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Final exam assignment Introduction Over the last few decades there have been a number of cases of high profile corporate collapses and fraud scandals. In essence, the unethical behaviour of corporations affects us all, such as shareholders’ lost financial investments, employees who lost their jobs, other companies that provided goods and services to the company, as well as the economic impact on domestic and international communities. In this paper I will focus on the case study of Royal Ahold and the large accounting fraud that took place within the company.
The issues I will address include Ahold’s transparency and disclosure weaknesses, its demanding culture focused on economic growth regardless of certain ethical principles, the weaknesses of corporate governance within Europe and the United States, as well as the influences a company’s global expansion has on corporate governance and its financial risks. As an analytical framework, I would like to use Robins’ (2006) Technical, Political and Cultural problem analysis framework, in order to elevate understanding of the problems at Ahold by analysing it from these perspectives.
I wish to argue throughout my paper, that all of these aspects are in some way related to a company’s respective shareholder or stakeholder approach to business operations. The shareholder approach focuses mainly on creating shareholder value by maximising profits, with a lot of pressure on short term financial performance. Stakeholder theory on the other hand also takes into account the interests of parties other than the shareholder, e. g. employees and suppliers. All aspects of the company are dependent on which of these approaches it follows. . An analysis of the weaknesses of Ahold’s approach to transparency and disclosure. In this first section I would like to examine Ahold’s approach to transparency and disclosure. This falls under Robbins’s technical framework, as it examines aspects of accounting rules and principles, the responsibility of auditors as well as the role of the board (Robins, 2006). Transparency is a key element to successful corporate governance. It is achieved by disclosing relevant and essential information to a company’s various stakeholders.
In this section I will examine some of Ahold’s systems of internal control, such as the audit function and the role of the board, in order to better pinpoint the weaknesses in its disclosure and transparency. Internal control functions provide central monitoring roles in corporate governance and I will show that weaknesses within these mechanisms, contributed significantly to the fraud scandal at Ahold. By first of all introducing the agency theory, I will examine why such internal forms of control is necessary at all within a company.
I would ultimately also like to link the fact that Ahold’s more shareholder value approach to business ultimately influenced the flaws that occurred in its transparency. The reason why companies need such extensive monitoring of management could be argued to be rooted in agency theory. Agency theory is rooted in the separation of ownership and control. The agent is believed to be purely self-interested and will act opportunistically. The actions of the agents (the managers) need to be monitored in order to protect the interest of the principals (the owners).
Internal and external governance mechanisms are used in order to decrease managerial opportunism (Solomon, 2007 ). The agency theory thus examines potential conflicts that may arise between management and shareholders. The manipulation of the control mechanism, the auditing function, can be explored in order to get a better understanding of the disclosure and transparency weaknesses in Ahold. We shall see that the lack of transparency contributed to increasing and not decreasing the agency problem. Disclosure of information is a critical function in reducing agency problems.
Disclosure refers to different forms of information produced by companies. This includes the annual report in which one can find directors’ statements, the OFR, the profit and loss account, the balance sheet and other mandatory information. It also includes voluntary communications such as management forecasts, analyst presentations, press releases, corporate websites and many more (Solomon, 2007 ). By committing fraud, the information presented in the annual report, was clearly not giving a ‘true and fair’ view of the company’s actual status.
The voluntary information disclosed by Ahold was also affected by its fraudulent activity. Market analysts could for example not analyse the company according to its real potential, seeing that the information disclosed was not living up to reality. Thus, agency theory claims that there exists an information asymmetry between management and owners (or potential owners), as managers are far more knowledgeable about the company’s activities and economic condition than its owners. Financial reporting is one way of reducing information asymmetry, as it helps investors to make better informed decisions (Solomon, 2007 ).
I will now take a bit more detailed look at how Ahold was able to disclose the wrong information, leading to a serious lack in transparency in the firm. Ahold’s strategic move into food services is seen as the instigator to a long line of accounting irregularities. US Foodservices (USF) received a large number of promotional allowances, if it purchased a large volume of merchandise. The problem was that managers systematically manipulated the books in order to compensate for any shortfall in their predicted earnings.
They managed these fraudulent activities in several ways. They coaxed suppliers to confirm their false promotional allowances, by threatening them through their powerful market dominance . They furthermore manipulated their accounting entries by for example incorporating discounts into the accounts before the actual sale was made or into the wrong time period. Forged cash receipts were also made along with misleading and false statements to the company’s independent auditor, Deloitte.
