ASSIGNMENT 1

FINANCIAL MANAGEMENT

TRIECHIA LAUD
BSACC 3A
 Money out of Money

In an increasingly risky and globalized marketplace, people must be able to make well-

informed financial decisions. Making a financial decision is a reflection of how an individual

value his resources and manage finances. A sound financial decision making has a great impact

on one’s self and those who depend on him.

One key aspect of financial decision-making relate to investment. Investment is the

allocation of monetary resources to assets that are expected to yield some gain or positive return

over a given period of time. In an economy, the most important decision to be taken by an

investor is to decide on which form of business he should invest his money so that he can grow

and secure his money in either shortest possible time or for long-term period. When deciding on

which business entity structure to invest in, many investors find themselves having to choose

between a partnership and corporation. The choice will have important implications for the

investor’s legal exposure and safeguard, return, and ultimately his bottom line. From my vantage

point, the best decision on where to invest is in a corporation.

A corporation which is permanent in existence aides savings and investment. This

has been said to be the best form of organization. The characteristics of the corporation which

have been very useful for investors are management structure, stability, limited liability of

shareholders, perpetual life, and transferability and divisibility of stocks and shares.

Since there is no plans to be active in the business, investing in a corporation is more

suitable because it has more layers of ownership and management. Shareholders collectively

own a corporation, but don’t directly engage in company decision making. Instead, shareholders

elect a board of directors to make major strategic decisions.

 Great advantage of investing in a corporation is the stability it can provide. Because

corporations are large companies and have well-established reputation with consumers, they are

less likely to come across a business or economic circumstance that renders them insolvent or

forces them to stop revenue-producing operations completely. Partnerships do not have the same

level of stability, and therefore carry a greater degree of risk than investing in a corporation.

Another advantage of investing in a corporation is availability of the company’s

information regarding operations and profitability levels. Corporations especially publicly traded

ones, are required to provide shareholders and potential investors with accurate and periodic

financial statements, allowing for ease in determining whether a company is worth the

investment. In addition to research, company history and financial statements can be used in

combination with current business activity to determine accurate valuation. These aspects play

an important role in understanding the risk and potential reward of investing in a corporation.

One of the biggest benefits of investing in a corporation than in a partnership is its

separate legal personality. In contrast to a corporation whose shareholders have limited liability,

partnership firm is liable for all debts of the firm to the full extent of its personal wealth.

Creditors and legal claimants of a corporation can only come after the business assets, not the

personal assets. A partnership leaves owners open to personal liability for business debts or

business lawsuits. In these conditions, investors are hesitant to risk their savings in these form of

organization.

A corporation with the ability to continue its business irrespective of members

comprising it, gives longevity and soundness to its business activity. Besides unlimited liability,

the partnership also suffer from short life of the organization. With the death or retirement of any
of the partners, a partnership firm is dissolved. In these unstable and unsure conditions, investors

would not like to make investments.

Finally, corporation lends an element of liquidity to its shares. Even more importantly, a

corporation has the ability to issue stock and easily transfer pieces of ownership in the company

to third parties. This makes corporations the preferred business structure of most investors.

Investors can purchase preferred stocks in the corporation. As the corporation grows, stock will

increase in value, and investor can earn a nice return on their investment. In contrast, partnership

restricts stability and transferability freely from person to person. There isn’t a similar item of

value that you can easily exchange for an investor’s money.

Corporations tend to be companies that are established in their markets with long-term

histories. Some feel this makes them safer to invest in. Corporation company’s stocks also often

pay dividends, allowing you to capture some of the return of your investment, which some

investors view as a benefit. Rather than keeping their profits and investing it back to themselves,

they may not benefit as much from using the cash, so they distribute to owners.

It is actually necessary to invest, particularly for individuals who aren’t going to need that

money for a long time. In reality, not investing is highly irresponsible to both your future self

and those who are going to be dependent on you. This is because your money really needs that

growth to get it up to where you want it to be for retirement, for entertainment, or for other

things you want. So long as you have the resource, make the best use to the fullest, make more

money out of your money.

