Social responsibility is “the obligation of a business towards the society” (Ferrell and Fraedrich, 6). The economic responsibility contributes to the economic development of the society by producing goods and essential products. Legal responsibility includes the laws that they have to follow. Ethical standards, the ones expected by the society but not required by law, are maintained. The philanthropic contributions acceptable to the society and necessary for the service of mankind are another essential component of social responsibility. The contributions by the business may make headway for large projects. Behavior in business has principles and standards guiding it and this is business ethics. The social acceptance of a business by investors, customers and the community in general decides whether the business has been ethical (Ferrell and Fraedrich, 7).
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History of corporate control
The first regulations to control corporations were established by the Roosevelt Government in the 1930s following a market collapse and bank failures (Smith and Walter, 65).
Ordinary people were to be protected from the abuses of powerful business houses. A Federal system was opted for. The Banking Act of 1933 helped solve the problem to a certain extent: the Federal Reserve System became more powerful in its protection of ordinary citizens. Investment and commercial banking were now separate entities by the Glass-Steagall provisions (Smith and Walter, 65). Corporate information was to be truthfully disclosed by the Securities Act of 1933 and the Securities Exchange Act of 1934. The rights of workers were preserved by the National Labor Relations Act of 1935. The companies had the Public Utility Holding Company Act of 1935 to manage most of its problems. Investments were protected by the Investment company Act of 1940 (Smith and Walter, 65). After a period of 62 long years when the corporate business grew and ‘branched’ no change was made to the rules controlling the corporations. This led to falsehood gaining foothold in their operations with corporate governance failures and bankruptcies, the extensive losses of investors and the grand lifestyle of corporate heads (Smith and Walter, 80). Scams like the Enron were widely prevalent and when things were getting out of hand, the Sarbanes-Oxley act was passed in 2002.
The Sarbanes Oxley Act of 2002
The market collapse of 2000 was watched with great interest for a variety of interests when compared to the collapse of 1987 (Smith and Walter, 8). In 1998, the Federal Reserve discovered that 48% of households in the US had stocks directly, through mutual funds and pension funds. This extensive ownership of funds had made millions of people vulnerable to the market collapse. Nearly 15000 Corporate houses and securities markets needed to be adequately controlled. The Congress rushed to pass the Sarbanes-Oxley Act so that the regulations were in place.
The Sarbanes-Oxley Act of 2002 is also known as the Public Company Accounting Reform and Investor Protection Act of 2002. The corporate fraud task force incorporated by the Justice Department helped keep corporate frauds in check. The investment banks on Wall Street managed their problems with the help of $1.4 billion provided by the State of New York (Smith and Walter, 8). Novel regulations were instituted by the Securities and Exchange Commission, the New York Stock Exchange and the National Association of Securities Dealers. The people responsible for the turmoil were to be punished with the hope that investors would reestablish their confidence in the financial system (Smith and Walter, 8).
The power of the Executive Director was worrying the government. This excessive concentration of powers was eliminated by allowing non executive directors who were members of the board to have more powers (Smith and Walter, p. 90). The role of the Audit and Compensation Committees became tightly controlled. Disclosures about compensation, benefits and “conflicts of interest” were to be duly made. New standards were established for the director
by the New York Stock Exchange and the National Association of Securities Dealers (Smith and Walter, p. 90). The new standards of director independence were to be executed under the guidance of most of the board directors, audit members, compensation heads and nominated committees.
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Proposals which were not well implemented
Some governance proposals had been suggested for the prevention of agency conflicts.
Appropriate monitoring and supervision of important activities by competent directors not from the management was recommended. Governance experts insisted that this measure alone could raise corporate governance to distinguished heights. The jobs of chair and chief executive were to be separated. An outside director was to be given the lead and he was to have performance reviews and targets for achievement. Investors were to give the feedback and suggestions ((Smith and Walter, p. 91). All these proposals saw little light.
Corporate responsibility by the Sarbanes-Oxley Act
The Public Company Audit Committees, by Section 301, were not to include any issuer who does not follow the requirements of paragraph 2 to 6. If at fault, the issuer is given a chance to correct himself before the actual prohibition. The auditing committee of each company is to take the responsibility of “appointment, compensation and oversight of any work” (An Act, 32). The auditor who has been appointed by the company is to prepare and present the audit. Procedures for dealing with the submission of complaints on questionable accounting were to be made by the audit committee. Counsel services may be availed of for discharging auditing duties.
The financial reports have to be checked by the signing officer by Section 302 (An Act, 33). Information given has to be correct and it cannot be withheld too. Misleading statements are to be avoided. Internal controls are to be established 90 days before the report so that information is seen by all concerned officers. This fact must be mentioned in the report. Any deficiencies in the process must be intimated to the audit committee. The audit committee must be aware of the chance of fraud and of employees who could be involved in it. (An Act, 33). Conduct of audits must not be influenced by any officer or director. Fraudulent manipulation by any officer or director must be observed for and prohibited by Section 303 (An Act, 34). This rule is enforced by the Commission.
The Enron scandal
Enron grew from a natural gas pipeline company in 1985 to an energy trading firm in 1990 (Fox, 1). Buying and selling gas and electricity were what they did by then. After that it was more like a bank. Its revenue grew from 4.6 billion in 1990 to 101 billion in 2000. The company became a model of innovation. The bosses found that for keeping Enron’s growth sustainable, they had to play deviously in its accounting, downplaying the debts and inflating profits (2). Shareholder value was reduced through “semi-independent investment partnerships”, triggering an accounts scandal that blew out of proportion (2). These partnerships were just for hiding losses and mobilizing debt. An enquiry was started by the Securities and Exchange Commission to look into the matter. This caused partners to leave Enron in the lurch. The stock price of Enron collapsed from $90 to 36 cents. Shareholder value was lost to the tune of $60 billion. The confidence in Enron was lost and was reflected in the market. A merger at the eleventh hour failed. It filed for bankruptcy in 2001. Assets were only $62 billion. Described as the largest bankruptcy in the US, Enron faced a large number of creditors and its 4000 previous employees who had lost plenty of money in the form of retirement benefits (2). The scandal was followed up by a criminal probe. Kenneth Lay, the chief, was blamed for the downfall. His influence with the US President and as a force which lobbied for deregulation of the energy market helped Enron’s meteoric rise (3). California suffered due to the prices in power supply.
Enron failed for various reasons: organization structure and culture, accounting irregularities and corrupt leadership. Several ideas of management that Enron had were good ones but lack of futuristic perceptions and control possibly caused the downfall. The company emphasized on flexibility of design, creative destruction and decentralization. These factors added to the lack of control and reporting and culture produced its demise. Employees were frequently given rewards for their innovative steps. The outcomes were not considered so risk taking was the challenge and remained unchecked. The independence with which the employees worked was a reason for the downfall. Middle managers would have solved the problem to an extent but the freedom of the other employees would have been curbed and this was not acceptable. The Enron rise and fall is a case which can be studied by entrepreneurs for their own business. Enron’s mistakes should never be repeated.
An Act, HR 3763, One Hundred Seventh Congress of the United States of America At the second session, Held in Washington, 2002.
Ferrell, O.C. and Fraedrich, J. (2006), Business Ethics: Ethical Decision Making and Cases South Western College Pub.
Fox, L. (2003). “Enron:The Rise and fall.” Publisher: Wiley. Place of Publication: Hoboken, NJ. Publication.
Smith, R.C and Walter, I. (2006). “Governing the Modern Corporation: Capital Markets, Corporate Control and Economic Performance” Publisher: Oxford University Press: New York. Publication Year: 2006.