Eg Drilling Into Disaster Case Study

Study Guide
Questions and Answers

ETHICS AND GOVERNANCE
To be used in conjunction with Ethics and Governance, 2nd Edition.

ii | ETHICS AND GOVERNANCE
Contents
Question 1.1 1
Question 1.2 2
Question 1.3 3
Question 1.4 5
Question 1.5 6
Question 1.6 7
Question 1.7 8
Question 2.1 9
Question 2.2 10
Question 2.3 11
Question 2.4 12
Question 2.5 13
Question 2.6 14
Question 2.7 15
Question 2.8 16
Question 2.9 17
Question 2.10 18
Question 2.11 19
Question 2.12 20
Question 2.13 21
Question 2.14 22
Question 2.15 23
Case Study 2.1: Scott London, former senior partner (audit)
at KPMG Los Angeles 24
Case Study 2.2: Arthur Andersen 26
Question 3.1 29
Question 3.2 30
Question 3.3 31
Question 3.4 32
Question 3.5 33
Question 3.6 34
Question 3.7 35
Question 3.8 36
Question 3.9 37
Question 3.10 38
Question 3.11 39
Question 3.12 40
Question 3.13 41
Question 3.14 42
Question 3.15 43
Question 3.16 44
Question 3.17 45
CONTENTS | iii
Question 4.1 46
Question 4.2 47
Question 4.3 48
Question 4.4 49
Question 4.5 50
Question 4.6 51
Question 4.7 52
Question 4.8 53
Question 4.9 54
Question 4.10 55
Question 4.11 56
Question 5.1 57
Question 5.2 58
Question 5.3 60
Question 5.4 61
Question 5.5 62
Question 5.6 63
Question 5.7 64
Question 5.8 65
Question 5.9 66
Question 5.10 67
Question 5.11 68
Question 5.12 69
Question 5.13 70
Question 5.14 71
Question 5.15 72
Question 5.16 73
Question 5.17 74
Study Guide Questions and Answers | 1
Question 1.1
Discuss whether acts of public service are considered as purely political actions designed to
maintain the profession’s status in the eyes of the community.
Many authors’ views are described in Module 1; the variety of views shows that there is a wide
range of interpretations about the actions of professional accountants in terms of serving
the public interest. At one end are those whose motives are selfish, and whose overarching
desire is to establish a monopoly group that maintains a position of prestige and power
within the community. At the other end are those who believe that many professionals have
a genuine desire to contribute to society, without the need for significant monetary reward or
political power.
In such a large profession, it is likely that there are many individuals who fit into the different
categories that have been described. While we often hear about the disgraceful and/or harmful
actions and outcomes from corporate collapses and failures, there are many untold examples
of selfless efforts and sacrifices that provide a significant contribution to the community.
2 | ETHICS AND GOVERNANCE
Question 1.2
Discuss four situations where accountants may apply professional judgment in the course of
their work.
The following examples illustrate many situations where accountants might apply professional
judgment, although this list is not exhaustive. Your answer may have included four of the following:
• making decisions about workflows and staff recruitment needs;
• making staff selection decisions and choosing accounting team member roles;
• advising clients on business decisions;
• advising managers on accounting information relevance for business decisions;
• identifying environmental cost parameters and advising management of them, and devising
reporting mechanisms;
• planning for all types of professional assignments;
• interpreting accounting standards and other professional pronouncements;
• identifying business and audit risks;
• making assumptions in forecasts and estimates;
• placing quantitative assessments on future liabilities for clients and others;
• providing overall opinions on the adequacy of internal control, the reliability of accounting
records and the sufficiency of audit evidence;
• drawing conclusions on the going concern assumption in relation to a business;
• evaluating materiality levels for the presentation of financial reports;
• relying on management representations;
• exercising judgment on the adequacy of non-financial information to be disclosed;
• setting and revising budgeting parameters;
• estimating levels of activities;
• developing and assessing costing methods; and
• assisting in the strategic directions of clients.
Question 1.3
A merger is being finalised between your public practice and a firm that provides
bookkeeping services. As the partner in charge of quality control, you have not quite
finalised your due diligence on the policies and procedures designed to provide reasonable
assurance that the firm and its personnel comply with relevant ethical requirements.
You are confident that the bookkeeping firm’s policies and procedures are robust, but you
have not yet completed a review of them. You nevertheless assume that there are no
issues, as the firm being acquired only provides bookkeeping services.
A few months after the merger is completed, you receive a phone call from one of
your clients. Your client is concerned because an employee of your firm who performs
bookkeeping services for them has an interest in a business that is one of their major
competitors.
Your client is particularly disturbed because they are in the middle of extremely
confidential business negotiations. The client wants guarantees that your employee will
not have access to any confidential information. You agree to investigate your client’s
concerns (Sexton 2009).
Identify and describe the quality assurance and ethical issues arising from this scenario.
This situation highlights the importance of implementing an appropriate system of quality

control. Policies and procedures developed by individual firms need not be complex or time-
consuming to be effective. However, APES 320 Quality Control for Firms requires firms to
address each of the following elements of a system of quality control:
• leadership responsibilities for quality within the firm;
• ethical requirements;
• acceptance and continuance of client relationships and specific engagements;
• human resources;
• engagement performance; and
• monitoring.
Although we have not yet studied ethics (see Module 2), it is useful to assess your current
understanding of ethics. You may like to review this question and solution after completing
Module 2 to identify how your study of that module changes your approach to the question.
Ethical requirements are featured in the Compiled APES 110 Code of Ethics for Professional
Accountants and, as we shall see in more detail in Module 2, they address the fundamental
principles of professional conduct:
• integrity;
• objectivity;
• professional competence and due care;
• confidentiality; and
• professional behaviour.
Policies and procedures must be in place to identify and evaluate circumstances and relationships
that create threats to compliance with the fundamental principles. Appropriate action must be
taken to eliminate or reduce these threats to such a level that compliance with the fundamental
principles is not compromised.
Therefore, professional accountants must identify any actual and/or perceived conflicts of
interest, not only between their clients but also between their clients and their employees and
to manage these conflicts in accordance with any ethical requirements. The firm’s personnel
already have an obligation to observe at all times the confidentiality of information acquired as
a result of professional and business relationships and not to disclose such information without
proper and specific authority from the client or employer or unless there is a legal duty to
disclose. Nonetheless, in this case, it would have been prudent to ensure that the employees
providing bookkeeping services were also free of any conflicts of interest.
Policies and procedures addressing the ethical requirements need to be communicated to all
personnel and reinforced by the firm’s leaders and through education and training, monitoring
and a process for dealing with non-compliance. It is important that policies and procedures
that address ethical requirements are continually reviewed and take into account changes
in circumstances, including staff changes, client acquisitions and structural changes such
as mergers.
The trust and confidence of clients are crucial to any ongoing professional relationship,
and avoiding real, potential or perceived conflicts of interest builds this trust. It is, therefore,
necessary for professional accountants to ensure that there are appropriate policies and
procedures to address their clients’ concerns and to respond to clients’ concerns to restore
any loss of trust.
Question 1.4
Outline four possible accounting-related roles with an SME and, for each role, identify the tasks
that could be undertaken in that role.
There are many roles that a CPA may fill in relation to an SME. The question refers to a
professional accountant in business (PAIB) who is ‘the accounting professional working in an
SME’. This reasonably can be interpreted to mean a full-time employed accountant who is
working as an accountant assisting managers and not working as another form of manager.
You might have mentioned any four of the following roles for a professional accountant working
as an employee of an SME:
• provide detailed management information reporting, budgeting and forecasting etc.;
• provide relevant ‘consultation’ advice to managers regarding value for customers and
shareholders;
• take responsibility for developing long-term and short-term budgets and ensure they are
effective in achieving motivation and value;
• provide formal accounting documentation including general purpose financial reports and
relevant board reports;
• undertake all formal reporting and compliance activity including in relation to company
regulation and tax regulation; and
• take charge of needs relating to tax planning and advisory work.
Question 1.5
Refer to Reading 1.1.
How did Roel van Veggel add value to Andre Rieu’s business?
From careful reading of Reading 1.1, it is apparent that:

• Roel van Veggel acts as CFO and has a clear understanding of the business and its key revenue
and cost activities, and the strong accounting team that he built is providing assistance.
• He takes control of risks, freeing Andre Rieu (the person) to concentrate on his music and
related skills to build the overall business.
• Roel has become a manager beyond his CFO role and helps Rieu ‘focus less on administrative
issues while providing greater support about strategic decision-making activities’.
• Roel has also taken steps to ensure that communication within the company is at a very
high standard.
Question 1.6
Why have SMEs not relied in the past on their external accountants for business advisory services?
Comment on whether this might be changing or needs to change.
Reflecting on your own organisation or one with which you are familiar, consider whether it relies on
external accountants for advice. If not, what may have prevented this from happening?
Some SMEs seek business advice extensively from external accountants; however it is apparent
that many SMEs are not yet taking this approach. The challenge for the profession is to engage
with SMEs so that the role of external accountants as business advisers (doing far more than
traditional bookkeepers, accountants and tax return agents) is better understood by all SMEs.
IFAC (2010) identifies that researchers have found ‘fortress mentality’ SME operators who simply
do not know how accountants may function as their valued business advisers. Other researchers
have identified that business advising is growing in range and quality. Obviously, SMEs operated
by those with a fortress mentality need to be better informed about the range and quality
of external business advice from accountants. IFAC also identifies that as a matter of logic,
SMEs need external business advice and that change needs to occur. IFAC demonstrates that
change is occurring (in the article, they highlighted the business advising role of in-house
accountants) and that more change is needed. It is apparent that external accountants must learn
how to better communicate with clients and to ensure that SMEs with no in-house accountants
do not suffer by not having access to good business advice. External accountants must learn to
depict their role as being team players with those who manage SMEs and ensure that their role in
value creation is understood.
The following summary explains how IFAC (2010) discusses the issue.
• Researchers named by IFAC identified that some owner-managers want to ‘go it alone’ rather
than expose their problems to outsiders, depicting this as a ‘fortress enterprise’ mentality.
Owners displaying this attitude wanted to hide their weaknesses and typically they would
justify their approach by saying that outside advice was ‘irrelevant or poor.’ As they were not
using outside advice anyway—how would they know?
• Other researchers have pointed out that the ‘range and quality of advice available’ in relation
to business advising from external advisers is growing. This has been a derivative of the work
of external advisers helping SMEs to meet regulatory requirements and can be seen in the
increased number of advisers and the increasing advisory skills in relation to ‘regulatory and
day-to-day and strategic challenges’.
• ‘A priori’—or ‘based in logic’, it is apparent that SMEs do require external advice because
many smaller entities (much smaller than ‘Andre Rieu’ for example) will have no internal
accounting staff. Much advice has been in relation to meeting regulatory requirements but
demand is also evident in relation to business ‘monitoring and quality control’. Importantly,
IFAC states that ‘this is not merely confined to financial compliance’. While it is clear that
a compliance bias has continued, external advice and support have been sought from
accountants (as ‘general business advisers’) in relation to ‘employment, health and safety
and environmental regulations’.
Question 1.7
Outline reasons why the four key issues identified by IFAC (2003) would reduce the profession’s
credibility. What strategies may be useful at reducing or eliminating these problems in future?
The four issues raised are:

• creative accounting;
• poor audit quality;
• lack of auditor independence; and
• financial accounting distortions.
One overarching reason that the profession may lose credibility from these problems is they can
all be linked to acting in a self-interested way that ignores serving the public interest.
Another reason is linked to the interpretation that accountants are not as technically skilled and
capable as they claim. This is especially the case when issues of poor audit quality are raised.
Lack of auditor independence can lead many people to doubt the usefulness or worth of audits.
Instead of being perceived as a public service, audits may be seen as a waste of time and only
performed to generate extra fees for accountants.
Strategies for dealing with these issues may include more restrictive accounting standards and
rules to minimise creative accounting, and greater penalties for inaccurate financial reporting,
including fines and jail terms.
One proposed solution for addressing auditor independence is to have auditors appointed to a
particular company by an independent body, rather than by the company itself. This should help
avoid the inherent conflict of interest that exists with the current way auditors are appointed.
Question 2.1
Describe the likely implications for an accountant with insufficient time to perform their duties
properly. What advice would you give to an accountant faced with this situation?
In these situations, there is insufficient time to adequately examine all the issues, undertake
careful analysis and reflect on one’s work. Professional and ethical concepts such as due
professional care, competence and adequate supervision are well established. High-quality
personal and professional management requires that activities be planned, organised, directed
and controlled. Lack of time can lead to errors, mistakes and a rushed, unprofessional approach.
As difficult as it may be, you should remind your supervisor that trying to do too much in a short
span of time is damaging. The quality of one’s work is likely to be compromised, which has
important implications for those who rely on your services. Doing less with adequate resources
means that you are likely to do things better and, in the long term, at a lesser cost. Try suggesting
to your supervisor an alternative plan with adequate time allocations, indicating the benefits of
this plan while pointing out the cost of rushing such tasks and how that cost can be avoided.
Constructive suggestions should be appreciated in the workplace.
Question 2.2
A candidate in the CPA program is explaining to a friend the concept of utilitarianism. In doing
so, the candidate defines utilitarianism as ‘an action that provides me with the greatest amount
of measurable monetary rewards over costs’.
Identify the problem(s) with this definition.
The candidate is confusing the concept of egoism with utilitarianism:

