ETHICAL ASPECTS OF SFM

Background:- Some of the obvious reasons for widespread

unethical financial practices may be listed as follows.
• Ambition for achieving disproportionately high results with
inadequate resources & time.
• Corrupt practices in govt.bureaucracy, politicians &
regulatory authorities.
• Complex tax laws.
• Structural & procedural deficiencies in the organisation.
•Monopolistic power creating an imbalance in a market
economy.
•Organisational culture does not promote healthy
competition, loyalty, creativity, consistency, transparency &
entrepreneurship.
• Centralised control, lack of empowerment.

• Unhealthy rivalry promoted by the owners, their families,

partners & so- called advisors.
• False notion of racial superiority, intellectuality, religious
& regional supremacy.
• Saturated growth of a developed country, leading to a
forced exposure outside which the enterprise may not be
ready to face.
• Individual’s family, socio-economic background.
• Fear of uncertainty about future.
Definition of Ethical Management
A transparent approach to business success, which is
enjoyed by all stake-holders, based on the national
priorities & moral guidelines of the society.
ETHICAL DILEMMA:-
‘A practice in which an ethical individual or an organisation
being forced to accept an unethical or semi-ethical solution to
a problem in the larger interest of the organisation,
employees & society.’
While facing a dilemma an executive is expected to follow a
following preference-order of respect.
• The universe
• Nation
• Society
• Organisation
• Division
• Group
• Family
• Individual
Remedy For Ethical Dilemma:-

Ethical dilemma should be sorted out with the best possible,

& most acceptable adequate ethical solution. Quality of
such solutions may be decided from the following matrix.

The Flexible Solution The Best Solution

(Ethical)

The Worst Solution The masterminded solution

(Legal)
An ethical audit or audit of ethical practices must be carried
out every year, by using two sets of parameters --

• Quality of combinations of solutions as shown in the matrix.

• Preference observed in addressing ethical dilemma.
Ethical-Economical Combinations :
Financial strategists are more concerned about ethical –
economic solutions than ethical – legal combination. The
E –E combinations could be broadly classified as follows.
• Fully ethical & most economical --- Best
• Fully ethical & not so economical – Acceptable
• Most economical & not ethical – Dangerous
• Non-ethical & non-economical – Disastrous
The most effective, ethical & economic approach of business
requires the following major attributes, skills & approaches
 to be mastered by everybody in the organisation.

• Creative & alternate thinking about solutions.

• Entrepreneurial approach to business, at all levels in the
organisation.
• Most efficient systems of accounting, information,
communication & control.
• Maturity for understanding the macro & micro variables of
business.
• Patience for long-term results.
Ethical results normally start late on the performance curve of
the organisation. But results are big & sustainable, compared
to those with unethical, short-cut tactics.
 CORPORATE GOVERNANCE
Corporate Governance encompasses the system of
operating & controlling a body corporate in order to satisfy
the expectations & objectives of various stakeholders,
creditors, employees, customers, suppliers etc.
What is CG?
• It is a network of legal provisions, regulations, & practices
to bring accountability & transparency in the functioning of
body corporate.
• It is concerned with both the internal aspects of the
company such as internal controls & the external aspects
such as an organisation’s relationship with it’s
shareholders & other stakeholders.
• CG structure specifies the distribution of rights &
responsibilities among different participants in the
corporation, such as the board, managers, shareholders &
other stakeholders & spells out the rules & procedures for
making decisions on corporate affairs.
• CG ensures that resources available to a company are
used in a manner that meets the aspirations of the
society & different stakeholders.
Two basic principles of CG are:
• The management (BOD) has executive freedom to run,
direct & drive the enterprise
• The management should exercise this freedom within a
framework of effective accountability.
Thus CG provides for empowerment of BOD &
simultaneously creates a system of checks & balances
to ensure that the decision-making power is not misused
but is undertaken, with a sense of care & responsibility.
 FEATURES OF CG
• Trusteeship :- Ensures that BOD has responsibility to
protect the interests of different stakeholders.
• Transparency : Disclosures without jeopardising the
strategic interests.
• Empowerment :- Refers to creativity & innovation
throughout the organisation by vesting decision – making
powers as close to the scene of action as possible.
• Control :- Timely management of change.
• Ethical Behavior :- Both within organisation & in external
ralationships.
Focal point of CG is on top management however, in big
organisations it may be addressed to three interlinked
levels namely; Strategic Supervision(BOD), Strategic
Management(Corporate Management Committes ) &
Executive Management( Divisional Chiefs)
 DEVELOPMENTS IN PRACTICES OF CG

At formal level, CG started in India in 1998 when CII evolved

a code of corporate governance for transparent
disclosure norms as follows.
1. Annual Reports of all listed companies should be
accompanied by compliance certificate signed by CEO or
CFO.
2. Listed companies should give a statement on value
addition.
3. Data on high & low averages of share prices should be a
part of the annual report.
4. Disclosure norms for a GDR issue should also be the
norm for any domestic issue of securities.
RECOMMENDATIONS OF VARIOUS COMMITTEES ON CG