Another of Ahold’s fraudulent activities that was made possible due to false disclosure and lack of transparency is its alleged consolidation with several joint ventures. Ahold claimed to have effective control over numerous joint ventures, in cases where it owned only 50% of the shares. This was also done despite shareholders agreements that provided joint control for Ahold and its joint ventures. They were able to claim this by providing ‘control letters’ which was signed by the top executives of these joint ventures, this would then be followed by the immediate rescinding of these letters.
Once again, this was done by Ahold in order to consolidate their revenues and earnings from their subsidiaries. Both the accounting irregularities exhibited by Ahold, as well as the fraudulent activities in the alleged joint ventures, is examples of managements interests not being aligned with that of the shareholders. Managers acted in an opportunistic manner, when they saw a way to cover the shortfalls in their budgeted earnings. They did not take into account the long term welfare of the company, or its stakeholders but instead focused on achieving hort term profit and acting in their own interest here and now. This would however not be consistent with the stewardship theory which suggests that the interests of managers and owners are indeed aligned, through the fact that their careers and reputations are dependent on the performance of the organisation (Young & Thyil, 2008). Nevertheless, by ‘cooking the books’ they disclosed false information to the shareholders. Management should have adhered to the accounting principle of matching concerning the recognition of rebates.
However, through prematurely and incorrectly recognising these promotional allowances, they inflated their profits for some 500 million Euros. Even though corporate governance attempts to reduce the agency problem through accounting, the problem was in fact increased in the case of Ahold. The actions by management increased the information asymmetry, forcing the owners to make decisions on the basis of false information. The increased information asymmetry in turn made the firm much less transparent, showing a weak system of corporate governance.
We ultimately lack information, to do any real analysis concerning the role the external auditor, Deloitte, played in the fraud scandal. We can only acknowledge that the role of external auditors is to add an extra control mechanism to regulate the activities of directors. Unfortunately, it is often the case that external auditors are involved in fraudulent activities. As was the case in Enron for example where the company’s external auditors, Author Anderson, also acted as consults to the company. There was therefore also an incentive for the external auditors to manipulate the company’s actual income.
Perhaps in the case of Deloitte, the external auditor had to be more critical toward its client, by scrupulously inspecting all suspicious activities, at all times. Another form of control within a company is the role of the board. One might think that the Dutch two-tier board model, with separated responsibilities for executives and non-executives, might have some advantages concerning the independence of monitoring. Nevertheless, the management board clearly did not live up to its legal responsibility in making sure that management acted in the best interest of the shareholders as well as other stakeholders in the company.
Ahold also had a supervisory board, whose main objective was to monitor the management board as well as other general business dealings (Solomon, 2007 ). They were however not able to monitor management affectively and this could be due contributed to two possible reasons. It could firstly have been due to the existence of information asymmetry. The supervisory board simply didn’t receive any information that might make them suspicious of management’s activities, seeing that management made sure that only the information received by the board was manipulated, thereby giving them a false impression of what was going on.
Secondly one may refer to the size as well of the very complex structure of the company making it very difficult for the board to really understand what was going on where. Due to the decentralised accounting system they had in Ahold, it must have been close to impossible to understand what was actually happening in its various subsidiaries, not mentioning trying to notice accounting discrepancies. Even though we don’t have sufficient information on the role of the boards, one may further speculate as to why board members did not blow the whistle on illegal activities, if some were in fact aware of it.
Perhaps board members felt inhibited on pointing out irregularities because of the dominating pressure of the CEO? However it does seem odd that nobody seriously questioned the firms need to borrow up to 12 billion Euros in order to expand, without any clear or convincing strategy of repaying the debt. Thus the control mechanisms within Ahold were not very successful in preventing agency problems. The quality of the disclosed information was deficient, which in turn led to information asymmetry which led to a company that was not very transparent.
One may ask however, if these control mechanism, would make a difference in the end. Even though checks and balances may be in place, an individual may still be motivated by other factors to pursue their own goals. Perhaps the solution in stopping unethical behaviour in companies lies not in strict control, rules and regulations but in a culture where the unethical moral behaviour is overlooked in favour of shareholder profits. I will now look at some factors that may have contributed to the deceitful behaviour of management which contributed to weak disclosure and transparency. . ‘The culture at Ahold was one where the economic pressure to reach growth targets overwhelmed legal and accounting principles’. Discuss In this section I will take into account possible reasons for why Ahold’s management didn’t adhere to existing legal and accounting principles and frameworks. From the above statement, we can assume that corporate culture at Ahold was one where the individuals primary concern, was that of to maximising profit. The question is why such cultures emerge and what kind of individual behaviour contributes to creating such a culture?