• an ethical egoist is one who evaluates the rightness of a proposed action by choosing
a course of action that maximises the net positive benefits to oneself; and
• a utilitarian act or decision is one that produces the greatest benefit to the greatest number
of people.
The definition advocated by the candidate is more consistent with egoism.
While both theories are based on consequential analysis, the major distinction between egoism
and utilitarianism is the perspective from which consequences are analysed. Egoism considers
consequences as they apply to advancing one’s own interest, whereas utilitarianism considers
consequences to all parties affected.
A second problem with this definition relates to the cost–benefit or outcome analysis. The phrase
‘measurable monetary rewards over costs’ implies that relevant outcomes should include only those
that can be measured in monetary or dollar terms. This is inconsistent with the utilitarian principle’s
inclusion of both economic and non-tangible or psychological outcomes (e.g. pleasure and pain).
Question 2.3
As a newly qualified CPA, you are asked to perform an audit of a small electronic-parts
manufacturing firm. The manufacturer’s procedures are specialised and many of its contracts are
linked to the government, which requires the application of a specialised cost-accounting system.
You have no experience in the electronics industry or with the specialised cost-accounting system.
What should you do in these circumstances?
You have been approached by a potential client to undertake a task in which you have
little knowledge or experience. You should talk to a manager or partner to discuss the task.
The following options may be identified:
• accept the audit with the hope that you will learn on the job;
• accept the audit and employ a professional with the requisite skills;
• inform the client that you do not possess such expertise and suggest a referral; or
• decline the job.
Accepting the job means that you will gain a major client which, in turn, may bring in future
revenue and job opportunities. This is a major benefit. However, in accepting the job, you would
be misrepresenting yourself (breach of integrity) to the client if you purported to possess the
skills necessary to undertake the job with competence and due care.
Furthermore, if you attempt to deal with problems unprofessionally due to lack of expertise and
knowledge (violating professional competence and due care), the practice will be liable for any
negligence arising from your performance of the tasks. Also, there would be a violation of trust
on the client’s part that you have the required skills (violating professional behaviour). The client
is relying on you to perform the job.
If you inform the client of your lack of experience, you might lose the client and, of course,
may experience embarrassment or feel humbled. Alternatively, you could inform the client that
you may need to solicit the assistance of another expert or professional accountant. The crucial
point is that there will be a breach of professional care if you undertake the job without making
sure that you have the skills to do so.
A further possibility is that you could decline the job and commence further professional
education to broaden your skills.
Question 2.4
You have been asked to audit Toytown Pty Ltd’s half-year financial statements.
• The company was last audited by Smith, Jones & Associates, which resigned as the auditor
as a result of the retirement of the only registered company auditor within the practice.
• For the last three years, Toytown has engaged Ace Tax Services, a firm of local CPAs, to prepare
corporate income tax returns and wishes this arrangement to continue.
Are you required by the APESB Code of Ethics to contact or obtain professional clearance from
each of the above accounting firms before accepting the appointment as auditor of the half year
financial statements?
Smith, Jones & Associates

Section AUST210.11.1 of the Code of Ethics for Professional Accountants requires the auditor
to obtain professional clearance from the previous auditor. Specifically, the auditor must request
the client’s permission to communicate with the previous auditor and, on receipt of permission,
should ask the previous auditor to provide all relevant information in order to decide whether
to accept the audit. This information should be treated in the strictest confidence.
Ace Tax Services

The work envisaged does not replace the work currently performed by Ace Tax Services.
You are asked to provide audit services because the previous auditor is now retired. Ace Tax
Services provides tax services to your client, not audit services; thus, professional clearance
is not required. However, you may, as a professional courtesy, send a letter of notification
to Ace Tax Services advising the firm of the work being undertaken.
Question 2.5
In your jurisdiction there is no legal requirement to keep client confidentiality under a relevant
law or regulation. However, in your professional services contract with clients and terms of
engagement there is a confidentiality clause. Considering this:
• are you required to do anything if you identify or suspect a non-compliance with laws and
regulations?
• are you protected if you do not comply with the confidentiality clause in your client contract
and terms of engagement?
• Where there is a legal requirement to maintain confidentiality, you must comply with it.
However, NOCLAR is not only concerned with disclosing an actual or suspected non-
compliance to an appropriate authority; it also requires members to obtain an understanding
of the matter, address the matter, determine whether anything else must be done, and
document the whole process.
• If there is no law or regulation that requires you to maintain confidentiality, you may decide to
disclose a non-compliance with laws and regulations to an appropriate authority, even if there
is a confidentiality clause in the negotiated contract and terms of engagement with a client.
In such cases, whether you are legally protected is a matter of legal determination, and you
are strongly encouraged to seek legal advice. Furthermore, you must discuss your obligation
to comply with the APESB Code of Ethics, including NOCLAR, with existing and prospective
clients, and clarify that any confidential clauses in your contracts and terms of engagement
are subject to your responsibility to comply with the Code and its requirements.
Question 2.6
‘You manage fundraising for a charity. You have been approached by a financial planner with
a client who is interested in contributing a $500 000 charitable gift for tax purposes. As the
transaction is being undertaken solely for tax purposes, the selection of the charitable recipient
is of little concern to the donor. The financial planner states that he will direct the gift to your
organisation upon signing an agreement to pay a 5 per cent ‘finder’s fee’ to the financial planner
upon receipt of the gift. You have never encountered such a proposal before and therefore you
need to seek guidance’ (Sexton 2009).
Evaluate whether this situation is possibly in violation of ethical fundraising principles.
Recognising that financial planners have access to wealth and are in a position to refer donors,
charities may well wish to establish productive relationships with these professionals and the
companies with which they are affiliated. However, in so doing, it is necessary to establish clear
guidelines in relation to any compensation issues.
Charities rely on donors to support their work and the level of trust a prospective donor has in a
charity will influence whether the individual chooses to support the charity as well as the amount of
that support. Although in this case the donor does not care which charitable organisation receives
the funds, other prospective donors may prefer organisations that maintain the highest principles.
Many charities believe that paying commissions and/or finders’ fees adversely affect their image
and therefore include ‘ethical fundraising principles’ in their fundraising policies, which state that
commissions paid ‘as a condition for delivery of a gift’ are inappropriate. It is important to refer
to your organisation’s fundraising policy and, if such a policy does not exist, the matter should be
referred to the board or a governing body.
Not-for-profit organisations exist to fulfil their charitable mission and serve the public. Where a
charity has engaged a financial planner in advance to meet with a prospective donor and assist with
the donation of a gift, it may be appropriate to pay the planner an hourly consulting fee based on
a reasonable hourly rate.
In addition, if the financial planner is a member of the accounting profession, there is an obligation
to comply with the fundamental principles outlined in the APES 110 Code of Ethics for Professional
Accountants as well as APS 12 Statement of Financial Advisory Service Standards.
Accepting a referral fee or commission in this situation does not give rise to self-interest threats
to objectivity, professional competence and due care, as the choice of charity does not affect the
taxation advice provided and the member is not adversely influenced by third party remuneration in
the preparation of advice to their client.
There are, however, other ethical considerations.
The principle of integrity imposes an obligation on all members to be straightforward and honest
in professional and business relationships and also implies fair dealing and truthfulness. It would
therefore be expected that any fees and/or commissions are disclosed to the client.
A 5 per cent finder’s fee may be viewed as excessive or even totally unreasonable by the client,
who is almost certainly already paying for the financial adviser’s services.
Further, the principle of professional behaviour imposes an obligation on members to comply
with relevant laws and regulations and avoid any action or omission that may bring discredit to
the profession. This includes actions or omissions that a reasonable and informed third party,
having knowledge of all relevant information, would conclude negatively affect the good reputation
of the profession. Demanding a finder’s fee or commission for facilitating a charitable donation may
contravene this principle because self-interest may be seen to outweigh the public benefit of the
whole donation being paid to the charitable organisation.
Source: Sexton, T. 2009, ‘Ethical dilemma’, INTHEBLACK, vol. 79, no. 3, April, p. 58.
Question 2.7
James Chan is a sole practitioner in a large regional city specialising in audit services. James has
become interested in the new assurance services for the elderly provided by the profession.
He recently attended a presentation on care services for the elderly and believes that this new
assurance service will differentiate him from other practitioners in the area and, therefore, offers a
means to attract more clients.
James has placed a series of advertisements in the local press. The advertisements state that he can
provide expert reports to assure family members that proper care is provided by establishments
to elderly family members who are no longer totally independent.
Although James has no previous experience or training in this area, he believes that he can carry
out the work using traditional audit skills.
Do the advertisements of James Chan comply with the Code? Discuss.
Section 250.2 of the Code of Ethics for Professional Accountants states that, in connection with
marketing of professional service, a member in public practice ‘shall be honest and truthful’.
James Chan is not an expert in elder care services and advertising himself as such is false,
misleading and deceptive. His traditional audit skills will not enable him to provide high-quality
elder care assurance services without proper training in this area.
Question 2.8
Your firm executes investment transactions for a client. You are now asked to audit this client.
Is there a threat to your independence? Apply the Code’s conceptual framework approach in
answering this question.
The conceptual framework approach to the APESB Code of Ethics is a three-step process
(see Figure 2.1):
1. Identify threats.
2. Evaluate the threats.
3. Apply safeguards, if any.
Continue with the service only if threats have been eliminated or reduced to an acceptable level.
The Code identifies five types of threats: self-interest, self-review, advocacy, familiarity and
intimidation. In this case, two threats appear relevant:
• self-review threat—the auditor could be in a position of having to audit the investments
that their firm has arranged to be made; and
• self-interest threat—the auditor could be in a position of having to ensure that investments
their firm has recommended are valued appropriately and still exist. This will be a greater
threat where the remuneration of the firm’s investment adviser(s) is linked to funds under
management.
Please note that other threats may also be applicable, but in this instance these two are
most relevant.
In this case, it is important to determine whether the firm is actually assuming management
responsibilities or not (see ss. 290.159–290.162). If the firm executes decisions that are made
by the client but does not make any decisions that require professional judgement and does
not control or manage the investments, then management responsibilities may not have
been assumed.
Section 290.7 of the Code specifies that:

when the Member determines that appropriate safeguards are not available or cannot be applied
to eliminate the threats or reduce them to an Acceptable Level, the Member shall eliminate the
circumstance or relationship creating the threats or decline or terminate the Audit Engagement.
A Member shall use professional judgement in applying this conceptual framework.
In terms of executing investment transactions, the firm has to determine whether this is the
assumption of management responsibility. If it is, then it must not accept the audit engagement,
because as s. 290.161 states: ‘A Firm shall not assume a management responsibility for an Audit
Client. The threats created would be so significant that no safeguards could reduce the threats to
an Acceptable Level.’
Question 2.9
Explain why integrity is an essential attribute of the profession.
The motto of the profession is ‘integrity’ and as such accountants have long been trusted to
assure the community of reliable and accurate financial information. According to this view,
integrity underpins and supports high-quality information for the efficient functioning of capital
markets. Consequently, people who rely on the services provided by accountants expect those
accountants to be highly competent and objective. Therefore, those who work in the field of
accounting must not only be well qualified but must also possess a high degree of integrity.
Promoting integrity within the profession through leadership, policies, information and culture
will in turn produce desirable behavioural attributes in members, such as honesty, fairness,
a commitment to others and compliance with relevant laws and regulations. Only then will the
profession reduce the incidence of accounting failures. To this end, integrity is intrinsically linked
to trust, which is vitally important to the reputation of individuals, reporting entities and the
profession. Without trust, the work of accountants would be ignored. Integrity and trust are also
linked to the public interest ideal, which obliges accountants to advance the interests of the
public before the interests of others. This duty is mandatory and applies without exception.
Question 2.10
• Does the APESB Code of Ethics require a member in business to actively look for any
non‑compliance with laws and regulations in the employing organisation?
• Does it require members to know laws and regulations that are not related to their role and
responsibilities?
• The APESB Code of Ethics, including NOCLAR, does not impose a responsibility on
members in business to actively look for any non-compliance with laws and regulations.
However, members need to respond to any actual or suspected non-compliance when
they encounter it or are made aware of it. Members who have management responsibilities
or are members of the governance team must ensure that the activities of the employing
organisation are carried out in accordance with applicable laws and regulations (s. 360.10)
• The Code does not impose a responsibility on members to know laws and regulations that
are not related to their responsibilities or those laws and regulations that are not required to
be known to competently perform their roles. The principle of professional competence and
due care (s. 130) requires members to maintain professional knowledge and skill required so
that they perform their professional activities competently, while the principle of professional
behaviour (s. 150) requires members to comply with relevant laws and regulations.
Question 2.11
What reasons or factors can you think of that may cause an employee to compromise their
personal ethics in a corporate environment?
There are many factors that may cause an employee to compromise their personal ethical
standards. Although the ethical culture of the firm is a primary influence, there are many
other factors listed (supporting or countering the existing culture) that could influence such
behaviour. The list is not exhaustive. You will find that a careful examination of your own
corporate environment and discussion with colleagues in business will highlight numerous other
factors. The intention here is to highlight some of the major and more obvious influences on
personal behaviour:
• tight or unrealistic targets cause pressure to cut corners and therefore quality;
• remuneration or reward systems often overemphasise profit-oriented bonuses, causing
actions that focus on profit maximisation—possibly at an ethical cost;
• the ethical culture of an organisation creates an environment that condones questionable acts;
• top management—through its management style—sets the tone for inappropriate
behaviour; and
• a lack of explicit rules defining acceptable behaviour (such as a code of conduct) or,
alternatively, codes that are not enforced may result in instances of inappropriate behaviour.
Question 2.12
Why should accountants in business be accountable to a higher authority such as the professional
accounting bodies?
The notion of trust in the professional–client relationship is fundamental to the concept of

