Ethics Sage

Executive Compensation and Unemployment: The Rich Get Richer

SEC Adopts 'Say on Pay' Rule

Last Tuesday the SEC adopted regulations requiring companies to hold non-binding shareholder votes on executive pay packages. The final "say on pay" rules implement a mandate of the Dodd-Frank financial reform law to give shareholders a greater say in compensation packages. Companies don't have to accept the results of say-on-pay votes, but board members may think twice before approving packages that could anger shareholders.

Last week the Dow crossed and then fell back sharply from the 12,000 level after the stunning developments in Egypt. Nevertheless, the 11,824 close on Friday represents about a 20 percent increase in stock prices in one year. Meanwhile, unemployment numbers released last Thursday show that jobless claims have surged to 454,000 thousand. The unemployment rate was 9.4% in December or 14.5 million. That does not include 2.6 million individuals who have dropped out of the workforce and discouraged workers. It will be interesting to see the results for January that will be reported later this week. Regardless, the inescapable conclusion is that no one’s getting employed but someone’s making money. 

The CEOs who laid off the most employees during the recession are also the CEOs who took home the biggest pay checks, according to a study released last week. CEOs of the 50 U.S. firms that slashed the most jobs between November 2008 and April 2010 took in 42 percent more than the average CEO at an S&P firm, according to the 17th annual Executive Excess study by the Institute for Policy Studies. The study also found that 36 of the 50 layoff leaders "announced their mass layoffs at a time of positive earnings reports," suggesting a trend of "squeezing workers to boost profits and maintain high CEO pay.”

The 10 "highest-paid CEO layoff leaders" ranked in the report include the CEO of Hewlett-Packard, Mark Hurd, who earned $24.2 million in 2009 as the company laid off 6,400 workers and Walmart CEO Michael Duke, who earned $19.2 million as the company laid off 13,350 workers. No Wall Street banks were included in this list, but three banks -- Citigroup, Bank America and JP Morgan -- showed up on the study's list of the 50 firms that laid off the most employees. Goldman Sachs announced that it boosted the base salary of its executives and partners for the first time since the firm went public in 1999, tripling Chief Executive Lloyd Blankefein's salary to $2 million. I suppose that's not enough for Blankenfein to live long-term so he also received restricted-stock awards as bonuses for $12.6 million. The stock award is 40 percent higher than his $9 million bonus for 2009.

Overall, the study found that executive pay remains astronomically high compared to previous decades: "After adjusting for inflation, CEO pay in 2009 more than doubled the CEO pay average for the decade of the 1990s, more than quadrupled the CEO pay average for the 1980s, and ran approximately eight times the CEO average for all the decades of the mid-20th century." Currently, CEOs of major U.S. companies average 263 times the average compensation of American workers, the study claims. Compare this with the UK (22 times), Canada (20 times), and Japan (11 times).

These statistics point to an unsustainable recovery over the long-term and give me great pause about whether the unrest that is sweeping countries all over the world might eventually infect the US. How long will workers stand idly by as the rich get richer and the poor, poorer while the middle class continues to get squeezed? Are we approaching a time when unions will demonstrate to protest the offshoring of US jobs? Hundreds of thousands have already been sent overseas. A December 2010 study by investors.com (www.rttsweb.com) indicates that more than 1.3 million additional Western jobs will vanish by 2014 due to "the accelerated movement of work to India and other offshore locations.”

President Obama spoke about investing in America in his state of the union address. Throwing more money at the problem is not the answer. A report by the EPE Research Center and the America Promise Alliance indicates that 1.2 million students drop out of high school every day and that in major city school districts only about 50 percent graduate. The rate of graduation at colleges has been reported to be between 50 and 66 percent. It is probably safe to assume that the students who might wind up with the lower skilled jobs are the dropouts. Does that explain the increasing trend to offshore US jobs? Or, is the motivating factor the desire by some CEOs to fatten their executive compensation packages by “controlling” employment costs? They are both part of the picture. The point is investing more money in America is not likely to reverse trends developed over a long period of time that reflect nothing less than a downward drift of the work ethic in the US.

