicting Clients

Abstract

We are going to explore the relevant facts from the case study, find the ethical issues, find choices for Jenifer, constraints, and then finally we will recommend what Jenifer should do.

Keywords: ethics

 Relevant Facts – ‘Fantastic Developments’ a private company is a potential client of Coshocton National Bank (CNB). Jennifer Grace, who is working on current year audit for CNB came to know that ‘Fantastic Development’, which had a bad financials, had applied for a loan to CNB with and excellent unaudited financial statement.  Jenifer did an audit on Fantastic Development in the last financial year and found out about the companies struggling financial condition.

            When Jenifer tried calling CFO of ‘Fantastic Developments’ she got to know that the company is doing well, as a result, the unaudited financial statement and more interestingly, she got to know that Fantastic Developments has engaged a new CPA firm for its accounting and auditing needs. That made Jenifer wonder, if ‘Fantastic Developments’ had anything to hide, in other words – if the unaudited financial statement she found during auditing CNB, might not be correct.

The fact of the matter is, Jenifer did not have a way to confirm her suspicion since her firm was not going to audit ‘Fantastic’ anymore, and there was no direct way to validate it. And Fantastic Development is a private company, so they are not going to make their finances public either, so there is no way to go to SEC and validate their financials.

Ethical Issues – In this situation, the ethical problem or dilemma, Jenifer knew about bad financials of the ‘Fantastic Development’ company (her former client) and wanted to share her suspicion with CNB (her current client), to warn them, but she did not have any proof to back her suspicion. Just based on suspicion going to CNB would not have been professional either. But then, there is another point we have to consider, ‘Fantastic Development’ was a former client, which is a private company, so probably it was not ethical for Jenifer to disclose their information to CNB ( her current client) without Fantastic’ s consent.

Jenifer, as an auditor of CNB, had the responsibility to find out problems and alert her client about them. And she found one potential problem. So here is another ethical dilemma. To fulfill her current responsibility ethically, she had to break the confidentiality of former client, and that too, based on a knowledge which is not current, and from last financial year, and there was no way she could substantiate her suspicions.

            In case Fantastic Development is really trying cheat CNB with a fake financial statement, then informing CNB about that, and saving CNB from a potential loss making a deal is Jenifer’s obligations towards, CNB’s management, customer, shareholders.

            On the other hand, if Fantastic Development’s financials are still bad like Jenifer suspects, and if they do not get the loan from CNB, then they can go bankrupt ( at worst case) and employees can lose jobs, management can lose their business and money.

Identifying Stakeholders – In this particular case, there are 3 parties involved, CNB, ‘Fantastic Development’ and Jenifer’s Audit firm. Stakeholders are shareholders, customers, employees, managers of all 3 companies. If anything bad or good happens these stakeholders feel the direct impact. So what Jenifer does right or wrong or what Tom Ward the CFO of Fantastic Development does right or wrong, impacts all stakeholders mentioned above.

Possible Alternatives – In the given situation Jenifer had few alternatives –

  1. Do nothing, complete audit with provided information, do not inform CNB
  2. Or she could inform the whole incident to CNB management and take it forward
  3. The last option was quitting CNB, in that way should have escaped the whole situation.

If Jenifer decides to let it go and not to inform CNB, that might result in a loss for CNB. Assuming Jenifer would still be the auditor, she won’t be able to do anything, even if she decides to tell the CNB management about her prior knowledge. So, letting it go is not ethical as it might result in a loss for CNB and ‘Fantastic Development’ would get away with the financial crime.

      2nd option is to inform CNB about what Jenifer knows with the disclaimer that she was the auditor and she knew that the company had bad financials, and she suspects that the financial statements ‘Fantastic Development; has provided is fake. As long as doing this does not violet Jenifer’s company policy, there is no problem doing this, in case it does violet a policy she should seek her management’s consent first. Trying to help current client seems to be ethical, fulfilling her professional responsibilities and obligations. But this is not legal, AICPA Code of Professional Conduct includes a new Confidential Client Information Rule under Section 1.700.001, which expands the guidance on maintaining the confidentiality of client information (Blatch, 2015).Per this law she cannot divulge one client’s information to anyone else. Although, it might appear that since she is not going to work form ‘Fantastic Developer’ anymore, she does not have a professional obligation to serve their interest. Moreover, as a client, CNB has a right to know about any potential fraudulent financial statement. As long as Jenifer does not violet ay code of conduct, it is only justified that she tries to fulfill her professional obligation by providing the information she has to CNB and make them aware of the situation.

      Trying to leave the situation is not going to professional, although she might avoid any obligation, this option is neither ethical nor responsible.

Practical Constraints – Jenifer might face few practical constraints, even if she wants to let NBC know about what she knew about “Fantastic Developer’s” financials. The first constraint might be her own company policy that might stop her from disclosing client’s financial information to another client. And Jenifer needs to talk to her management and compliance team to get an exception. If Jenifer violets, some laws or company policy, that might end up badly for her.

Next constraint is, Jenifer does not have any proof that Tom Ward did not tell her the truth. The company might have really turned around. Since the company is private, they won’t disclose their finances to the public or to SEC. And the financial they have provided to CNB are unaudited, so they can claim later that there were some mistakes.

With so many changing parts, it will be hard for Jenifer to go to CNB management and make a compelling point. Since she is auditing them for the first time, she does not have a great relationship either ( I am making an assumption here). So, in case Jenifer’s suspicion turns out not to be true, she will lose credibility. And the CNB might think, Jenifer is not an Auditor they can trust their information with, because in future she can go to another client of CNB and disclose their information to them. So, Jenifer might get fired.