professionalism. Without public trust, the status of the accounting profession would be reduced
considerably. Unfortunately, the actions of a questionable few can affect the reputation of the
entire profession. For this reason, it is the aim of the profession to maintain a proper ethical
image. This is possible by informing and reminding members that their primary responsibility
is to serve the public (rather than self) interest. This is normally achieved by implementing and
enforcing the APES 110 Code of Ethics for Professional Accountants.
Question 2.13
Discuss whether decisions that are compliant with the law will always result in ethical decisions.
Law generally codifies society’s customs and values, and undoubtedly any changes to law are
reflections of changes in society’s attitudes. But it is wrong to suggest that legal compliance will
amount to satisfactory ethical conduct. Generally, it will be more accurate to claim that legal
compliance sets the minimum standard for ethical conduct, implying that the standard of ethical
conduct is higher than that expected from the law. The real dilemma, for which there is no easy
solution, is: to what extent is moral conduct higher than legal conduct? Similarly, breaking the
law does not necessarily mean conduct is immoral. The law in question could be outdated or
simply wrong.
Question 2.14
You are an employee of a company operating in a culture where bribery is commonplace. You have
been offered a gift, but no favours have been sought. Returning the gift will offend the donor.
What should you do?
Gifts are a common practice for companies operating internationally. The problem for many
companies and their members is that gifts can influence business behaviour, giving rise to
possible conflicts. In some cultures, gift giving and receiving are simply expected. For an ethical
relativist, there is no universal standard of right or wrong but only the standard of a particular
society. The problem for many people is that they may feel constrained to accept such practices
while knowing or feeling that they are unacceptable.
The decision to accept or reject the gift is a difficult issue. Refer to the guidelines provided in
the Code to help you make a decision. You have a number of options available to you, such as
informing your superiors or referring to company policy for guidance. In general, it is normally the
size of the gift and the intention of the giver that determines whether it is unethical. In this case,
the intention appears honourable; therefore, it is the size of the gift that will determine whether
you should reject the gift. Company policy will normally provide guidance in this area.
If the gift is deemed to be of considerable value, then it must be returned. A thank you note
with an explanation will ease any potential ill feelings. Nowadays, with the extent of trade
internationalisation, business people worldwide are well informed on the courtesies of gift
giving and receiving.
Question 2.15
Alpha Ltd, a clothing manufacturer in Australia, has decided to outsource its clothing production
to a supplier in Bangladesh to take advantage of the relative strength of the Australian dollar
and lower operating costs.
The company identified a supplier, called Delta Ltd, which was capable of providing this work.
Delta Ltd had offered to do the work at a lower price than other competitors, and a review of
the work quality indicated that it was at a comparable and suitable level.
During a visit to the production factory, the Australian management team observed the working
arrangements, how the factory was set up, and discussed working conditions with local employees.
They noticed and were advised of potential problems in terms of work safety, in relation to noise,
fire and ventilation. However, the managers of Delta Ltd explained that the factory was a typical
example in Bangladesh and that it was compliant with all relevant laws.
Using the philosophical model of ethical decision-making, recommend whether Alpha Ltd should
decide to work with Delta Ltd.
To apply this model we ask four questions:
1. Do the benefits outweigh the harms to oneself?

In this case, the benefits of lower cost production combined with equivalent quality provide
benefit, although potential harm linked to poor reputation must be considered.
2. Do the benefits outweigh the harms to others?

Benefits to others include employment that may not otherwise be available. The harms
include poor working conditions and significant danger from fires, for example, which have
had a devastating impact in Bangladesh.
3. Are the rights of individual stakeholders considered and respected?

Despite compliance with local regulations, it is possible that the rights of Delta Ltd’s
employees are not being fully respected. The pressure to have lower costs and lower prices
may have led to compromises in factory design and to working conditions that fail to respect
these rights.
4. Are the benefits and burdens justly distributed?

The main benefits appear to accrue to the managers of Alpha Ltd and also to the managers
of Delta Ltd. The employees of Delta Ltd will also benefit from salary and wages, but the
burden they bear may not be justly distributed. The rightful benefits of some of these
employees may be reduced in order to provide additional benefit to other stakeholders—
for example, lower prices for customers.
Recommendation
There is no single correct answer to this issue. The purpose of this model is to ensure all relevant
factors are considered from a variety of perspectives. Your final recommendation will depend
on the specific answers provided, based on the specific details of the case.
Case Study 2.1: Scott London, former senior

partner (audit) at KPMG
Los Angeles
On 11 April 2013, Scott London (London), a former senior audit partner at KPMG Los Angeles who
had worked at KPMG for nearly 30 years, was charged by the FBI with insider trading. On the same
day, the US Securities and Exchange Commission (SEC) filed civil charges against London (SEC 2013a).
The director of the SEC’s office in Los Angeles stated: ‘As a leader at a major accounting firm, London’s
conduct was an egregious violation of his ethical and professional duties’ (SEC 2013a).
As a result of his position, London had access to highly sensitive and confidential information regarding
upcoming earnings announcements about KPMG clients before that information was disclosed to
the public. For over two years, London illegally provided this confidential information to his close
friend Bryan Shaw, who made over USD 1 million profit by using the information to trade securities.
In exchange, Shaw gave London thousands of dollars in cash, a Rolex watch and concert tickets
(FBI 2013).
On 1 July 2013, London pleaded guilty to insider trading and admitted to disclosing confidential
information to Shaw. On 27 September 2013, London was banned by the SEC from auditing public
companies and ‘denied the privilege of appearing or practicing before the Commission as an
accountant’ (SEC 2013b, p. 9).
On 24 April 2014, London was sentenced to 14 months in jail, commencing in July 2014, and ordered
to pay a $100,000 fine. After being sentenced, London said ‘I had to plead guilty. The impacts on the
profession and on KPMG could have led to even further damage if there had been a long investigation
and court case. It doesn’t take long for bad public perception about accounting firms, like what
happened to Arthur Andersen in 2002. So I want to do as much as I can to set things right. What I did
was clearly wrong, and I take full responsibility. However, this is a subject matter that unfortunately
may be very prevalent with people who have access to confidential information, but it’s difficult to
catch people doing it. Even seemingly innocuous conversations with a good friend can lead a person
to be tempted and think they won’t get caught. I hope that my story can help prevent others from
crossing the line’ (O’Bannon 2014).
Your tasks
(a) Who were the stakeholders (individuals or groups who have a stake in what happens), and how
were they affected by the actions of Scott London?
(b) Did London breach any of the fundamental principles of professional conduct contained in the
Code of Ethics? If so, state those principles and explain why you think they have been breached.
(a) There are a number of stakeholders in this case. Below is a list of the stakeholders and the
likely impacts on them:
–– Scott London—embarrassment, public humiliation, loss of stakeholders and reputation,
breach of trust, prison and monetary fine;
–– KPMG, London’s former employer, who has had a former partner of the firm trading on
inside or non-public information—embarrassment to the firm, employees of the firm and
clients, potential need to review existing procedures;
–– accounting profession in general—ethical conduct of a senior member of the accounting
profession is subject to public scrutiny and undermines the reputation of the accounting
profession;
–– US Securities Exchange Commission and FBI, enforcement agencies—need to devote
extra resources to investigating London’s conduct;
–– KPMG audit clients—inside information is used by London and clients were named in
relation to London’s trading when they had no knowledge of his conduct, or his violation
of trust and confidentiality;
–– New York Stock Exchange—negative impact on the integrity of trading on the securities
market generally and of trading in KPMG audit clients specifically;
–– Bryan Shaw—embarrassment and public humiliation;
–– London’s family and friends—embarrassment, public humiliation, and breach of trust; and
–– traders in securities of KPMG audit clients—lack of awareness that London and Shaw
were trading in securities using inside information, thus placing other securities traders
at a disadvantage.
(b) Integrity. London had an obligation to be honest in his professional relationships with clients.
London’s involvement in insider trading was dishonest conduct.
Objectivity. London’s professional judgment was compromised by his conflicts of interest in

relation to his securities trading and his dealings with KPMG and audit clients.
Professional competence and due care. London may have been technically competent
in the work he performed, but he did not show due care to his clients and KPMG, as he did
not provide his services in accordance with relevant laws and regulations. Being involved in
insider trading showed a lack of due care to his clients.
Confidentiality. London traded in securities based on non-public information obtained in his

role at KPMG. The confidentiality principle imposes an obligation on accountants to refrain
from using to their personal advantage, or to the advantage of third parties (in this case,
Bryan Shaw), confidential information acquired as a result of professional relationships.
Professional behaviour. London should have complied with the relevant laws and
regulations so as to avoid any discredit to the accounting profession. His failure to comply
with the securities laws and KPMG’s internal procedures has indeed brought discredit to
it. It can be concluded that London placed his own self-interest ahead of his duties to the
audit clients, KPMG, the securities market and the accounting profession.
Case Study 2.2: Arthur Andersen

This case shows the problems relating to providing non-audit services to audit clients and a
preoccupation with profit.
Arthur Andersen
Throughout the 1990s, accounting firms, including Arthur Andersen, offered consulting services along
with traditional auditing services, and discovered that consulting work was often more profitable.
Critics argue that the two services are incompatible as auditors verify and communicate to users the
accuracy of company reports, but, as the auditors were providing consulting services, they would be
checking their own work. Auditors must be independent of their clients, and consulting enmeshes
them in their clients’ business in ways that compromise independence (Aronson 2002).
During the 1990s the firm separated into two units, Arthur Andersen and Andersen Consulting (known
as Andersen Worldwide). In 1996, Steve Samek ‘became the firm’s worldwide head of auditing,
with indirect responsibility for 40 000 people. In the spring of 1998, he headed Arthur Andersen’s
US operations, which accounted for about half of the firm’s revenue. Mr Samek gave rousing speeches
designed to inspire the auditors to sell to their clients everything from tax services to consulting work
(Brown & Dugan 2002).
Meanwhile, Andersen Consulting more than doubled its revenue to USD 3.1 billion, ‘bringing in
58 per cent of the overall firm’s revenues, and subsidizing the accountants to the tune of about
$150 million a year’. In 1997, Andersen Consulting partners ‘voted unanimously to split off entirely’
(Brown & Dugan 2002) and changed its name to Accenture.
Arthur Andersen and Enron

According to reports, Enron paid Arthur Andersen USD 52 million in 2000. More than 50 per cent
(USD 27 million) came from consulting services. Consequently, traditional auditing services, compared to
consulting, became less and less profitable and, unfortunately, seemingly less and less important
to the firm.
Embroiled in the multi-billion-dollar bankruptcy of Enron, Arthur Andersen shared with its client the
accusation of not fully disclosing Enron’s financial position to investors. In the lead-up to pending
enquiries, Arthur Andersen destroyed (by shredding) a significant number of documents relating to
the Enron audit.
On 15 June 2002, Arthur Andersen was convicted of obstruction of justice for shredding documents
related to its audit of Enron. The firm ultimately lost its right to practice.
Arthur Andersen’s greatest foe was not the courts, but market forces and public perceptions
(Simpson 2002). This included the termination of merger talks between Arthur Andersen and another
major accounting firm. Clients terminated their relationship with Arthur Andersen and many employees
resigned. The market and public imposed the ultimate penalty on Arthur Andersen, hastening its
implosion in 2001 (Simpson 2002). On 31 May 2005, the Supreme Court of the United States unanimously
overturned Arthur Andersen’s conviction, due to flaws in the jury instructions. By this time it was too
late for Arthur Andersen.
Your tasks
(a) Describe Arthur Andersen’s organisational culture and explain how the firm’s culture may have
contributed to its downfall.
(b) Explain why the provision of non-auditing services to an audit client may compromise the auditor’s
independence. In your answer, list two threats that jeopardise compliance with the principle of
independence, and explain why they are threats.
(c) List the safeguards that Arthur Andersen might have employed to reduce the threat to an
acceptable level.
(d) Explain how Arthur Andersen failed to act according to the public interest principle.
(a) The culture of an organisation may be formally expressed through written policies and codes
of ethics, or may be informally expressed through the words and actions of significant others
such as the organisation’s leaders. If the culture is strong and supports high ethical standards,
it should have a powerful and positive influence on employees’ behaviour. Generally,
the more ethical the culture of an organisation, the more ethical employee behaviour is
likely to be.
The firm had undergone significant change during the 1980s and 1990s. Arthur Andersen
became a business that focused on financial gains at the expense of its third-party obligations.
This focus on self-interest was also evidenced by the firm’s behaviour in relation to the
document shredding.
(b) Audit firms such as Arthur Andersen traditionally provided to their audit clients a range of
non-audit services that were consistent with their skills and expertise. The provision of non
audit services (which include all fees that do not constitute audit services) to assurance clients
is an activity that often provides additional value for an audit client. Consequently, audit
clients benefit from the non-audit services provided by their audit firms, who have a good
understanding of the client’s business.
However, the provision of non-audit services may create real or perceived self-interest (profit
over quality of service) and self-review threats to independence because the audit team may
be reluctant to criticise the non-audit services provided by their colleagues within the same
firm. Critics argue that, in such situations, audit firms are influenced to serve client satisfaction
ahead of their professional responsibilities.
If it is not possible to eliminate or reduce the threat created by application of safeguards,

the service should be refused. However, when the non-audit service is not related to the subject
matter of an audit engagement, the threats to independence will generally be insignificant.
(c) Under the Code of Ethics for Professional Accountants, the following safeguards may be
applicable in reducing, to an acceptable level, threats created by the provision of non
assurance services to audit clients:
–– To avoid the risk of assuming a management responsibility when providing non-assurance
services to an audit client, the firm shall be satisfied that a member of management
is responsible for making the significant judgments and decisions that are the proper
responsibility of management, evaluating the results of the service and accepting
responsibility for the actions to be taken arising from the results of the service.
–– ‘Providing an audit client with accounting and bookkeeping services, such as preparing
accounting records or financial statements, creates a self-review threat when the firm
subsequently audits the financial statements’ (s. 290.168). However, activities considered
to be a normal part of the audit process (such as the application of accounting standards,
making judgments about the appropriateness of financial and accounting control and the
methods used in determining the stated amounts of assets and liabilities, or proposing
adjusting journal entries) do not, generally, create threats to independence. Similarly,
responses to requests for technical advice on accounting issues ‘do not, generally,
create threats to independence provided the firm does not assume a management
responsibility for the client’ (s. 290.170). Hence, safeguards will be provided by ensuring
compliance with such Code provisions pertaining to preparing accounting records and
financial statements.
(d) The public interest

