Organization background
Founded in 1895, the Nortel Networks Corporation was a multinational company dealing in telecommunication services and manufacturing of different networking equipment. The company’s headquarters was in Ontario, Canada. Following a scandal which begun in the year 2009, the company was dissolved in the same year. This dissolution was ordered by a court. At the beginning of the 2003 financial year, the company had released a false financial statement of recorded profits of C$434 million while the true profit was C$732 million. As a result the earnings-per-share was presented as 10 cents instead of 17 cents. The main perpetrators of the financial statement manipulation were the former CEO Frank Dunn, financial controller Michael Gollogly, and the CFO Douglas Beatty. Despite efforts made by the company to clean up its financial statements, it was not able to recover. As a result, the company was closed in the year 2009.
The corporate crime
Despite the excellent performance, stakeholders of the Nortel Networks Corporation were concerned about the complexity of the financial statements. The management of the company used complex nature of the financial statements and the weaknesses in the accounting standards to manipulate the financial records. Actually, the “top officials at the company cheated investors and enriched themselves through complex accounting gimmicks like overvaluing assets to boost cash flow and earnings statements, which made the company even more appealing to investors” (Mann & Barry, 2010). The white collar crime was characterized by inflating the asset values, overstating the reported income and cash flow, and failure to disclose the liabilities in the financial records. The media reported the scandal in the year 2005. Despite being a fast offender, the magnitude of the scandal led to the closure of the company in the year 2009.
A review of the case shows that members of top management of the company were closely involved in the crime. The first person was Frank Dunn. He was the CEO of the company during that period. He permitted actions of the other management without getting to know the nature of the transactions. The second person was the CFO, Douglas Beatty. He was involved in negotiating dubious investment deals for the company. The third person was the financial controller, Michael Gollogly. He had the overall responsibility of ensuring that the books of accounts reflected true and fair view of the company. He did not disclose losses arising from the company in the financial statement of the Nortel Networks Corporation. The managers did not exercise professional due care in handling the shareholders’ funds (Bakan, 2005). The company fired the three top managers. Besides, other twelve managers were forced to refund a total of $8 million to the company.
The crimes committed by the top management were of different types. They can be categorized into five these are, conspiracy, securities fraud, false statement, insider trading, and fraud as established by the finding of the SEC in an investigation which lasted for three years (Bakan, 2005). The company was charged in the court for the crimes established by the SEC. The main charge was profit without honor due to fraud and misreporting of the financial performance. Profit without honor shows the “encounter between personal gain and individual integrity” (Pearson Education, 2012). Profit without honor was evident in the actions of the managers who were involved in the crime. The managers made gains without taking into account the underlying professional code of conduct and ethics. The two top managers were acquitted of the charges in the year 2009. However, the company had to be auctioned off, as a result of bankruptcy, as directed by the court.
Legal response to the corporation’s activity and materiality
The company was prosecuted under the regulatory system. The main charge was a misstatement or omission in reporting the financial performance. A misstatement or omission is material if it influences an investor’s decision on investing in a company. Material facts comprise of substantial changes in dividends or earnings and significant misstatements of asset value (Jamie, 2005). The materiality of the misstatement was based on the nature of the transaction, failure to disclose material facts in the financial statement, serious violation of the Generally Accepted Accounting Principles (GAAP), and the amount involved in relation to the company’s profitability or turnover. Examples of material transactions in the case were overstating revenue, wrong debtor balances, and changing the company’s cut off dates with an aim of inflating revenue. The court came up with the material transactions such as capitalizing of financial misreporting with an aim of misleading the investors by paying lower earnings-per-share than what was expected (Glasbeek, 2002). Also, backdating the inflated profits in the financial statements made the court declare the Nortel Networks Corporation as a violator of the business regulations in Canada and the US.
Aiders and abettors are parties to an offense. They share the intention to commit a crime with the person who commits the crime. They may be liable as a principal, an accessory before or after the fact. Aiders and abettors are liable for fraudulent misrepresentation when they execute some overt act, or give advice or encouragement to commit a crime (Glasbeek, 2002). In the case of the Nortel Networks Corporation scandal, the company pressed charges against the three top managers as aiders and abettors in the scandal. However, the court later cleared them of any criminal charge.
Situational analysis
The manager involved in the scandal was competent but did not exercise professional due care and apt professional behavior. In addition, the manager did not exercise integrity when preparing the financial statements (Armstrong, Guay, & Weber, 2010). This means that he lacked integrity and objectivity in running the organization. The Nortel Networks Corporation scandal resulted in a massive loss that had never been experienced in the history of the Canada at that time. First, shareholders of the company lost about C$200billion as a result of the falling share prices in four years. Secondly, the Nortel Networks Corporation’s creditors and energy entities incurred hefty losses. Finally, over 100,000 jobs were lost. The employees also suffered losses resulting from the loss in value of the shares because over 50% of the amounts in the savings plans were used to purchase the company’s shares. The total market failure that resulted from the Nortel Networks Corporation scandal amounted to over C$400billion. However, the scandal could be attributed to the profitability pressure by shareholders, which made the management to misreport the financial statements.
Conclusion
In the case of Nortel Networks Corporation, a number of recommendations can be made to mitigate the possible recurrence of the crime in other companies. First, composition of directors of a company should include independent directors as the majority. Such directors are necessary for their decisions will be in the best interest of the company and not for individual gains. Secondly, all important committees such as audit committees, human resource committee should have independent directors. Finally, committees dealing with finance issues such as audit committees should comprise of competent and experienced personnel.
References
Armstrong, C.S., Guay, W.R, & Weber, J.P. (2010). The role of information and financial reporting in corporate governance and debt contracting. Journal of Accounting and Economics, 50(3), 179-234.
Bakan, J. (2005). The Corporation: The pathological pursuit of profit and power. New York, NY: Simon and Schuster.
Glasbeek, H. (2002). Wealth by stealth: corporate crime, corporate law, and the perversion of democracy. Toronto, Canada: Between the Lines.
Jamie, B. (2005). Ruling Canada: corporate cohesion and democracy. Halifax, Canada: Fernwood Books.
Mann, R., & Barry, S. (2010). Business law and the regulation of business. New York, NY: South Western Publication.
Pearson Education. (2012). Profit without honor.