Specific Action – Jenifer should talk to her leadership team and compliance team first, to find out what she should do in this situation. Most probably, she cannot legally disclose one client (previous or current) information to another client. But, if her superiors or compliance team or the organization policy stops her from disclosing information to CNB, she can always do her professional duty in another way. She can highlight to CNB that “Fantastic Developer’ is a private company and their financials are not available to SEC, so they should ask for audited financial reports. The PCAOB’s rules require auditors to provide “reasonable assurance” that the financial statements they’ve reviewed “are free of material misstatement whether caused by error or fraud (Johnson, 2010).” If possible she should recommend getting prior financial reports too, just to make sure they have a consistent cash flow to repay the loan they intend to take. But, before making these recommendations, she should check with superiors, just to make sure this is the acceptable approach to address the issue.

References

Blatch, M ( March, 2015). AICPA’s revised confidentiality rule and Sec. 7216. Retrieved from https://www.journalofaccountancy.com/issues/2015/mar/aicpa-confidentiality-rule.html

Johnson, S (April, 2010). What Is the Auditor’s Role in Finding Fraud?. Retrieved from http://ww2.cfo.com/accounting-tax/2010/04/what-is-the-auditors-role-in-finding-fraud/

Explore how Enron and Arthur Andersen might have been encouraged to act ethically other than direct legal pressures.  

Oversimplifying the case of Enron and Arthur Andersen, Enron was using some accounting practices that were questionable. Because Arthur Andersen was an independent auditor, they were responsible for reporting any questionable accounting practices might be risky to the shareholders of Enron. The Security and Exchange Commission was responsible for requiring and publishing accurate information about Enron’s accounting information. In the end, a few Enron employees went to jail, and Arthur Andersen stopped doing business under that name.

Identify what you consider any conflicts of interest in the case of Enron and Arthur Andersen.

  • What could have been done to avoid the conflicts of interest you identified?
  • How would you change the laws to correct the problems that came up in the Enron and Arthur Andersen case?
  • Explore how Enron and Arthur Andersen might have been encouraged to act ethically other than direct legal pressures.  

Enron was Andersen’s one of biggest clients and the firm was generating $1 million in audit fees along with other fees to Andersen’s consulting firm, Accenture. Since Enron was a client, Andersen managed 80% of Oil and gas industry companies to sign up as clients.

In 1998 when Andersen implemented their “2X” strategy to double there revenue, Andersen started doing more than one a year external audit and  they hired 40  of Enron’s entire internal audit team, added their own and open a office in Enron’s headquarters. Andersen used to attend Enron meetings and helped shape new businesses while doing audit of their books. This was clear case if conflicts of interest.

What could have been done to avoid the conflicts of interest you identified?

Arthur Andersen should not have become a partner of Enron. From another aspect, they turned in to internet audit team. A report by Enron’s law firm, who were investigating an employee’s allegations of improper accounting, concluded that Andersen auditors reviewed and approved of transactions by Enron-related partnerships that contributed to the company’s collapse (Eichenwald, Oppel, 2002). These transactions and partnership deals helped Enron inflate the stock price. While the Enron audits were handled in the accounting firm’s Houston office, the report also makes clear the involvement of Andersen executives at the firm’s Chicago headquarters (Eichenwald, Oppel, 2002). That essentially means that although Andersen was a decentralized corporation, but the work they did for Enron was known to the Andersen’s headquarters.

Enron should not have consented Andersen to hire it’s 40 internal auditors and, open an office and start the whole onsite operation that they did, and Andersen should have done just once a year auditing like what they were supposed to do, to check Enron’s books to find issues and fix them. Instead of finding problems in auditing Andersen became partner in crime with Enron.

But then Andersen should not have pursued the opportunity either, or should have maintained their professional integrity and do what they were expected to do by the SEC and the investors of Enron. But, we can see how it worked out, the partner had pressure to double the revenue from the account, and Andersen made a deal with Enron to help them with their accounting to boost revenue. While doing that they helped Enron with the transactions and partnerships that caused Enron to finally go bankrupt.

How would you change the laws to correct the problems that came up in the Enron and Arthur Andersen case?

            The laws should have held Enron management responsible and accountable for all deals and transactions they do, and they should have disclosed all the details of transactions and partnership information to their external auditors for accounting purposes. The management should have skin in the game too, they should not be allowed to sell your stocks before company went bankrupt, or even if they sell, by law the money should be recovered from them, if the company does not go bankrupt for legitimate reasons.

            Law should have prohibited Andersen to participate in Enron’s meetings, transactions etc. Andersen being auditors should have been an external watchdog. And auditors should be liable for verifying information they get from management of client and then doing the accounting and reporting numbers. Any mistake should cause heavy fines and sanctions.

According to Lynn Turner, former chief accountant of the Securities and Exchange Commission “Sarbanes-Oxley was legislation passed by Congress in the summer of 2002 and then signed by President Bush. In it, about half of the language deals with setting up a new regulator for the accounting profession called the Public Companies Accounting Oversight Board that oversees the audit firms. The rest of the legislation deals with some important things like ensuring that management is held accountable for the financial reports that they file with the SEC. It improves the independence of corporate boards, as well as the independence of the auditors, and it increased some of the penalties for those who shred documents or violate the security laws (Norris, 2005).”

Explore how Enron and Arthur Andersen might have been encouraged to act ethically other than direct legal pressures.  