According to the public interest principle, accountants have a duty to a number of stakeholders
including, clients, employers and users of information prepared and audited by accountants
(e.g. shareholders, financial institutions and government authorities). In cases where the
accountant has obligations to more than one stakeholder, the question arises as to whom
the accountant owes their primary loyalty. In public practice, it is tempting to assume that the
accountant–client relationship is central to the function of accounting. In this view, no-one
else matters but the client. However, this view is incorrect. The accountant’s primary duty is
not to the client or the employer, but to the public. The public interest is mandatory and takes
precedence over loyalty to clients and the employer. In general, the accountant is obligated
to advance the interests of the client, so long as it does not conflict with the obligation to
safeguard the public’s interest. Should a conflict of interests arise, the accountant must at all
times protect the public interest before the interests of other stakeholders. Arthur Anderson
failed to act according to the public interest principle by:
(a) failing to disclose Enron’s financial position to investors; and
(b) shredding documents related to its audit of Enron.
In doing the above, Arthur Anderson put the interests of Enron (its client) before the interests
of the public. As such, it failed to give precedence to the interest of the public and so failed
to act according to the public interest principle.
Question 3.1
What is one major issue that arises from an agency relationship, where powers of control
are delegated?
Conflict of interest is a major issue that arises when an agent receives delegated powers.
The agent is required to act in the best interests of the principal. However, the temptation to
act for the agent’s own interest is strong, as agents have significant power and often control the
flow of information, and there may be little chance of getting caught.
Question 3.2
Describe key aspects of the principal and agent problems that exist within corporations and that
can result in loss of value for the shareholders.
Agency theory recognises that agents may do all they can to show loyalty (and, therefore,
agents accept the costs of bonding). No matter how well bonded an agent may be, it is a
fact that the agent is not the principal and will not act in the same way and will not reach the
same outcomes as the principal. Insofar as the agent does not achieve what would have been
achieved by the principal, this is termed ‘residual loss’. It will possibly arise because of deliberate
(self seeking) actions by the agent or unintentionally, by mistake or by simply not understanding
the principal’s goals. Whatever the final cost, we can describe the non-congruence of goals
between agent and principal as the key to understanding residual loss.
The existence of agency relationships means that there is a need to monitor activity so that
residual loss is identified and then can be further explored to rectify problems arising from
lack of goal congruence between the agent and principal. This means that there will always be
monitoring costs. The law, for example, demands financial audits and full public reporting as part
of monitoring. Aside from legally required monitoring, there are many ways in which monitoring
can be carried out and, therefore, a vast array of ways in which monitoring costs will be incurred.
Residual loss and monitoring costs are both borne by the principal and, as they are paid out of
the company’s resources, will clearly result in a diminution of the company’s value.
Question 3.3
Describe the role of the CEO, and give examples of the types of activities the CEO and the board
should perform.
The role of the CEO is to take charge of the management of the company’s business and,
in consultation with the board, recommend strategies and policies and identify issues that are
important to the company.
The board finalises and formalises strategic planning and high-level policy-making of the
company and has a supervisory role in relation to the CEO and management. It is also in charge
of the appointment of senior executives, including the CEO, and monitoring the performance
of the company. It should also ensure adequate planning is in place for board succession and
risk management. Boards must also ensure correct communication to shareholders, including
ensuring shareholders are aware of the nature of the board’s responsibilities.
Question 3.4
Classify each of the board responsibilities and functions above as having either a performance
focus or a conformance focus.
Note that there is not always a clear distinction for each category. For example, budgeting is a
useful tool in achieving improved performance, but it also provides a useful conformance and
control mechanism to ensure resources are effectively managed and monitored.
Conformance Performance
• Taking steps designed to protect the company’s • Determining the company’s vision and mission
financial position and its ability to meet its debts
and other obligations as they fall due
• Adopting clearly defined delegations of • Reviewing opportunities and threats to

authority from the board to the chief executive the company in the external environment,
officer (CEO) or a statement of matters reserved and strengths and weaknesses within the
for decision by the board company
• Ensuring systems are in place that facilitate the • Considering and assessing strategic options
effective monitoring and management of the for the company
principal risks to which the company is exposed
• Determining that the company has instituted • Adopting a strategic plan for the company,
adequate reporting systems and internal including general and specific goals,
controls (both operational and financial) and comparing actual results with the plan
together with appropriate monitoring of
compliance activities
• Establishing and monitoring policies directed • Adopting an annual budget for the financial
at ensuring that the company complies with the performance of the company and monitoring
law and conforms to the highest standards of results on a regular basis
financial and ethical behaviour
• Determining that the company accounts • Agreeing on performance indicators with

conform with Australian Accounting Standards management
and are true and fair
• Determining that satisfactory arrangements are • Selecting and, if necessary, replacing the
in place for auditing the company’s financial CEO, setting an appropriate remuneration
affairs and that the scope of the external audit package for the CEO, ensuring adequate
is adequate succession plans are in place for the CEO,
and giving guidance on the appointment
and remuneration of other senior
management positions
• Selecting and recommending auditors to • Adopting formal processes for the selection
shareholders at general meetings of new directors and recommending them for
the consideration of shareholders at general
meetings, with adequate information to allow
shareholders to make informed decisions
• Ensuring that the company has in place a policy • Reviewing the board’s own processes and
that enables it to communicate effectively effectiveness, and the balance of competence
with shareholders, other stakeholders and the on the board
public generally
Source: Adapted from Bosch, H. 1995, Corporate Practices and Conduct, 3rd edn,
Pitman, Melbourne, p. 9. Reproduced with permission.
Question 3.5
Examine the Enron audit committee role and independence in light of the earlier discussion on
the benefits and limitations of audit committees. Evaluate the effectiveness of the committee
and what steps you would recommend to improve the Enron audit committee in this situation.
Usually, the expected benefits of audit committees include:

• improving the quality of financial disclosures;
• acting as a forum for the resolution of disagreements between management, the internal
auditor and the external auditor; and
• ensuring that an effective whistleblower system is in place.
The Enron audit committee failed to achieve these desired outcomes. Possible reasons why they
were not obtained can be linked to the limitations of audit committees, which include:
• committee members may be selected because of their association with the CEO or chair,
thus reducing their real independence; and
• audit committees may be formed as a means of giving the appearance of good corporate
governance without achieving any useful purpose for the organisation.
The main positive points include:

• all members of the Enron audit committee were non-executive directors; and
• all members were highly qualified.
However, negative aspects include:

• lack of any real independence of many committee members. For example:
–– John Wakeham had a consulting contract with the company; and
–– Wendy Gramm’s employer had received funding from Enron, as had her husband
(a US Senator);
• Enron did not voluntarily disclose information about relationships that could harm the
independence of audit committee members; and
• the possibility that the age of the chair of the audit committee (72 years) affected his ability
to participate effectively as chair.
In addition to the issues about how the committee was structured, there were issues about
how the committee behaved. Although questionable practices were raised, there was a lack
of remedial action. There appeared to be a lack of rigour in pursuing the committee’s role.
Improvements should have focused on both the structure and the committee’s activities.
Having non-executive directors is not enough. There need to be independent non-executive
directors who actively perform their roles in a diligent manner.
Question 3.6
Discuss whether there is potential for conflict between Principle 2, Item A4 and Principle 2, Item G.
Principle 2 Item G states that minority shareholders should be protected from abusive actions
by controlling shareholders. However, Principle 2, Item A4, states that basic shareholder rights
include participating and voting in general shareholder meetings.
There may be times when the majority of the organisation’s shareholders want a particular
event to occur, but this may be perceived to go against a small minority who do not want this to
happen. The minority may view this as an abusive action, while the majority may regard it as a
legitimate business transaction.
An example where this may arise is when a company votes on a significant issue, such as
an equity raising that dilutes current shareholdings, or a sale of a major component of the
business, or a significant change in strategy. In this situation, the intention of the action becomes
important—it will generally be permissible if it was done for the benefit of the company as a
whole, with no intention to deliberately hurt the minority. The law in this case becomes complex.
Question 3.7
Evaluate the following case study using the OECD Principles.
Sweet Dreams Ltd is a technology company that is developing natural organic sleeping pills for
people who have trouble sleeping. The company has been listed for one year and has:
• established a board of directors made up of executive and non-executive directors. The two
non-executive directors include a major potential customer who works closely with the
company, and a major shareholder who has asked for a board position to monitor their
investment closely;
• required shareholders who purchased shares in the initial public offering to purchase and
hold shares for at least two years—the explanation for this requirement is that the company
wants to ensure a stable position on the stock market while it establishes itself in the
marketplace; and
• announced that to prevent a takeover by one of its competitors (resulting in it either being
shut down or its intellectual property being taken) it has created contracts with senior
management that will see them paid $20 million each if such a takeover occurs.
Outline three actions in the case study above that create issues in relation to the OECD Principles.
These three actions all create issues in relation to the OECD Principles (OECD 2015).
1. There are no independent board members, therefore the composition of the board of
directors does not appear to satisfy Principle 6, Item E1, which states that ‘boards should
consider assigning a sufficient number of non-executive board members capable of
exercising independent judgment to tasks where there is a potential for conflict of interest’.
2. The restriction on selling shares does not satisfy Principle 2, Item A2, which suggests that
basic shareholder rights include the right to convey or transfer shares.
3. Contracts that are triggered because of a takeover event are often regarded as anti takeover
devices. They are designed to protect the current management rather than maximise
shareholder returns. This fails to satisfy Principle 2, Item H2, which indicates that anti takeover
devices should not be used to shield management and the board from accountability.
Question 3.8
Under the UK FRC Corporate Governance Code:
(a) Who is responsible for reviewing a company’s internal controls?
(b) How often should a board undertake a formal evaluation of its own performance?
(c) Outline whether a chief executive may also be the chair. Suggest reasons why the FRC Code
has taken this view.
All references below are to the FRC Code (FRC 2014).
(a) The audit committee is responsible for reviewing the company’s internal controls (C.3.2).
(b) A formal evaluation of its own performance should be conducted by the board on an annual
basis (B.6).
(c) The same individual should not have the roles of chairman and chief executive at the
same time (A.2.1). One important reason for this is that the chair should be independent,
which cannot be the case if the position is held by the CEO. In addition to this there needs to
be clear separation of duties and the avoidance of giving a single person too much power.
Question 3.9
Review the following case scenario.
A large listed company has a board of directors with seven members:
• The chair is a non-executive director who holds a 25 per cent shareholding in the company.
• Four of the members are executive directors including the CEO and the CFO.
• The board has one subcommittee—an audit committee with three members. This includes
the chair, an independent director and the CFO, who is able to provide specific information
about the company.
Outline areas where this structure does not comply with components of the FRC Code that are
outlined in Appendix 3.1.
The areas in this case scenario that do not comply with the FRC Code:
• The chair is not independent as required, as this director holds a significant shareholding
(A.3.1 and B1.1).
• At least half the board excluding the chairman should be independent (B.1.2). The board
currently has at least five members who are not independent (the four executives and
the chair).
• There should be three independent members of the audit committee. The chair and the
CFO are not independent (C.3.1).
• The company does not have a remuneration committee (D.2.1).
Question 3.10
Why is disclosure important for the integrity of equity markets? In your answer, you should address
what occurs when information is monopolised by privileged groups.
Full disclosure is the foundation upon which the integrity of equity markets is built. Without an
equal sharing of available information, investors who are informed will have an advantage over
those who are not. This can lead to exploitation of uninformed shareholders, and the growth of
equity markets would be inhibited by the resulting lack of confidence. As equity markets mature,
there is an increasing emphasis on full and continuous disclosure (which modern communication
technologies facilitate).
Essentially, markets are built upon trust. Once this trust is damaged, such as when it is revealed
that privileged groups have monopolised information for their own benefit, it is very difficult to
rebuild trust. Therefore, full disclosure and transparency are not only the practical mechanisms by
which markets operate efficiently; they are the central ethical principles of markets.
Question 3.11
Is interest in corporate governance regulation and legislation inevitably associated with recession,
market failure and corporate collapse, or is it possible to maintain attention on improving standards
of corporate governance at times of market expansion and business growth?
Internationally, there is a clear correlation between market failure and corporate collapse,
and renewed interest in review commentary and extension to regulations. It is only natural
when investors have lost considerable amounts of money that attention is given to the viability
of regulatory systems. However, as corporate governance is about wealth generation and
risk management, these duties require continuous and simultaneous performance. Avoiding
mandatory restrictive over regulation requires active market regulation, particularly at times of
expansion. The drive to make corporations improve corporate performance and governance and
enhance corporate accountability needs to continue as an essential part of building sustainable
economies and enduring companies.
Question 3.12
Identify the strengths and weaknesses of the market-based system of corporate governance as
practised in countries such as the United States, the United Kingdom and Australia.
The market-based system of corporate governance has the following strengths:

• dispersed ownership and strong institutional investors;
• primacy of shareholder interests in company law;
• emphasis on protection of minority shareholder interests in law and regulation;
• stringent requirements for disclosure;
• fluid capital investment in dynamic economy; and
• competitive performance.
The weaknesses of a market-based system of corporate governance include:

• overly dominant and overpaid CEOs;
• weak boards of directors;
• failures in reporting and transparency;
• short-term investment;
• instability of governance and investment; and
• cyclical volatility in a dynamic economy.
Question 3.13
Identify the advantages and disadvantages of the European relationship-based insider system
of corporate governance.
The advantages of the European relationship-based system are as follows:

• Diverse interests are represented on the board of directors.
• Insider groups monitor management and there are fewer agency problems.
• A wider group of stakeholders is actively recognised (including employees, customers,
banks, suppliers and local communities).
• Close relationships with banks provide stable finance.
• Inter-corporate shareholdings provide stability of ownership.
• Strong established governance procedures are established.
• Longer-term business strategies are possible.
The disadvantages of the European relationship-based system include:

• weak discipline of management by the securities market;
• weak market for corporate control, eliminating any threat of takeover for poorly performing
companies;
• lack of development of institutional investors, with finance highly dependent on banks;
• less emphasis on public disclosure of information;
• shareholder agreements and voting restrictions that allow minority groups to exercise control;
• time-consuming elaborate governance procedures; and
• interlocking business networks that can create complacency rather than competitiveness.
Question 3.14
Outline the benefits and costs of the family-based insider system of corporate governance
practised in Asia.
The benefits of the family-based insider system of corporate governance practised in Asia
are as follows:
• Flexibility and dynamism contribute to rapid economic growth.
• Unity of ownership and control eliminates principal/agent problems.
• Investors can support successful management teams and companies.
• Interlocking networks of subsidiaries and sister companies create commercial strength
and capability.
• Understanding of customary practices generates a sense of purpose and cohesion.
• It has strength and stability of tradition.
The costs of the family-based insider system of corporate governance are as follows:
• Minority shareholders can be persistently neglected.
• Dominant shareholders, through pyramidal structures, acquire control of operations and/or
cash flow disproportionate to their equity stake in the company.
• The independence and diligence of boards of directors can be called into question.
• Standards of disclosure and transparency are minimal
• Regulators are unable to act because of poor information and access.
• Weak courts make the enforcement of contracts problematic.
Question 3.15
What do you consider to be the main corporate governance issues affecting small family
businesses?
One issue is that many small businesses lack resources and skills, particularly in long-term
strategic planning and marketing. Cadbury (2000) found that in family businesses, some of the
governance issues revolved around dissension between family members. Where independent
managers or directors are appointed, there can be conflict with family managers or directors
who have historical and emotional involvement with the company. There are often no formalised
processes to deal with this conflict.
Question 3.16
What are the key issues of governance affecting not-for-profit organisations, and how might
these issues be addressed?
The key governance focus in not-for-profit organisations is on stakeholders, as ownership is in

many ways problematic and almost exclusively not reliant on shareholders. There is a high level of
emotional involvement from many of the stakeholders. Boards are generally, but not necessarily,
larger and consist primarily of unpaid directors. There is often no formal nomination process,
no equity injection from owners, and no profit distribution. The board is often more ‘hands-on’
to compensate for the low-cost administration. The focus is on both financial and non-financial
objectives, with the key reason for its existence being to provide the service for which the
organisation was formed.
Question 3.17
How can the broad public service mission of publicly owned companies be focused and delivered
through better governance?
The challenge of public sector enterprise governance is that it is informed by a broad public
service mission, while private enterprise may focus more on the bottom line profit. That is,
while the public sector enterprise will be required to work within a budget, the definition of its
mission is often broad enough to demand careful assessment of the priorities the enterprise
must pursue. Often for public sector enterprises, there is unlimited demand for services from the
public, and therefore the analysis of priorities and the assessment of performance in meeting
those priorities needs to be finally tuned.
In this context, good governance is required to deliver on the three Es—economy, efficiency
and effectiveness. With such wide and competing economic and social objectives, the boards of
public enterprises need to build good relationships with wider stakeholders to fully understand
their needs, while engaging with government to remain fully accountable. There must be a
clear delineation of the roles and powers of government ministers and boards, and capable
directors, while boards need to be given the opportunity to do their work with responsibility
and accountability, and without undue intervention from government ministers.
Question 4.1
Explain the significance of the shareholder vote in the ‘two-strikes’ rule and the fact that at different
points it includes 25 per cent and 50 per cent of ‘eligible votes’ and finally the participation of
all shareholders as a simple majority.
The two-strikes rule provides a new type of power to shareholders who are dissatisfied with the
remuneration report. This report, as part of the corporation’s annual report, discloses the salaries
paid to senior executives. If shareholders are unhappy, the first strike may occur at the next AGM,
if at least 25 per cent of the eligible shareholders vote against accepting the remuneration report.
(Shareholders ineligible to vote include managers, directors and any associated shareholders.)
The second strike may occur a year later at the next AGM, if the next remuneration report is
similarly rejected by at least 25 per cent of the eligible shareholders. Following the second strike,
the whole board (except the managing director) is subject to a spill vote. The spill vote takes
place the same day and only eligible voters are involved in that voting. The spill occurs only if
50 per cent of eligible voters vote in favour of the spill, because the big step of dislodging the
whole board should not be decided by only 25 per cent of eligible voters.
The old ‘spilled’ board continues until the next shareholders’ meeting, which must take place
within 90 days in order to elect a new board. Candidates can include new potential directors
nominated by shareholders so the old board can be largely replaced. The vote for the new board
involves all shareholders, including the previously ineligible shareholders, who now vote for the
new board. This has the potential to allow their often very large voting power to reinstate all
the old board. However, the message sent by the eligible shareholders about who should be
members of the new ‘post-spill’ board of directors will be powerful and hard to ignore.
Note also that at least (any) two of the old ‘spilled’ directors must continue as directors in
addition to the ‘unspilled’ managing director. (We will not explore further how these directors
may be selected and the complexities that may arise if shareholders do not vote for at least two
old directors.)
Question 4.2
From the perspective of the disqualified person, what is the effect of being disqualified and
what is the key difference between disqualification that is ordered by the courts (or by ASIC in
Australia) and a disqualification that is automatic?
A disqualified person is not permitted to hold an office in a corporation, which includes not being
permitted to act as a director or be a senior manager. To act as an officer while disqualified is an
offence and is subject to criminal punishments.
Automatic disqualification means that the disqualified person is not necessarily informed that
they are disqualified. For example, a person involved in corporate crime, or even a non-corporate
crime that involves dishonesty and is not just a minor wrong, is most likely to be ‘automatically’
disqualified merely because they are criminally open to punishment. Accordingly, officers need to
be aware of the possibility of automatic disqualification if they are ever found guilty of an offence.
Five years is usually the period of automatic disqualification.
Where a court (or a regulator such as ASIC) orders disqualification, it will be because a
legislated wrong has occurred. This can include civil wrongs where proof is ‘on the balance of
probabilities’. Periods of disqualification are commonly up to 20 years (and sometimes more).
Note that the disqualified person is advised clearly of the period, when the court or regulator
applying the disqualification states the outcome as an order to the relevant person. Aside from
disqualification, such orders are often in conjunction with civil or even criminal penalties.
Question 4.3
A publicly listed corporation’s remuneration committee is interested in the forms of remuneration
that can be offered to management to motivate them to maximise value for the shareholders.
(a) In the context of remuneration (and related agency issues), what are the benefits to be
obtained by the appointment of independent directors?
(b) To which performance measures could different forms of remuneration be linked?
(c) How can shareholders be confident that managers are paid appropriately?
(a) Ideally, independent directors (who, by definition, are also non-executives of the corporation)
are not paid any performance bonuses. They should receive only flat payments, in accordance
with an overall payment policy approved by shareholders. As such, they are not personally
influenced by levels of pay. Independent directors should not be on a board too long
(as also discussed in Module 3) so that they are able to stay independent and free from
external influence.
Independent directors can, therefore, make decisions that are for the good of the
‘company as a whole’ (which of course is a specific legal formula about the relationship
between the board and shareholders) from a more objective stance than directors who are
not independent. Non-independent non-executive (NINE) directors are less able to make
unbiased decisions (and certainly appear more biased to ordinary shareholders) as they have
relationships that deny independence. Obviously, executive directors should not be allowed
to make decisions regarding their own remuneration.
(b) This is a difficult question to answer in detail as every corporation is different and the
remuneration committee in each corporation will look at many complex factors. Below are
two possible methods:
–– Perhaps the CEO bonus should be based on achieving a certain return on investment
(ROI), or a percentage linked to achievement above a certain ROI. Care must be taken
not to allow the remuneration incentive to overcome organisational priorities and great
care must be taken to ensure that excessive risk is not accepted in the hope that great
remuneration may result.
–– Perhaps the bonus should be paid partly in cash to emphasise an immediate return for
current performance and partly in share options (with perhaps a two year exercise date)
to encourage the CEO to stay in their current position and continue to build share value.
In two years the options will be worth more and will be exercisable, giving a good reward
after two years.
This approach could also apply to senior managers. The possible concepts and approaches
under this question are numerous and form a key part of the determinations of a good
remuneration committee.
(c) Shareholders rely on the deliberations of the remuneration committee and its
recommendations to the board. Shareholders may question remuneration in annual
meetings—including through the two-strikes rule in Australia and related measures
developing in other jurisdictions. It is apparent that the major considerations need to be
carefully analysed and undertaken by the remuneration committee and by the board,
in the absence of executive directors who are the recipients of the remuneration decisions.
The shareholders should be able to rely on good boards and active and diligent independent
directors for good remuneration decisions.
Question 4.4
What are some measures the board can undertake to enhance the likelihood of auditor
independence being achieved?
(Note that the auditor has a responsibility to make a statement of independence to ‘those charged
with governance’ for inclusion in the corporation’s reports. Essentially, this question pertains to
the types of measures that can, and should, occur within the corporation to enhance auditor
independence rather than just relying on the auditor’s statement.)
A board may do many things to help ensure that the relationship between the corporation and
the external auditor is independent. One important item for which auditors are responsible is a
statement of independence that they must make to the corporation. This audit statement must
be a part of the corporation’s annual report, along with the actual audit report itself.
Apart from including the auditor’s statement of independence in the annual report, the board
can consider other important measures that will help to make independence easier to achieve.
We have not looked at every such measure but they include clearly stated policies and practical
procedures which:
• ensure an independent auditor is engaged to perform the audit;
• establish a correctly structured audit committee so that this body can be identified easily
by the auditor as comprising ‘those charged with governance’;
• ensure that the audit committee understands that it is the body through whom all audit
communications are normally expected to take place; and
• define the way management should behave when their activities are the subject of audit
activities (this, importantly, will include the CEO and the CFO).
In addition, appropriate measures should be in place to ensure that employees’ interactions

and dealings with the auditor are at arm’s length.
Question 4.5
Markets work well when fair-dealing businesses are in open, vigorous competition with each
other. With reference to Examples 4.10 and 4.11:
(a) What are the corporate governance implications of these examples for a board?
(b) Do competition laws stifle a corporation’s ability to be competitive?
(c) In what ways can respect for competition law drive competitive advantage for individual
corporations?
(a) In Examples 4.10 and 4.11 the ultimate responsibility for decision-making rests with the
board, therefore the boards of both corporations were lax in allowing anti-competitive
practices to go on. For example, Intel, the largest computer chip maker in the world, used its
status to stifle its competition and to unfairly pressure customers into doing business with
it. Indeed, it can be argued that the directors breached their fiduciary duties by allowing
such anti-competitive behaviour. In either case it might be difficult to demonstrate that
the board had actual or constructive knowledge of the wrongdoing to the extent that its
failure to respond to the alleged red flags was a breach of its fiduciary duties to properly
monitor corporate compliance; nonetheless, compliance oversight is a key role of the board,
so the directors should have systems in place to prevent or at least warn them of these anti
competitive practices.
Corporate governance should ensure the constructive use of market power. Effective
board oversight of legal compliance can strengthen the corporation today and into the
future, and allow it to avoid accusations of wrongdoing with respect to domestic or global
competition law. The board can be assisted in doing this by establishing a strong and
impartial ‘compliance committee’ that consists of independent directors and by instituting
appropriate compliance policies, procedures and programs.
Directors should ask themselves to what extent they are prepared to bear the negative
consequences of non-compliance. They should also check which early warning systems and
processes have been put in place for ensuring that the corporation’s practices are not anti
competitive, since the impact, both in terms of reputation and bottom line, can be extremely
damaging when a corporation fails to live up to its regulatory compliance duty.
(b) Companies form strategies to make profits, and eliminating competitors or pursuing anti-
competitive action may help achieve those profits. So, from this perspective, competition
laws may stifle an aggressive corporation’s ability to be competitive.
However, in a market driven by competition, there is always an incentive to bring about