 Upside Down

Enron Corporation was an energy company that resulted from a combination of two

companies. It was founded by Kenneth Lay in the merger of two natural-gas transmission

companies, Houston Natural Gas Corporation and InterNorth, Inc.; the merged company was

renamed Enron in 1986. Enron acted as an intermediary between natural-gas producers and their

customers and later on began trading electricity. With strong leadership from its executives,

Enron was named Fortune’s “America’s Most Innovative Company” for six consecutive years.

The company continued to build power plants and operate gas lines, but it became better known

for its unique trading business. Before it bankrupted in 2001, its annual revenues rose from $9

billion in 1995 to over $100 billion in 2000. Enron continued to transform its business but, as it

diversified out its core energy operations, it ran into serious trouble. At the end of 2001, it was

revealed that its reported financial condition was sustained substantially by institutionalized,

systematic, and creatively planned accounting fraud. Despite of being the most famous company

in the world, it’s also one of the companies which fell down too fast.

The lack of truthfulness by management about the health of the company was one cause

of Enron’s bankruptcy. The executives believed Enron had to be the best at everything it did and

that they had to protect their reputations and their compensation as the most successful

executives in the United States. The duty that is owed is one of good faith and full disclosure.

Evidences were concealed regarding the stock sale made by the Chief Executive Officer (CEO).
The stock was sold to the company to repay money that the CEO owed Enron for which the sale

qualifies as an exception under the ordinary director and officer disclosure requirement.

It has also been seen that conflicts of interest and a lack of independent oversight of

management by Enron’s board contributed to the firm’s collapse. The conflict of interest

between the two roles played by Arthur Andersen, as auditor but also as consultant to Enron.

Andersen admitted that employees of the firm had destroyed documents and correspondence

related to Enron engagement.

One big factor in Enron’s downfall was through the use of Mark to Market tool. As a

public company, Enron was subjected to external sources governance including market

pressures, oversight by government regulators, and oversight by private entities including

auditors, equity analysts, and credit rating agencies. In order to keep appeasing the investors to

create a consistent profiting situation in the company, Enron traders were pressured to forecast

high future cash flows and low discount rate on long-term contract with Enron. There is no doubt

that the projection of the long-term income is overly optimistic and inflated.

It is not unusual for businesses to fail after making bad or ill-timed investments. What

turned Enron case into a major financial scandal was the company’s response to its problems.

Rather than disclose its true condition to the public investors, as the law requires, Enron falsified

its accounts. It assigned business losses and near worthless assets to unconsolidated partnerships

and Special Purpose Entities (SPE). In other words, the firm’s public accounting statements

pretended that losses were occurring not to Enron but to the so-called Raptor entities, which were

ostensibly independent firms that had agreed to absorb Enron’s losses, but were in fact

accounting contrivances created and entirely controlled by Enron’s management. In addition,

Enron appears to have disguised bank loans as energy derivatives trades to conceal the extent of

its indebtedness.

When these accounting fictions were sustained for nearly eighteen months came to light

and corrected accounting statements were issued, over 80% of the profits reported since 2000

vanished and Enron quickly collapsed.

While Enron was arguably the one of the biggest failure have occurred in business

history, WorldCom was by far the largest single bankruptcy in history and significantly impacted

the single legislation. The company experienced so many lapses in accepted governance

practices that the size and complexity of the company’s collapse alone provides a study in how

poor culture, control systems, and oversight can easily lead a company to a ruin.