US Accounting Standard Setting

FASB and FASB-Lite

Do we really need more bureaucracy in accounting standard setting? On January 26 a blue-ribbon panel submitted a report to FASB’s parent organization—the Financial Accounting Foundation (FAF)—recommending significant changes to the future of accounting standard setting for private companies, including a separate standard-setting board. The panel concluded that “there are urgent and growing systemic issues that need to be addressed in the current system of U.S. accounting standard setting,” the report states. FAF is expected to discuss this report at its Feb. 15 meeting. The panel believes that “the system should focus on making exceptions and modifications to U.S. GAAP for private companies that better respond to the needs of the private company sector rather than move toward a separate, self-contained GAAP for private companies or a wholesale reorganization of GAAP,” at least in the near term, according to the report. The report recommends establishing, under FAF’s oversight, a separate private company standards board to help ensure that appropriate and sufficient exceptions and modifications are made, both for new and existing standards. The new board would work closely with FASB to create a coordinated and efficient standard-setting process but would have final authority over such exceptions and modifications. I call the proposed new board “FASB- Lite.”

This makes no sense at all – at least not now. The SEC has indicated that effective 2015, US accounting standard setting would change for public companies because we would adopt International Financial Reporting Standards (IFRS) in lieu of US GAAP established by FASB. While a final decision has not been made, there is great pressure on the SEC to transition to IFRS because those standards have already been adopted in the European Union and over 100 countries use IFRS. Why not wait until the SEC makes a final decision that may come as early as 2012, before creating another bureaucracy? If we adopt IFRS, as we should do, then FASB can become the standard setter for private companies.

On a personal note, some claim that we have the best accounting standards in the world and shouldn’t move to IFRS. Our standards are rules-based and allow for lots of wiggle room around the rules. IFRS is principles-based and seem to create stronger ethical reporting standards. Now, that doesn’t mean IFRS are better. However, we have to look at the evidence and concede that the number of accounting frauds over the years by companies that applied US GAAP seems to contradict the assertion that we have the best standards in the world. Unless you want to say we have the least ethical business and accounting practitioners in the world.

 

Students Lack Critical Thinking Skills

Academically Adrift

In a previous blog I reported about the low ranking of American students in mathematics and science when compared with their counterparts around the world.  American students were ranked 28^th and 24^th in mathematics and science, respectively, in an international assessment of 15 year olds? Now, a study summarized in the new book, "Academically Adrift," questions whether students are learning the critical thinking skills needed to compete in a global economy. The study, published by the Social Science Research Council, tracked several thousand college students' performance on a critical thinking test from their first year on campus through their fourth year. Some 45% of students showed no significant improvement after two years of college, and 36% didn't improve after four years. While the results are troubling, it is flawed because it had no way of requiring students who sat for the test as freshmen to sit for the follow-up test as seniors, and more than half didn't do so.  Still, critical thinking skills are essential to success in the world. We face new challenges every day whether in our personal or professional lives. Rote learning can only go so far in such circumstances. Students need the ability to reason through new and unstructured problems. An interesting piece I read and highly recommend on the ability of students to memorize and become good test takers but failure to apply critical thinking skills appears on Pilant's Business Ethics Blog at http://southwerk.wordpress.com/2011/01/22/one-third-of-students-don%E2%80%99t-learn-much-in-college-part-2-the-colleges-and-universities/. The entire way that teachers teach and students learn is challenged in the article.

The  Program for International Student Assessment (PISA) is an assessment (begun in 2000) that focuses on 15-year-olds' capabilities in reading literacy, mathematics literacy, and science literacy. PISA studied students in 41 countries and assessed how well prepared students are for life beyond the classroom by focusing on the application of knowledge and skills to problems with a real-life context. Here is one task: "Develop a decision tree diagram for the Greenwood High School Library system so that an automated checking system can be designed to deal with book and magazine loans at the library.  Your checking system should be as efficient as possible (i.e. it should have the least number of checking steps). Note that each checking step should have only two outcomes and the outcomes should be labeled appropriately (e.g. 'Yes' and 'No')." The results show that only 13.5% of US students were able to correctly answer the question. Students in Shanghai did much better in comparison.

Peter Pappas analyzes the results and asks some important questions including: "Are American students able to analyze, reason, and communicate their ideas effectively? Do they have the capacity to continue learning throughout life? Have schools been forced to sacrifice creative problem solving for “adequate yearly progress” on state tests? I highly recommend reading the piece by Pappas at http://peterpappas.blogs.com/copy_paste/2010/12/stop-worrying-shanghai-what-pisa-test-really-tells-american-students.html

So, what's the bottom line as we say in accounting? I believe the educational assessment tests that evaluate how well schools are doing should include a significant number of these types of questions. If our teachers are teaching to the test, let's give them the incentive to teach what students need to learn to be competitive in today's global economy. To support the goal of improving students' critical thinking skills, performance bonuses should be given to teachers whose students demonstrate the reasoning abilities envisioned by PISA. Why not use the PISA test to make such determinations?