technological advances and innovations that provide consumers with new or better-quality
products and services. As such, from the perspective of a corporation that seeks competitive
advantage in a market, it can be harmful to stifle competition in the long run as inertia
(lack of change or development) can set in. The corporation will lose its competitive edge
and new entrants to the market will ultimately succeed with new, innovative products and/or
cheaper prices.
(c) To distinguish themselves from their competitors and thus gain an advantage that is not anti
competitive, corporations can initiate policies to develop and maintain customer relations
through, for example, the provision of comprehensive before- and after-sales services or
continuing to offer innovative products at competitive prices. Corporations can also establish
a reputation for honesty and integrity and engender customer loyalty through the provision
of excellent service. In other words, meeting and exceeding competition and consumer laws
is a way to drive competitive advantage without resorting to the types of anti competitive
practices illustrated in Examples 4.10 and 4.11.
Question 4.6
With reference to Example 4.16:
(a) Identify each individual or entity that may be in breach of the law.
(b) Identify the potential penalties that could apply.
(c) What would be the situation if Shark and Loose had never spoken to each other but,
acting alone, neither company would agree to reduce prices, so Goods stopped buying
(and therefore selling) the relevant product?
(a) The purchasing managers of both Shark and Loose would likely be in breach of laws that
prohibit cartel conduct including this highly visible ‘price-fixing’. In addition to the purchasing
managers, the corporations themselves would also be in breach, as the actions of employees
are also those of the corporation. Notwithstanding that the purchasing managers may have
been acting contrary to corporate policy, and not informing the corporations, they are still
acting on behalf of their corporation. This will lead to the corporation also being accountable
for its conduct.
(b) Potential penalties would include individual jail terms and fines, and fines for the corporations,
which could be as high as USD 10 million or more (e.g. in Australia, the US and the EU).
In addition to penalties, compensation would also be payable to Goods Ltd as the affected
party. Compensation may be very large, depending on the economic damage suffered by
Goods Ltd. Note that if the misconduct is not established as a crime (proven to the ‘beyond
reasonable doubt’ standard of proof), it is likely that the matter would be held ‘on another day
in another court’ as a civil matter. The civil ‘balance of probabilities’ standard of proof is easier
to satisfy. While a civil wrong does not establish a crime, it can result in a financial ‘pecuniary
penalty’ which may be at exactly the same level as the criminal ‘fine’ would have been.
(c) Acting alone, there would be no collusion and therefore no cartel conduct. There is simply
no ‘agreement or understanding’ between competitors. Here, an individual corporation has
decided to deal with a certain customer in a certain way. This type of ‘unilateral’ decision-
making is generally not a problem, and on the facts stated, Shark and Loose should be ‘safe’.
Question 4.7
Briefly describe ‘whistleblowing’ and explain why whistleblower protection has become an
important component of good corporate governance.
Further, if Watkins was whistleblowing today, and in Australia (assuming at a time where the
information would be valuable), what guidance would you give to her regarding her legal
protection?
‘Whistleblowing’ describes the action of a person who discovers behaviour that they believe or
reasonably suspect is ‘wrong’ and then brings their concerns to the attention of the appropriate
people. Ideally, the appropriate people will investigate the suspicions and, if proven correct,
will take the necessary action to address and/or rectify the situation. This concept is important
in governance as whistleblowers are now protected by legislation (where whistleblowers act in
ways defined by relevant local legislation). Even junior employees can make their concerns known
without risk of punishment or legal action as long as they act consistently with the law protecting
them. This means that senior and junior managers are more open to inquiry and this openness
not only discloses wrongs but makes wrongs less likely to occur.
We would advise Watkins that in Australia today she would be protected by specific legislation.
However, she must ensure that she satisfies prescribed rules to obtain that protection,
which include that she can only be a protected whistleblower if she is:
• an officer of the corporation (this includes senior managers and directors and the
corporation secretary);
• an employee of a corporation (Watkins will satisfy this requirement); and/or
• a contractor or their employee who has a contract to supply goods or services to
the corporation.
And further that she is:

• acting in good faith (and not acting maliciously); and
• not making an anonymous allegation.
She must also make her allegations known only to specified recipients of that information,
which include the following:
• ASIC;
• the company’s external auditor or a member of the external auditing team;
• a director of the company, the company secretary or any senior manager of the company; and
• a person specifically authorised by the company to receive whistleblower revelations, such as
the Corporate Counsel or the internal auditor.
If all these requirements are met then Watkins today would be protected in Australia under the
whistleblowing provisions of the Corporations Act.
Question 4.8
A large beverage manufacturer prepares a point-of-sale poster promoting its brand as ‘the country’s
highest carbohydrate sports drink’ with the claim this will stimulate endurance, and the statement
that this is based on an independent scientific analysis. While the brand in question did have
a higher carbohydrate content than all other brands analysed, the researchers responsible for
the analysis stated in their report that, in terms of improving stamina, any differences between
brands were ‘statistically insignificant’.
Has the advertiser engaged in misleading advertising? Also, would you consider an advertisement
such as this to be ‘misleading conduct’ and/or a misleading ‘statement’ (or likely to mislead or
deceive), and what impact will this have on the potential outcomes?
The conduct is misleading or is likely to mislead. To make a specific statement about an objective
matter is acceptable if it is essentially correct. The problem is that there is an objective matter
that has been ignored and that makes the specific statement objectively invalid. The advice
received by the beverage manufacturer clearly states that the higher carbohydrate content
is ‘statistically insignificant’ with respect to the drink’s ability to improve endurance. Ignoring
this objective fact and using only that which was favourable to the drink maker constitutes
misleading conduct.
Where misleading conduct is found, a range of outcomes may apply, such as compensation
orders, injunctions or adverse publicity orders.
Question 4.9
Paroo is a director of Oorap Ltd, a listed corporation. In this capacity, she learned that Oorap
was about to be subject to a takeover bid. Paroo immediately started buying shares in Oorap
so as to be well placed when the market learned of the bid. She is now being investigated by
the regulator.
Discuss the key problems faced by Paroo.
Financial market protection rules apply to everyone who breaches a market protection rule.
To break the rule, you do not need to be a director, an employee or an accountant—merely a
person who breaks a rule that applies to you as a person ‘meddling’ with the market. If a director
is involved, which is common because they often hold secret market sensitive information,
then they also may easily breach other laws relating to directors’ duties.
It is clear that:
• Paroo has information (knowledge of the takeover bid);
• the information has not been disclosed and is not readily available in the market; and
• the information will have a material impact on the share price once it is released.
The information about the takeover is therefore inside information. As such, Paroo is not
permitted to act upon this information or disclose it. By purchasing shares, Paroo has been
engaged in insider trading, deliberately using knowledge not known to the market in order to
acquire shares at a price that would encourage others to buy those shares had they been privy
to the information.
Paroo has also misused her position as a director and has misused information gained as a
director. She has also not acted in good faith for the best interests of the corporation and has
not used her powers for proper purposes.
Question 4.10
In Example 4.23, the judge noted that John Hartman was highly remunerated as an employee.
Discuss this factor and its potential relationship to the market manipulation involved. Why is
insider trading a relevant factor in this case?
Justice McClelland, the judge in the case, commented on Hartman’s ‘immaturity’ and his lack of
values. He stated, ‘paying $350,000 to a recent graduate of 21 years of age carrying out a task
of modest responsibility underlines the extent to which the values which underpin our society
can be compromised’.
We need to understand the role that greed and self-interest can play in creating circumstances
that may cause poor corporate behaviour to flourish. In this instance, Hartman had high
expectations of rewards due to him. It seems that he decided to increase his rewards by
secretly (from the market) manipulating aspects of the market known to him and then using
the secret information as an insider, which is also insider trading.
The market manipulation related to the fact that, as the judge stated, ‘in the course of buying
and selling in significant volumes, the offender came to appreciate that large-volume trading
could have the effect of raising or lowering the price of a stock within a short timeframe’.
Hartman, recognising that the market would be manipulated by this activity, used his secret
inside information by telling others that this manipulation would occur and by trading
opportunistically for himself.
An interesting aspect of these circumstances is the fact that large volume trading itself, if done
in order to drive prices up or down, will be unlawful. If a large volume is bought or sold as a
simple trade without the intention to drive prices, then there is not necessarily anything unlawful
occurring. We can see in Hartman’s case that he treated his ability to be involved in these
‘price inducing’ large trades as a known manipulation activity. He attained his benefit from the
actual insider trading. The case demonstrates the way that markets can be subject to misdealing.
We saw this also with the Calvin Zhu and David Jones cases, and there are many such examples.
Question 4.11
Refer to Example 4.26.
Explain why ‘normal’ small shareholders (not institutional shareholders) in News Corp may have
concerns about Murdoch family control when in fact the family does not hold a majority of shares.
Also explain why institutional shareholders will have concerns. With whom does CalPERS more
readily align, given that at the time it held 1.38 million Class B (full voting) and 5.49 million Class
A (partial voting rights) shares, of the total of 738 million voting shares?
The Murdoch family holds slightly less than 40 per cent of the shares in News Corp. This is not
a majority. However, as no other voting group holds anything close to this percentage, it means
that News Corp in many ways is controlled by the Murdoch family. This can be seen in the fact
that family members hold dominant executive management positions as well as board positions.
At the time of the report (2011), the phone-tapping scandal involving News Corp was at its height
and the CEO and Chairman of the Board were both the same person—Rupert Murdoch.
Normal small shareholders, whose individual votes provide no real power in many corporations,
will be able to exert even less influence where a single, closely aligned group of shareholders
(i.e. the Murdoch-aligned votes) has dominance of the type described.
We see here that the institutional investor CalPERS is offended by the nature of the board
structure, by reported corporate activities and by the way that the voting system is organised.
The voting system concern, if relating to ‘non-voting’ and ‘partial-voting’ shares, arguably may
not be justified. This is because CalPERS presumably bought shares aware of the voting rights.
If it wishes all of its shares to have voting rights then it is free to sell its non-voting shares and
acquire in their place only voting shares. If CalPERS’ concerns relate to the absence of power
available to voting shares because of the Murdoch family’s ‘voting block’, then the concerns
are more understandable. It is also a concern that cannot be corrected unless corporations
laws change dramatically. A fundamental feature of all corporate governance is that those who
own the shares (including the Murdoch family) have the right to vote those shares. Even so,
it is the duty of all directors to act in the interests of the corporation as a whole. That means
decisions must be made for the benefit of all shareholders—not to the advantage of a few or
to deliberately hurt any shareholders.
CalPERS, as an institutional investor, has about 1 per cent of the voting (partial and full)
shares. We also see strong animosity from CalPERS towards the voting and power structure
within News Corp. Accordingly, we might expect CalPERS to more readily align with other
disgruntled shareholders. Indeed, the impact of shareholder demands for News Corp to be split
into 21st Century Fox for the film and television interests and News Corp for the newspaper
interests was eventually heeded by Murdoch, and for several years proved a highly successful
strategy. However, Rupert Murdoch has not listened to shareholders’ complaints regarding the
governance and management structure of both companies, and in 2015 was resolved to continue
with the Murdoch family firmly in control (with his sons James and Lachlan holding the controlling
positions with himself), despite wide concerns among shareholders and other commentators that
this might prove an unstable succession strategy.
Question 5.1
If corporate managers adopted views consistent with those of Milton Friedman, do you think that
any quest towards sustainable development would be realistic? Give reasons for your answer.
This will be a matter of opinion but, arguably, if corporate managers adopt Milton Friedman’s
view (i.e. that as long as organisations operate within the rules or laws, they should act
only to maximise shareholder wealth), then sustainable development is not a realistic goal.
Sustainable development requires current generations not to concentrate on maximising their
own wealth, but to consider the needs of all people currently on the planet as well as future
generations. It also requires due consideration to be given to the environmental impact of an
organisation’s operations.
However, as will be shown by a number of the corporate accountability initiatives in this module,
maximising shareholder wealth does not have to be inconsistent with a broader sustainability
focus. With a broader community interest in sustainability issues, a broader sustainability focus by
management can identify risks and opportunities that can preserve or increase shareholder value
(especially long-term shareholder value) and/or maintain or enhance corporate reputation.
Question 5.2
Explain the nature of an externality. Think about an organisation you know and ask:
(a) What is at least one positive and one negative externality generated by the organisation and
who are the affected stakeholders?
(b) Would these externalities directly affect the income or expenses (and therefore profit) of the
organisation?
(c) In your opinion, is the failure to recognise externalities a fundamental limitation of our current
financial reporting requirements?
(d) In your opinion, what might be the ethical implications of not accounting for business
externalities?
(a) An externality is defined as an impact that an entity has on parties that are external to the
organisation where such external parties did not agree or take part in the actions causing,
or the decisions leading to, the cost or benefit. Depending on the organisation in question,
you may have identified a number of positive and negative externalities.
For many organisations, negative externalities might include:

–– emissions into the atmosphere with implications for climate change (this would impact on
many stakeholders, including the environment and future generations);
–– waste emitted into waterways with implications for water life and drinking water quality
(this would impact on local communities, the environment and potentially future
generations);
–– production of goods that create waste that goes to landfill, thereby using land that might
potentially be used for other, more productive purposes (stakeholders affected here
would include local communities, the environment and future generations); and
–– the retrenchment of staff, thereby causing social costs inclusive of welfare payments
paid by government (stakeholders affected here would include the former employees,
their families, local communities and government).
Positive externalities could include the creation of products or services that have widespread
social benefits. For example, an organisation might breed endangered species and release
these to the environment.
(b) Most externalities would not directly affect an organisation’s profit or loss, although indirectly
they might. From an indirect perspective, poor social and environmental performance could
impact on an organisation’s compliance with its social contract and this in turn might affect
the demand for its products as well as the availability of factors of production—such as
labour (i.e. if an organisation has created a poor reputation for its social or environmental
performance, it might have difficulty attracting employees, capital and so forth).
Increasingly, a number of externalities are being recognised as costs (i.e. internalised).

