Ethics in Finance
PGDM-Session 7
Characteristics of Management
Prone to Fraud
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Unduly aggressive financial Targets
Domination by person or group without
controls
Aggressive accounting practice to keep stock
prices high
Pressure to reduce tax liabilities
Major performance related compensation
Non-Financial personnel involved in accounting
matters
Ethical issues in Finance
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Financial statements
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Hostile Takeovers
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Financial Markets
 Insider Trading
Fraud in Financial Statements
Fictitious Revenues
 Concealed Liabilities and Expenses
 Fraudulent Asset Valuations
 Improper or Fraudulent Disclosures or
Omissions
Creative accounting – form of
fraudulent financial reporting so as to
provide misleading information.
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Duties of an Auditor
To give an accurate statement to the
members about the state of affairs of a
company
 To meet the objectives of the Companies
Act 1985 and also the Articles of
Association
 To be reasonably skillful and careful in
identifying the true nature of the accounts
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Ethical Audit
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An audit that assess a business’s structures, procedures,
systems and policies.
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It measures the extent to which the activities of a
business comply with the standards it has publicly
declared to its external customers
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It measures business conduct against varied moral
standards of the community.
Objectives of Ethical Audit
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to provide a critical assessment of functioning of business
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To investigate into acquisition or restructuring operations
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To determine the type of training necessary for employees
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To establish ethical conduct of business
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To enhance, measure and promote the quality that increases
business performance by assessing them against the ethical
business objective
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To improve the quality of governance by evaluating the
performance and ensuring that financial information is both
available and reliable
Ethical Issues in Financial
Markets
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Deception: act of misrepresenting relevant
information
Churning: Excessive or inappropriate trading for
clients account by a broker who has control over
the account with intent to generate commissions
rather than to benefit client
Unsuitability
Unfairness in Markets
Insider Trading
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Refers to trading on price sensitive
information by company employees or
individuals closely connected with the firm
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This information has not been disclosed to
other market participants
Ethics & Insider Trading
It violates equality of opportunity
 Does not give a level playing field between
insiders and outsiders
 Might harm exchange as a whole because
investors might not be willing to trade on
exchange that does not give shareholders
their rights.
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Hostile Takeovers
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Are those that elicit opposition from the
boards or employees of Target company
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Reasons for opposition are as follows:
 Disagreements over price
 Protecting their own interests
Anti-takeover defense measures
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Poison Pills
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Green mail
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Golden Parachute
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People Pill
Poison Pills
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An anti-takeover device used by company’s
management to make takeover
prohibitively expensive for the bidders
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Company under target changes AOA so
that group of Shareholders have special
rights to buy and sell preferred stock at
highly favorable prices (At times below
market price)
Ethics & Poison Pills
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Poison pills are prohibited in Britain by
takeover code because they prevent open
competition between bidders for shares
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Use of poison pills are ethical if they are
designed to protect the management from
unwanted takeover bids.
Greenmail
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It occurs where a potential takeover agent purchases
stock in a company
After the purchases have totaled five percent the agent
must announce his intention to takeover the company,
if that is the intent
Stock prices go up in anticipation of takeover battle
Management of target company sends greenmails to
prevent a shareholder from taking over the company
Takeover agent ends up selling the shares back to
company at an increased or higher negotiated price
Ethics & Greenmail
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Target company may be forced to incur
debts to raise funds to finance the buy
back of shares at premium price
Golden Parachute
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A company gives lucrative benefits to its
top executives such as stock options,
bonuses, etc
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Presence of parachute allows management
to evaluate takeover bid more objectively
People Pill
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Management threatens that in event of a
takeover the entire management team
will resign
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If managers act in their own interest
rather than company’s long term value
then they are acting unethically
Management Buyout
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It occurs when management decide to bid
for the company
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They convert the company into a private
company and at a later date, bring it back
to market to make substantial profits.
Ethics & Management Buyout
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Shareholder believe that management may resort
to unethical practices to bring down share prices
and buy out at cheaper rate
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Unethical activities can involve leaking
confidential information by managers for their
benefit during buy out
Thank You