Introduction to Business

Ethics
Chapter III
 Introduction
 This chapter starts with the general definition of
ethics, its field of study, including meta-ethics,
normative ethics, and applied ethics, and
proceeds with business ethics. Ethics are broadly
described in the literature as moral principles
about right and wrong, honorable behavior
reflecting values, or standards of conduct.
 Honesty, openness, responsiveness,
accountability, due diligence, and fairness are
core ethical principles.
 Chapter Objectives:
• Present the definition of ethics in general and business ethics in
particular.
• Recognize the need for a code of ethics that is upheld especially by
setting the right “tone at the top”.
• Become familiar with the SEC rules and regulations relating to ethics.
• Provide an overview of listing standards and suggestions relating to
ethics.
• Understand the board’s role in setting the company’s ethical codes.
• Recognize the benefits of and need for an ethical workplace.
• Identify incentive programs and their roles in promoting an ethical
workplace.
 Chapter Objectives:
• Illustrate that actions speak louder than words in promoting an
ethical workplace.
• Discuss the integration of business ethics into the business
curriculum.
• Provide an example of proficient implementation of an ethical
code by examining the Defense Industry Initiatives on Business
Ethics and Conduct.
 Ethical Theories
There are several broadly accepted ethical
theories:

1. Consequentialist Theory.

2. Nonconsequentialist Theory.

3. The Individualist Dimension of Ethical

Decision Making.

4. Collectivism Theory.

5. Meta-ethics.

6. Normative Ethics.

7. Applied Ethics.
 Ethical Theories
First: Consequentialist Theory:
Advocates that ethical behavior or the
moral rightness of one’s actions are
determined by the results of the act
and its impact on either the individual
(egoism) or all involved
(utilitarianism).
Second: Nonconsequentialist
Theory: In contrast, assess the
nature of the act as being either
ethical or unethical regardless of its
results.
 Ethical Theories
Third: The Individualist Dimension of Ethical
Decision Making: Asserts that individuals are
only concerned with the impact of their
decisions on their own and their immediate
family’s well-being and interests.

Fourth: Collectivism Theory: postulates that

individuals tend to belong to groups and thus
focus on the group’s interests when making
ethical decisions.

Fifth: Meta-ethics: Focus on ethical theories,

their evolution, and the social, religious,
spiritual, and cultural influences shaping those
theories.
 Ethical Theories
Sixth: Normative Ethics: emphasize practical
aspects by providing principles of appropriate
behavior and guidance for what is right or
wrong, good or bad in behavior (principles of
justice, honesty, social benefits, lawfulness).

Seventh: Applied Ethics: deal with the

application of moral principles and reasoning as
well as codes of conduct for a particular
profession or segment of the society ( e.g.
business ethics, environmental ethics, medical
ethics).
 Ethical Theories

moral structure for the entire organization. Integrity and ethical conduct
are key components of an organization's control environment as set forth
in both reports of the Committee of Sponsoring Organizations of the
Treadway Commission (COSO): "Internal Control- Integrated
Framework" and "Enterprise Risk Management (ERM) -Integrated
Framework".
T he SE C r ule de s c r ibe s the te r m c ode of e thic s as w r itte n s ta nda r ds de s ig ne d to de te r w r ongdoing a nd to pr omo te :

1. Full, fair, accurate, timely, and transparent disclosures in reports and

documents filed or submitted to the SEC and in other public
communications.
2. Honest and ethical conduct throughout the company, including the
ethical handling of apparent or actual conflicts of interest between
personal and professional activities and relationships.
3. Accountability for compliance with the established code of ethics.
4. Compliance with applicable regulations and professional standards.
5. The timely and effective internal reporting of noncompliance and any
violations of the established code of ethics to an appropriate person
or persons designated in the code.
Note: Codes of business ethics and conduct are
intended to govern behavior, but they cannot
substitute for moral principles, culture, and
character.
 Ethics in the Workplace
•Ethics in the workplace are receiving a
considerable amount of attention as the emerging
corporate governance reforms require setting an
appropriate tone at the top promoting ethical
conduct. A review of the reported financial
scandals proves that most ethical dilemmas have
financial consequences and dimensions.

•There is increased interaction between the board of

directors, audit committees, internal auditors, external
auditors, executives, and employees in general
regarding ethical conduct in the workplace.

