Ethics, Governance &
Competition Policy
EGCP Workshop
vide draft McNutt: Tao of Ethics©
Patrick McNutt & Elena Demidenko
www.patrickmcnutt.com
Lesson Plan
• Day I: Introduce Kantian ethics in a search for an ethical framework
and firm-specific Code of Ethical Practice (CoEP)
• Day 1 and 2: Premise that corporate governance has no ethical
foundation; based on rules and regulations
Group Case Work:
Moral dilemma + Discovery Essay + Justification Essay
• Day 2 and 3: Introducing ethical antitrust (competition policy)
• Post-Workshop Forum Theme: Challenges for international code of
corporate governance based on ethics
Tao of Ethics ©
yang or yin for ethics in business?
• Yin
• Intuitive Wisdom
• Religion
• Cooperation
• Synthesis
• Yang
• Rational knowledge
• Science
• Competition
• Analysis
Unit 1
Fundamentals of business
ethics
What is Ethics?
• Morality is not the same as self-interest
• Morality is obeyed because it is the right thing to do
• Emotions v religious faith v rational deduction
Moral judgement: Mr A should tell Ms B the truth
Moral rule: Mr A should not lie
Kant’s moral theory is independent of consequences
• One’s duty is to be done for duty’s sake
• ‘Edited ethics’: what is your experience?
Non-linear thinking in EGCP
Ethics:
Responsibility and
duty
Governance:
Adopting a
Code of Ethical Practice
Compliance:
Performance to duty
and risk minimal
Moral dilemma & Kantian ethic
• Responsibility is about each person fulfilling their duty: Employee has
right to minimum wage but employer has duty to pay…inherent
‘agency costs’ in not fulfilling one’s duty so resolved usually by
legislation
• Norms (right v wrong) and values (good v bad) and rules: Benefit >
Cost in a calculated benefit-cost ratio, $B > $C
• Kantianism rejects any form of consequentialism
(utilitarianism)..McNutt challenges that a neo-Kantian in 21st century
might recognise that a universal law is an end in itself?
Link into classroom discussion of
Thief of Nature and Fable of Bamboo Flute
• A utilitarian is not someone who argues that some calculations have
some place but that they must occupy all the space there is.
Classroom Case:
Thief of Nature Transfer
• Derek has a book that Amartya wants. Derek would sell the book to
Amartya for $20 and Amartya would pay $30 for it. The $10 is surplus
value than could be consumed in transaction costs.
• A thief takes the book from Derek and gives it to Amartya for less than
would be consumed in transaction costs or for less if the two were to
haggle over the distribution of the $10 surplus value.
• The forced transfer from Derek to Amartya by the thief of nature
produces a gain in social wealth = $10 even though Derek has lost
something he values with no compensation.
We refer to this moral dilemma as
the Fable of the Bamboo Flute
in the Study Guides. Check the discussion in your
text Chan & Shenoy Table 2.1 pp39-41
Moral dilemma: utility v wealth
• Let us call the situation before the transfer takes place State of Nature
1 and the situation after it takes place State of Nature 2 .
• Is State of Nature 2 in any respect superior to State of Nature 1 ?..In
other words is the gain in wealth considered in itself, any gain at all?
• Most people would agree that State of Nature 2 is not better than
State of Nature 1 in any respect.
Next prepare for ‘edited ethics’ by consideration of next
slide..here we focus on your own subjective experience
Your ‘edited’ ethics? Fable of the Bamboo Flute
• Derek is poor and sick and miserable and the book is one of his few
comforts. He is willing to sell for $20 to get medicines.
• Amartya is rich and content. He is willing to spend $30 which is a
small part of his wealth.
• If the thief makes the transfer with no compensation total utility falls
but wealth increases.
• Derek has a right to the book.
Value set as Business ethics
• Value Set = Code of Ethical
Practice
• General rights and duties
• Legal rights and duties
• Categorical
imperative/universal law
• S-firm
• What is Business Ethics?