            In a capitalistic society competition between firms is inevitable. Both Enron and Andersen wanted to grow. As we could see how their management forced employees to generate more revenue. And management team of Enron and Andersen have amazing amount of confidence that they thought they would continue what they were doing without getting caught. When the management of any corporation is corrupt it is hard to do anything to change grown men or women. But since, we are exploring what might have been encouraged Enron and Andersen to act ethically other than laws, would be organization policies built around organizational values and professional integrity.

            Both Enron and Andersen were for Profit Corporation, no one expected them to act like not for profit organizations, but they should have had policies for each employee, reminding what their corporations stand for, their vision, their mission and ode of conducts. Especially Andersen employees should have had reminded of their professional responsibilities, and the fact that how many people’s future depended on their shoulders though 401k and retirement accounts. And the policies should have had the basic point, that there is no short cut to success, of course in more professional language.

References:

Oppel, R , Eichenwald, K(Jan,2002). ENRON’S COLLAPSE: THE OVERVIEW; ARTHUR ANDERSEN FIRES AN EXECUTIVE FOR ENRON ORDERS. Retrieved from https://www.nytimes.com/2002/01/16/business/enron-s-collapse-overview-arthur-andersen-fires-executive-for-enron-orders.html

Norris , M(May,2005). Has Accounting World Changed Since Enron? Retrieved from https://www.npr.org/templates/story/story.php?storyId=4673933

Conflicts of Interests

In this paper, I am going to talk about Blackrock that had to pay $12 million in fine as SEC convicted than in conflicts of interest case. Blackrock violated Sections 206(2) and 206(4) of the Investment Advisers Act of 1940 and Rule 206(4)-7 and the firm caused violations of Rule 38a-1 of the Investment Company Act of 1940 (SEC, 2015). We will look into Vanguards policies to verify what they are doing to discourage such conflicts of interests. Then we will discuss what managers can do using policies and laws to avoid such COI,

Keywords: conflicts of interests, COI

The organization 

            Blackrock is an investment firm that manages money on behalf of its investors/customers (Blackrock, n.d). One of BlackRock’s portfolio manager, Damien Rice who was managing a portfolio of energy funds, was also running a family owned oil and natural gas company name “Rice Energy” that partnered up with a coal company. As a portfolio manager of Blackrock’s energy portfolio manager Damien Rice made $1.7 billion investment in the publicly traded coal company that was also a partner of “Rice Energy” which he started investing $50 million of his own money (Lynch, 2015). According to SEC, BlackRock was aware of Damien Rice’s activities and approved of Rice’s activities, but failed to disclose the conflict to the boards of the BlackRock funds and to clients (Lynch, 2015). Blackrock’s chief of compliance during this time, Bart Battista, also paid a fine of $60,000 in connection with the case, investigators said. Neither admitted wrongdoing as a result of the agreement (Marino, 2015). According to SEC Damien Rice used Blackrock’s email address (his work email address) to conduct “Rice Energy’s” business, which was a conflict of interest and Blackrock failed to report it to investors or board (Marino, 2015).

The Law         

In the USA there is a law and Blackrock was found to be willfully violating the law, by SEC. Blackrock violated Sections 206(2) and 206(4) of the Investment Advisers Act of 1940 and Rule 206(4)-7.  The order finds that the firm caused violations of Rule 38a-1 of the Investment Company Act of 1940. Battista, the then chief compliance officer for Blackrock caused violations of Section 206(4) of the Advisers Act, Rule 206(4)-7, and Rule 38a-1 (SEC, n.d.). Per 206(2) and 206(4) of the Investment Advisers Act of 1940, Damen Rice, as a fiduciary to his customers could not invest in a business that had relations with his own business without informing that to clients (SEC,n.d.).  Rule 38a -1 requires investment company and an investment adviser registered with the Commission to implement policies and procedures designed to prevent violation of the federal securities laws, and designate a chief compliance officer (“CCO”) to administer them by October 5, 2004 ( Morrison and Forester, 2004).

The USA has a matured capital market, and this should not be a surprise that there is an existing law to discourage such conflicts of interests. Bart Battista, the then chief compliance officer, decided to look the other way and ignored the law, as the result, he had to pay $60,000 in fine (Marino, 2015).  This case is a great example of why law alone is not enough if management is not interested in implementing those laws as organizational policies. Blackrock took additional measures in form of more policies after this incident (Marino, 2015).

The Policy

In my research, I found Blackrock’s policies can be found at http://ir.blackrock.com/governance-overview and under Governance Document we need to refer to Code of Business Conduct and Ethics document. In this PDF we need to refer to section 3. Conflicts of Interest where it says “Conflicts of interest may arise when a person’s private interest interferes, or appears to interfere, with the interests of BlackRock, or where the interests of an employee or the firm are inconsistent with those of a client or potential client, resulting in the risk of damage to the interests of BlackRock or one or more of its clients. (Blackrock, 2017). This policy pertains to the conflict of the incident we discussed above. Per this policy we can see how the conflict of interests aroused when Damien Rice’s private interest interfered or appeared to interfere with the interest of the client and potential client, resulted in the risk of damage to the interests of BlackRock or one or more of its clients.  

Ways that managers can use both policy and the existing laws 

            First of all, I believe it is possible for managers to construct policies within organization around the laws the country has or if the organization deals with customers from a different country, the policies should cover the laws of other countries too.

            Now, another factor is, manager’s responsibility does not end at constructing a code of conduct or just having a policy in an organization. The manager needs to make sure every employee is aware of those policies, understands the importance of policies and understands well the consequences of violating the policies and laws.