•SOX is reported to have a positive impact on business

codes of ethics. But OTHER elements are required to
promote competency and integrity among all
participants.
Findings of Deloitte Touche
2007 Survey on Ethics and
Workplace
Key factors in promoting ethical workplace

management behavior
direct supervisors behav-
iour
positive reinforcement
compensation (bonus
+salary)
behaviour of peers
Findings of Deloitte Touche
2007 Survey on Ethics and
Workplace
Reasons why people make unethical decisions

lack of personal integrity

job dissatisfaction
financial rewards
pressure to meet goals
ignorance of code of
conduct
Findings of Deloitte Touche
2007 Survey on Ethics and
Workplace
Aspects that cause conflicts

high levels of stress

long hours
fast-paced environment
inflexible schedule
highly competitive envi-
ronment
Findings of Deloitte Touche
2007 Survey on Ethics and
Workplace
results pertaining to questionable
behavior in the workplace environment

stealing petty cash

cheating on expense
reports
taking credit for another
person’s accomplishment
lying on time sheets about
hours worked
other results
Findings of Deloitte Touche
2007 Survey on Ethics and
Workplace
Majority believes that following actions are acceptable

use company technology

for personal use
take a sick day when not
actually ill
date a subordinate
ask a colleague for a
personal favor
THUS:
All organizations, regardless of their mission (e.g.,
profit oriented, nonprofit) and size (large vs. small),
should establish an “organizational ethical culture.”
The phrase “organizational ethical culture” consists
of three words:
(1) organization, which is defined as a group of
individuals or entities bound to achieve a shared
goal;
(2) ethics, which is honorable behavior conforming to
the norm of the group;
(3) culture, which is a pattern of shared beliefs
adopted by the group in dealing with its internal and
 Business Ethics
Four different levels of business ethics have been
identified based on the type of business and how its
actions are evaluated. These levels are:
1. The society level, which defines ethical behavior and
assesses the effect of business on society.
2. The industry level, which suggests that different
industries have their own set of ethical standards (e.g.,
chemical industry vs. pharmaceutical industry).
3. The company level, under which different companies
have their own set of ethical standards.
4. The individual manager level, at which each manager
and other corporate participants are responsible for
their own ethical behavior.

Consequently, one feasible way to judge ethical behavior

is to focus on determinants of business ethics and
behavior such as corporate culture, incentives,
opportunities, and choices.
 Business Ethics
Corporate Culture A corporate culture of setting an appropriate tone at the top of
promoting ethical and honorable behavior can play an
important role in establishing ethical behavior throughout the
company.
Corporate culture is influenced by the delegation of authority,
assignment of responsibilities, and the process of accountability.
Proper communication of corporate culture such as code of
conduct and job descriptions throughout the company is
essential in promoting and enforcing ethical behavior.
Corporate culture and compliance rules should provide
incentives and opportunities for the majority of ethical
individuals to maintain their honesty & integrity and provide
measures for the minority of unethical individuals to be
monitored, punished, and corrected for their unethical conduct.
Companies should promote a spirit of integrity that goes beyond
compliance with the established code of business ethics.
 Business Ethics
Incentives The most essential determinant of business ethics.

Individuals within the company tend to act according to incentives provided

to them in terms of rewards and the performance evaluation process.

Opportunities Effective corporate governance, internal controls, and enterprise risk

management can reduce the opportunity for unethical conduct.

Choices Individuals, in general, are given the freedom to make choices and usually
choose those that will maximize their well-being.

Managers and employees make decisions, take actions,

and exercise their choices on behalf of the company as
agents of their company.

Nevertheless, their choices are often influenced by

corporate culture, incentives, opportunities, and actions
because other individuals in the organization do not work
in isolation.
 Triangle of Business Ethics
The triangle of business ethics consisting of
(1) ethics sensitivity, (2) ethics incentives, and
(3) ethical behavior.
 Triangle of Business Ethics
Ethics sensitivity: is defined as moral principles,
workplace factors, gamesmanship, loyalty, peer
pressure, and job security that influence one’s
ethical decisions and are derived from the
organization’s ethical culture.