In order to examine these concepts further, I will analyse according to Robins (2006) cultural dimension, which draws on notions such as ethics, honesty and the general quality of corporate governance. Also in this section it is clear that the sole concentration on the shareholder profit makes for poor corporate governance. In order to explore the culture prevalent at Ahold, I have to assume that an individual’s values, beliefs and actions do in fact influence the culture in which he resides.
I have chosen to examine two approaches to human behaviour, the economic and the non-economic, exemplified through the economic and the sociological behavioural models presented by Jensen and Meckling (2005), to better understand the decisions made by management. I will furthermore like to address the ethical foundations of utilitarianism and universalism, which perhaps could help explain the justifications the CEO and CFO considered when getting involved in fraudulent behaviour.
I will also briefly touch upon Hofstede’s dimension of power distance as a cultural variable, in order to achieve a more nuanced understanding of the culture in Ahold. In order to place these findings into perspective, I also briefly discuss how the corporate culture has changed within Ahold, during the firm’s existence. When former CFO Cees van der Hoeven took over the role of Ahold’s CEO, he promised shareholders 15% annual earnings per share growth. Ahold excessive expansion during the 1990s, led to a complicated situation less than a decade later.
Ahold became heavily reliant on acquisitions, in order to achieve its objective of 15% growth in earnings. It seems that the more Ahold grew, the bigger its deals needed to be in order to make the target objective. In 1996 the US Federal Trade Commission, made an anti-trust ruling against Ahold, which forced Ahold to expand into non-core activities. There was however still pressure on Ahold’s management to deliver high growth numbers, which was becoming an increasingly more difficult task.
Ahold’s acquisitions were now focused in unrelated areas to their core activity, contributing to Ahold being unable to reach target earnings. In the end, it led to the morally questionable behaviour of the CEO and CFO, who (perhaps) felt forced to commit accounting fraud in order to show growth. I would first like to look at the Economic Model of human behaviour as discussed by Jensen and Meckling, as an example of economic decision making. The individual in this model is seen as an evaluator and a maximizer who has only one want: money income (Jensen & Meckling, 2005, s. 3). Everything in this person’s world revolves around money. He does not care for others or for anything else such as love, morality, respect or honesty, in fact anything that doesn’t have anything to do with money maximising. According to the economic model, people are further characterized as unwilling to trade their current income, for any income they may acquire in the future (Jensen & Meckling, 2005). At first glance, one may very well say that the managers of Ahold were acting purely according to the rationality of the economic model.
Van der Hoeven (CEO) and his accomplices certainly seemed keen on maximising their short term profit. The decision of the CEO and CFO to engage in insider trading could also be argued to be rooted in the economic model, for personal financial gain. It doesn’t seem as if they had taken the interests of any stakeholders into account. They did not consider the future implications it might have for example in the form of lost company value, income for shareholders, nor for the potential job losses of their suppliers. All in all Ahold seemed to by almost solely motivated by the promise to shareholders to reach 15% share growth.
Its aggressive expansion by acquisitions of non-core subsidiaries also seems to be actions driven solely by an economic motivation, with no regard for the interests of its stakeholders. I do believe that the economically driven actions of management was not consistent with the stakeholder approach, as its focus on short term profit did not lead to long term profit in the firm. However the apparent agency problems, such as insider trading, could not be argued to be consistent to maximising shareholder value either, as was the case by providing false documentation for the controlling of joint ventures for example.
Even though the economic model allows for a very simplistic motivation of human behaviour, it is more likely that the reality is much more complex. Decision making criteria doesn’t have to be based only on a single characteristic of human behaviour. According to other non-economic models of human behaviour other sociological factors could for example be taken into account. The sociological approach could be seen as being more stakeholder-friendly, due to the fact that it takes several factors other than the economic into account.
The sociological model of human behaviour, speaks of individuals as being a product of their cultural environment (Jensen & Meckling, 2005). Our cultural environment may consist of many things, amongst which we find norms and values. One may consequently argue that Van der Hoefen and Meurs only acted in a manner consistent to the residing norms and values already existing in the company, thereby being nothing but victims of their own culture. The pressure of the dominating norm in the company being to reach growth target of 15% regardless the costs was the one norm which surpassed all others.