The reported financial condition of the company was manipulated by management to

such an extent that, what appeared to be a profitable company was, in reality, bankrupt. Despite

over $100 billion in assets, the company filed for Chapter 11 bankruptcy, allowing to reorganise

while protected from creditors. The company admitted that it had overstated profits by $9 billion,

and possibly by as much as $11 billion. The inflated profits were largely due to operating

expenses that WorldCom had capitalized. Instead of recognizing expenses when they are due, the

company recorded them as assets, delaying their recognition as an expense to a future date. But

the company also manipulated reserves to offset expenses. In addition, the Directors did little to

question nor did they seemingly understand the ramifications of giving management the

authority to borrow an unlimited amount of money without seeking the Director’s approval. The

WorldCom Board also authorized the company to make or guarantee over $400 million loans to

their CEO without proper evaluation regarding whether he could repay them.
 In these two cases, we have examples of fraudulent financial reporting, imprudent loans

to management, and a lack of adequate oversight by the Board of Directors that undoubtedly

impacted the thinking of lawmakers and regulators drafting new legislation and implementing

rules. These, along with other major corporate frauds which were committed by organizations

prompted the creation of the Sarbanes-Oxley (SOX) Act of 2002 by Senator Paul Sarbanes and

Representative Michael Oxley in order to cut down the occurrence of corporate fraud. The intent

of SOX was to protect investors by improving the accuracy and reliability of corporate

disclosures in financial statements and other documents by closing loopholes in recent

accounting practices, strengthening corporate governance rules, increasing accountability and

disclosure requirements of corporations, especially corporate executives, and corporation’s

public accountants. Increasing requirements for corporate transparency in reporting to

shareholders and descriptions of financial transactions. Strengthening whistle-blower protections

and compliance monitoring. Increasing penalties for corporate and executive malfeasance.

Authorizes the creation of the Public Accounting Oversight board to further monitor corporate

behaviour, especially in the area of accounting. Additionally, SOX specifically addressed off-

balance sheet transactions such as the SPEs used at Enron. The Act directed the Securities and

Exchange Commission (SEC) to provide rules requiring the issuer to disclose all material off-

balance sheet transactions, arrangements, obligations and other relationships of the issuer with

unconsolidated entities or persons. The implementing rules of also preclude boards from

awarding preferential loans to their officers. SOX makes it unlawful for a company to directly or

indirectly, including through any subsidiary, extend or maintain credit, arrange for the extension

of credit or renew an extension of credit, in the form of a personal loan to or for any director or

executive officer of that issuer in the case of WorldCom.

 Enron’s leadership made decisive illegal moves to ensure that the company continued to

engage in the market despite high debt levels. The overt limitations of the company’s solvency

and inadequate controls fed a complex cocktail to investors. It is within corrupt environments

such as Enron and WorldCom case that leads shareholders to a loss of billions of dollars.

Affecting the overall U.S economy in extremely problematic and irreversible way. It was shown

that Sarbanes-Oxley Act was a response to a wave of corporate fraud and the passivity of boards

of directors, as well as audit, legal and analyst conflicts of interest and incompetence. With the

opportunity for an employee to commit fraud being so common from examples such as poor

upper management, an aggressive financial reporting attitude in a company, or unreliable and

ineffective controls, deregulation within the business world only fuelled a fraudulent company

from committing crimes.

Maybe business ethics is the most thesis point people doing business should focus on.

What is clear is that agents and gatekeepers must do all they can to ferret out and address bad

behaviours before it has a chance to destroy a company. Stakeholders must expect nothing less

and speak in one voice to ensure that agents and gatekeepers do just that, avoiding a risen empire

of business turn upside down.

 Maximization: Wealth or Social Responsibility

In these days, choosing a corporate objective of a firm is substantial and has a

determinant meaning to the success or failure of any corporation in controlling the market.

Which governance objective should a corporation follow is an inextricable problem for each

corporation to pursue its own goal. It’s difficult for a company to bring forward a right choice.

To gain it, Shareholder Wealth Maximization and Corporate Social Responsibility (CSR) which

is a form of social welfare maximization, play a key role not only in creating profit for a

company but also in establishing its image. So far, there have been various points of whether a

business should prefer wealth maximization for shareholders or welfare maximization of the

society as a governance objective of the company.