            Implementing policies is going to be challenging, management should make sure the existing employees are aware of the organizational policies, the laws they might have to deal with and consequences of violating them. And this process has to be implemented for every new employee who comes abroad. It is will be best if there is a refresher every year or so.

            Finally, after implanting the policies, management still needs to make sure that employees are compliant. So there should be auditors to make sure each employee are compliant with the organizational policies.

Do laws and policies help promote ethical behavior?  Do you feel that the laws, as they are currently, are sufficient and effective?

            Laws and policies promote ethical behavior to a certain extent. As long as one employee’s goals are aligned with organization’s goals, their behavior will be driven by policies and laws. But when an employee is acting on his or her own interest, it might not be aligned with the policy or law. Now, management can make sure during the recruitment that employee’s goals are aligned with employer’s goals. And implementing a policy and making sure each employee comply with those will help management make sure employees are ethical.

            We already have enough laws, but an employee who is acting upon his or her self-interest, might violet policies and laws. While laws are usually made by regulatory bodies or the government in a nation (Democracy or in a republic) so those laws are often retroactive. With so much innovation going on and disruptions happening in industries, there will always be people who will break some laws and regulators will try to bring in regulations afterward. We can observe the cryptocurrency industry. There are a lot of scams and regulators are trying to bring in regulations and laws to protect general people. So, to answer the question, we have enough laws those are in general effect, but there are new industries coming up based on technology where we need the `law.

References

Retrieved on 6/25/2018. Retrieved from https://www.blackrock.com/corporate/about-us

Lynch, S. N (April, 2015). BlackRock to pay $12 million in SEC conflict of interest case. Retrieved from https://www.reuters.com/article/us-blackrock-sec-blackrock/blackrock-to-pay-12-million-in-sec-conflict-of-interest-case-idUSKBN0NB23020150420

Marino, J (Apr, 2015). Ex-BlackRock fund manager didn’t disclose a conflict regarding the biggest holding in his biggest fund. Retrieved from http://www.businessinsider.com/blackrock-fined-by-sec-for-conflict-of-interest-2015-4

Retrieved on 6/25/2018. Retrieved from https://www.sec.gov/news/pressrelease/2015-71.html

Retrieved on 6/25/2018. No Action Letter. Retrieved from https9://www.sec.gov/divisions/investment/noaction/2007/heitman021207.pdf

SEC (Jan, 2007). Investment Advisers Act of 1940 – Section 206(4) and Rule 206(4)-3 Emanuel J. Friedman; EJF Capital LLC. Retrieved from https://www.sec.gov/divisions/investment/noaction/2007/friedman011607.pdf

Retrieved on 5/26/2018. Retrieved from http://www.mondaq.com/unitedstates/x/24113/New+Rules+38a1+and+20647+for+Investment+Companies+and+Advisers

BlackRock (April, 2017). Code of Business Conduct and Ethics. Retrieved from http://ir.blackrock.com/interactive/newlookandfeel/4048287/CodeofBusinessConductandEthics.pdf

How can effective management provide a better business environment that benefits all parties, including employees, employers, and customers?

Building on the themes discussed in the paper from this week, discuss the following issue from your own personal perspective.  Draw on your own experience and knowledge. Put yourself in the shoes of both an employer and employee.

  • How can effective management provide a better business environment that benefits all parties, including employees, employers, and customers?  How does this compare to situations in which self-employed individuals conduct business on their own without management policies

I have always worked for large consulting firms (number of employees > 10,000). I report to middle management, but being in the industry for more than 10 years now, I have fair amount of idea how the industry more or less functions, although I have no knowledge of what goes on in board meetings or among the organizational leadership. But I will try to answer the questions with the knowledge I have.

            As an employer the leadership or the executives need to consider employees, customers,, shareholders. The number of stakeholders are more in case of a bigger publicly listed company. While the leadership tries to attract the best talents, wants to provide great service to customers and in result create wealth for the shareholders, they means they choose do not always produce the results they intend.

            I started working in the year 2007, so I do not have much experience before financial crisis, but after 2008 I noticed the Organizations I worked for focused more on cost savings from every possible angle. And intense competition from competitors put a pressure on profits too. The leadership incentives the sales team based on the profits the company can make, and that has made the middle management shift the focus from product quality or customer satisfaction, and they are more focused on short term profit from projects.

            In Code of Conduct of any organization the leadership talks about putting customers first and leadership should stick to it. Incentivizing the employees per their role based contribution is a good way to go. The leadership or management team should promote a transparent environment where employees and customers can provide feedback directly to improve the work environment and the experience. Revenue and profit should not be prime focal point, businesses or organizations should focus on providing great service and as a result of that service the business would grow and generate more revenue.

            Leadership often implement internal audits to make sure best practices are being performed, there should be another filtering system to find out if customer is being manipulated or exploited by the sales team for bigger bonus, or they should change the incentive system and it should not be revenue linked. That way the management team can make sure that customer is not being exploited, over promised and employees are not being exploited or pressurized to complete 10 days’ work in 5 days to increase profit. But this might result in slower growth of business and slower wealth generation for shareholders, but the management team will have to manage expectation of everyone involved.

Small business owners or self-employed people can stick to ethics and value avoiding any conflict or confrontation. If I as a self-employed person want to serve my customer the best way possible, there is no one to stop me from that. I see managers try to over sell and take advantage of ignorance of customer to generate more revenue, and it happens in my profession. I think self-employed person can easily avoid such wrong doings, eventually the customer might understand and gain trust and as a result the small business or self-employed person will gain more business. Since there are less stakeholders, no shareholders or managers to report to, it is probably easier to be ethical without feeling pressured. But, I understand there will always be a pressure of generating profit to cover the bills.