Ethics incentives: encompass rewards,

punishments, and requirements for behaving either
ethically or unethically. Examples of ethics
incentives are an organization’s appropriate tone at
the top promoting ethical conduct & AICPA
professional code of conduct.
 Triangle of Business Ethics
Ethics incentives: Incentives for ethical behavior
come from several sources, including:
1. Individual-based incentives: Pertain to one′s
ethical values and moral principles to do the right
thing.
2. Organization-based incentives: Come from
setting appropriate tone at the top and
establishing, maintaining, and enforcing ethical
behavior throughout the organization. They
include measures for motivating and mandating
individuals to comply with the company’s
applicable regulations and ethical standards and
act within ethical and legal constraints.
 Triangle of Business Ethics
Ethics incentives: Incentives for ethical behavior
come from several sources, including:
3. Profession-based incentives: are defined by a
professional affiliation of individuals. For
example, practicing accountants should observe
the AICPA’s and PCAOB’s code of professional
ethics.
• Professional codes of conduct serve as a
reference and a benchmark for individuals,
establish rules of conduct relevant to the
profession, and provide a means of facilitating
enforcements of rules and standards of conduct.
 Triangle of Business Ethics
Ethics incentives: Incentives for ethical behavior
come from several sources, including:
4. Market-based incentives: are provided by
markets in imposing substantial costs on
organizations and individuals that engage in
unethical behavior. For example, reducing costs
by lowering the quality of products and services
would cause a market reaction.
5. Regulatory-based incentives: are induced through
rules and regulations by imposing sanctions,
fines, penalties on organizations and individuals
who engage in unethical and unacceptable
behavior.
 Triangle of Business Ethics
Ethical behavior: Doing “the right thing” rises above a
rules-based mindset that asks “is this legal?”, and
adopts a more principles-based approach that asks “is
this right?”

• The company’s directors and executives should

demonstrate, through both their actions and their
policies, a firm commitment to ethical behavior
throughout the company and a culture of trust within the
company.
 SEC Rules on Corporate Code of
Ethics
The SEC rule describes the term “code of ethics” as
written standards designed to deter wrongdoing and to
promote:
(1) Full, fair, accurate, timely, and transparent disclosure in
reports and documents filed or submitted to the SEC.
(2) Avoidance of conflicts of interest, including disclosure of
any material transaction or relationship that reasonably
could be expected to give rise to such a conflict to an
appropriate person or persons identified in the company’s
adopted code.
(3) Honest and ethical conduct throughout the company
(4) Accountability for compliance with the established code
of ethics
(5) Compliance with applicable laws, rules, regulations, and
professional standards
(6) The prompt internal reporting of noncompliance and any
violations of the established code of ethics to an appropriate
person or persons designated in the code.
 SEC Rules on Corporate Code of
Ethics
The SEC extended code of ethics requirements to both
the company’s principal financial officers (SOX’s
Section 406) and principal executive officers (SOX’s
Section 407). The SEC rules in implementing Section
406 of SOX require public companies to disclose
whether they have adopted a code of ethics for their
principal officers, including principal executive officers,
principal financial officers, principal accounting
officers, controller, or other personnel performing
similar functions in the annual report filed with the SEC.
If the company has not adopted such a code of ethics,
it must disclose the reason for not doing so.
 Listing Standards
The listing standards of the NYSE further expanded on
the SEC rules by requiring listed companies to
(1) adopt and disclose a code of business conduct and
ethics for directors, officers, and employees;
(2) promptly disclose any waivers of the adopted code
for directors and executive officers.

Example: The NYSE listing standards recommend that

each company determines its own business conduct
and ethics policies, but provide an extensive list of
matters that should be addressed by the company’s
code, including conflicts of interest, corporate
opportunities, confidentiality, protection of proper use
of the company’s assets, fair dealing (limited use of
copyrighted work without the permission of the
owner), reporting of any illegal or unethical conduct,
and compliance with applicable regulations.
 Ethics Teaching in Business
School
The emerging corporate governance reforms have
had a positive impact on academic programs.

The goal of corporate governance and business

ethics education is to teach students their
responsibilities and accountability to their
profession and society. Almost all states require
CPA candidates to pass an ethics exam before
licensing and report the ethics component in their
continuing education requirements. Almost all
states require a minimum amount of ethics
education for their practicing CPAs.
 Ethics in Institutions of Higher Education
Financial scandals of the twenty-first century have reinvigorated
interest in business ethics and academic programs because
investors are now more educated about the impacts of unethical
behavior on their investment, and business schools realize the
importance of training future ethical business leaders. Several
incidents of ethical violations and cheating have been reported at
highly rated business schools.