IRS Whistleblower-Informant Award

 You Can Whistleblow for the IRS

Last week I blogged about whistleblowing provisions in the recently passed Dodd-Frank Financial Reform Act. Today, I turn my attention to our friends at the IRS.

Did you know the IRS has just made it easier for whistle-blowers to collect rewards for turning in big-time tax cheats? The agency new rules are designed to recover the estimated $2 million (a figure that is probably too low) of taxes. Under the old rules, whistle-blowers could get rewards only if their tips resulted in businesses or individuals paying additional taxes. The new rules qualify whistle-blowers for rewards if their tips prevented businesses from claiming fraudulent refunds.

I don't get it. You mean a tipster can contact the IRS and inform them a company or individual is about to file a false tax return? Then, the IRS will contact the company and check it out before the return is filed? The company or individual will, of course, admit to the potential wrongdoing and then the IRS will pay the reward. Huh? Maybe I am missing something here but this makes no sense. Putting aside the ethical issue of loyalty and whether a tipster is acting in his or her own interests as a motivating factor rather than the good of society, is this the kind of behavior we want to encourage?

Actually, I can see one benefit of extending the whistleblowing program and encouraging more tipsters to come forward and claim their awards. We can significantly reduce the unemployment rate if this becomes a national phenomenon. Thousands can be put back to work. Colleges can offer new programs on how to develop a credible tip. I can envision the course now -- Whistleblowing 101. Former tipsters can come into the class and share their experiences. An IRS agent can present on why it's important to come forward. You know, it's your civic duty. The final exam can be to investigate some company or person and send a tip to the IRS. The higher the award, the higher the final course grade.

For those of you who are interested in pursuing this new career, go to the IRS website for specific details (http://www.irs.gov/compliance/article/0,,id=180171,00.html).

 

Giving Voice to Values

Creating a Values-Driven Organization

I previously blogged about what is ethics, business ethics and corporate fraud, the importance of audit committees, a strong corporate governance system and the MBA Oath. The common theme that runs through these blogs is that in order to develop an ethical environment an organization must adopt a values-driven approach to decision making. One of the best books I have read on the subject is Giving Voice to Values by Mary C. Gentile, a Babson College educator and consultant who draws on her business experiences to challenge the conventional notion of business ethics at companies and as taught in business schools. I highly recommend the book to business leaders, those who want to lead any organization in an ethical manner, and colleges and universities that are looking for ways to enhance their coverage of ethics in the curriculum. The values-driven approach nicely compliments The MBA Oath that commits signers to do their best to follow basic standards of behavior and always strive to do the right thing.

Dr. Gentile uses stories about the actions of exemplars to illustrate the kinds of values that enhance ethical behavior. Her goal is to help young people who want to stand up for their values when confronted with pressure imposed by a boss, customers, peers or shareholders to do the opposite. I have found in my own teaching and consulting that students and young employees need a frame of reference to help make ethical decisions when faced with pressures to do otherwise. I emphasize that once you deviate from your values, it's just a small step down the proverbially ethical slippery slope and it becomes very difficult to regain the high ground later on if (and when) you realize your mistake of going along with or sanctioning wrongdoing in the first place.

 Gael O'Brien was one of the first to blog about the book on August 15, 2010.  (http://theweekinethics.wordpress.com/2010/08/16/the-week-in-ethics-avoiding-crises-by-giving-voice-to-values/). She points out that seeking additional skill development in ethics issues can have a stigma attached to it—an admission of not being ethical enough. Quite true. The question is what to do about it. Dr. Gentile's book provides helpful advice in overcoming one's reluctance to admit they may have a problem being ethical because of their work environment and the lack of ethical leadership.

If you are interested in learning more about the Giving Voice to Values Program at Babson College I recommend you check out their website at: http://www.GivingVoiceToValues.org. Babson will also be hosting a conference on the topic at their Executive Conference Center on June 13-14, 2011.

Is Whistleblowing an Ethical Practice?

Whistleblowing and the Dodd-Frank Wall Street Reform and Consumer Protection Act

The Federal False Claims Act allows individuals who know of fraud committed against the US Government to file suit on behalf of the US against those who have falsely or fraudulently claimed federal funds. Filers typically recover 15 to 20 percent of the proceeds of a successful suit if the US intervenes on their behalf. This "bounty" provision has recently been extended as a result of Congresses passage of the Dodd-Frank Wall Street Reform and Consumer Protection Act.