            Since there won’t be any leadership or management, there will be no audit or check either. And that make it easier for the self- employed person to be unethical. But it shows how shortsighted the person might be. Who does not care about building a long term relation with the customer or may be does not care for return customers. So, any self-employed person, should be ethical but then whether or not he will be, that is totally up to him. But with current systems where customers can post reviews, such as Angie’ List or Yelp, it is better for the self-employed persons to be ethical to gain business, bad ethics will attract bad feedback and in result that will impact business negatively.

Does management, in your view, help shape the values and ethics of an organization?

Does management, in your view, help shape the values and ethics of an organization?

Management plays a very important role in shaping value and ethics. Organizations usually have code to Ethics. And it is on management to lead by example and make employees follow the values and ethics.

An organizations code of ethics usually contain follows –

  •    Code of conduct – for employee to employee or employee to customer
  •     Respect for personal believes of coworkers or customer
  •     Transparency and accountability
  •     Following best practice
  •     Conduct for leadership – no fear or intimidation tactics

These are fairly bare minimum points, but for example, the management wants to implement just these. I work for a consulting firm and in a team environment, we have to work with people from all around the world, people from different backgrounds and believes. The management treats everyone equally, regardless of the employee’s personal believes or backgrounds. And it is important that coworkers interact with each other within professional boundaries and same applies while interacting with the client. Management needs to make sure this is being followed otherwise behavioral misconduct can cause the organization some reputational damage.

Transparency and accountability is another area which is very important for teams. The team members should know their goal, and manager usually defines each member’s accountability. Everyone in a team should know who is doing what and who is accountable for what. If accountability is not clear then the employees might not be able to complete their goal.

Following best practices help reduce cost overrun, maintain the standard and compete in the marketplace. The managers need to introduce verification and audit process to make sure that the best practices are followed and to identify areas of improvement.

The leadership should not intimidate workforce, it usually won’t be fruitful. The employees can leave the organization, or they won’t be innovative, creative or as productive as they could be. Managers need to inspire and motivate using right tools such as incentives.

Is employee behavior, ethical or not, a by-product of the organization’s ethical climate?

            We read about Sears, what their management did and how it changed the employee’s behavior. Since management did not put any check on employees and incentivized bad behavior the company lost $60 million (Paine, 1994). We have another comparatively recent example of a well-known US Bank. Wells Fargo management incentivized bad salesmanship, and their employees ended up cheating customers. When a whistleblower tried to report these incidents to management, the management fired the whistleblower (Egan,2018). The management wanted to generate more revenue and offered employees incentives for selling products to customers. The management did not verify if the employees are taking any shortcuts. And that costed Wells Fargo its profit, huge dent to it’ reputation and it had to pay the whistleblower $5.4 million (Egan,2018).

            After the scandal, Wells Fargo has changed its values and spending millions on ads to repair its image in public. It has actually encouraged employees to come forward and call the “ethics hotline” to report any suspicious activities by other employees (Egan,2018). And they are getting calls from whistleblowers reporting misconducts such as altering documents and so on. So we can see, how management influences employees. Management’s attitude can set the ethical climate in an organization.

 What ideally is the manager’s role in helping to create and maintain organizational integrity?

            I will quickly share an experience I had with my immediate management team lately. In a project, to maximize the project the project management team decided to construct a team with many interns. And the interns were actually getting on the job training, so the poor kids did not have any idea of what they were supposed to do before they were deployed in a project with tight deadlines. The sales team gets their bonuses based on profits from projects. So getting the work done by interns was a great way to save money and maximize project. But in reality due to the inexperience of those interns, the quality suffered and we missed deadline multiple times. The client finally sued us and did not pay any money for obvious reasons.

            This middle-level managers I just mentioned are great examples of how the management team should not be. Our first priority should have been a happy customer that means great quality product and meeting the deadline, instead of that they made the incentive and cost-saving their primary focus. They did not have a sense of priority, integrity, leadership or sense of anticipation. And due to their incompetence whole team was demoralized and we simply gave up at a point.

            The managers should stand by organizational values and they should never focus on personal gains. Mentoring the team, being good leaders, leading by examples and anticipating problems would be a great asset in a manager. He should be fair and just too to employees. The employees might need a day off or after working for day night they might expect good performance review and the manager should be fair and just. Being a good mentor he can guide the employees, and advice on what they should improve or what they are doing good.

References – 

Egan, M (June, 2018). Wells Fargo’s ethics hotline calls are on the rise. Retrieved from: https://www.msn.com/en-us/finance/news/wells-fargos-ethics-hotline-calls-are-on-the-rise/ar-AAySU9p

Paine, L (April, 1994). Managing for Organizational Integrity. Retrieved from: https://hbr.org/1994/03/managing-for-organizational-integrity 

Retrieved on 6/23/2018. Retrieved From https://www.youtube.com/watch?v=SC-8qCzenpg

Capital Infusion Case Study

Abstract

For expansion the company needed $200,000 and they have many options, this paper will provide a narrative about private debt, private transfer of partial ownership, private transfer of entire ownership, public debt issuance, and public equity offering. Then it we will discuss of the impact of each alternative which would include issues of structure and cost of capital. And finally we will discuss the impact of an infusion of capital of $200,000 on the financial statements

Keywords: IPO, corporate bonds

 

 

 

 

 

 

 

 

 

Private Debt financing –

Private debt and corporate bonds are different in a way that the private debt is usually held by intuitional investors, funds, insurance companies (Reicherter, n.d.). And these private debts are not as liquid as corporate bonds. The company needs to find a fund or company to get the private debt. This debt is similar otherwise. There is no change in ownership due to private debt. The company will have to make the interest payment and at the end of the loan term, they will have return the full amount due to the lender. In any case, the business does not do well or has to file for bankruptcy, they will have to liquidate the assets to pay back the lender.