It is rather difficult to imagine how a corporate culture so driven by shareholder (and personal) interest, could take into account the interests of stakeholders within the ‘wider’ society. The well being of their suppliers were for instance not considered when they were forced to lie about promotional allowances. However if in fact they were but victims of their environment, as the sociological behavioural model suggests, could they really be held accountable for not enforcing the external codes and regulations, which would seem to be conflicting with their corporate culture of solely maximising shareholder profit?
As an extent to the sociological behavioural model of human behaviour, I briefly present Hofstede who introduces us to another dimension of analysing culture within a business environment. His dimension of Power-Distance is concerned with how power is distributed and accepted within a culture. This would influence whether control and decision making is centralized or decentralised within a company (Hofstede & Usunier, 2003). It seems as if there existed a culture with a high power distance factor.
Due to the very size and complexity of the company, it seems as if key decisions were made by top management only. This could account for why nobody interfered with management’s decision to expand into non-core activities for example. Management in the financial department could also have imposed their authority on the corporate culture, creating an unbalanced power structure within the corporate culture, which did not allow for whistle blowing on top authority. The norms and values that drive cultures is in turn embedded in a certain ethical framework.
It is in turn these ethical principles that govern the behaviour of individuals and groups, which in turn governs the socially responsible behaviour of corporations. I will now examine a selection of these frameworks that could perhaps explain the moral rationality that could explain the short term profit driven behaviour elicited by individuals in the company. We can however argue that main ethical theories, believe that the moral standard for behaviour could either be found in, the consequences of actions or the intensions of our actions.
Utilitarianism focuses primarily on the consequences of our actions. Agents are to act neutral in considering their own welfare or those of others. The only thing that matters is to maximise welfare. An act is therefore judged to be of sound moral character, when it provides the ‘greatest good for the greatest number’ (Young S. , Behavioural and Ethical Frameworks Slideshow, 2008). The culture at Ahold was certainly very concentrated on achieving maximum financial welfare. The more profit the company made the better for the management as well as for the stakeholder.
So one might argue that the culture did indeed follow this ethical framework – to a certain extend. The culture and only focused on the welfare of a limited amount of people. It did not take into account the various stakeholders that would suffer under the consequent behaviour of a short term money-maximising culture. The actions of the CEO and CFO wouldn’t be deemed as good either, seeing that they were primarily concerned with their personal welfare and not with that of the company. Universalism, rooted in the 18th century philosophical writings of Immanuel Kant, is an ethical theory with another point of departure.
Here judgement solely passes on the intensions the individual had in behaving a certain way. One could argue that when management engaged in insider trading for example, it would certainly be judged as bad moral behaviour. The intensions were purely egoistic not taking into account the interests of anyone else. When they committed accounting fraud, by lying about promotional allowances, their intensions could have been judged as permissible, if they were indeed doing it for the best interest of the company.
We can however with almost certainty say that it was not the actions of men with intensions of looking after stakeholder needs. It thus depends on which perspective you look at. But seeing that the corporate culture deeply encouraged the reaching of 15% annual growth, thus a shareholder perspective, the acts of fraud would perhaps be seen as being morally permissible from this angle. The economic pressure at Ahold to reach growth targets, from an economic perspective of human behaviour, would certainly have contributed to the shareholder approach to corporate governance.
From a non-economic, sociological model of human behaviour, we can argue that perhaps management were not solely responsible for their actions, as they were just product of their environment. Nevertheless, the corporate culture did not seem to be influenced much by values of the society at large. By using Hofstede we can see that the power balance within the corporation could also have contributed to economic pressure in the corporate culture. The behaviour induced by the culture at Ahold is thus not reconcilable with the stakeholder approach.
We also see that even though managements behaviour may in some case been justified by intensions. But from a consequential approach the behaviour was deemed as morally wrong. 3. What does the Ahold experience indicate regarding the relative weaknesses of corporate governance in the United States and in Europe? After having now looked at both the technical as well as the cultural aspects, in accordance to Robin’s framework, I will now examine from a more political perspective, which amongst others, regard the role of regulatory institutions and the influence of politics.
I will inquire into some of the forces that shape the different forms of governance and their consequent weaknesses, within the United States and Europe. The respective characteristics of corporate governance structures differ greatly throughout the world. Each country has its own system, based on the legal structures, financial systems, structures of corporate ownership, culture and economic factors (Solomon, 2007 , p. 192). In this section I would like to focus on the structures of corporate ownership as well as some legal influences that shape the different form of governance, hence also their weaknesses.
