2 – Entity Selection, Formation, and Governance
Resolve the 3 parts on the attachments
1. Discussion.
2. Practice Assignment.
3. Apply Assignment.
Wk 2 Discussion – Learn: Analyzing Business Structure
Respond to the following three questions in a minimum of 175 words each question.
1. Select a business you are familiar with or by conducting a search of the internet. (Electrical Contractor Company)
2. Identify its business structure.
3. Explain the advantages and disadvantages of that designation for the business.
4. Provide examples.
2 Practice Assignment
Points:
50
Started on Jan 15 at 06:54
Your Submission:
Top of Form
1. Bookmark question for later
What is the definition of a foreign corporation?
· A business formed outside the U.S.
· A business formed in a different state
· A business formed within a state
· A business that passes profits directly to shareholders
2. Bookmark question for later
What is the definition of a
Subchapter S corporation?
· A business formed in a different state
· A business that passes profits directly to shareholders
· A business formed within a state
· A business formed outside the U.S.
3. Bookmark question for later
Wade and Hunter want to start a business. They have a large amount of capital. They have a good working relationship and believe they will do well sharing management responsibility and in sharing profits. They are happy to be organizing a business together in order to avoid full liability for the business. Which detail(s) of this situation would be most unhelpful toward Wade and Hunter’s decision to organize a general partnership?
· Avoiding full liability
· Large amount of capital
· Sharing management responsibility
· Sharing profits
4. Bookmark question for later
What is a public corporation?
· A business with a large number of shareholders
· A business formed to assist experts in a particular business field
· A business formed by the government
· A business with a small number of shareholders
5. Bookmark question for later
What is a closely-held corporation?
· A business formed to assist experts in a particular business field
· A business with a large number of shareholders
· A business formed by the government
· A business with a small number of shareholders
·
6. Bookmark question for later
Albus wants to build a business. He wants to start the business fast and reach a large customer base, but he only has a small amount of opening capital. He has no partner with whom to form the business. Which of the following is not a valid reason for Albus to choose a sole proprietorship organization for his business?
· Wants to reach a large customer base
· Small amount of capital
· Has no partner with whom to form the business.
· Wants to start the business fast
·
7. Bookmark question for later
Which of the following is false concerning LLCs?
· LLC owners are called members.
· LLCs are formed in much the same way as a general partnership.
· LLCs can be taxed as corporations.
· LLCs are governed by state statute.
·
8. Bookmark question for later
Tawny wants to be involved in a business. She has lots of capital to invest and she wants to be involved in management, but does not want to be exposed to personal liability for losses the business might incur and she does not want to have to pay excessive taxes on her gains. Which form of business would be best for Tawny?
· Sole proprietorship
· General partnership
· LLC
· Corporation
·
9. Bookmark question for later
Kim wants to be involved in a business but is not sure what type of business to join or create. She has some capital to invest, several years of managing experience, and a good network of potential investors and partners. What role would be best for Kim?
· General partner in a general partnership
· More than one possible option
· General partner in a limited partnership
· Limited partner in a limited partnership
·
10. Bookmark question for later
Jaden works for LeoHart. He meets with a team to discuss shareholders’ interests and assign managers to run certain parts of the company. What is Jaden’s position in the company?
· Shareholder
· Director
· Executive and shareholder
· Executive
·
11. Bookmark question for later
Leo and Josh have a welding business organized as a general partnership. A customer comes into the business seeking a welding contract. Leo agrees to do the work for the customer as a separate project from his business with Josh. Which of the following is true?
· Leo has usurped the concept of joint ownership of the business.
· Leo is free to make contracts separate from his business with Josh.
· Leo cannot contract with the customer unless the customer has had previous business dealings with Leo.
· Leo may make a separate contract with the customer as long as the customer doesn’t already have a contract with the business itself.
·
12. Bookmark question for later
Del organized his business in Alaska. He does business in both the U.S. and Canada. In Texas, Del’s business would be considered a(n) __________ corporation.
· Domestic
· Foreign
· Alien
· None of the above
·
13. Bookmark question for later
What type of franchise would a car dealership typically belong to?
· Chain-style franchise
· Distributorship
· Plant-processing franchise
·
14. Bookmark question for later
Which of the following is true concerning bonds?
· A bond’s collateral is always based on physical assets.
· As a company’s credit increases, the interest on its bonds tend to decrease.
· Bonds are considered assets.
· A bond is an equity interest.
·
15. Bookmark question for later
The primary purpose for a company’s issuance of stocks is:
· To clarify ownership levels for shareholders
· To increase shareholders’ income
· To increase a firm’s leverage
· To raise capital
·
16. Bookmark question for later
The board of directors for Glenncorp makes an investment in distribution services that ultimately result in a net loss for the company and its shareholders. Shareholders in the company may:
· Do nothing, as the board is protected by the business judgment rule
· Demand compensation for their losses in proportion to their number of shares
· Sign a petition to fire the board of directors
· Sue the board of directors.
·
17. Bookmark question for later
Hector is opening a sole proprietorship. Which of the following would not be included in a list of possible steps Hector would take in setting up his business?
· Publish his fictitious business name
· Obtain a local business license
· File a d/b/a statement
· Obtain federal government approval
·
18. Bookmark question for later
Reed works for Marimart. He assembles components for consumer products. He also conducts training for new hires at Marimart. Reed additionally purchases stock in the company? What is Reed’s position in the company?
· Director
· Executive
· Shareholder
· More than one option
·
19. Bookmark question for later
Papapop makes a franchise agreement with a bottling factory to sell its product to the company for bottling and subsequent sale. Over the next several years, Papapop steadily demands a higher percentage of the bottler’s profit from sales. Which of the following is true?
· Papapop is restricted from demanding a higher profit percentage.
· None of the above
· Papapop is restricted from demanding a higher profit percentage if such increases are arbitrary.
· Papapop may demand a higher percentage without restriction.
·
20. Bookmark question for later
Chloe is a non-executive supervisor at her company. She directs other employees but has no control of financial information or decision-making responsibilities. She would be responsible for contributing to which of the following areas?
