Management is synonymous with decision making, the best choice, which is the manager's conscious action upon choice in a situation. Good decisions ensure the continuity of the business despite an uneven business environment. Such practices should be acceptable and permissible from the moral ground for sustainable as well as for the prosperity of the business. Beyond legal codes for compliance, there are other actions equally important, are the consciousness of management ethics. It relies on the management’s self-guided moral viewpoints about the broader society directly or indirectly linked with the business practices. The societal and business norms and values are the foundations that construct the ethical behavior of managers.
If we talk about the public companies, the listed companies in the stock market are the legal entities bounded by certain legalities and assumed as trustworthy companies due to the presence of their regulators. On the other hand, these companies have their boards which are formed from the systematic elective procedures from the shareholders. Such a board, the board of directors, (BOD) is a powerful body and has the right to develop its internal rules and regulations while running the business and achieve objectives. The BOD selects the CEO adopting the competitive approach from the market. Such appointed CEO is to perform result-oriented activities and should meet the given targets.
In 2002, the famous value investor, Warren Buffett had described concisely the behavioral pattern of earnings management: “Managers that always promise to ‘make the numbers’ will at some point be tempted to make up the numbers”. When management is guided and pressured towards meeting targets, deflation of current year earnings to meet future targets, meeting board’s expectations, management ego etc. then there is a possibility of the agency problem. In such cases, inside management and outside shareholders, do not have the same information about a firm’s future expected cash flows and therefore would not use the same data when computing firm value. This means the informational contents could also be abused by management to give shareholders an incorrect signal about the future fundamentals.
The ethical behavior of management determines the success or failure of the business in the long run. Anyone with unethical behavior may seem to get progress in short interval but in the long run, such behavior may lead to nowhere, mostly destined to the failure. We can have observations with such sort actions of some companies on this ground. The history shows that all those firms with their unethical affairs turned to have the poor fate, failure. Unethical behavior in management is the major constraint in the functioning of the organization. In the context of business, some financial institutions have been failures in safeguarding the responsibilities of the public and maintain accountability to the stakeholders. In the case of developing nations including Nepal, we can identify the number of companies losing their dignity and ethics with fraudulent and self-serving practices by the members of the board, management and staff, the overbearing influence of Chairman or MD or CEO, especially in the family-controlled, non-compliance with laid-down internal control and operation procedures, abuses in lending, etc. Further, such types of malpractices are supported when there are ineffective board oversight functions, weak internal controls, technical incompetence, poor leadership, and administrative inability. Unethical behavior of management is the major constraint in the smooth functioning of the organization. In the context of Nepal, some public firms were failed to safeguard the public interest resulting betrayal of shareholders’ wealth. Failure were primarily due to the unethical practices by the management.Those firms include; Nepal Development Bank, Gorkha Development Bank, Capital Merchant Banking and Finance Limited, Samjhana Finance, Narayani Development Bank, Oriental Group, Nepal Share Market Finance.
Even though, ethics values a lot, there are no more ethical standards that we can benchmark other things as an indicator. However, an ethical part of management can be judged upon on its commitment towards transparency, integrity, and commitment with the broader stakeholder of the business. Regular disclosure of periodic financial performance report by management, prompt public announcement of pertinent information by the company's board, clarity and completeness of publicly relayed information and easy access to senior management to analyst are the factors that promote transparency and ethics in the financial system. The BOD must pay attention to transparency, accountability and should concern with the independence and segregation of the board of directors and executive committee, the commencement of regular and periodic board meetings, impartial appointment of external auditors and proper review of the work of external auditors.
To identify unethical practices, managerial quality check process can be measured either separately from or alongside rational data analysis. However, the success of this qualitative analysis is more likely to be enhanced when the experienced practitioner improves future decisions by augmenting their knowledge through continuous research on it. To sum up, there could be vulnerabilities of accounting data as fueled by unethical practices in management. This represents a significant risk which must be identified timely through the following measures:
- Detailed case study and micro-analysis about relevant information for transparency, integrity and accountability practices of the concerned firms.
- Various methods of triangulation can be applied to cross-check how reality matters including internal consistency between qualitative information, values held by management and its practices, accounting data and cash flow data, etc.
- Analysis of several years’ data to minimize the risk of ongoing embezzlement accounting practices.
Ethical practices are a major concern for the overall organizational performance. Hence, it is worthy to pay due attention by analysts, policymakers, and the practitioners to have forward-looking and not get caught in the myopic trap resulting in the judgment only from financial measures and short-term benefits or losses. Moreover, in the investment management and assets allocations, investment professionals involving in investment decision-making process should examine and aware about the art of creative accounting that can beautify quantitative and make fundamental more lucrative in a fake way. Likewise, an individual investor should be more concerned in this aspect and should develop their mindset upon investment only after the consideration of overall management indicators including ethical practices of those responsible for driving the organization ahead. A long-term investor should have a better understanding of the main drivers of the firm and continuously examine about their vision (what?), mission (why?), core values (how?), and the strategies in action.
Binod Ghimire, Ph.D., Assistant Professor, Nepal Commerce Campus