This company has a current Debt t Equity ratio of 0.6, so based on a rating on rating agency, it will have to pay the interest on the debt. And the payment of interest on debts will go out from earnings. Most probably the company will have to pay a higher interest rate, although there will be a tax advantage since the interest payment happens from before-tax income, so the cost of capital will be less.

So, if we ignore the cost of finding the private debt, there will be few changes in the balance sheet, the current asset will increase as the cash will stand at $ 4,136,400. And long-term debt will increase to $3,970,300.

There will not be any change in shareholder equity. But the current ratio will change to 1.5 (rounding up 1.47). And Debt ratio will change to .67 (rounding up .666).

From next year there will be a cash outflow towards paying the coupon or interest on the bonds to the bondholder.

 

Private investor(s) who would be willing to share ownership –

            The owners of the company can sell there 50% stake to private equity firm or venture capitals. Once the ownership is shared, the private investor will be the single largest stakeholder. So any management decision will have to have the investors consent. But, it will not impact liability or anything else. And there won’t be any obligation such as a coupon or interest payment. The dividend is not mandatory. The major impact will be in management, other than that everything else will be almost same balance sheet wise.

Here one point to note, initially the company had 50 investors or shareholders, so when the company’s 50% stake is being sold, some of the investors can sell their stakes completely or each investor can give up 50% stake to the private investor for $200,000. The existing shareholders will lose the ability to control or even influence the decision as minority shareholders (Simpson, 2017).

Now let us see, how selling 50% stake in the company will impact the balance sheet. The existing common stock was worth $300,000, 50% of it being sold for $200,000. So the existing shareholders are making a profit worth $50000 on their holding, increase the common stock value and that will actually change the Total stockholder equity, too.

Shareholder’s equity = Total Assets – Total liabilities

And in this case where 50% stake is being sold, there would not be any change in total liabilities but the total assets will go up, since the amount in common stock would increase, resulting in increasing the shareholder equity. This signifies this amount would be returned to shareholders if all assets are sold to pay off all liabilities.(Investopedia, n.d.).

Private buy-out –

            The company can sell 100% share without going public. Private equity funds or venture capital funds can buy out 100% stake in the company for $200,000 they need. Although it will be a bad deal for the current shareholders as the common equity costs $300,000 and selling those shares for $200,000 will be a bad deal.

Selling full stake would mean that the management team or the previous shareholder will not have any control or say in the company anymore. But they will not be liable for any liability or asset the company may or may not have in future.

Private equity funds can go out and buy all the publicly traded stock to gain control of the company too. Or Private equity fund can borrow the money to buy out companies. In this case, for the shareholder of this company, the source of fund is not a problem, and it is private, so the private equity or venture capital fund which is essentially funded by high net worth individuals can just purchase the shareholder equity.

            If the buyout happens for $200,000, then there would not be much change in assets or liabilities or income statement, the shareholder equity will get reduced, as the common stock worth $300,000 will be sold for $200,000, so the total shareholder value will be reduced for the next owner of the company.       

Public debt (corporate bonds) –

The company can issue corporate bonds. Issuing corporate bond does not impact or change ownership structure. The corporate bonds have to be rated by the rating agency and based on rating the company will have to pay a coupon rate to the bond hold until maturity of the bond. Upon maturity, the par value or face value will have to be repaid to the bondholder.

While the regular coupon payments will impact earnings, since the bond is a debt and the coupon payment or par value payment on maturity cannot be deferred, on the positive side the interest paid amount on bonds, goes out from before tax earning, hence it reduces overall tax liability. So the cost of capital comes down. In case the company goes out of business before the bonds mature and final par value is paid back, in that case, the company might have to liquidate assets to pay off the debts/bonds.

So, if we ignore the cost of issuing the corporate bonds, there will be few changes in the balance sheet, the current asset will increase as the cash will stand at $ 4,136,400. And long-term debt will increase to $3,970,300.

There will not be any change in shareholder equity. But the current ratio will change to 1.5 (rounding up 1.47). And Debt ratio will change to .67 (rounding up .666).

From next year there will be a cash outflow towards paying the coupon or interest on the bonds to the bondholder.

Common stock –

The company can go public to raise $200,000. Currently, the common stocks are valued at $300,000. They will have to hire an investment bank to underwrite and prepare for the IPO.

Before going public the company needs to make sure it has experienced management team since equity sale is essentially selling stakes in the company, the management will have to be accountable to investors/shareholders. And the company would need accounting and legal team to meet SEC requirement to stay listed.

To comply with regulations the company has to review and publish last 5 years financial statements (Investopedia, 2018). This process starts with 6-12 before going public.

The company has to engage investment bank for underwriting, who has prior experience with the same market sector. The underwriting, account and any legal work will be done by the investment bank to comply with SEC regulations.

The underwriters come up with S-1 which is required by SEC for IPO filing, S-1 is the main disclosure document and it contains the business model, organization structure, financial statements, competition information, employee information and the risks company foresees. And then the company has to submit the S-1 to SEC for review and approval until review and approval is done the company cannot come out in public with their IPO plan.

Once SEC approves S-1, the CEO or executives and investor relations can start road shows to increase awareness and generate buzz. This step starts 20 days before listing.