· Maintaining a strong board of directors
· Promoting integrity and ethical behavior
· Disclosure and transparency
· Safeguarding the rights and interests of shareholders
·
21. Bookmark question for later
Which of the following is not a basic requirement of good corporate citizenship?
· Strong and vigilant board of directors
· Provision of benefits to employees
· Disclosure
· Ethical environment
22. Bookmark question for later
Under the notion of effective corporate governance, which of the following is not an example of an internal control?
· Accounting disclosure requirements
· Employee satisfaction surveys
· Reporting to shareholders
· Performance reviews for managers
Bottom of Form
2 Apply Assignment
Tips for Success:
· Read the question first, before reading the scenario.
· Read the question again and answer the question in your mind before looking at the answer choices.
· Read every answer choice option carefully. Eliminate implausible answers.
· Choose the BEST answer. You may not think any of the answer options are 100% spot on.
· Pay attention to absolutes like always, never, not, clearly, etc. Any counterexample that applies to the question would make it incorrect.
· Be alert for the use of double negatives within a question. Such questions should be read carefully to ensure you fully understand what is being asked.
· Go with your first instinct on the answer based on the knowledge you gained from reading the text.
Points:
120
Started on Jan 15 at 07:25
Your Submission:
Top of Form
1. Bookmark question for later
Lily wants to build a business. She has very little capital. She does, however, have a partner with which she could run a business. Lily wants to be able to avoid being held personally liable for any problems the business has. Which of the following would lead Lily to choose a sole proprietorship organization for her business?
· Little capital
· None of the above
· Avoidance of personal liability
· Possession of a partner
·
2. Bookmark question for later
What is the appropriate description for a distributorship?
· A franchisee makes or sells a franchisor’s product.
· A franchisee produces and sells a franchisor’s product using the franchisor’s name.
· A franchisee sells a franchisor’s product in a specific geographic area.
·
3. Bookmark question for later
Hal organized his business in Canada. Most of his customers are in Montana. In Montana, Hal’s business would be considered a(n) __________ corporation.
· Subchapter S
· Closely-held
· Alien
· Professional
· Domestic
·
4. Bookmark question for later
Mario and Johnny want to start a business. They have very little capital. They are new partners and largely unfamiliar with each other’s management practices. They are happy, however, to be organizing a business together in order to avoid full liability for the business. Which detail(s) of this situation would be the largest contributor toward Mario and Johnny’s decision to organize a general partnership?
· Avoiding full liability
· Sharing profits
· Little capital
· Unfamiliar with each other’s management practices
·
5. Bookmark question for later
J-Chron’s board of directors periodically meets with the CFO of the company. The CFO reports on the financial status of a company project, after which the board inquires about the project’s compliance with legally-required accountings principles. It asks no other questions about the project. Which of the following is true?
· The board is not meeting any basic vigilance requirements.
· The board is meeting legally-required vigilance standards, but not necessarily those which would
protect shareholders’ interest.
· The board is not legally required to meet vigilance requirements.
· The board is meeting all of its vigilance requirements.
·
6. Bookmark question for later
What is the correct order of events for the formation of a corporation?
· Novations are executed; Articles of incorporation are filed; Incorporators select a name for the corporation;
· Business selects a state of incorporation
· Business selects a state of incorporation; Incorporators select a name for the corporation;
· Articles of incorporation are filed; Novations are executed
· Incorporators select a name for the corporation; Articles of incorporation are filed; Business selects a
· state of incorporation; Novations are executed
· Business selects a state of incorporation; Novations are executed; Incorporators select a name for the corporation;
· Articles of incorporation are filed
·
7. Bookmark question for later
Loptech, a technology firm, wants to issue bonds for investment purposes. Loptech has one of the best credit ratings in the industry. Market rates for debt instruments average at .5% interest. Based on its credit rating, Loptech would likely sell bonds that pay _____.
· Indeterminable with current information
· 0.75%
· 0.25%
· 0.5%
·
8. Bookmark question for later
Noodleoo, a struggling restaurant chain, wants to enact a franchise agreement with Stephen to sell its product through a chain-style franchise. Stephen agrees and opens the store, and 6 months later Noodleoo goes bankrupt. Which is most likely true of this situation?
· If Noodleoo was transparent with its financial data, it owes no recompense to Stephen.
· If Noodleoo was not transparent with its financial data, Stephen has no recourse.
· More than one response is correct.
· If Noodleoo was not transparent with its financial data, it has broken the franchise rule.
·
9. Bookmark question for later
What is the appropriate description for a chain-style franchise?
· A franchisee produces and sells a franchisor’s product using the franchisor’s name.
· A franchisee makes or sells a franchisor’s product.
· A franchisee sells a franchisor’s product in a specific geographic area.
·
10. Bookmark question for later
What role best fits the following situation?
Manny wants to be involved in a business but is not sure which type of business to join or create. He has capital to invest. He has a good network of potential investors and partners. He has no experience in management.
· Neither a limited or general partner would be a good choice.
· General partner in a limited partnership.
· Limited partner in a limited partnership.
·
11. Bookmark question for later
Tucker works for a retail distribution company that was recently started. Tucker has invested a lot of his earnings into shares of the company. When quarterly earnings are posted, Tucker receives a check for 8% of the quarterly profit of the company. Tucker belongs to a __________ corporation.
· Domestic
· Closely-held
· Subchapter S
· Alien
· Professional
·
12. Bookmark question for later
Abigail is a manager at her company. The company just launched an initiative to improve its corporate citizenship practices. Abilgail is responsible for all but which of the following areas?
· Safeguarding shareholders’ interests
· Vigilance of the board of directors
· Integrity and ethical behavior
· Disclosure and transparency
·
13. Bookmark question for later
Rita wants to be involved in business. She has a fair amount of money to invest, but she does not want to be involved in management. She wants to form a business in the quickest way possible under her circumstances. Which form of business would be best for Rita?
· LLC
· Corporation
· Limited partnership
· Sole proprietorship
·
14. Bookmark question for later
What is the appropriate description for a plant-processing franchise?