Academic integrity and ethical conduct by students and faculty are

important to the sustainable well-being and reputation of
institutions of higher education. This academic integrity can be
achieved when:
(1) there is an effective and fairly enforceable academic honor
code,
(2) faculties are willing to take proper action against suspected
cheaters,
(3) adequate research is conducted to identify factors that affect
academic integrity, including fundamental ethical values,
(4) ethics are integrated into the business curriculum, and
pedagogies are developed to teach and encourage adherence to
ethical values and conducts.
 Professional Ethics
Characteristics of a profession are (1) existence of a
common body of knowledge consisting of an intellectual
skill obtained through education, training, certification,
and continuing professional education; (2) adoption and
adherence to a common code of conduct guiding
professional behavior and action and holding members
accountable for their actions; and (3) acceptance of a
duty to society, the profession, and its members. Thus,
the acceptance of ethical duties or responsibilities is
the cornerstone of the profession.
 Professional Ethics
The accounting profession is characterized by:
1. Serving the public interest,
2. Performing responsibly with integrity,
competency, objectivity, and transparency,
3. Exercising due diligence in maintaining
independence and improving the quality of
services provided,
4. Protecting investors from receiving misleading
audited financial reports.
Professional Ethics
 Professional Ethics
In June 2005, the International Ethics Standards
Board for Accountants (IESBA), part of the
International Federation of Accountants (IFAC),
issued its revised Code of Ethics for use by
professional accountants worldwide.

The key principles of the IESBA’s code of ethics

are:
(1)integrity,
(2)objectivity,
(3)professional competence and due care,
(4)confidentiality,
(5)professional behavior.
 Reporting Business Ethics and
Conduct
Ethical accountability refers to the behavior of
individual’s and the organization’s commitment to conduct
their activities in an honorable manner.

Social accountability refers to the effects of the

organization’s activities and behavior of its stakeholders
including society, the environment, competitors,
suppliers, customers, employees, directors, officers, and
other profit oriented and not for profit organizations.

As corporate scandals come to light, even three years after the

passage of SOX, the issue of business ethics becomes more
prominent. Section 406 of SOX requires public companies to
disclose in their annual financial statements the establishment
(or lack of) a corporate code of conduct. Nevertheless, public
companies may choose to report their business ethics and
conduct as a separate report to their shareholders or as part of
their regular filings with the SEC.
 Reporting Business Ethics and
Conduct

Boards should set a right tone at the top promoting

ethical conduct, and management should establish
policies and procedures that define, communicate,
and demand ethical conduct and enforce companies’
codes of conduct.
Financial Reporting Integrity
Financial Reporting Integrity
Financial Reporting Integrity
Financial Reporting Integrity
 Financial Reporting Integrity
ethical senior executives and other professionals (e.g., accountants,
auditors) to achieve these goals.

3. Policies- Proper policies should be established to support the

stated strategy, and these policies should be reviewed periodically and
on an ongoing basis for their adequacy, appropriateness, and
effectiveness. Reporting policies and procedures are normally concerned
with accounting policies, internal control procedures, and risk
assessment policies and procedures.

Effective implementation of these policies substantially reduces the risk

of misleading financial information.
 Financial Reporting Integrity
4. Information- An organization's policies and procedures should ensure
the production of relevant, useful, reliable, and high-quality financial
information to assist users in making informed decisions.

5. Culture- A culture of ethical behavior and financial reporting integrity

should be promoted throughout the organization by linking rewards
systems to high-quality reporting and sustainable performance rather
than short-term performance or pressure to make the numbers.

The integrity reporting process promotes the attributes of honesty,

fairness, and compliance with applicable regulations; ensures public
interests are subject to proper remediation.
Financial Reporting Integrity

Framework for Reporting with Integrity

 Conclusion
•Ethics are broadly described in the literature as
moral principles about right and wrong, honorable
behavior reflecting values, or standards of
conduct. Honesty, openness, responsiveness,
accountability, due diligence, and fairness are the
core ethical principles.

•An appropriate code of ethics that sets the right

tone at the top of promoting ethical and
professional conduct and establishing the moral
structure for the entire organization is the
backbone of effective corporate governance.
 Conclusion
• Corporate culture and compliance rules should
provide incentives and opportunities for the majority
of ethical individuals to maintain their honesty and
integrity, and provide measures for the minority of
unethical individuals to be monitored, punished, and
corrected for their unethical conduct.

• The company’s directors and executives should

demonstrate, through their actions as well as their
policies, a firm commitment to ethical behavior
throughout the company and a culture of trust within
the company. Although a “right tone at the top” is
very important in promoting an ethical culture,
actions often speak louder than words.