I will however also conclude that most countries adopt a combined view of both ownership structures as well as the use of combined statutory-voluntary governance codes, limiting the discussion to a somewhat theoretical level. It is important to distinguish between ownership and control within these two systems. As we have discussed previously, the agency factor plays an important role in determining a corporation’s governance model. Initially Ahold had an insider dominant structure of governance. The insider system is prevalent throughout Europe, with the exception of the UK who has an outsider dominated system of governance.
The European insider model is mostly related to a relationship based system. It is typified by a certain degree of ownership concentration, and more importantly a great degree of control, in the hands of one or a handful of shareholders. It is also considered insider, due to the presence of the owners on the company’s board (Solomon, 2007 ). At the outset, Ahold was a family owned business. It was only in 1989, that the Heijn family relinquished its executive power, when the last family member retired as CEO. The outsider model on the other hand is most common within the US and the UK.
This form of ownership is mostly associated with a market based system, also referred to as the Anglo-Saxon /Anglo-American model. The outsider system is characterized by dispersed ownership and control structure and the prevalence of the institutional investors (Solomon, 2007 ). This is mostly because of the central role the financial market plays. Today, Ahold is governed by such an outsider system. As far as information available from their annual report, the majority of shareholders seems to be widely dispersed, making ownership rather fragmented (Annual Report 2007).
These main differences in ownership have a big influence in how corporate governance models are formed. I will now look at some of the weaknesses that arise due to the different ownership models. The problem with the outsider system is that the fragmented shareholders are often at the mercy of large block shareholders, such as investor banks in the US. It could be argued that the outsider system is becoming more like the insider system, as block shareholders, often exercise influence on managers, to devise strategies to further their own interest and not that of the majority of shareholders.
This has led to a weakness in the ownership-control link (agency problems), because managers now have more power over the overall direction of the company than the majority of its shareholders have. This is mostly a problem within the US, as the weakness prevalent in the UK system is often connected to the highly fragmented ownership (Solomon, 2007 ). Another weakness in the control-ownership link is thus apparent within the power the board has over company. Because ownership is so dispersed, nobody has a real incentive to directly monitor the board.
Shareholders have the right to vote during annual meeting, thereby influencing decision making within the company. Nonetheless, most shareholders choose not exercise this option, thereby stating that they are in favour of whatever the board decides. A major weakness within the Anglo-Saxon system of governance is thus that dispersed voting power and a lacks of direct incentive to control, leads to less shareholder activism (Solomon, 2007 ). It is not sure if a more active shareholder involvement could have prevented the accounting scandal at Ahold.
Nonetheless, it seems as if Ahold is today advocating for increased shareholder involvement, through various initiatives in order to have a tighter link between ownership and control (Annual Report 2007). Nevertheless in Continental Europe, voting is more concentrated due to majority or ‘block’ shareholders. Consequently there are incentives to perform direct monitoring, as personal wealth is more closely connected, to the chosen business strategy of the company. As we have seen in many scandals however, there also exists the temptation to privately benefit of this control aspect.
If senior managers are not thoroughly monitored, they may benefit excessively at the cost of the company. We may here exemplify with the example of WorldCom, where Bernie Ebbers had a too strong power over the board, who for instance lend him large amounts of money, of which he used a lot for personal benefit (Claycomb, 2004). We have thus examined how the different control structures in Continental Europe and the US, results in different governance models, which exhibits different weaknesses. The monitoring aspect hence focuses on different things.
In Europe the board needs to make sure that majority shareholders look after the interest of all shareholders, not just their own. The US on the other hand must make sure that management doesn’t influence the board too much, as management needs to act in the interest of the shareholders, not their own. We have seen that lack of transparency and insufficient disclosure, as we have discussed earlier in the case of Ahold, could lead to dire results for company shareholders. There is hence a need for strong regulatory control in order to help minimise the agency problem and ensure directors act in the interests of the company owners.
A countries legal system also has a profound effect however on how their system of governance is formed. The difference between the relationship based and market based systems, could also found in a countries different legal environment. Governance codes are used more in countries with a civil law, such as The Netherlands, which provides a weaker protection of minority shareholders. In common law countries, e. g. U. S. , there exists a stronger protection of minority shareholders. Common law countries often have well developed stock markets, which is also why it is mostly associated with the market based system of governance.