· A franchisee makes or sells a franchisor’s product.
· A franchisee produces and sells a franchisor’s product using the franchisor’s name.
· A franchisee sells a franchisor’s product in a specific geographic area.
·
15. Bookmark question for later
Zoey is the CEO of a corporation she organized herself, and the corporation has 15 shareholders. The company operates in several states, as well as outside of the U.S. Her business consists mostly of training services for in-home medical care personnel. Her company would be a __________ corporation.
· Subchapter S
· Closely-held
· Domestic
· Alien
· Professional
·
16. Bookmark question for later
Koffman Corporation is trying to raise capital. What method would be the least risky to raise capital if it has a less-than-favorable credit rating?
· Stock issuance, since stocks are more valuable as finance instruments.
· Stock issuance, since a credit rating won’t negatively affect Koffman’s ability to sell stock.
· Bond issuance, since additional debt can provide the company with more leverage.
· Bond issuance, since nobody wants to buy shares of a company with a less-than-perfect credit rating.
·
17. Bookmark question for later
Hal and Miranda have a general partnership business for landscaping projects. Hal makes a contract with a customer for a project one day while Miranda is absent and leaves on vacation the next day. Miranda does not feel she has the time to perform the contract for the customer. Which of the following is true?
· Indeterminable without more information.
· Only Hal is obligated to perform the contract.
· Miranda may relinquish her obligation to perform the contract since Hal signed it without her knowledge.
· Miranda is obligated to perform the contract.
18. Bookmark question for later
Cadence works for WilderCorp. She meets with a team to make all-encompassing decisions concerning the direction of the business. She also personally supervises managers and conducts training for supervisors and plant managers. Cadence also buys stock in WilderCorp. What is Cadence’s position in the company?
· Director
· More than one option
· Shareholder
· Executive
·
19. Bookmark question for later
Lenny organized his business in Delaware. He has customers in Delaware, other states in the U.S., and in foreign countries. Lenny’s business is __________ in Delaware.
· Professional
· Domestic
· Closely-held
· Subchapter S
· Alien
·
20. Bookmark question for later
Piper is a manager in a corporation that was organized in Canada by one of his former coworkers. The company provides consulting services and training for architects employed by construction companies. The company recently went public, with shares being sold to about 500 investors. Piper’s company would be a __________ corporation.
· Professional
· Alien
· Closely-held
· Domestic
· Subchapter S
Topic 2: Business Organizations
Learning Objectives
1. Compare the advantages and disadvantages taken on by the owner of a sole proprietorship.
2. Identify the elements that constitute a general partnership, as well as the advantages and disadvantages of a general partnership.
3. Differentiate between a limited and general partnership and list the advantages and disadvantages of a limited partnership.
4. Describe the characteristics of a corporations and the benefits derived from choosing a corporation as a form of business.
5. Explain how a corporation is formed and describe the groups that constitute the organization of most corporations.
6. List and describe the financial tools used by corporations.
7. Summarize the basic purpose and function of a limited liability company as compared to a traditional corporation.
8. Separate franchises by category and explain how different kinds of franchises function.
9. Describe the legal protections that assist franchisees in franchise relationships.
2.2Small Business Structures
David Parker, J.D. discussing Small Business Structures
Types of Business Structures
One of the earliest decisions an entrepreneur starting a new business needs to make is under what form should the business operate: sole proprietorship, partnership, corporation, or some specific form of one of them. Each has benefits and disadvantages. We will take a look at each.
Sole Proprietorship
A sole proprietorship, sometimes simply called a proprietorship, is the simplest form of business entity, and is one where the business is owned and managed by one individual. It is the most common form of U.S. business. This makes sense because of the advantages a sole proprietorship has over other business entities.
Advantages of Sole Proprietorship
1. A sole proprietorship is very easy to set up from a regulatory point of view. Usually, there is no government approval or documentation required, except perhaps for a local business license.
2. The cost of setting up a sole proprietorship is very minimal. If a sole proprietor is doing business in a name other than his or her own, he or she may have to publish in the newspaper, at minimal cost, a fictitious business name statement, or a d/b/a statement “doing business as” statement to alert the public and creditors that he or she is running the business under another name. For example, Tom owns a restaurant named Jade Palace. Jade Palace is his fictitious business name.
3. Another advantage of the sole proprietorship is the flexibility or ease with which the business may be managed. That is not that to say that conducting the business is easy, but rather the formal requirements of the day-to-day business are limited. The proprietor is free to operate the business according to his or her discretion without having to answer to a partner, a board of directors, or shareholders.
4. The proprietor is the sole owner of the assets of the business.
5. A sole proprietorship is easy to terminate.
6. The sole proprietor pays only personal taxes, so the tax calculations for sole proprietorships are usually straightforward and easy to calculate.
7. Finally, the assets of a sole proprietorship are easy to transfer to another person.
Disadvantages of Sole Proprietorship
The sole proprietorship is often the best choice for a beginning or small business, but sometimes when a business starts to grow the disadvantages of the sole proprietorship begin to show.
1. Under a sole proprietorship, there is no legal distinction between the owner of the business and the business itself. That means the owner bears 100 percent of liability for tort claims against the business, and that liability is personal. A successful claimant in a tort lawsuit against the business could attach for payment of the judgment the sole proprietor’s personal assets, like a home or a car.
2. The sole proprietor is personally responsible for all contracts into which he or she enters.
3. If the owner dies, the business usually dies as well.
4. Finally, the only access to capital the proprietor has is what he or she can develop on his or her own through personal funds or loans from others.
2.3General Partnerships
Konrad Lee, J.D. discussing General Partnerships
The general partnership form of business enterprise is characterized by two or more persons agreeing to bind themselves to each other by contract – the partnership agreement – for a common business purpose.
Essential Elements of a General Partnership
The three essential elements of a general partnership include the sharing of losses and profits, an equal right to engage in the management of the business, and joint ownership of partnership assets.
Sharing of Losses and Profits
The profits and losses pass through to the partners in accord with the partnership agreement. Therefore, in Partnership A&B, A may be entitled to 60 percent of the profits and liable for 30 percent of the losses.