For example, consider carbon-related taxes (but whether the taxes charged reflect the
‘true cost’ of the damage being done is another issue).
(c) You will have your own opinion about whether the failure to recognise externalities represents
a failure of current financial reporting systems. This module will expose you to current
corporate reporting systems that have broader reporting mandates and will identify and
report on certain externalities in accordance with their objectives.
(d) Possible ethical implications of business not being held accountable for its externalities are
wide ranging and have both short-term and long-term implications such as:
–– When businesses chase the lowest cost manufacturing sites around the world and the
lowest employee costs, they typically destabilise the local society and when they move
on, it leaves large-scale unemployment in the neighbouring communities.
–– Local governments and local communities typically have to pick up the costs of business
externalities such as the clean-up costs associated with abandoned mines, the medical
costs of treating people who suffer from lung cancer as a result of cigarette smoking,
and the costs for asbestos sufferers and sufferers of other workplace-related diseases.
–– Consumers can be physically harmed and die prematurely from toxic industrial wastes
that are not adequately disposed of.
–– The global commons can be polluted and degraded from over-intensive commercial
farming and arable land turned into dustbowls.
–– Developing countries can be deprived of access to water where mining and other
companies overuse local water supplies.
Question 5.3
Explain how any assessment undertaken by management about why they are reporting will have
an effect on the audience for the reports (i.e. to whom they are reporting).
The first phase of the reporting process should start with management clearly articulating ‘why’
they are reporting. The answer to the ‘why’ question will then provide important information for
the rest of the reporting process.
Reporting might be undertaken for a range of reasons. For example, an organisation might
decide that it needs to provide (report) particular information because particular (and perhaps
powerful) stakeholders are demanding or expecting such information. This information might be
disclosed because such information might be viewed positively by the powerful stakeholders,
therefore encouraging the stakeholders to further support the organisation by contributing the
resources required by the organisation. This would be referred to as a ‘managerial’ approach
to reporting.
By contrast, an organisation might be motivated to report particular information because

it believes it has an accountability to provide information to those parties affected by the
operations of the entity, regardless of the ability of such parties to impact on these operations.
As indicated, this type of reporting is more commonly being required nowadays, and the
requirement will specify how, and to whom, the report should be addressed.
When the reporting is voluntary, how an organisation reports will depend on how management
defines or prioritises its stakeholders. Managers adopting a managerial focus would restrict
their focus to the demands of those parties (stakeholders) who ‘can affect’ the organisation,
whereas those managers that adopt an ‘ethical, accountability-based’ perspective would
consider those stakeholders ‘who can affect’ the organisation, as well as those ‘who are
affected by’ the operations of the entity.
Once the entity has determined whose information requirements they are addressing,
they will be better placed to determine what they will report and how that information should
be disclosed.
While the above discussion has briefly discussed reporting approaches based on either
managerial or ethical reasoning, it should be stressed that different organisations will operate
along a continuum and operate somewhere between these two positions.
Question 5.4
In the introduction to this module we defined sustainable development as:
Ensuring that the needs of today’s world are met while at the same time ensuring that
the ability for future generations to meet their own needs is not compromised.
This definition is derived from the report, Our Common Future (WCED 1987, p. 16), also known
as the Brundtland report. If organisations are guided in their CSR obligations by enlightened
self‑interest, could such organisations also be seen as embracing sustainable development in the
way it has been defined above, based on the Brundtland report? Are the two concepts compatible?
If corporate actions are driven by enlightened self-interest, organisations will do the ‘right thing’
if these actions are perceived to lead to benefits that maximise shareholder value. Doing the
right thing will be directly tied to whether stakeholders who can affect the organisation will
penalise it if managers adopt particular strategies. Under this approach, if a particular strategy
negatively affects some members of society or irreversibly damages the environment, but its
financial benefits are deemed by managers to exceed any related financial costs, then that
strategy will be pursued. This assumes that managers have an understanding of the costs and
benefits of doing—and not doing—the right thing. Generally they do not.
By contrast, if managers embrace sustainable development as a guiding principle, they will

evaluate the effects of possible strategies on different stakeholder groups (current and future),
as well as on the environment. At times, this will mean that particular actions will be taken despite
possible short-term harm being inflicted on shareholder value (e.g. paying a fair wage even
though it is higher than the legal minimum).
Question 5.5
Three examples of how leading corporations define their stakeholders are included below:
Toyota Australia:
‘Our stakeholders are those groups who are affected by or affect Toyota Australia. Our
stakeholders have been identified as: our shareholder the Toyota Motor Corporation,
employees, customers, dealers, suppliers, community groups and government. Our code
of ethics provides a statement of duty specific to each group outlining the behaviours
expected when engaging with different stakeholders.’ (Toyota 2014).
BHP Billiton:
‘Our stakeholders can be defined as those who are potentially affected by our operations
or who have an interest in, or influence, what we do.’ (BHP Billiton 2014).
Imperial Tobacco:
‘We define our stakeholders as those with whom we have a financial relationship or who
are directly affected by, or have a direct interest in, our business operations. Stakeholders
include investors, employees, customers, consumers, suppliers and governments.
Others include supply chain communities, competitors, non-governmental organisations
and the media’ (Imperial Tobacco 2014).
How do these definitions vary? Why do you think these companies adopt different positions on
what a stakeholder is?
The Toyota definition is very similar to the definition suggested by Freeman (1984) as a party
that is affected by, or has an effect upon, the organisation in question. They also refer to a list
of groups, including the broader stakeholders of community groups and government—these
represent organisations that do not have financial stakes in the firm.
While the BHP Billiton definition is fairly similar in including stakeholders that are ‘potentially
affected’ by the organisation, it also includes stakeholders that have an interest in, or influence,
what we do rather than just ‘have an effect upon’, as is the case for Toyota. There is a wide variety
of parties that may ‘have an interest’ in BHP—so this definition could be quite broad.
Imperial Tobacco, however, adopts a more restrictive definition. It appears that it divides
stakeholders into those with more direct influence—those with a financial relationship—who
must be managed more closely. They appear to view ‘others’ differently—and possibly manage
them differently.
The three companies belong to different industries, which may have an impact upon how
they view stakeholders. Toyota has a relatively controlled supply chain and a clear product.
They may find it easier to identify their stakeholders. Compare this with the mining industry for
BHP Billiton—the organisation may adopt a broader interpretation of stakeholder because their
operations extend into communities. Imperial Tobacco is in a very contentious industry that
is under constant threat of regulation and legal implications. Companies may adopt different
positions based on which stakeholder perspective they tend to respond to.
Question 5.6
Following are two excerpts from the annual reports of two of Australia’s largest companies.
Consider the differences in how they view stakeholders:
Rio Tinto:
‘Delivering value for our stakeholders
Rio Tinto’s primary focus is on the delivery of value for our shareholders. We balance
disciplined investment with prudent management of our balance sheet and cash returns
to shareholders. We offer a long-term investment opportunity, and commit to sustainable
growth in cash returns to shareholders through our progressive dividend policy. As we
work, fixed on this core aim, our activities also give us the opportunity to create value
for our other stakeholders, in a variety of ways’ (Rio Tinto 2015, p. 13).
Stockland:
‘Stockland was founded in 1952 with a vision to “not merely achieve growth and profits
but to make a worthwhile contribution to the development of our cities and great
country”. We have a long and proud history of creating places that meet the needs of
our customers and communities’ (Stockland n.d.).
Are these approaches more consistent with the enlightened self-interest theory or the normative
or managerial stakeholder theory?
Rio Tinto is more closely aligned with an enlightened self-interest approach by arguing that
‘Rio Tinto’s primary focus is on the delivery of value for our shareholders’. Creating value for
stakeholders is only a secondary concern to Rio Tinto. They are primarily interested in financial
returns. If the company did interact with stakeholders, it would be according to managerial
stakeholder theory.
Stockland, on the other hand, seems to adopt a stakeholder perspective. The excerpt shows that
shareholders are seen as only one of a variety of stakeholders that the company is managed for.
Their emphasis on stakeholders for their intrinsic value (rather than their ability to generate profit
for shareholders) is more consistent with normative stakeholder theory.
Question 5.7
Consider Reading 5.1 and answer the following:
Community expectations are changing and there are growing expectations that organisations
should accept responsibilities beyond those towards their shareholders. With legitimacy theory
in mind, what are the implications of a corporation’s failure to consider a broader group of
stakeholders?
Within legitimacy theory, there is a view that the terms of the social contract will change over
time, and organisations will have to adapt to the changing expectations. A successful manager
will be one who keeps abreast of changing community expectations and responds accordingly.
These expectations will be influenced by various sources, including the media, and also by
the disclosures being made by the organisation. Corporate disclosure has been shown to be
responsive to legitimacy threats.
If community expectations have changed, this can cause a ‘legitimacy gap’ (where there appears
to be a lack of correspondence between how society believes an organisation should act and
how it is perceived that the organisation has acted). This might occur for an organisation,
even though it has maintained the same policies and procedures that had previously been
acceptable for decades.
Proponents of legitimacy theory argue that managers must continually assess whether community
demands and expectations are changing and respond accordingly. Therefore, if the community
expects an organisation to embrace responsibilities towards a broad group of stakeholders,
organisations that are seen to be motivated solely by ‘enlightened self-interest’ or who appear to
embrace a ‘shareholder primacy’ approach to operations will struggle to survive in the long run.
Whether communities actually expect corporations to fully consider a variety of stakeholders is

another matter.
Question 5.8
Consider the differences in the environmental impact of a mining firm (e.g. BHP Billiton) compared
with that of a professional services firm (e.g. Ernst & Young).
A mining firm such as BHP has a large and diverse number of environmental impacts. There are
many direct environmental impacts of their activities—consider the environmental impact of
opening a mine, the operation of the mine (often over a very long period of time) and the
remediation required when a mine closes. There are also more indirect effects of the firm’s
activities that may be harder for BHP to map and potentially measure. This includes the supply
chains for the products it uses (such as its trucks and equipment) or the environmental impact
that comes about from the use of all of its products. This is potentially very large, as BHP’s
products are often the input for other production processes.
By comparison, the direct environmental impact of a professional services firm is expected

to be considerably smaller. This does not mean that it should not manage these impacts,
which would include the use of resources in day-to-day activities, energy use and transport.
Managing environmental impact can bring financial benefits and enhance a firm’s reputation
in the eyes of potential clients and employees.
Question 5.9
Marks & Spencer, a UK-based retail company, produces an annual report based on its sustainability
strategy, known as ‘Plan A’. Review it here: http://planareport.marksandspencer.com.
(a) Identify one issue that Marks & Spencer reports on in the following areas:
(i) economic
(ii) social; and
(iii) environmental.
(b) Identify one of each of the following:
(i) a monetised measure;
(ii) a quantified measure; and
(iii) a narrative on sustainability.
(a) There are many examples for this question, but some examples include:
(i) Economic
Reporting and transparency, what we sell, how we sell (summarised p. 10).
(ii) Environmental
Climate and GHG emissions, energy, transport, waste, packaging, water efficiency,
sustainable buildings (summarised p. 10).
(iii) Social
Employment and diversity, employability programs, training and development,
health and wellbeing, community (summarised p. 12).
(b) There are many examples for this question, but some examples from the Marks and Spencer
(M&S) report: http://planareport.marksandspencer.com include the following.
(i) A monetised measure
|| [Indicator: Community donations, p. 28] £8.2m cash, £1.6m time, £3.3m in-kind
contributions made in 2014/2015
|| [Indicator: Customer clothes recycling, p. 13] ‘through our Shwopping clothes
recycling initiative, helping us raise an estimated £1.75m for Oxfam (last year £3.2m)’
|| [Indicator: Supporting charities, p. 27] ‘The total amount raised for health and
wellbeing charities totalled £2.45m. That’s £5.35m over two years so far’.
(ii) Quantified measure