One could argue that there has been developed numerous codes in common law countries, in order to compensate for the weak legal protection of minority shareholders. Another weakness related to the legal framework, concerns whether companies are regulated through voluntary codes of conduct or whether they are regulated by legal rules. An example of voluntary, or principle-based, codes of governance could for example be The Turnbull report, which states the need for directors to monitor the effectiveness of its internal control systems.
The Turnbull Report (1999) and other voluntary codes like it are based on a “comply or explain” principle, as originally suggested by the Cadbury code (1992) (Solomon, 2007 ). This means of course that companies don’t have to take these codes into consideration. This could lead questionable states of governance, leading to weaknesses such as information asymmetry. Even if companies state that they do comply by these rules, there exists no external monitoring power to ensure this. It is only the company’s shareholders who judge the company’s compliance with codes.
They could in fact only pretend to be following codes, to serve their own self interested needs and not that of various other stakeholders. The consequence of a low degree of compliance may result in more mandatory codes. This in turn could lead to less self regulation on the part of companies, which could damage them financially. In other countries, there is a more rules-based approached to governance. This includes for example the mandatory compliance with the Sarbanes-Oxley Act, which specifically addresses accounting fraud through regulation. This form of regulation could however turn into a box-ticking mentality.
Companies would only do what they have to and nothing more. This provides for a somewhat restricted environment for a continual development focusing on better corporate governance. Regulations only operate on a superficial level and the move toward better governance needs to come from a deeper ethical level, in order for it to make a profound change on the global community, as we have discussed in the previous question. The management at Ahold was within a system with both a voluntary and mandatory approach to codes and practices. Nevertheless, the CEO and the CFO merely got a slap on the wrist for the fraud they had committed.
The punishment they received was seen as being very meek, considering severity of the crime and the losses of the many stakeholders that were involved. Had they been prosecuted in America instead, their sentence is likely to have been much harsher, even perhaps resulting in a prison term instead of a proportionally small fine. It is to be named however that a class action lawsuit was raised against later on. Thus we can connect the weaknesses in corporate governance, in the legal frameworks to the focus on respectively the shareholder or the stakeholders.
In the US system of common law, many companies consider the interest of the shareholder above that of the stakeholder. In European countries, the law along with many various codes of governance ensure the interest of both the shareholder as well as various stakeholders. The implication of this in the US is that when directors consider the long term interest of the shareholder, it will in fact also be considering the interests of its stakeholders. The European rational on the other hand sees the interest of the corporation as being separate of the interest of the shareholders.
Thus both the interests of the shareholder and the company are equally important. The role of the CEO should therefore be to look after the interests of the company. It is because of this that a shareholder cannot necessarily file a lawsuit against the CEO. However as we can see from the case of Ahold there is no company and no country that fits exactly within any one form of corporate governance. Ahold is a Multi National Organisation, with its headquarters in the Netherlands; however it has subsidiaries and other business dealings on several continents such as the U. S.
Its structure of ownership was more compliant with the outside system instead of the inside system, as many other companies in Europe are. With regards to the legal regulation we can see that Ahold both has to adhere to the more legislative approach as well as the compliance approach. Due to its multinational character, Ahold was eventually held responsible within both legislative systems. This raises the question of whether a convergence of systems would be more desirable. Would it be better with a more comprehensive system that integrates the best of both the European and the American system?
In many ways a system of convergence is already in place. Companies are extending their business across borders and continents and perhaps an international system would not be a bad idea. But what legal structure would such a code system take? It is perhaps impossible to say, due to the fact that there are severe weaknesses within both these systems. Today’s globalised world is affecting companies’ corporate governance systems in several ways. I would like to take a closer look at how companies can manage their financial risk, in their global expansion. 4.
Consider how global expansion compounds the corporate governance and financial risks of companies Global expansion deeply influences the governance strategies companies follow, in order to maximise profit and minimise risk. In fact weak corporate governance has been shown unequivocally to lead to financial losses (Solomon, 2007 , p. 73). I believe that financial risk and corporate governance has converged with issues deeply associated with corporate social responsibility. In this section I would like to argue that company directors has a fiduciary responsibility to its shareholders to have a more social responsible business strategy.