Konrad Lee, J.D. discussing Partnerships
Equal Right to Manage the Business
At common law, a partnership was treated as a collection of separate individuals and did not have a separate legal status. The modern view is the opposite, and a partnership is now considered in most states as a legal entity. This means that the partnership may own property in the name of the partnership, and sue, or be sued, as a partnership.
Joint Ownership of Partnership Assets
Additionally, unlike a typical agency relationship or a simple contract relationship, partners in a general partnership are equal owners of the assets of the business. As such they stand together in a fiduciary relationship. That is, each owes the other due care in actions associated with the partnership, including just reporting, avoiding conflicts of interest, and not usurping a partnership opportunity. If the object of the partnership may not be completed within one year, the partnership agreement must be in writing.
Advantages of a General Partnership
Like a sole proprietorship, a general partnership is easily formed at little cost and may easily operate across states. Its management is at the discretion of the partners, and it is often easy to dissolve. Partnerships, although a legal entity, are not taxed directly, rather, the individual partners are taxed at the individual rate that applies to each.
Disadvantages of a General Partnership
Perhaps the biggest disadvantage of a general partnership is that each partner is joint and severally liable for the torts and other claims against the partnership. Therefore, if in the Partnership A&B, A commits a tort against C while acting to further the partnership interests, C may sue A, or sue B, or sue A&B together. Moreover, under the agency relationship which partners share, A may bind B, and vice versa, to terms of contracts entered into as long as A or B do not contract outside the scope and mission of the partnership.
2.4Limited Partnerships
A limited partnership is an agreement between two or more partners to conduct business, but where only one of the partners is responsible for the day-to-day management of the business. The managing partner is known as the general partner and the other partners as the limited partners. This kind of partnership is a creation of state statute, as virtually all states have adopted some version of the Uniform Limited Partnership Act (ULPA), which governs limited partnerships.
Advantages of a Limited Partnership
The key advantage of the limited partnership is that it allows limited partners to escape the joint and several liability that exists in a general partnership. If a limited partner’s contribution to the limited partner enterprise is solely financial, with some small administrative involvement, then the limited partner gets the benefit of partnership while avoiding liability for torts, contract claims, or debt of the partnership. If a limited partner becomes too involved in the management of the business, he or she may lose limited liability status. A limited partner has the right to access the partnership books and may expect, just like in a general partnership, a duty of loyalty from the general partner.
Disadvantages of a Limited Partnership
Because of the risks associated with the formation of a limited partnership, and the fact that it is a creation of state statute, it is much more difficult to form than a general partnership. The partners must sign a certificate of limited partnership – a document that describes the partnership, its purpose, and members – and files it with the appropriate state agency. The certificate of limited partnership becomes a public document open to scrutiny.
While the limited partners are shielded from liability beyond the amount of the investment contribution, general partners are personally liable for the obligations and claims against the partnership. Sometimes, general partners seek to avoid this problem by setting up a corporation, which does have limited liability, to act as the general partner.
Terminating a Partnership
In both a general and a limited partnership, the partnership may be terminated by agreement, by judicial decree—bankruptcy, by death or incompetence of a partner, by destruction of the object of the partnership, or by impracticability of the project. In the event that a limited partnership is terminated, the limited partners receive back any capital contribution or profit in priority to the general partner.
2.5Introduction to Corporations
Konrad Lee, J.D. discussing Corporations
Characteristics of a Corporation
The corporation is a form of business where the ownership is divided into shares and is authorized by state statute to act as a single legal entity. Having been in existence for many hundreds of years, the corporation has several unique characteristics which make it a favorable business form for many enterprises.
1. A corporation is a legal person under the law. Therefore, a corporation can sue and be sued, own property, and enter into contracts. Also, as a legal person a corporation has some limited protections under the Constitution.
2. The shareholders of the corporation have limited liability for the torts, debt obligations, and contracts claims, only up to the amount of the value of the shares owned – capital contribution.
3. Shares in a corporation are easily transferrable. Indeed, with the right online account, a party could buy or sell corporation shares in the time it took this author to write this sentence.
4. A corporation has infinite duration. For example, the Hudson’s Bay Company, a Canadian department store chain, was incorporated in 1670 in London and is still going strong.
Types of Corporations
So-called subchapter s corporations are those having few shareholders, where the Internal Revenue Service allows for the passing of corporate profits directly to shareholders so as to avoid the double tax associated with corporations. Corporations that are formed within a state are called domestic corporations. Those who are operating in a particular state, but were formed in another state are called foreign corporations. For example, the Ford Motor Company, incorporated in Delaware, is a domestic corporation in Delaware and a foreign corporation in the other 49 states in which it distributes vehicles. Alien corporations are those formed outside of the U.S. Some corporations are created to conduct a charitable or other humanitarian purposes, and because they do not exist to make money for shareholders are called non-profit or not-for-profit corporations. That is not to say that the employees of such organizations are not paid. For example, the commissioner of the National Football League, a not-for-profit corporation, was paid upward of $40 million in 2013. A publicly held corporation is one where there are many shareholders extant in the world, while a closely held corporation is where just a few persons own its shares, like S.C. Johnson. Some corporations are created to assist doctors, lawyers, accountants, and so on, and are called professional corporations. Usually, in these types of corporations, the agents of the corporation may not subject the corporation to liability, but the professional him or herself is subject to malpractice claims. Most corporations are privately owned, but a public corporation may be formed by the government to achieve some social good, like the Public Broadcasting Corporation.
2.6Corporate Formation and Management
Formation of the Corporation
Once a business has decided on using the corporate form, it must determine which state will be the state of incorporation. Many large businesses have incorporated in the state of Delaware because it has laws favorable to corporations; however, many businesses choose the state where it will be doing business for incorporation. Upon selection of a suitable name, the incorporators – those persons seeking to establish the business – file Articles of Incorporation with the state. These articles provide the corporate name and address, number of shares to be issued, the agent of service and, usually, the name and address of each incorporator.