• Is it ‘business bashing’?
• Linking management
behaviour to company
value?
• Ethics to govern
management behaviour?
Bargaining and Contracting
• Paretian ethics and the Edgeworth Contract Curve
• Pareto non-comparability
• Principal-agent and TCEs
• Employee governance and APL
• Hume’s paradox
• Descartes Grand Narrative
Corporate Governance
• No universal conception of corporate governance, CG
• Is CG an ethical standard or a behavioural rule?
• Key parameters are ethics, transparency and compliance
• Align company behaviour to shareholder value
• Managing ethics as a rule-based process
• CSR and the J-curve effect
Corporate Governance
Definitions and key principles
“Corporate Governance is the system by which companies are directed and controlled”:
Cadbury Committee Report, UK 1992
Corporate Governance Principles:
•
•
•
•
•
•
•
•
Accountability
Transparency
Fairness and balance
Honesty
Dignity
Implemented through:
•
•
•
•
•
Define duties
Assign accountabilities
Performance measures and rewards
Monitoring
Tools:
Legal
- A formalised Code of Conduct,
Goodwill.
- Risk Governance Structure and
Conflict of principles
- Risk Management Process
15
Corporate governance with ethical foundation….
• Define s-firm with stakeholders and duties
• How the stakeholders ought to behave.
• Analysing a Paretian ethic
• Encoding a Kantian responsibility
• Stakeholders contracting and optimal point
▼
Code of Ethical Practice, CoEP
Practically…
• Principal-agent dilemma
• Monitoring and performance
• Manne’s internal controls (BoD) v external controls on firm (SOX and
Combined Code)
• Incentives and trust mechanisms
Examples: McNutt’s s-firm and APL and Jensen-Murphy
agency perspective in Unit 2 as outlined Ricketts’ diagram.
Compliance
• Good governance ►risk
management
• Self-regulation v formal
Governance
control
• Legal compliance
• Enterprise Risk
ERM
Management (ERM)
influenced by:
ethics, strategy and
performance
Compliance
Compliance on price
• Perfect competition as ethical standard
• Harm to consumer v harm to competition (competitors)
• Competition ‘good’ ≡ monopoly ‘bad’
• Predatory pricing and ‘reasonable price’
• Retail Price Maintenance, RPM
• Cartel pricing and credible mechanisms
• Monopoly, IPRs and innovation cycles and Chandler v Schumpeter
EGCP Unit 2.
Governance and Corporate Policy:
• Ethics of Enterprise Risk Management
Managerial incentives: The Ricketts’case of
the stable bonus
W
Certainty line
W2
C
B
Ricketts’ rationale
B
W1
A
1.
W1
2.
We want 2E1 = E2
3.
If
W1
Then
A
If
W1 + B = W2
Then
A
4.
E1
W2
C
B
Legend:
W – wage
E – effort
B - discretionary bonus
(0; 0)
E3
E1
E2
E
AB – cost of effort
21
Governance: Ethics, Risk and Compliance
Achieving business objectives in a risk-based ethics
Ethics and Corporate Social
Responsibility
Risk Management and Internal
Control
Rights and Obligations of Board
of Directors; Rights of
Shareholders
Compliance: Transparency and
Disclosure
22
New Era in Risk Governance - drivers
23
The flip side: recent events have highlighted the
impact of risk on shareholder value
24
Beyond the “Box Ticking” - changes in risk
management standards
25
Risk management definition
COSO ERM
“Risk management is a process
designed to identify potential events
that may affect the entity, and manage
risk to be within its risk appetite, to
provide reasonable assurance
regarding the achievement of entity
objectives. The process is effected by
an entity’s Board of directors,
management and other personnel,
applied in strategy setting and
across the enterprise.”