Dodd-Frank applies similar types of financial rewards to a much larger range of wrongdoing, including many types of securities or accounting fraud or bribery allegations, not covered under prior whistleblowing laws. Criticism of the scope of the Act has comes from companies that believe that financial incentives for employees who tell regulators about securities fraud and other wrongdoing threatens to increase costs for companies and undermine internal fraud detection efforts required under the Sarbanes-Oxley Act. In case you have forgotten, the Sarbanes-Oxley Act was passed in the aftermath of frauds at companies such as Enron and WorldCom and includes a provision whereby employees who are discharged or retaliated against for blowing the whistle on wrongdoing may file a complaint with OSHA. OSHA then investigates and if it finds the evidence supports the employee’s claim and a settlement cannot be reached with the offending company, then OSHA will issue an order requiring the employer to reinstate the employee, pay back wages, restore lost benefits, and other possible relief to make the employee whole.

Even before Sarbanes-Oxley, companies attempted to deal with certain fraud allegations and claims of unethical and illegal behavior internally through hotlines and other kinds of anonymous reporting. The most troubling provision of Dodd-Frank is that it offers a financial incentive to ignore a company’s own process and go directly to the government. Corporate whistleblowers who use original evidence of financial fraud to approach the SEC or Commodity Futures Trading Commission can receive between 10% and 30% of a penalty that is over $1 million. One result is the vultures are already circling above as plaintiff lawyers reach out to potential whistleblowers to handle their complaints by issuing public releases and publishing articles about Dodd-Frank, and even soliciting the work.

The question I ask is this: Is whistleblowing an ethical practice? On the one hand it may serve as a deterrent to financial fraud and securities law violations by companies given the broader scope of Dodd-Frank. On the other hand it could lead some employees to spy on company actions, aggressively trace questionable transactions, and gather evidence of wrongdoing even if it has nothing to do with that employee’s job responsibilities. Do the ends of stopping corporate fraud and other wrongdoing justify the means of potentially spying on one’s employer? What do you think? 

End of Civility Project

What Motivated Cho, Hasan and Loughner?

I previously blogged about civility and it seems to be a good time to add some thoughts in light of the murders in Tucson one week ago. A poll by the Center for Political Participation at Allegheny College and Zogby International found that the majority of Americans say they are “turned off” when politics become “rude and nasty,” and 95 percent say civility in politics is important for a healthy democracy. In June 2010 the Civility Project asked the 585 elected officials to sign a civility pledge. The letters, personalized and sent directly to each of the offices, asked officials to commit to this pledge: “I will be civil in my public discourse and behavior. I will be respectful of others whether or not I agree with them. I will stand against incivility when I see it.” To date only three lawmakers signed it so the Civility Project has ended.

One June 22, 2010, Weber Shandwick, Powell Tate and KRC Research released research that explores the state of civility in America. The survey asked 1,000 American adults to express their views about the tone and level of civility in government and traditional and social media. Here are some of the results: (1) two in three respondents believe civility is a major problem while three in four believe the problem has gotten worse; (2) three in four said the financial crisis and recession made the level of civility in America worse; (3) just one in four expect civility to improve while one in three think it will get worse; (4) not surprisingly, the government and politics were identified as having the least civil discourse and a majority characterized America’s high schools, talk radio, and Hollywood celebrities as uncivil.

So, just what is civility? To some extent it is in the eyes of the beholder. I like to think of it in four ways: (1) having good manners; (2) not being rude to others; (3) showing respect for others; and (4) tolerating differences whether they are religion-based, nationality, sexual orientation, or political viewpoints. As a society I think we fail to meet the ethical standards of fairness and caring in all four.

Since a lot has been written about the lack of political discourse and polarization of the debate in the aftermath of the horrific events in Tucson, I want to address this issue. In a recent CBS poll, 57% of Americans said the political tone had nothing to do with the shootings while 32% believed it did. When we look at violent rampages of the past few years there is one common thread. The perpetrators were mentally disturbed, there were signs of problems, and no one did anything about it. Seung Hui Cho who was responsible for the killings at Virginia Tech railed against Christianity and rich kids and had a major depressive disorder. Major Hasan who shot up Fort Hood was influenced by Islamic extremist terrorism. Who knows what went through the mind of Jared Lee Loughner.

The knee jerk reaction to the tragedy in Tucson has been, at least in part, to blame certain radio talk show hosts who incite their listeners to do crazy things. I doubt that is the case. We already know Loughner didn't listen to these programs and chances are neither did Cho. Instead, the blame should be placed on the decline of our culture as a civilized society as evidenced by these events and the bizarre videos on You Tube motivated by the desire for fifteen minutes of fame and a chance to star on a reality TV show. But, alas, we all watch these programs so let's blame ourselves for fueling the lack of civility.