|| [Indicator: Youth employment at M&S, p. 24] ‘By 2016 we aim to have offered support
to 5,000 young unemployed people in the UK with 650,000 hours of training and work
experience in order for 50% to find work within three months of their placement’
|| [Indicator: Employee diversity, p. 23] ‘As of April 2015, 38% of our Board and 40% of
employees in senior management roles across our global business were women.’
|| [Indicator: Leather tanning and dyeing, p. 31] ‘To source 25% of the leather used in
M&S General Merchandise products from suppliers who demonstrate continuous
improvement against environmental industry based metrics by 2020’
|| [Indicator: Nitrogen trailer trial, p. 18] ‘By 2017, we will conduct a 20 vehicle pilot to
test nitrogen as a lower carbon refrigerant in our Food transport fleet’.
(iii) Narrative on sustainability

|| [Indicator: Environmentally efficient food packaging, p. 29] ‘To use the most
environmentally efficient forms of packaging systems throughout the supply chain
to help reduce the overall carbon footprint of packaging and products by 2015’
|| [Indicator: Transparency, p. 12] ‘By 2015, we will consult with our customers and
stakeholders to identify what information they consider to be important about where
and how M&S products are produced and by 2020 we will respond by improving
the information available’.
Source: Marks & Spencer 2015, Plan A Report, accessed October 2015,
http://planareport.marksandspencer.com.
Question 5.10
Identify some of the limitations of financial reporting practices as they apply to CSR reporting and
provide an opinion about whether you consider that financial reporting practices have contributed
to problems such as climate change.
In the module, we identified a number of limitations of traditional financial reporting practices

as they relate to CSR reporting, due to factors such as the following:
• How we define and recognise the elements of financial reporting acts to restrict the
recognition of externalities. Many environment-related obligations might not be reported
due to considerations associated with the ‘probability’ of the ultimate resource flow and the
‘measurability’ of such resource flows.
• How we measure the elements of financial reporting. For example, the practice of
discounting liabilities tends to make many future obligations—such as those related
to remediating contaminated sites—become immaterial from a financial perspective and,
therefore, not reportable (even though the environmental consequences of the current
actions might be significant).
–– The entity assumption requires the accountant to ignore events that do not directly affect
the financial position and financial performance of the organisation.
–– The practice of dividing the life of the organisation up into short periods—such as
12 months—acts to potentially prioritise short-term performance over and above
long-term performance. The implication is that things such as investments in cleaner
technologies, which might have a pay-back period of many years, might be overlooked in
favour of projects that provide results in the short term.
Whether we believe that generally accepted financial accounting practices have contributed
to problems such as climate change is a matter of opinion. However, because current financial
accounting practices emphasise measures such as profits (which traditionally ignore greenhouse
gas emissions) efforts to maximise profits may conceivably contribute to climate change.
Further, many senior managers will be paid bonuses tied to financial measures such as profits,
and this will further encourage them to undertake actions which will not necessarily be consistent
with reducing their organisation’s impact on climate change.
Question 5.11
The CDP website features a quote from Douglas Flint, group chairman of HSBC Holdings plc,
in which he states:
For HSBC, climate change is a cornerstone of our ongoing business strategy … The
reporting framework that CDP has pioneered over the past decade has helped us both
as a respondent and a signatory, to improve our understanding of the strategic risks and
opportunities in this area (CDP 2014b).
Evaluate this statement.
The quote shows how important climate change is to the business. HSBC has recognised it as
a business risk and an important part of its strategy. This could also be seen as an attempt to
secure a licence to operate in the face of a legitimation crisis facing banks (i.e. public trust in
banks has been very low, especially since the global financial crisis). It also clearly demonstrates
how important the development of the CDP framework has been, not only as a contributor,
but also because the information produced has improved their internal decision-making.
Question 5.12
This section has discussed a number of major reporting frameworks. Identify which of the
guidelines and non-mandatory initiatives constitute reporting frameworks, and outline the benefit
of such frameworks.
The reporting frameworks that are contained in the ‘Guidelines and non-mandatory reporting’
section of this module include the following:
• GRI G4 Guidelines: the most widely accepted CSR or sustainability reporting guidance.
It gives a reporting framework for the production of a comprehensive CSR report.
• <IR> framework: a newly developed corporate reporting framework that combines both
financial and non-financial information into a concise communication about how an
organisation’s strategy, governance, performance and prospects, in the context of its external
environment, lead to the creation of value in the short, medium and long term.
• Climate Disclosure Standards Board (CDSB): has developed a climate change reporting
framework that is intended for use by companies making climate change disclosures in their
mainstream financial reports.
• AA1000 AccountAbility Principles Standard: provides a framework for an organisation
undertaking CSR/sustainability reporting.
• Equator Principles: provide a framework for assessing and managing social and
environmental risk in project financing.
• Greenhouse Gas Protocol (GHG Protocol): is one of the most widely used international
accounting frameworks for quantifying greenhouse gas emissions.
The benefits of the frameworks are that they provide the criteria against which to report.
As such they give us the basis and measurement of the subject matter, and aid comparability
of information across organisations.
Question 5.13
(a) What is a social audit and why would an organisation undertake one?
(b) Would the results of a social audit be incorporated in an organisation’s CSR report?
(a) A social audit can be seen as the process that an organisation undertakes to investigate
whether it is perceived by particular stakeholder groups to be complying with the social
contract negotiated between the organisation and the respective stakeholder groups.
The reason why an organisation might undertake a social audit can be explained in
conjunction with a consideration of legitimacy theory. A breach of the social contract can
create significant costs for an organisation and, therefore, organisations often undertake
social audits to examine whether their operations appear to be conforming with the
expectations of particular societies or particular stakeholders.
(b) The results of a social audit often form an important component of an entity’s CSR/
sustainability report. The module provides the example of The Body Shop Australia,
which has a report that is centred on its social audit.
Question 5.14
Identify five corporate governance policies that could act to enhance an organisation’s social
and environmental performance and explain how linking such policies to executive remuneration
would generally be in the best interests of the organisation and its key stakeholders.
You might have identified any five of the following governance policies that could be employed
to enhance an organisation’s social and environmental performance (the governance policies
are extracted from Haque & Deegan 2010, p. 324).
From the following eight best practices listed in Table 5.4 you may have identified:
1. The organisation has a board committee with explicit oversight responsibility for
environmental affairs.
2. The organisation has a specific board committee for climate change and greenhouse gas
(GHG) related issues.
3. The Board conducts periodic reviews of climate change performance.
4. The Chairman/CEO articulates the organisation’s views on the issue of climate change through
publicly available documents such as annual reports, sustainability reports, and websites.
5. The organisation has an executive risk management team, dealing specifically with GHG issues.
6. Some senior executives have specific responsibility for relationships with government,
the media and the community with a specific focus on climate change issues.
7. The organisation has a performance assessment tool to identify current gaps in greenhouse
gas management.
8. The executive officers’ and/or senior managers’ compensation is linked to attainment of
GHG targets.
You may have also deemed the following from other parts of the module:
• Developing executive remuneration plans that reward managers on the basis of additional
performance indicators such as those tied to social and/or environmental performance.
• Implementing a policy of regular social audits.
• Implementing an environmental management accounting system.
• Implementing a policy of regular CSR reporting.
• Appointing an environmental manager who reports directly to the board.
• Undertaking audits of the supply chain to ensure suppliers comply with certain environmental
performance standards.
Linking such policies to remuneration will have the effect of requiring managers to consider risks
and opportunities to their organisations more broadly than financial profit. As a lot of the risks
and opportunities associated with environmental and sustainability are more long term, it will
help if managers take a longer-term perspective of the organisation, rather than concentrating on
the short term.
Question 5.15
The Westpac Sustainability and Community ‘Reporting our performance’ is located at: http://
www.westpac.com.au/about-westpac/sustainability-and-community/reporting-our-performance/
stakeholder-impact-reports.
Review this website, including the latest ‘Annual review and sustainability report’ and evaluate
its ability to communicate Westpac’s economic, social and environmental credentials.
The Westpac 2014 Annual Review & Sustainability Report (http://www.westpac.com.au/about-

westpac/sustainability-and-community/reporting-our-performance/stakeholder-impact-reports)
is a combined financial review and sustainability report. It thus provides a concise snapshot of the
organisation for a broad range of stakeholders. The report is supported by a website with more
detailed information, including Westpac’s annual report and further sustainability information.
Sections within the website include:

• Communities
• Customers
• Employees
• Environment
• Shareholders
• Suppliers.
The website includes more information under the following sections:

• Embrace societal change
• Environmental solutions
• Better financial futures.
Westpac has also released a 2015 interim sustainability report. You will be able to identify a
number of enhanced reporting features as you peruse the website and the report.
Question 5.16
Reading 5.3 provides certain perspectives about the social responsibilities of corporations and
individuals. Consider the following questions:
(a) Should CSR be de-emphasised in favour of personal social responsibility?
(b) Is CSR an effective defence strategy against powerful stakeholders?
(c) Is CSR really only undertaken to generate added revenue?
(a) For society to be able to effectively tackle problems such as climate change, third world
poverty, poor labour conditions and so forth, individuals and business organisations both
have a role to play. Individuals’ investment and consumption decisions will directly affect what
corporations produce and how they produce it. Therefore, it would seem that both personal
social and environmental responsibility and corporate social and environmental responsibility
have a role to play.
(b) Consistent with ethical theories, such as stakeholder theory, it is commonly argued that
corporations undertake particular CSR initiatives to win the support of powerful stakeholders.
Hopefully, this is not the only reason that corporations embrace CSR initiatives.
(c) What motivates corporations to voluntarily undertake CSR-related activities is a matter of
personal opinion, but it would seem somewhat cynical to believe that corporations only
undertake CSR activities to increase revenue. Some managers will do it because it is simply
the right thing to do.
Question 5.17
Islamic Finance can also be considered a socially responsible investment. You should now explore
the website of Crescent Wealth: http://www.crescentwealth.com.au/index.php/media-resources-
more-about-islamic-investing.
What is its investment approach? What form of socially responsible investment do you think this is?
Crescent Wealth (http://www.crescentwealth.com.au/index.php/media-resources-more-about-

islamic-investing) calls its approach ‘ultra-ethical’, as it is compliant with Islamic investment
principles. It argues that its ‘investment philosophy is grounded and bound by Islamic finance
principles, which aim to the meet the financial needs of participants with justice, equity
and fairness’.
The website indicates that Crescent Wealth takes an approach to investment based
predominantly on negative screening. It actively screens out:
• conventional financial services;
• weapons or defence orientated companies;
• tobacco;
• pork and pig products;
• alcohol;
• gambling;
• adult materials; and
• morally hazardous media.
It also indicates that it may undertake some thematic screening by selecting investments that
‘mandate social values and good governance’.
This socially responsible investment fund would be a form of responsible investment, involving
‘negative screening’, that is, avoiding investment in industries that have a negative impact on
society and the environment.

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Study Guide

Questions and Answers

To be used in conjunction with Ethics and Governance, 2nd Edition.

This situation highlights the importance of implementing an appropriate system of quality

From careful reading of Reading 1.1, it is apparent that:

The four issues raised are:

The candidate is confusing the concept of egoism with utilitarianism:

The definition advocated by the candidate is more consistent with egoism.

Smith, Jones & Associates

Ace Tax Services

Section 290.7 of the Code specifies that:

The notion of trust in the professional–client relationship is fundamental to the concept of

To apply this model we ask four questions:

1. Do the benefits outweigh the harms to oneself?

2. Do the benefits outweigh the harms to others?

3. Are the rights of individual stakeholders considered and respected?

4. Are the benefits and burdens justly distributed?

Case Study 2.1: Scott London, former senior

Objectivity. London’s professional judgment was compromised by his conflicts of interest in

Confidentiality. London traded in securities based on non-public information obtained in his

Case Study 2.2: Arthur Andersen

Arthur Andersen and Enron

If it is not possible to eliminate or reduce the threat created by application of safeguards,

(d) The public interest

• Adopting clearly defined delegations of • Reviewing opportunities and threats to

• Determining that the company accounts • Agreeing on performance indicators with

Usually, the expected benefits of audit committees include:

The main positive points include:

However, negative aspects include:

All references below are to the FRC Code (FRC 2014).

The market-based system of corporate governance has the following strengths:

The weaknesses of a market-based system of corporate governance include:

The advantages of the European relationship-based system are as follows:

The disadvantages of the European relationship-based system include:

The key governance focus in not-for-profit organisations is on stakeholders, as ownership is in

In addition, appropriate measures should be in place to ensure that employees’ interactions

However, in a market driven by competition, there is always an incentive to bring about

And further that she is:

For many organisations, negative externalities might include:

Increasingly, a number of externalities are being recognised as costs (i.e. internalised).

By contrast, an organisation might be motivated to report particular information because

By contrast, if managers embrace sustainable development as a guiding principle, they will

Whether communities actually expect corporations to fully consider a variety of stakeholders is

By comparison, the direct environmental impact of a professional services firm is expected

(ii) Quantified measure

(iii) Narrative on sustainability

In the module, we identified a number of limitations of traditional financial reporting practices

The Westpac 2014 Annual Review & Sustainability Report (http://www.westpac.com.au/about-

Sections within the website include:

The website includes more information under the following sections:

Crescent Wealth (http://www.crescentwealth.com.au/index.php/media-resources-more-about-

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Case Study 2.1: Scott London, former senior