In May 1999, SEBI appointed a committee on CG, under the

chairmanship of K.M.Birla to suggest
• Suitable amendment to the listing agreement
• Measures to improve the standards of CG in listed
companies.
• A code of corporate best practices.
Birla committee made several mandatory & non-mandatory
recommendations about—
• Independent directors, Nominee directors & Chairman of
the BOD.
• Audit Committee & it’s composition.
• Frequency of audit committee meetings, Functions of
Audit Committee.
 • Remuneration committee of the board & it’s composition
• Accounting Standards & Financial Reporting
• Functions of the Board
• Separate Report on CG in the Annual Report
The committee’s recommendations have looked at corporate governance
from the point of view of the shareholders & investors. The control &
reporting functions of the BOD & role of the various committees, role of
management assume a special significance from this perspective.
The recommendations of K.M. Birla committee resulted in the introduction of
Clause 49 in the Listing agreement. Provisions & requirements of clause 49
of the Listing Agreement are dealing with the following.
• BOD :- Composition of the Board, Non-executive directors’ compensation &
disclosures, Independent directors, Borad procedure, Code of conduct, Term
of office of the non-executive directors etc.
• Audit Committee :- Qualified & independent audit

committee, meeting of audit committee, powers of audit

committee, role of audit committee, review of information by
audit committee.
• Audit Reports & Audit Qualifications :- Disclosure of
accounting treatment.
• Whistle Blower Policy :- Internal policy on access to Audit
Committee.
• Subsidiary Companies :-
• Disclosure of Contingent Liabilities :-
• Disclosure :- Basis of related party transactions,
disclosures about risk-management, Proceeds from IPO,
remuneration of directors, management analysis report,
• Redressal of shareholders’ & investors’ complaints :-
Regarding transfer of shares, non-receipt of dividends etc.
• CEO/CFO Certification :-
• Report on Corporate Governance :-
RECOMMENDATIONS OF NARAYAN MURTHY
COMMITTEE :-
In the year 2002, SEBI constituted a committee under the
chairmanship of N.R.Narayan Murthy to review the
performance of CG in India & to make appropriate
recommendations to enhance transparency & integrity to
stock market. These are as follows.
• Audit committees of listed companies will review the
following information mandatorily.
a) Financial statements & draft audit report,
b) Management discussion & analysis of financial
condition
c) Report related to compliance withlaws
 d) Records regarding related party transactions

• Companies should be encouraged to move towards

unqualified financial statements.
• A statement of all related party transactions ( as per AS-
18) should be placed before the independent audit
committee for approval .
• Procedures should be in place to inform the members of
the BOD about the risk assessment.
• BOD should lay down the code of conduct for all members
& senior management people.
• The nominee directors ( by Govt. or FI ) shall be elected
by the shareholders & be subject to same responsibilities
as other directors.
• All compensations & stock-options payable to non-
executive directors should be approved by the
shareholders in general meeting.
• Companies should ensure that personnel who observe an

unethical practice should be able to approach the Audit

Committee.
• The performance evaluation of non-executive directors should
be by a peer group comprising members of BOD.
• All Audit Committee members shall be non-executive
directors.
Role of Audit Committee :- The role of audit committee shall
include the following.
1. Oversight of the company’s financial reporting process & the
disclosure of it’s financial information to ensure that the
financial statement is correct, sufficient & credible.
2. Recommending the appointment & removal of external
auditor, fixation of audit fee & also approval for payment for
any other services.
3) Reviewing with management the annual financial
statements before submission to the board, focusing primarily

-- Any changes in accounting policies & practices

-- Major accounting entries based on exercise of judgment
by management.
-- Qualifications in draft audit report.
-- Significant adjustments arising out of audit.
-- The going concern assumption.
-- Compliance with Accounting Standards
-- Compliance with stock exchange & legal requirements
concerning financial statements.
-- Related party transactions.
4) Reviewing with the management, external & internal auditors,
the adequacy of internal control system.
5) Reviewing the adequacy of internal audit function,
including the structure of the internal audit department.
6) Discussion with internal auditors any significant findings &
follow-up thereon.
7) Reviewing the findings of internal investigation by the
internal auditors into matters where there is suspected
fraud or irregularity or a failure of internal control system.
8) Discussion with external auditors before the audit
commences about nature & scope of audit as well as
post-audit discussion to ascertain area of concern.
9) Reviewing the company’s financial & risk management
policies.
10) To look into the reasons for substantial defaults in the
payment to the depositors, debenture-holders,
shareholders ( in respect of dividends) & creditors.
Mandatory Review of Information by Audit Committee:-

1. Financial statements & draft audit report, including

quarterly/ half-yearly financial information.
2. Management discussion & analysis of financial
condition & results of operations.
3. Management letters/ letters of internal control
weaknesses issued by statutory/internal auditors.
4. Reports relating to compliance with laws & to risk
management.
5. Records of related party transactions
6. The appointment, removal & terms of remuneration of
the Chief Internal auditor shall be subject to review by
the Audit committee.
 SARBANES – OXLEY ACT 2002

The challenge to the investors’ confidence in listed

companies caused by some untoward incidents in the
recent past in the international capital markets has
brought corporate governance issues under the spotlight.
Serious financial manipulations in the corporate arena
have intensified the focus on how business houses are
managed. In view of the scam involving U.S. corporate
giants like Xerox, World Com, Enron etc. the Sarbanes-
Oxley Act was enacted in the U.S. with some stringent
measures relating to CG.
The act deals with the corporate social responsibility &
emphasized the audit function & financial disclosure,
conflict of interest & corporate governance at public
companies. It aims at the strengthening of powers &
functions of Audit Committee. It requires the constitution
of Public Company Accounting Oversight Board (PCAOB)
to oversee the audit of public companies that are subject
securities laws, to establish audit report standards. It prohibits
an auditor from performing specified non-audit services,
alongwith an audit. Audit firms to be appointed by & report
directly to the Audit Committee and subject to rotation of the
partner & the firm.