Civil discourse was an important value to our founding fathers. Perhaps Ralph Waldo Emerson said it best:  “There can be no high civility without a deep morality.”

Value of For-Profit, Private Institutions

Proposed Regulations on For-Profit Institutions

I'd like to fill in the gaps in the debate over proposed regulation of for-profit, private institutions. Last fall the Department of Education proposed establishing regulations that could limit the options available for students to attend for-profit institutions at a time when we have stagnating economic growth and a huge unemployment rate? Do we really want to add to the unemployment rate by shutting down one route to a job for these students and potentially laying off employees at these institutions? How does this square with President Obama’s goal of America being number one in degree completion by 2020? We are currently ranked 12th in the world.

The timing of the proposed regulations couldn’t be worse and more destructive to the needs and goals of these students. There may be problems at some for-profits with respect to promising more than they can deliver in terms of a job after graduation and their potential income, but the lumping of thousands of such schools into the same basket with the possible effect of shutting down some of the schools is akin to throwing out the baby with the bath water. It is unfair to the vast majority of for-profits that try hard to provide the kind of educational experience that will enable their graduates to obtain a good job and one that will ultimately provide the level of income needed to repay federally-funded tuition loans. Moreover, many of these institutions provide a more broad-based educational experience than just vocational training so that they contribute to society by creating a more informed citizenry.

On August 4, 2010, a report by the Government Accountability Office (GAO) found evidence of deceptive recruitment tactics by 15 of America’s leading for-profit colleges, including one operated by Kaplan Inc. Some of the colleges, which also included the giant University of Phoenix, insisted that the incidents—which ranged from misleading potential students about tuition costs and likely post-graduation salaries to encouraging them to file fraudulent loan applications—were isolated. The findings have moved some powerful Democrats in Congress including majority whip Dick Durbin (Illinois) and Tom Harkin (Iowa), who chairs the Senate Education Committee, to urge the White House to adopt new “gainful employment” rules.

Under the proposed “gainful employment” regulation, for-profits could lose access to federal financing aid – the majority of their revenue – if 35% or more of their former students aren’t repaying the principal on their loans. Colleges face other restrictions if the typical student is spending more than 12% of income on loan debt. Last year repayment rates were 36% at for-profits, compared with 56% at nonprofits and 54% at public institutions. These statistics are misleading because students at nonprofits such as public colleges and universities pay much less to attend because these institutions are state-funded. Therefore, the amount of tuition that comes out of the pocket of students attending such institutions is disproportionately less than those at for-profits. Moreover, the for-profits provide access to low income and minority students who may be working and raising children so that they benefit from the more student-friendly timing of course offerings that are designed to fit into their personal schedules. I can tell you first hand having taught at public universities for thirty years that class offerings are often scheduled to meet the needs of faculty more than to satisfy student needs.

The “gainful employment” regulation proposed by the Department of Education would require for-profit schools to show that their graduates’ annual loan payments are less than 8 percent of their starting salaries. The additional regulatory burden that would be imposed on these schools co-opts a free market solution to the problem of student default on loans. The for-profits should provide the necessary data to inform potential students of their success rate in helping graduates find jobs. Full disclosure is the key. Then, let the students decide whether they want to attend. The regulatory mechanisms are in place to verify success data. These schools are already state regulated and many have achieved regional accreditation by private oversight bodies that monitor their programs. Do we really need to impose another layer of regulation and add to the bureaucracy? Besides, fraudulent claims already can be investigated and litigation filed against offending schools. 

The fact is the for-profits can't guarantee a job or an amount of income. For-profit schools provide students with the tools necessary to get jobs but there are other factors in securing and keeping a job such as communication and interpersonal skills. You can't regulate these important job-success factors.

The Soul of a Corporation

How Should a Corporation Act...Think?

I have previously blogged about the lack of a moral compass to direct our free market capitalistic system. The pursuit of self-interests and outright greed seems to rule the day.  Our free market economic system depends on the exercise of ethical behavior by corporate officials to provide for the public good.  The financial crisis that started in 2007 resulted in large part from unethical conduct including making home mortgage loans when financial institutions knew (or should have known) that borrowers were not qualified – a fact that was ignored (or overlooked) so that these institutions could earn large fees from closing and other transaction costs. In their haste to act on the potential bankruptcy of some owners rather than work with them to restructure loans, some banks processed thousands of transactions to foreclose without doing their due diligence with respect to whether the ultimate penalty could be avoided. Is it any wonder that stocks of banks and financial institutions have recovered remarkably in the past year?