To make a stand more evident, understanding the concept of Shareholder Wealth

Maximization and Corporate Social Responsibility is necessary. According to Glen Arnod,

maximizing shareholder wealth means maximizing the flow of dividends to shareholders through

time. A corporation maximizes a shareholder value because shareholders take risk in investing

their capital by purchasing shares of a company for a flow of cash in the form of dividends in the

long run. Another constituency in contributing value to a company is stakeholder; a group or an

individual who is interested in the achievement of an organization’s purpose. It includes the

society which is interested in social welfare maximization.

Milton Friedman quoted, “There is one duty and only one social responsibility of

business- to use its resources and engage in activities designed to increase its profits so long as

its stays within the rules of the game, engages in open and free competition, without deception or

fraud”. He stressed on the pursuing the high returns for owners as a main objective of the

company. But whether maximization of wealth is the main objective of firm in the market
economy, one should not disregard to create value for its host society. Taking my standpoint,

CSR is of primacy.

Organizations should be more concerned with Corporate Social Responsibility rather than

focusing on wealth maximization only. Commercial objectives exist to make the maximum

possible profits for the shareholders. Wealth accumulation can be termed as the leading

motivation for business practice. However, business does not take place in an isolation facility.

There are concerns of the public who relate with the business that needs to be addressed by the

organization. Jonathan and Guay, notes that the existence of an organization should have positive

impacts on its host society and its negative effects should be minimal and mitigated. This

principle is described as the concept of social responsibility.

Corporate Social Responsibility involves responsibility in various aspects which includes

the environment, its employees, and the community at large. This does not only benefit the

stakeholders but it also has a direct benefit to the company itself. It enables firms to save

operation costs. An organization that involves employee’s CSR will have high performance from

its staff which will enable it to avoid the cost of hiring additional staff.

CSR boosts an organization’s image. Frankental notes that it makes the public aware of

the organizations existence and its activities. It creates positive stories for the media to report

about an organization. The responsible practices diverges attention from the negativities that an

organization may be involved in. By building a positive image that a firm believe in, it can make

a name for itself as being socially conscious. As the use of corporate responsibility expands, it is

becoming increasingly important to have a socially conscious image. Consumers, employees,

and stakeholders prioritize CSR when choosing a brand or company, and they are holding

corporations accountable for effecting social change with their business beliefs, practices, and
profits. Research by Cone Communications found that more than 60% of Americans hope

businesses will drive social change in the absence of government regulation. Nearly 90% of the

customers surveyed said they would purchase a product because a company supported an issue

they care about. More importantly, nearly 75% said they would refuse to buy from a company

supported an issue contrary to their own beliefs. A robust CSR program is an opportunity for

companies to demonstrate their good corporate citizenship and protect the company from

outsized risk by looking at the whole social and environmental sphere that surrounds the

company.

The Corporate Social Responsibility is an important element of any organization. The

core business may be profit maximization but business ethics requires responsibility for making

such profits. CSR is about giving back to the community that has hosted an organization. It is an

acceptance of the society’s role in the success of an organization. This appreciation of the

society’s role is achieved by ensuring minimal negative effects of the organization’s existence

while increasing the positive impacts. An organization should be dedicated in achieving superior

results by assuring that its actions are aligned with stakeholder expectations. The fact proves that

one company is still successful in pursuing social welfare goal to maximize its value. The

governing objective of a company may be to maximize the value of the company for its

shareholders, however, to achieve its purpose, it also requires serving the economic interests of

all stakeholders over time. Wealth maximization at the expense of CSR will make organizations

inhuman entities that exist to exploit humanity rather than enriching their lives. Maximizing

social responsibility also maximizes shareholder wealth.