Solomon (2007 ) mentions the legitimacy theory which stems from the existence of a social contract between a corporation and society. Corporations need a ‘social-licence’ in order to operate. It implies that companies need to legitimize their existence not only to their shareholders, but also to society. The very survival of a company depends thus not only on the capital of the investors, but also on the goods and services provided by its various stakeholders. I will now mention a few arguments that attempt to prove that, corporate governance from a CSR perspective can indeed reduce the financial risk of companies.
Companies are seen as citizens in our global society – corporate citizens. In order to be accepted by this society, it needs to oblige by certain rules and moral codes in order to survive. The more moral fibre a citizen demonstrates, the better they are accepted into that society. Thus the more a company an acts morally responsible, the more respected it is and better public image it projects. In return for acting ethical, corporations gain the loyalty of employees and consumers, an increase in sales, a better orkforce and less costly lawsuits that erode the companies’ profits. These positive potentially positive results will also attract more investors in the long run, giving a company more capital to expand and increase its value (Solomon, 2007 ). Over the last few years, public demand for corporations to act morally responsible has grown immensely. Morally refutable acts of companies, such as that of the management of Ahold, have communities across the globe insisting that that corporations act in a morally responsible way in their pursuit of profits.
An increase in policies and corporate governance initiatives, such as the OECD’s principles for corporate governance or the Sarbanes and Oxley act, indicate the need for corporations to take other stakeholders into account and generally exhibit better corporate governance (Placeholder1). Corporations are part of a holistic system, and it lives in a symbiotic relationship with society and the environment. The consumer depends on companies to supply them with essential goods and services, while the company depends on society and the environment to supply it with resources to deliver.
As the organisation depends on its environment for its survival, the organisation must take into account the needs of the stakeholders within this environment to ensure its long-term success and therefore its sustainability (Young & Vijaya, 2007, p. 69) Just as unethical corporate behaviour can affect society, societal problems can in turn affect the interests of a corporation. If customers in a society are offended by the actions of a corporation, they may decide to boycott its product, leading to loss of face as well as income.
By obliging to the standard norms and values of society, expressed for instance through policies and governance codes, the corporation will in fact be helping themselves. However because there are geographical differences in perceptions of what a company is and what role it plays in society, a company may increase its financial risk by engaging in CSR activity. If a company continues its irresponsible behaviour, communities may acquire a hostile attitude towards the company, which can be very damaging for business on a global scale.
A corporation is very dependent on its reputation for income, and once its reputation is damaged, it can seriously affect a company’s returns. We can see how the shareholders of Ahold punished the company, by the fact that the share price fell up to 60% in just one day. A business manager’s educated skills are focused primarily on managing a company’s financial performance. Due to the increased influence of companies in the global society, it seems perhaps relevant that a redefinition of the job of management seems in order.
Solomon (2007 ) addresses the fact that running a company well corresponds with running it in a socially responsible manner, as this in turn will improve its financial performance. I have thus tried to show that approaches business in the global environment from a shareholder perspective only, will in fact increase the financial risk of companies. It is only by taking into account the needs of stakeholders through CSR initiatives that a company may prosper in a global environment. Conclusion We can thus conclude on the following observations. The financial fraud at Ahold emerged due lack of transparency and disclosure.
Factors that played a main role in this were first and foremost grounded in the existence of agency problems. Problems such as information asymmetry and insufficient control on behalf of the board contributed to managers exerting aggressive accounting and false documents. The failing of the external control by Deloitte, was could also have contributed to the problems. If Ahold did not have such a strong shareholder approach to business, the problems may have been avoided. The corporate culture at Ahold encouraged short term profit maximisation.
This was argued to be consistent with the economic rational of human behaviour, as well as from a non-economic standpoint to a certain degree. The ethical motivation for actions of the directors could be viewed as morally wrong from a consequentialistic view, but could perhaps be justified in some cases when analysing the intentions of the individuals. The balance of power within the company may also have contributed to such a profit oriented culture. The analysis of the weaknesses of the corporate governance systems within the U. S and Europe leads us to conclude that perhaps a convergence of systems would be more beneficial.
Weaknesses within the ownership structures, once again included agency problems, along with the lack of shareholder activism. The weaknesses in the legal structures concluded in a discussion of whether it is more beneficial to have statutory or voluntary codes of governance as both options seemed to be flawed. In the last section I argued that financially sound corporate governance has been converged with a company acting socially responsible. By presenting various arguments in favour of a more stakeholder oriented approach to business, we can see that it can indeed be very profitable for a corporation to act in a socially responsible manner.
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