My question is: Should a corporation have a soul?  It is treated as a separate entity under the law -- like a person acting on behalf of shareholder interests and consistent with its responsibility to the public. Some might say the soul of a corporation is embedded in its corporate social responsibility practices including ethical behavior. Under the law, corporate officers and the board of directors must act in good faith, exercise reasoned judgment, and carry out their due diligence obligation to protect shareholder interests.

So, I believe the soul of a corporation should be informed by the following tenet: Society grants a corporate entity the right to act and obligates it to meet its responsibilities to shareholders and society. A continued violation of the public interest sacrifices the corporation's right to exist.

 

Honesty/Ethics in Professions

Nurses #1 

Gallup conducts a poll each year of how Americans view the honesty and ethics in a variety of professions. The last poll results were issued in November 2010. For the seventh straight year, nurses were rated number one with 24% of respondents indicating a very high level of ethics and 60%, a high level. Nurses were top ranked in all polling years since 1999 except in 2001 when firefighters held that honor following their heroic work on  9-11.

An interesting aspect of the nursing top ranking is that many studies have shown general dissatisfaction of nurses with their work environment. In the era of managed care, nurse turnover rates are at the highest levels of any profession. Nurse shortages lead to unreasonable demands and additional stress on the job, and doctors who may not value and respect what they do contribute to burnout. As a society, we do not value caregivers enough; they are not well paid for the sacrifices and the love and attention they devote to their patients/clients; and the internal rewards of the profession are lacking.

I found it interesting that military officers were ranked second with 73% indicating a high or very high rating for ethics. In some segments of society the military is looked down on yet it has a strict honor code and responsibility to one’s unit, the branch of service, and the country underlies the actions of all those who wear the uniform. Unfortunately, their ranking may suffer in next year’s poll because of the bad taste and judgment exhibited by Captain Owen Honors (note the irony) whose antics on the U.S.S. carrier Enterprise led to his loss of command. Perhaps Honors should have asked Scotty to beam him up before the story went viral.

Druggists or pharmacists are ranked third (71% positive) perhaps because they dispense the medications so many of us use to get through the day. Grade school teachers are next (67%) and then medical doctors (66%). Again, we have the helping professions and the same questions about job satisfaction. Jumping to the bottom of the list we find lobbyists and car salespeople with only a 7% approval rating. I feel sorry for the salespeople linked in that way. Members of Congress are next on the low end (9%). Frankly, I think that’s too high and wish the survey allowed for a negative ranking. It’s interesting that they fall between lobbyists and advertising practitioners (11%). There is a “huckster” element to what congress people do with respect to selling their constituents on what they will do to better their lives when they run for office and then letting lobbyists, the overwhelming desire to get reelected, and greed affect their future decisions.

What should we make of such rankings? I think it reflects the fact that the public is smarter than politicians seem to believe. Bankers, for example, went from a ranking of 37% for high or very high ethics in 2006 down to 23% in 2010. Bankers are now tied with TV reporters. That seems about right. Each group seems to want to put their spin on a story whether it’s the supportability and relative safety of mortgage loans that led to the financial crisis or how one side of the political spectrum portrays the other as the evil incarnate.

The bottom line is the public has lost all respect for the political process that is driven by lobbyists who cozy up to members of Congress by acting as used car salespeople to promote their cause all the while advertising that that they are trying to help the public.

 

Offshoring in the Philippines and China

Offshoring Threats to India

We're all familiar with the business practice of outsourcing work to another entity. It's been done for a long time and became popular in the U.S. back in 1962 when Ross Perot started Electronic Data Systems (EDS) to serve the expanding need for information technology services by companies that realized it could save a lot of money by having some of its electronic data processing activities, such as payroll processing, done by EDS. It made Ross Perot a millionaire. According to Forbes magazine, his wealth was estimated at $3.5 billion in 2009, the 85th richest person in the U.S. Perot's wealth helped fuel his independent campaign for the presidency in 1992 and some may say he has been an inspiration for the Tea Party.

Outsourcing expanded overseas in the 1990s and became offshoring, a practice whereby business processing outsourcing (BPO) services are conducted in countries such as India for companies in the U.S. It's quite easy to transmit financial information using the Internet to workers in another country who are paid much less than U.S. workers, receive no employee benefits, and generally welcome the opportunity to advance their careers and move up to the middle class. Most people think of India as being the country of choice in offshoring by U.S. companies. However, watch out India because along comes the Philippines and China.