 Working Better

The way a company operates and is perceived by both the public and competitors often

comes down to the workplace ethics. Workplace ethics refers to the way employees in an

organization govern themselves and their overall work attitude, but it can also refer to the

morality, or lack thereof, permeating a workplace. A truly ethical workplace should model

ethical behaviour from the top down, and from the inside out. Workplace ethics is reflected in

how organizations treat their suppliers and customers, how they interact with others, how they

perform their tasks, and how they communicate both internally and externally. A distinction

between what is law and what is ethical is important to be recognized. It is possible for a

behaviour to technically be legal, while still being considered unethical.

Ethical lapses of any kind have the tendency to snowball in a work environment. Once

employees see others breaking the rules without repercussions, they may start to think it’s

excusable for them to do so as well. It sends the message that not only the behaviour go

unaddressed, it communicates that it’s acceptable. Unethical behaviour that goes on without

being reprimanded undermines the moral fabric of an organization, leading to larger problems

than the unethical issue in question. This can be addressed by the management to improve and

employee’s work ethic by establishing systems and habits for accomplishing tasks efficiently and

interacting effectively in the work place.

One of the perfect ways to foster an ethical workplace that reaps the rewards of good

behaviour is by leading as an example. Leaders must model the behavioural norms they expect

employees to follow. To demonstrate a company’s ethics, leaders can create a code of ethics.

Companies should always have an employee code of conduct available, so all members of an

organization can have a clear understanding on where the company stands on different ethical
matters. If some unethical behaviours to some may seem harmless and go unaddressed, it will

speak a lot to both the individual’s character and the tolerance of misconduct by the organization.

Another way to cultivate employee’s ethics is by providing resources that actively

reinforce ethics. Workshops and training help staff to recognize many ethical dilemmas, but

these resources often fail to grasp the reality of many ethical breaches. Documenting the ethical

behaviours of other employees is a powerful form of social proof. The social influence of peers

reinforces the idea that individual ethics are active and essential to the company culture.

Resources that actively encourage ethics are on boarding packages for new hires that emphasize

the importance of ethics, and an approachable Human Resource (HR) departments that

emphasize what’s ethical, not just legal.

Ask employees to write a personal code. Ethical decisions are made one person at a time,

one decision at a time. Many ethical dilemmas are interpersonal, carry the potential for

repercussion, and are therefore hard to navigate. It’s often easier for employees to do nothing

than to make a tough decision. Ask employees to keep a personal code of ethics, a list of

unethical things they will never do. Also prompt them to write about how they would, ideally,

respond to unethical situations that might arise in the workplace. Beyond the individual’s efforts

to conduct themselves ethically in their work, there is a larger sphere of how workplace ethics

exist in the corporate culture as a whole and how the organization conducts itself both internally

and externally.

Lastly, management should reward ethical behaviour. What gets rewarded gets repeated.

Recognize when people do the right thing and also make clear that a win-at-all-cost mentality

will not be tolerated. Offering incentives helps reinforce the value of ethics. Intrinsic motivations

are more powerful than extrinsic motivations, so provide benefits that foster a sense of pride and
agency within the company. By inspiring and rewarding ethical beha5tgrviour in the individual

efforts of employees, an organization can ensure that ethical conduct permeates all levels of the

organization and reaches the public’s perception of the company.

Ethics is a living part of the best companies whose workplaces thrive as a result of the

values and integrity within. It is the guiding principles that determine how employees conduct

themselves in the workplace. While ethics and workplace behaviour have always been at the

forefront of organizational efforts, there are still issues that occur today regarding ethical lapses

in corporate conduct and judgement. Starting internally by promoting honest, hardworking

employees in a workplace culture driven by productivity and a strong work ethic, employees are

likely to use those driving principles of decency and fairness to increase overall company

morale, ultimately improving an organizations reputation and ensuring a long-term success.

Understanding the elements and challenges of workplace ethics and behaviour help companies to

create harmonious working environments which improve employees’ working better.