Based on the response received from potential investors during the roadshow, the underwriting team and company decide on offer price and amend the prospectus to update the offer price and date. 10 days before going public, underwriters start advertising the IPO. Once everything is finalized, the company decides to list on NYSE or NASDAQ and start trading.

The underwriting team will finalize the price of the stock, and based on that it will be decided how much stake needs to be sold to raise $200,000, as long as the current stakeholders manage to keep controlling shares, they will have the power to make decisions.

But, each common stockholder will have voting rights, and any major decision can be taken as long as majority shareholder is in agreement.

Once the share price is finalized, the common stock price will have to be revised and the shareholder equity will also have to revise based on common stock price.

 

 

 

 

 

 

References –

Simpson, S. ( December, 2017). How To Sell stock in your company. Retrieved from https://www.investopedia.com/articles/stocks/12/how-to-sell-company-stock.asp

Reichter, M.( n.d.). Private Debt. Retrieved from http://www.goldingcapital.com/en/investors/private-debt.html

Retrieved on 5/27/2018. Retrieved from https://www.investopedia.com/terms/s/shareholdersequity.asp

Discuss how your approached this calculation. Also describe the tax shield advantage debt capital provides.

The Secure and Safe Waste Management Company specializes in handling recyclable materials as well as traditional waste removal services. It is a small but publicly traded corporation. It currently has a capital structure of $50 million in bonds which pay a 5.5% coupon, $20 million in preferred stock with a par value of $50 per share and an annual dividend of $2.75 per share. The company has common stock with a book value of $25 million. The cost of capital associated with the common stock is 12%. The marginal tax rate for the firm is 30%.

The management of the company wishes to acquire additional capital for operations maintenance purposes. The chief financial officer (CFO) suggests that another public debt offering in the amount of $45 million. He believes that because of favorable interest rates, the company could issue the bonds at par with a 4.5% coupon.

Before the Board of Directors convenes to discuss the debt IPO, the CFO wants to provide some data for the board of directors’ meeting notebooks. One point of analysis is to evaluate the debt offering’s impact on the company’s cost of capital. To do this:

  • Calculate the current cost of capital of Secure and Safe on a weighted average basis
  • Calculate the cost of capital of the company assuming the $45 million dollar bond issue with a 4.5% coupon is approved.

Discuss how your approached this calculation. Also describe the tax shield advantage debt capital provides.

 

 

 

The current cost of Capital of Secure and Safe on a Weighted average basis

 

Cost of Debt –

The company currently has $50 in bonds which pay a 5.5% coupon

Applicable tax rate – 30%

So cost of the debt is = 0.055(1 – 0.3) = 0.0385 or 3.85%

The cost of this debt is less because of the tax shield. Interest expenses are tax-deductible for the company (Folger, 2018). In other words, the company pays $2,750,000 in coupon payment. The company can save 30% of interest paid in tax payment, or $825,000 is saved in tax, and that reduces the cost of capital for this bond.

Cost of Preferred Cost –

The company has $20 million in preferred stock of par value $50 which pays $2.75 per share

Cost of preferred stock = 2.75 / 50 = 0.055 = 5.5%

Preferred stocks are both equity and debt component. There is no upside for the investor but the dividend payout is consistent. For the company, there is no tax benefit on dividend payout though, on $20 million preferred stocks the company hands out $1,100,000 but there is no tax break for it.

Cost of Common stock –

The company has common cost worth $25 million and cost of capital is 12%

 

Total market value of working capital = 50 + 20 +25 = $95 million

We add up the bond, preferred stocks and common stocks, and then find out the percentage of each type of funding.

Percentage of bond = 50/95 = 52.63%

Percentage of preferred stocks = 20/95 = 21.05%

Percentage of common stocks = 25/95 = 26.32 %

So, WACC

(0.5263)*(0.0385) + (0.2105)(0.055) + (0.2632) (.12) =    0.02026255+ 0.0115775+ 0.031584 = 0.06342405 = 6.34%

We get the WACC by multiplying the cost of capital and percentage of each capital type and then add all of them.

 

Cost of capital of the company assuming the $45 million dollar bond issue with a 4.5% coupon is approved

 

We already have the cost of capitals for previous capital types, we need to find the capital cost for the $45 million, which it wants to issue.

Now if this bond is issued, cost of the bond will be –

0.045(1 – 0.3) = 0.0315 or 3.15% because the interest payment will be tax deductible for the company, that will reduce the effective cost of new capital.

The process to calculate remains same, but the total capital will go up as the $45 million will be added.

With the new $45 bond the total market value of working capital = 50 + 20 +25 +45 = $140 million

Percentage of bond paying 5.5% coupon= 50/140 = 35.71%

Percentage of preferred stocks = 20/140 = 14.29%

Percentage of common stocks = 25/140 = 17.86%

Percent of bond paying 4.5% coupon = 45/140 = 32.14%

With the new $45 bond the WACC will be

(0.3571)(0.0385) + (0.1429)(0.055) + (0.1786) (.12) + (0.3214) (0.0315)  = .01374835 + .0078595 + 0.021432 + .0101241 = 0.05316395 or 5.32%

Cost of capital is multiplied with the percentage weight of the capital and then adding all of them.