The identification of an agent is important because the corporation has legal status and, therefore, there must be some person empowered to accept service of process from creditors or others who may have a claim against it. The Articles also provide information about the nature of the business of the corporation. Traditionally, the law required a detailed description of all business activities in which the corporation planned to engage. In times past, if a corporation exceeded its stated purpose it would have been said to have engaged in an ultra vires act, outside its authority, which could be challenged by shareholders as improper. A corporation could be committing an ultra vires act if it makes loans that are prohibited by law or makes excessive contributions to charities. Over time, that strict rule has lessened.
Once the incorporators or promoters complete the formation of the corporation, they will quickly execute new contracts, called novations, with any party with whom they have had dealings related to the creation of the contract. This is done so that the corporation takes over the contract and the third party releases a promoter. The promoter will now be shielded from liability, one of the primary purposes of forming the corporation in the first place.
Management of the Corporation
There are three actors in the management of the corporation: shareholders, the board of directors, and executives. Often these groups are overlapping in their rights and responsibilities.
Shareholders
The shareholders are the owners of the corporation. As owners, shareholders, by voting rights, have power to elect a board of directors which then governs the corporation by determining strategy and hiring executive officers to manage the day-to-day affairs of the firm. Shareholders also have the right to amend the Articles of Incorporation or the bylaws and to approve mergers or corporate dissolutions or the sale of substantial assets. They do not have responsibility for management of the business.
Board of Directors
The board of directors has a high duty of care to the shareholders and may not engage in any activity which would indicate disloyalty or a conflict of interest. Sometimes, the board of directors will make a decision which results in losses to the corporation. Under the business judgement rule, as long as the directors acted in a reasonable and prudent way, directors will not be subject to lawsuit from shareholders on a breach of duty claim.
Executives
The executives in a corporation are those officers charged with carrying out the daily operations of the corporation according to the direction provided by the board of directors and the wishes of the shareholders. The executives are subject to the same duty of care in carrying out the purposes of the corporation as are the board of directors. Usually the members of the top management team are also members of the board of directors and shareholders. The executives are tasked to see that the business runs according to the Articles of Incorporation and the Bylaws. The Bylaws are the detailed rules governing the management of the firm and sets the requirements for annual meetings, the process for approving major corporate decisions, stock issues, and shareholder voting rights.
Finally, a major shareholder who comingles his or her funds with the corporation, or uses it solely for his or her personal benefit, will lose the limited liability protection of the corporate form under the doctrine known as piercing the corporate veil.
2.7Corporate Financing and Termination
Financing of the Corporation
Stocks
A primary advantage of corporations over other business forms is the ability of the firm to raise capital through the issuance of stocks. Stocks represent an equity interest, or ownership share, of the corporation. Some small businesses issue stocks to employees as a way to compensate them when money is tight. This is what Comer Cottrell, one of the most successful African-American entrepreneurs and now worth over a $1 billon, did to keep his employees loyal during the early days of his Pro-Line hair care business.
Common Stock
The most fundamental equity interest a shareholder has in a corporation is common stock. This stock provides the owner with an interest in the control, assets, and earnings of the corporation in proportion to that stock’s value. That is, one share equals one vote. Common stock shareholders generally have preemptive rights. This is the right to purchase newly issued stocks over other parties in order to maintain the percent of stock owned.
Preferred Stock
Some stockholders own preferred stocks. These are stocks that generally cost more to purchase, but carry a preference for the payment of dividends, a priority right to purchase other stock offered, and priority for payment when the corporation is dissolved.
Dividends
A dividend is a distribution of corporate profits to the shareholders as ordered by the directors. Normally, there is no requirement that the directors order dividends, but stocks which regularly pay dividends are seen as more favorable to investors. Sometimes a corporation will be required to declare a dividend payment to shareholders when retained earnings – undistributed profits – get too high, or the Articles of Incorporation or Bylaws demand it.
Bonds
Another way a corporation finances its activities is through bonds. A bond is a debt security sold to investors. The collateral is the credibility of the firm and its ability to repay the loan. Sometimes the physical assets are used as collateral on the bond. A corporation needs to have some regular earnings, or earnings potential, to be able to offer a bond to the public at a favorable rate. The higher a company’s perceived credit quality, the easier it becomes to issue debt at low rates and issue higher amounts of debt.
Termination of the Corporation
Dissolution of the corporation may occur when the board of directors and shareholders vote to end it. It may also be terminated by bankruptcy, court decree, or legislative action.
2.8Limited Liability Entities
David Parker, J.D. discussing Limited Liability Entities
The partnership carries specific tax advantages to the partners because tax is paid not on the partnership profits, but upon the individual partner’s personal financial circumstances. A corporation carries with it other advantages in terms of protection from liability, but the corporation pays a separate corporate tax, and thus shareholders are taxed twice. In an effort to obtain the best of both business forms for entrepreneurs – limited liability and only one taxing event – many states have enacted laws that create the limited liability company (LLC). Limited liability company owners are called members. In the LLC, the company may elect to be taxed as either a partnership or a corporation. If taxed as a partnership, income from the business passes through to the individual members in the company. Additionally, unlike a traditional corporation which retains all losses, in the LLC losses may be passed through to the individual members just like profits. This allows a member, when needed, to declare a loss to offset gains in other areas for tax purposes. Perhaps even more importantly, the losses of an LLC do not have to be distributed evenly among members. That means the LLC can manage which members receive profits and losses.
Because it is a creation of state statute, the formation of the LLC is very similar to that of a corporation. Moreover, its management may either be by a management group or by all the members. Under either scenario, the members of an LLC owe each other a duty of due care and loyalty and may not engage in activities that would damage the LLC or its members’ interests.
If a member of an LLC wishes to extract him or herself from the company, that member will immediately lose the right to manage the affairs of the LLC and, while a duty of loyalty no longer exits, the member must continue to exercise due care so as not to harm the interest of the other members. The exiting member has no authority to dissolve the LLC, but may force the other members to a buyout.