According to recent reports, the BPO industry in the Philippines has grown 46% annually since 2006. This boom is led by demand for offshore call centers. Industry estimates from the Board of Investments, Business Process Association of the Philippines, and BPO Services Association put the number of people employed by the BPO sector in that country at the end of 2008 at a minimum of 435,000 (vs. 372,000 in 2007).  The BPO output for 2008 was US$ 6.1B (vs. US$ 4.5B in 2007), putting the Philippines as the 3rd largest BPO destination (15%) after India (37%) and Canada (27%). The 2009 numbers were approximately $7.5 to $8.0B. Philippine BPO was forecasted to earn between US $11 to $13 billion and to employ 900,000 additional people in 2010. 

In an effort to foster growth in its outsourcing industry, China announced that the government will not be levying operating taxes on offshore service outsourcing business in 21 cities until 2013. The policy covers firms specializing in IT outsourcing, business process outsourcing and knowledge process outsourcing. The initiative is expected to boost China’s already robust growth in the industry, where the country enjoyed a 21 percent year-on-year increase to $23.6 billion in 2009.

What does this all mean for the average U.S. citizen? Well, if the trend continues our unemployment rate may go to the double-digit range and stay there for quite awhile. I have a suggestion. Why doesn't the government work with U.S. businesses to train unemployed workers to perform the kinds of services that companies are offshoring? Wouldn't it be better to spend the money on training rather than unemployment benefits? The government can offer tax credits to companies that hire individuals who satisfactorily complete the training programs and keep the workers on for a period of time -- say 1-2 years. By then, each individual so hired should have been able to prove his/her worth to the company. It's the right thing to do!

Facebook -- Goldman Sachs Deal

Facebook Follows the Lead of Enron

So, Goldman Sachs and Facebook want to use the same device championed by Enron -- setting up a special purpose vehicle to pool investor money into one entity and keeping the financial information about that entity off the "sponsors" books. In accounting we call it off-balance-sheet financing. The primary purpose is to avoid disclosing information about the investors and financial dealings of Facebook. The company would transfer stock to as many investors as Goldman could find but it would count as only one investor --  the special purpose entity -- for the $1.5 billion equity offering and avoid SEC oversight by having less than 500 investors. Talk about a lack of transparency. If Facebook were to follow Enron's example it could, at a later date, go to a bank and borrow another $1.5 billion, keep the debt off its books, and then "sell" an unwanted asset to the new special purpose entity in return for the cash. Facebook could even record a gain from the transaction thereby increasing earnings if the cash received from the transfer exceeds the book value of the asset given up. We can characterize this as ethical chutzpah by financially engineering a transaction to place its legal form over economic substance. It doesn't pass the smell test. 

I looked at the reported numbers in Facebook's offering document that was sent to potential investors. The company's net income in 2009 was $200 million based on $777 million in revenue. That works out to be a return of almost 30% -- much higher than industry standards. Well, it's Facebook so perhaps we should expect such results in the short time the company has been in business. Then again, because it doesn't publicly report financial information I'd like to know what is included in the revenue. Does it conform to accepted accounting standards? Is Facebook trying to remain a private entity to avoid such disclosure and the scrutiny of the SEC and general public?

We don't yet know Facebook's results for 2010 but it has been reported that the company's revenue could be as much as $2 billion. That's almost a 160% increase over 2009! Well, it's Facebook so perhaps we should expect such results that reportedly are largely attributable to advertising growth. The odor is increasing.

I am quite dubious about the Facebook -- Goldman Sachs transaction because we've been there before. Back in the late 1990s and early 2000s we heard about company's such as Lucent Technologies, Sunbeam, Qwest, WorldCom and, off course, Enron that all had one thing in common -- they cooked the books and fooled investors into thinking they were doing a lot better than the true numbers indicated. I hope that's not the case with the Facebook deal for the sake of the investors and our fragile economy. Otherwise, there may be a sequel to the movie, The Social Network -- The Demise of the Social Network!

The MBA Oath

What's Missing from the MBA Oath?

I just finished reading The MBA Oath. In case you are not familiar with it, the Oath was conceived of by Harvard Business School students in the aftermath of scandals at financial institutions and Ponzi schemes such as the Bernie Madoff affair. Its purpose is to address the crisis of confidence in business following these scandals and forerunners at companies such as Enron and WorldCom. In its attempt to professionalize management, the Oath creates a series of promises that colleges and universities, as well as their MBA students, can sign on to and pledge to follow. According to the Oath website (http://www.mbaoath.org), about 40 schools both in the US and outside have signed the Oath while 17 others have had significant participation in the process. This is an impressive record for such a short period of time following the Oath's inception in 2009.

According to its Preamble, the Oath commits managers to serve the greater good by creating and enhancing value for society  in the long-term while recognizing a variety of interests, not only those of stockholders. This stakeholder approach is quite common in business ethics because it incorporates a broader variety of parties affected by corporate actions including creditors, employees, customers, suppliers and the government.