COSO ERM, 2004
Enterprise Risk Management Framework of the
Committee of Sponsoring Organisations of the
Treadway Commission (COSO)
26
ISO 31000:2009 – new Risk Management Standard
“Risk management is coordinated activities to direct and control an organisation with regard to risk”
AS/NZS ISO 31000:2009
27
Stakeholder Value
Risk Governance Ethical Maturity Framework
Ad-hoc,
not in compliance
Isolated activities
Coordinated activities
Holistic ethical
system
Risk governance ethical maturity
Not in Compliance
Accountability ≠
Responsibility
No Duties
Lack of RM structure,
duties & responsibilities.
RM activities depend on
individual initiative and
verbal knowledge.
Risk to organisational
integrity & ethics.
Ethical Compliance
Accountability = Responsibility
Duties Fulfilled
Nominal RM structure,
duties & responsibilities
at the top level.
Uncoordinated top down
RM activities in some
functional units.
Risk to organisational
integrity & ethics.
Consistent RM
structure, duties &
responsibilities at the top
& middle level.
Coordinated RM
activities enterprisewide.
Evident organisational
integrity & ethics.
RM roles &
responsibilities are
aligned to organisational
authorities &
accountabilities.
RM is embedded in the
enterprise management.
.
Strong integrity & ethics
on all levels.
28
Key success factors to instill a risk culture within an
organisation
29
Risk Culture could be measured
1. Culture surveys by leading HR advisory: Towers Perrin industry indices
2. Measuring risk exposure due to Behavioural Factors:
Risk Exposure Index (REI) measures business exposure on four key levels:
•
Organisational REI – allows benchmarking and comparison across industry sector,
and future risk postures
•
Macro level – analysis and interplay between responses with behaviour trending
based on key behaviour indicators (KBI)
•
Sub-indicators – further breakdown of macro KBIs
•
Micro level - analysis and understanding of risk behaviour in relation to specific
response statements
At each level, detailed interpretive analyses of psychological metrics, risk predictions and
potential business impacts are provided.
30
Implementing a risk-based Good Governance
1. Linking Strategy, Risk, Performance and Monitoring
Strategic planning
Mission: Responsible reproduction
Vision: No greater chance, no better care
Monitor and adjust
Values: Integrity; Excellence;
Responsibility;
Innovation Passion
Business risk management
Strategies
Identify, assess and prioritise
major business and emerging risks
to strategy
Key performance indicators are
aligned to the strategy and monitored
Manage, monitor and report
on the risks
31
2. Risk appetite enables organisations to incorporate
uncertainty into planning
•
Risk appetite is set by the Board of Directors (or a Shareholder,
Principal). It is a reference point for strategy implementation and monitoring
•
It articulates the degree of uncertainty which an organisation is able to
tolerate in the achievement of its objectives:
•
zero tolerance towards main risks (e.g. fraud, non-compliance, safety )
•
potential ranges (variations) for targets and objectives
•
definition of key risks and their monitoring parameters (Key Risk Indicators)
•
preparation of regular reports on risk monitoring and management
•
Risk appetite parameters are formalised in a Company’s Policies; Code of
Conduct, Code of Ethics.
•
It is a tool to monitor achievement of set strategic and operational targets
and objectives (i.e. Management’s / Agent’s performance)
32
Risk Appetite parameters - EXAMPLE
Area
Capital
Earnings
Risk appetite
 Maintain minimum S&P AAA rating
 Maintain same level of net asset value (Capital at Risk) than last year
before strategic investments within a 1/10 confidence level
 Achieve a minimum of 75% of plan IFRS profit nine years out of ten
(Earnings at Risk)
Profitability

Return on Risk adjusted Capital (RORAC) within the range 18% and
22%
Liquidity
Reputation

Maintain a minimum claims and planned dividend paying ability
Zero tolerance to compliance breaches
Area
Business Unit level thresholds
 Company is willing to absorb short term periods of increased staff
turnover up to 5%.