2.9Franchises
Konrad Lee, J.D. discussing Franchises
Basics of Franchises
Another kind of business is a franchise, which may be operated under any business form. Franchises are businesses where the owner of a trademark, trade name, proprietary manufacturing process, or intellectual property licenses that asset to a third-party business person. The creator of the franchise is called a franchisor and the purchaser is named the franchisee. Franchises are successful because they offer advantages to all parties. For the franchisor, the franchising process allows him or her to sell a proven concept to another and capture revenue from the sale, from ongoing training and supplies, and from taking a percentage of the franchise profits. For the franchisee, he or she is assured a business which has a proven name recognition and a success rubric. For the consumer, a franchise offers certainty, uniformity of price, and quality.
Types of Franchises
Manufacturing or Plant-Processing Franchise
There are at least three types of franchises. The first is known as the manufacturing or plant-processing franchise. This is where, in Coke for example, the secret formula is sent from Atlanta to bottling facilities all over the world, where is it is added to water and rendered into Coke. The independent bottlers are franchisees.
Chain-Style Franchise
The second kind of franchise, the chain-style franchise, was made famous by Ray Kroc, the former CEO of McDonald’s. In the chain-style franchise, the franchisor licenses the franchisee to sell or make its products. In these types of relationships, the franchisee may be required to purchase the product, uniforms, or advertising from the franchisor.
Distributorship Franchise
The distributorship is the last kind of franchise. A distributorship model is a franchise where a manufacturer licenses the franchisee to sell a product within a specific geographic area. Car dealerships are the best example of distributorship franchises.
Legal Protections for Franchises
The franchisor and the franchisee have a complicated relationship because they are separate legal entities but are bound together by the franchise relationship and the goal of success. Over the years, because they have the better bargaining position, franchisors have taken advantage of franchisees by 1) overcharging for products which must be purchased from them, 2) arbitrarily increasing the percentage of profits taken under the franchise agreement, or 3) terminating the franchise agreement without notice or cause. To address these problems both the federal government and state legislatures have acted to protect franchisees. These protections include prohibiting the franchisor from setting unrealistic sales goals, setting conditions for when a franchise may be lawfully terminated, requiring transparency on financial data, and giving the franchisee proper notice. The Federal Trade Commission has established the Franchise Rule which requires the franchisor to provide written notice to the franchisee of facts relating to the representations made, data collected, earnings projected, and terms of the franchise contract.
Topic 11: International Law and Ethics
11.1Learning Objectives
Learning Objectives
1. Summarize the fundamental principles which govern international law.
2. Describe different arrangements of international laws which affect international trade and relationships.
3. Illustrate the basic organization of the United Nations and explain the UN’s purpose.
4. Describe the political organization of the European Union.
5. Compare the purposes and organization of the three main world banking institutions.
6. Identify different methods or tools by which international disputes are typically resolved.
7. Describe the regulations imposed by the Foreign Corrupt Practices Act.
8. Compare different standpoints on businesses’ obligation to fulfill social responsibility requirements.
9. Summarize the basic tenets of the foundational ethical philosophies that are commonly applied to business practices.
10. List and describe the five areas which govern the consensus view of good corporate citizenship.
11.2General Principles of International Law
International law describes the set of rules and sanctions which govern the relationships between sovereign states. It is a consent-based system where nation-states bind themselves to international rules to achieve some economic or political goal: trade, technology transfer, peace, and so on. International law is very successful in establishing uniform standards for such things as codifying construction rules for fire prevention, setting standards for weights and measures, and establishing international protocols for airplane safety. In terms of regulating issues of war and peace, and even trade, it is much less so. International law is guided by several principles, including Comity of Nations, Act of State Doctrine, and Sovereign Immunity
Comity of Nations
A fundamental principle of international law is the notion of Comity of Nations. Comity is the doctrine that a sovereign nation’s legal system will adopt or implement the law of another sovereign nation out of deference, mutuality, and respect. For example, in the interpretation of an international contract, a court in Nation A will give deference to that contract’s interpretation under the laws of Nation B, where it was created, as long as the laws of Nation B are consistent with the public policy and law of Nation A. More specifically, a court in Nation A may uphold the ruling of a court in Nation B in a particular case, even if the case may have been decided differently in Nation A. Factors that a court in Nation A would consider in granting comity for a decision in Nation B would be Nation B’s apparent fairness and impartiality of its legal system, jurisdiction over the defendant and subject matter, and the absence or presence of fraud or excess politicization of the legal system.
Act of State Doctrine
Another principle of international law is that each state has the power to regulate its internal affairs unfettered by the legal rulings in another nation. Under the Act of State Doctrine, the United States holds to the principle that every sovereign state must respect the independence of every other sovereign state and that courts in one country may not pass legal judgments upon the acts of national governments done within their borders. For example, suppose the People’s Republic of China outlaws the practice of all religions in the country. Saul, a Jewish U.S. citizen living in California, disagrees with China’s new law. Saul brings a lawsuit against China in a U.S. district court located in the state of California, arguing to the court that China’s law should be illegal. The U.S. district court will apply the Act of State Doctrine and rule that China’s law is an act of that state and that a U.S. court has no authority to hear and decide Saul’s case. The court will dismiss Saul’s lawsuit against China.
Sovereign Immunity
The third fundamental principle of international law is the doctrine of Sovereign Immunity. Sovereign immunity is a long-standing principle of international law and a legal doctrine which holds that a sovereign nation is immune from civil suit or criminal prosecution. It comes from the traditional notion that “a king can do no wrong.” The US recognizes this concept under the Foreign Sovereign Immunities Act (1976). The immunity is not absolute and may be forfeited if a state has waived it or has engaged in a primarily economic activity which has affected the United States. In those cases, a foreign nation may have to defend a lawsuit against it arising in a state or federal court in the United States. An example of sovereign immunity is found in the 2012 North Carolina case Bullard v. Wake County. Dennis and Wendy Bullard sued Wake County for negligent inspection of their new home, which had significant structural defects within only a few months. Their builder went into bankruptcy, so suing the county was the Bullards’ only option. When the case went to the Court of Appeals, the court found that Wake County had not waived its sovereign immunity; thus, the Bullards were unable to recover anything against Wake County.