The promises one makes when signing on to the Oath include: (1) To act with integrity and in accordance with ethical standards; (2) To safeguard the interests of stakeholders and society; (3) To act in good faith and place the interests of the stakeholders above one's own self-interests; (4) To uphold both the letter and spirit of the law and contracts; (5) To accept responsibility for one's actions, and represent the performance and risks of the enterprise accurately and honestly; (6) To develop oneself and other managers under one's supervision to support  growth and development of the profession and enhance the well-being of society; (7) To strive to create sustainable value and environmental prosperity worldwide; and (8) To be accountable to one's peers and they will be accountable to me for living this oath.

I believe the most important aspect of The MBA Oath is that it can serve as an orientation and teaching tool for MBA students. It should be discussed prior to or at the inception of the MBA program. The basic promises in the Oath should be discussed throughout the curriculum for it to have true meaning. It shouldn't be just a document that is presented once and then forgotten about as has happened with too many company codes of conduct.

My problem with the Oath is that it fails to target those who are responsible for insuring that the Oath is treated with the seriousness that it deserves -- the professors who teach in a MBA program. It has been my experience that far too many professors play lip service to ethics. Perhaps it is because they feel uncomfortable covering material that has a philosophical base. However, these days the discussion of philosophical reasoning is an accepted approach to teach managerial ethics and ethical decision making. My greater concern is that professors must serve as role models both inside and out of the classroom for the Oath to have true meaning. They must walk the talk of ethics and treat students in accordance with the tenets of the Oath. What's needed next is for an organization such as the Association to Advance Collegiate Schools of Business (AACSB) -- International to require the adoption of the Oath and assess whether members of the AACSB adhere to its basic principles in both curricula and administrative policies. This may be a long-term goal but it is one that must occur for the Oath to be enforceable to some degree. Otherwise, it relies on voluntary compliance and that may not work very well especially since it becomes subject to the vagaries of institutional oversight and not a common set of standards.

California Scheming

The Demise of the Golden State

Happy New Year to all. Here's my first blog of the New Year. It's about my home state.

California is in a crisis. No, it's not because Lindsay Lohan has been in and out of jail more often than a correctional officer. It's certainly not because Governor Arnold Schwarzenegger will be leaving office soon. Let's hope he won't be back! California's problems can be blamed on its insatiable appetite to spend regardless of available resources, the lack of a political will to say no to those who come with hat in hand to Sacramento and the overwhelming desire by legislators to do what it takes to adopt the positions necessary to insure their re-election. A cynic might say it's also due to the desire to enrich oneself by using political influence that can be bartered to the highest bidder.

There is a saying that goes: "As California goes, so does the rest of the country." Let's hope not! California will not recover from its economic doldrums any time soon because the miracle that was California was largely based on the housing bubble that, for the most part, lasted fifty years. There are no signs of improvement in the state's housing market. Foreclosures continue; refinances are muddled by bank inefficiency or worse; and the jobless rate runs contrary to a sustained housing recovery.

So what's the answer for the state? As a Californian I've thought hard and long about it and believe I have come up with the answer. Let's just sell the whole state to China. The Chinese know how to get things done. They'll put us back to work counting their Yuan and keeping track of the debt owed to China by the U.S. government. Disney could then relocate the soon to be built Disneyland in Shanghai to Anaheim right next to the old Disneyland-California that would now be called: "The Way We Were." I already have an appropriate theme song for the park -- that is if Barbra will cooperate.

We all grew up being told about "The Golden Rule." Some people ignore it and even act contrary to its basic tenets. This is best illustrated by the old adage, "He who owns the gold makes the rules." In the Golden State that means the legislators who control the purse strings. It means the voting citizenry that help to set laws through a convoluted system of propositions whereby residents vote on spending and other issues. It sounds good in theory but the way the process works is if your side loses a vote, the issue  appears on the next ballot to overturn that vote...and on and on until your side gets what it wants. Does this sound like a spoiled child? That's a perfect characterization for California. It's been spoiled over 50 years during which time people headed to the promise land to build a better life, buy up investment property, remodel, flip it, live off the increased equity and then start the pattern all over again.

Well, as for me, I'm on my way to the movies to pay $16 for a two-hour experience, ten-to-fifteen minutes of which will be watching six trailers. I'll stop by the popcorn stand for the privilege of spending another $14 on popcorn and a soda. Now, imagine what a family of five has to pay -- between $100-$150 for the two hours. Oh well, the lot next door has discount parking for only $10 for the day!