 No appetite for loss of key executives without a formal succession
strategy in place
 No appetite for customer satisfaction less than 70%
 No appetite for temporary system downtime more than 5% on any
given day
Employees
Customers
IT

33
3. Three lines of Defence – a clear Risk Governance
Philosophy
Companies adopt a simple philosophy to be clear on accountabilities as outlined by the “Three Lines of
Defense” model below.
RISK & CONTROL INFORMATION
First line
 Endorse risk appetite, risk
RISK & CONTROL INFORMATION
2nd
 The first level of the control
management policy, risk
management plans
Oversight functions:
 Strategic management
Risk Management, OH&S,  Policy and procedure setting
Finance, HR, Quality, etc  Functional oversight
3rd Independent assurance:
Internal Audit, External Audit
and other independent
assurance providers
The Board
environment is the business
operations which perform day to
day risk management activity
Second line
 Oversight functions in the
company, such as Finance, HR and
Risk Management set direction,
define policy, tools, reporting,
direction and support to the Board,
Executive Team and Divisions
RISK & CONTROL INFORMATION
Third line
1st Executive Committee
Group General Managers
Divisional managers/Staff:

An established risk and
control environment
 Day to day risk
management activities
 Internal and external audit are the
third line of defense, offering
independent challenge to the levels
of assurance provided by business
operations and oversight functions
34
A Risk Governance Structure Example
The ARMCC
Semi-annually
The Board

Annual strategic risk update

Company-wide risk profile and
dashboard

Emerging risks and opportunities

Critical incidents and near misses
External assurance
Executive Committee: CEO,
CFO, GMs, Med Dir, HR Dir
CRO*
Strategic planning
Bi-monthly
Internal Audit
Company-wide risk profile
Compliance Coordinator
Monthly
HR
Director
ORMC
Divisional
risk coordinators
HR
CFO
Finance /
Legal / IT
GM Research
Research /
Stem Cells
Diagnostic
Genetics
GM Operations
Embryology
and
Andrology
Day
surgery
and
nursing /
Clinical
Partially
owned
businesses
Risk Registers - Strategic / Operational / Compliance / Divisional / Special Projects
Incident recording and escalation
Volume of risk information &
communication lines
Challenge and endorse risk
content and action plans
*if CRO is not part of
ExCo then an
Executive Risk
Sponsor Role should
be allocated
Challenge content of risk information
and implementation of risk
management process
35
4. Risk-based Executive Remuneration (building
on Martin Rickett’s managerial incentives)
•
Bank of International Settlements (BIS) on behalf of the Financial Stability Forum –
a consultation paper (Oct 2010) on aligning risk and performance. Main principle
• Reduce incentives that may arise from the design of remuneration schemes and
that can lead to excessive risk taking
• An employee's compensation should take account of the risks that employees take on
behalf of their organisation
•
New Capital Requirements and Bonuses Package (CRBP) - adopted by European
Parliament on 6 July 2010, which could further transform the bonus culture at European
banks in alignment with effective risk management - Caps on Bonuses
•
Risk based Governance Standard for Financial Institutions – issued by Australia Prudential
Regulatory Authority (2009):
• Remuneration Policy and Board Remuneration Committee
• Mixed form of remuneration (fixed and variable components and cash and equityrelated benefits)
• Timing of eligibility
• Risk-based KPIs at entity level (RAROC) and individual KPIs for Executives and
• Governance Functions (e.g. Internal Audit, Risk Management, Compliance)
36
Risk Culture Checklist
The creation of a pervasive risk culture has been an elusive goal f
or many companies..Why?
• Does your organisation have
a clear set of risk management objectives?
• Does your executive take risk management seriously?
• Does ownership of risk management really reside in the business?
• Is there a structure for strong risk oversight and challenge?
• How risk aware is the business?