11.3Sources of International Law
The U.S. businessperson is governed by both domestic and international sources. Trade between a firm in the United States and a foreign business are first and foremost regulated by the United States Constitution by way of both the Treaty Clause and the Foreign Commerce Clause.
The President of the United States is empowered by Article II, Section 2, Clause 2 of the Constitution, the so-called Treaty Clause, to negotiate agreements between the United States and other countries, subject to a two- thirds approval vote by the Senate. A treaty is an agreement between sovereign states to act in a certain manner, usually on trade matters. Akin to contracts, a treaty is binding on the nations involved and subject to enforcement under the principles of international law. Once approved, the treaty has the full force and effect of law. This means, using a hypothetical situation, that a small wallet manufacturer in Kemmerer, Wyoming, is subject to an international treaty governing the use of snake skin in the manufacture of wallets. Moreover, in an area of law which is the domain of the states, an international treaty could become the law of the land, even if Congress and the President traditionally have little authority over such matters. For example, education law is a domain of the states, but an international treaty which sets standards for the qualifications of elementary school teachers would become the law. This could be true even though Congress and the President traditionally have little authority over education.
A treaty must meet the standards of the U.S. Constitution or it is void, or at least the violating provision is a nullity. Because the treaty becomes U.S. law, Congress retains the power to amend it without reference to the international party with whom the treaty is made. The scope of the authority of the President to unilaterally withdraw from a treaty remains uncertain.
Many treaties are bilateral treaties, which are agreements between two nations. Some trade agreements are between several or more nations, as in the North American Free Trade Agreement (NAFTA), which is between Canada, the United States, and Mexico. Perhaps the most important of any of these multinational agreements is the creation of the United Nations.
Related to the Treaty Clause, which can include many non-business related issues like missile defense, is the Foreign Commerce Clause. Here, the Constitution in Article I, Section 8, Clause 3, gives Congress the power to regulate commerce with foreign nations. This gives Congress the power to regulate international trade. Business must look then at federal trade law to understand which rules apply to a particular international transaction.
In addition to U.S. law governing international trade, business must also comply with what is called customary international law. When a consistent recurring practice develops between nations in the course of their relationship, that practice becomes a binding principle between the nations whether it is accepted into a treaty or not. Most often, customary law is codified into a treaty. An example would be the immunity from criminal prosecution for a visiting Head of State.
11.4The United Nations
It would be impossible to discuss international business without touching on the increasingly important role the United Nations (UN) plays in world affairs. Founded in 1945 as a venue for the resolution of nation-state conflicts leading to war, the UN is comprised of 193 member nations and is headquartered in New York City. It is financed by voluntary contributions from member states, of which the United States is a leading contributor, and its goals now include the maintenance of peace, the fostering of human rights, the promotion of economic development, and the provision of humanitarian aid. The UN is comprised of various subset organizations. The Secretariat is the executive arm of the UN and is comprised of the Secretary General, currently Ban Ki-Moon of South Korea, and staff. The Secretariat provides a forum for member states to discuss and resolve issues, conducts research, and carries out the administrative duties of the UN.
The General Assembly is the main deliberative body of the UN, comprising a representative from each member state. Out of the General Assembly comes the Security Council, which is tasked with keeping international peace. The Security Council is comprised of fifteen member states, five of which are permanent members – The United States, Russia, China, France, and the United Kingdom. Other nations serve in two-year term rotations based upon a regional allocation. The Security Council is a very important body because it can establish international sanction rules and issue binding resolutions to member states. Moreover, the permanent members of the Security Council may veto nominations for Secretary General or member nations serving on the Council itself. Perhaps the most important power the Security Council holds is the ability to authorize and execute military action through UN security forces, called UN peacekeepers. Despite the name, UN peacekeepers are military forces voluntarily provided by member states and have recently totaled a force of 116,837 soldiers.
The matrix of UN operations includes the World Bank Group, which consists of the World Bank and the IMF; the World Health Organization, dedicated to disease prevention and cure, primarily in the developing world; and aid programs such as the World Food Programme, UNESCO, and UNICEF. Finally, the UN sponsors the International Court of Justice to mediate disputes between member nations. It is to this area of international law to which we now turn.
11.5The European Community
Perhaps the largest international agreement between nations is the European Union (EU). With the recent addition of Croatia, the EU is a unification of 28 states creating a political and economic community spanning much of modern-day Western Europe. Following in the footsteps of earlier agreements regarding coal, steel, and atomic energy production after World War II among the nations of Belgium, France, Germany, Italy, Luxembourg, and the Netherlands, the European Union was designed to create a “single market” for trade to compete favorably against America and Asia for commerce.
Aims of the European Union
Officially established by the Treaty of Maastricht on February 7, 1992, the EU has five aims:
1. To strengthen the democratic governing among nations;
2. To improve the efficiency of nations;
3. To establish economic and financial unification;
4. To develop the Community social dimension; and
5. To establish a security policy.
To achieve these goals, the EU has established wide-ranging policies regarding business, education, and social issues. The EU has come under criticism for its unwieldy governing structure, which involves an “institutional triangle” composed of 1) the Council – representing nations; 2) the European Parliament – representing citizens; and 3) the European Commission – responsible for holding up Europe’s main interests. The European Council is, essentially, the meeting of the heads of state of member nations. Originally an informal body, it now is officially recognized as an official organ of the EU with authority for directing the EU’s general political priorities. It has no power to pass laws. The European Parliament is the primary legislative arm of the EU and its members are directly elected by member nations. The European Commission acts as the executive arm of the EU, and its members – one for each member state – are to look to the interest of Europe as a whole, not just a self-interested member state when making decisions. Because its members are appointed, not elected, and have tax free income, the Commission has come under criticism as an elitist body.
Many of the EU countries have adopted a unified currency known as the Euro. The area in which the Euro is used is known as the Eurozone.
11.6World Financial Institutions
There are three main world banking institutions which deserve the attention of an international business person: the World Bank, the International Monetary Fund, and the Bank for International Settlement.