 

Reference –

Folger, J ( April 2018). What Is The Formula For Calculating Weighted Average Cost Of Capital (WACC)?. Retrieved from https://www.investopedia.com/ask/answers/063014/what-formula-calculating-weighted-average-cost-capital-wacc.asp

Raising Capital Constantine’s Grocery

Abstract

 

For expansion the company needed $135 million, and they have two options, although the company sounds small with operation is only in one city, but IPO or selling shares of the company to public is one option, but that is giving up control on company and comply with regulations and another option is corporate bonds. This is debt, not necessarily giving up stake but in this case, the company has to make consistent coupon payments to bondholders. We will explore the processes and explore the risks.

 

Keywords: IPO, corporate bonds

 

 

 

 

 

 

 

For the company, there are 2 options available. Going public with an initial public offering or selling equity to investors or bonds worth $135 million. These 2 options are very different than each other. Let us first explore what will happen if they want to sell equity in the company.

 

Through an Initial Public Offering or IPO, a company raises capital by issuing shares of stock, or equity in a public market (Fuhrmann, 2013). But this is a family business and privately held company so they never had to make their financial results public or any information such as a change in the board of directors’ public, but going public means this company will have to make all these information public. To be precise they will have to file this information with SEC. But before they can file IPO they will have to hire an Investment Bank. Hiring investment bank starts 12 months before going public, and the fees and experience play crucial roles in selection.

Before going public the company needs to make sure it has experienced management team since equity sale is essentially selling stakes in the company, the management will have to be accountable to investors/shareholders. And the company would need accounting and legal team to meet SEC requirement to stay listed.

To comply with regulations the company has to review and publish last 5 years financial statements (Investopedia, 2018). This process starts with 6-12 before going public.

 

The company has to engage investment bank for underwriting, who has prior experience with the same market sector. The underwriting, account and any legal work will be done by the investment bank to comply with SEC regulations.

The underwriters come up with S-1 which is required by SEC for IPO filing, S-1 is the main disclosure document and it contains the business model, organization structure, financial statements, competition information, employee information and the risks company foresees. And then the company has to submit the S-1 to SEC for review and approval until review and approval is done the company cannot come out in public with their IPO plan.

Once SEC approves S-1, the CEO or executives and investor relations can start road shows to increase awareness and generate buzz. This step starts 20 days before listing.

Based on the response received from potential investors during the roadshow, the underwriting team and company decide on offer price and amend the prospectus to update the offer price and date(Investopedia, 2018). 10 days before going public, underwriters start advertising the IPO. Once everything I finalized, the company decides to list on NYSE or NASDAQ and start trading.

Any public company has to spend $1.5 million to comply with financial, legal and regulatory burdens ( Fuhrmann, 2013).

Selling share is selling the stake in the company, so the company has to publish quarterly financials and annual financials to SEC for the regulators and investors, the forms are known as 10-Q and 10 – K respectively.

And common stockholder has voting right in management decisions, so selling too much share might mean losing control from the company. Even another competitor can buy the controlling stake from an open market, so it is important to consider how much stake to sell.

 

The process of Issuing Corporate Bonds –

The other option is to issue corporate bonds. And selling corporate bonds do not give away ownership to the company (SEC, n.d.). In order to issue corporate bonds, first, the company needs to hire underwriters from Investment Bank.

First step Underwriting – The underwriters / Investment Bank tend to initially buy the bonds. The company will not issue one single bond worth $135 million, but many bonds worth par value or face value $1000. The investment bank will bring in legal counsel too, which will require throughout the journey.

Regulatory Compliance – The Company has to file the preliminary prospectus with SEC informing them the intention to issue and sell the bond, and this has to be done at least 20 days prior to bond issuance. (Hoyes, n.d.).

Structuring the Bond – is another major step and the underwriters mostly drive this. The underwriters work with potential major institutional investors and fix coupon rate, maturity etc. The underwriter has to inform the final outcome to trade report and compliance engine too (Hoyes, n.d.).

Bond Market – The underwriters have to file certain paper works with Depositary Trust and Clearing Corporation before then can commence public selling of the bonds. And underwriter can collect their fees. (Hoyes, n,d,)

A bond comes with a coupon rate, and this is a promise to the bondholder that the company would pay the interest/coupon rate to the bondholder and will return the par/face value to the bondholder upon maturity of the bond.

And even if the company makes losses it has to make these payments, both coupon payment and payment of maturity amount. In case the company goes out of business and goes for bankruptcy and liquidation, bondholder will still be able to claim the money owed to them. But, on the bondholder do not have any claim on ownership of the company, so they do not have any claim or say in management decision or companies upside when the company goes public.

Credit rating agencies will periodically look into company’s financials and may or may not revise credit rating based on outlook. (Investor.gov, 2013).

Although the bondholder does not take part in management, the company needs to make coupon payments and that will take away part of earning, and that means less money to reinvest back in business, and a higher coupon rate can damage earning and slow down company growth.

 

 

 

References

FuhrMann, R. (August 2013).The Road To create An IPO. Retrieved from https://www.forbes.com/sites/investopedia/2013/08/29/the-road-to-creating-an-ipo/#3edbc024631e

Investopedia. (2018, April 08). Going Public. Retrieved from https://www.investopedia.com/terms/g/goingpublic.asp

Investopedia. (2018, January 24). Underwriting Agreement. Retrieved from https://www.investopedia.com/terms/u/underwriting-agreement.asp

Retrieved on 5/22/2018. Retrieved from https://www.sec.gov/fast-answers/answers-bondcrphtm.html

Hoyes, S(n.d.). How To Issue a Corporate Bond. Retrieved from http://smallbusiness.chron.com/issue-corporate-bond-73963.html

Retrieved on 5/23/2018. Retrieved from https://www.investor.gov/additional-resources/news-alerts/alerts-bulletins/what-are-corporate-bonds