37
EGCP Unit 3
Governance, Antitrust and
Public Policy
Materials extracted and made
available to all from [2005]
McNutt Law, Economics & Antitrust
Chapter 8 Competitive Harm pp207236 Fig 8.1 and Fig 8.2
Chapter 9 Non-Market Economics
pp237-257
Chapter 10 The Reach of the Law
pp259-282
Economics of antitrust
• Market structures v market system as applied in antitrust
economics..markets in 21st century ‘evolve’ with technology
and time…eg Microsoft in1980s but Apple in 2012
• Competition and oligopoly..presumption of co-ordination and
collusion
• Competition ‘good’ implies that monopoly ‘bad’
• What is a just price? P = LMC = LAC
• Cartel pricing and credible mechanisms….cartels eventually
break down due to mistrust amongst alleged cartel members
so many jurisdictions have Whistleblower legislation as an
incentive.
Antitrust Compliance analysis
• Perfect competition as an ethical standard
• Harm to consumer v harm to competition (competitors)
• Predatory pricing and ‘reasonable price’..what is a reasonable
price?
• ‘Good Monopoly’ in non-price focus: eg IPRs & innovation
• Relevance of Chandler (strategy leads to structure) v
Schumpeter (destructive technology and time-variant
monopolies)
• Perfect competition diagram as the benchmark for economic
analysis: triangle ABC is maximum consumer welfare..Note as
price rises above p= LMC =LAC, welfare as measured ‘falls’.
EGCP Unit 4
The Domain of
International Governance
Domain of International Governance
• Ethical code (ethics v principles based) v rules and regulations
• Does Kantian responsibility support self-regulation?
• Transparency and enforcement of a universal law
• Compliance and enforcement
• Prisoners’ Dilemma: comply or not comply to a universal law?
• Corporate Governance news
Corporate Governance/Risk Management – codes
of better practice
•
Organization for Economic Co-Operation and Development (“OECD”)
Principles of Corporate Governance (ECGIa)
•
The Combined Code on Corporate Governance by Hampel Committee on
Corporate Governance (2010) (adopted by LSE)
•
Turnbull report “Guidance for Directors on the Combined Code” (2005, by
Financial Reporting Council) sets out best practice on internal control for UK
listed companies (http://www.icaew.com)
•
•
South Africa - the King III Report (2009)
Stock Exchange listing rules :
•
•
•
•
•
•
New York Stock Exchange (“NYSE”) standards 303A.07, 09 (2003)
Sarbanes Oxley assertions, declared in Section 404 (“SOX 404”) (2002)
Securities Exchange Commission (“SEC”) reporting requirements (2003)
London Stock Exchange (“LSE”) listing requirements (Carey 2004)
ASX Standard for good Corporate Governance (Australian Standard 2007)
Debates on a Code of Governance and Risk Management regulations for
Financial Institutions
45
Corporate Governance News
• The 2010 Bribery Act (UK) (2010) - a commercial organisation is now liable for the
activities of associated third parties, as well as those of its own staff and corporate
ignorance offers no protection from prosecution. The only defence is that it 'had in place
adequate procedures designed to prevent a person associated with it from undertaking
such conduct‘.
• Debates on a Code of Governance and Risk Management regulations for Financial
Institutions;
• Diversity - is due to become an important and recurring Board agenda item:
• Norway (a legal quota for women on boards);
• Germany - 10 male board members who currently hold 32 positions across 30
company – no single woman
• Belgium – a draft law on quotas: 1/3 of the directors mail and 1/3 female
• Australia
• women chair 6 boards and hold 8.3 % of the board directorship across 200
ASX listed companies. 92% of all ASX listed companies do not have women on
boards.
• Equal Opportunity for Women in the Workforce Agency (EOWA) is active
• From 1 Jan 2010 ASX Corporate Governance principles requires listed
companies to disclose their diversity policies, develop diversity measurable
milestones, and report on them annually
46
Zen thought for the day
Leaves falling
Lie on one another
The rain beats the rain