Established in 1944, primarily under the sponsorship of the United States and the United Kingdom, the World Bank is a financial institution designed to provide loans to developing nations for capital improvements such as roads, dams, and telecommunications facilities, and it loans approximately $25 billion annually. Its Articles state that the purpose of the Bank is “to assist in the reconstruction and development of territories of members by facilitating the investment of capital for productive purposes” and “to promote the long-range balanced growth of international trade and the maintenance of equilibrium in balances of payments by encouraging international investment … thereby assisting in raising the productivity, the standard of living, and conditions of labour in their territories.”
The Bank makes loans at a rate of 0.5 percent above its own operating costs. Loans were originally made only for specific structural improvements, but in 1980 the World Bank began providing loans for the promotion of social reforms.
The World Bank has been criticized as promoting the goals of western nations over those it was ostensibly designed to promote. For example, the United States, a single nation, has one director, while the 47 sub-Saharan African nations who are member nations have only two.
The World Bank also attaches conditions to its loans which give it broad authority to ensure a nation structures its internal economy so as to repay the loan. Every president of the World Bank since its creation has been a U.S. citizen.
Created at the same time as the World Bank is the International Monetary Fund (IMF) International Monetary Fund (IMF). Member countries of the IMF contribute money to a pool through a quota system from which countries with payment imbalances can borrow funds temporarily. The balance of payments includes a country’s exports and imports of goods, services, financial capital, and financial transfers. When added together, they must sum to zero, with no overall surplus or deficit. For example, if a country is importing more than it exports, its trade balance will be in deficit. If a nation has a deficit shortfall, it will have to counterbalance it in some way – such as by funds earned from its foreign investments, by running down central bank reserves, or by receiving loans. This is where the IMF seeks to help.
The Bank for International Settlements (BIS) is the central banker to the world and is located in Basel, Switzerland. It serves member state’s central banks in their pursuit of monetary and financial stability by providing research, promoting cooperation, and acting as a bank for central banks.
11.7International Dispute Resolution
International disputes may be resolved informally between nations through diplomacy and negotiation. However, when that fails, nations may submit complaints to the International Court of Justice (ICJ) in The Hague, Netherlands. The ICJ’s main function is to hear and settle legal disputes among UN member states and to provide advisory opinions—something that we discussed earlier that U.S. courts do not do—on legal questions submitted to it by international agencies and the UN General Assembly. When deciding cases, the ICJ relies for authority upon international conventions, international custom, and the “general principles of law recognized by civilized nations.” It may also rely upon “the teachings of the most highly qualified publicists of the various nations” and its previous judicial decisions to help interpret the law. Interestingly, the Court expressly states that it is not bound by the common law principle of precedent or stare decisis. The decisions of the Court are therefore binding only on the parties in a specific dispute.
Another way international disputes are resolved is through the World Trade Organization (WTO). Signed in 1947, the General Agreement on Tariffs and Trade (GATT) is a multilateral agreement regulating trade among 153 countries, and its purpose is to effect the “substantial reduction of tariffs and other trade barriers and the elimination of preferences, on a reciprocal and mutually advantageous basis.” Over a series of negotiations lasting years, member nations fine-tuned the agreement and eventually, in 1994, created a permanent institutional structure for regulating the massive trade agreement called the World Trade Organization.
The WTO’s goals include creating a trade system free of discrimination, barriers, uncertainty, and anti-competitive practices. Under WTO rules, all agreements on reducing tariffs and barriers to trade must be passed by all 150 members, on the theory that if all can agree on a rule it must be a fundamentally fair precept. Most nations of the world, at least those of any consequence, have signed on to the GATT and are members of WTO. Of course, as we saw earlier, international law and agreements are consent-based, and nations often ignore WTO rulings if national interest prevents following the rulings. For example, the U.S. has been called out, but continues to ignore, WTO rules in the so-called “Irish music” case. The U.S. allows restaurants and store owners to play Irish music without compensating the owners of the material, a violation of WTO rules. The WTO has in place a dispute resolution mechanism where nation states may bring complaints. When a member nation enacts a policy or takes action which another state considers as breach of the WTO agreed rules, it may seek resolution through the Dispute Settlement Body. The WTO procedures are perhaps the most active international dispute resolution mechanisms in the world.
11.9Social Responsibility of Business
The foregoing discussion about the Foreign Corrupt Practices Act (FCPA), leads us to a general discussion of what constitutes the general ethical obligations of business. With respect to appropriate business behavior—exercising our duty to act as morals and customs demand—the law sets only a minimum standard. Conduct in the business world is measured for its morality, or its ethics; indeed, both for its adherence to social constructs of right and wrong and for its social responsibility to the citizens in the countries in which it operates. Virtually all agree that an action may be legally permissible while being unethical. An example is a marketing tactic employed by a credit card company to sell certain products to people who aren’t eligible for any of the product benefits. While this marketing tactic may not qualify as deceptive advertising under the law, it is unethical because it takes advantage of an unsophisticated consumer.
Beyond a duty to obey the law and act morally, does a business owe a greater duty to society? Some, like economist Milton Friedman, maintain that business has only one responsibility and that is to maximize profits for shareholders. He said: “There is one and only one social responsibility of business – to use its resources and engage in activities designed to increase its profits so long as it stays within the rules of the game, which is to say, engages in open and free competition without deception or fraud.” Friedman also stated: “So that the record of history is absolutely crystal clear. That there is no alternative way, so far discovered, of improving the lot of the ordinary people that can hold a candle to the productive activities that are unleashed by a free enterprise system.” A case example of maximizing profits occurred in the 1919 Dodge v. Ford Motor Company, in which founder Henry Ford sought to reduce prices on his cars which would increase vehicle production and allow more people to buy cars. The Dodge brothers, two shareholders, sued Ford and claimed that his plan would not increase shareholder dividends. The court sided with the shareholders, saying that Ford’s plan benefitted the public more than the shareholders.
Others vigorously disagree with Friedman and argue that business, by having the privilege of being organized under law, bears a social responsibility to the citizens of the country in which it operates. Moreover, they argue that corporate citizenship requires a firm to actively do good in the communities in which it operates and that the bottom line includes profits, plus a social responsibility factor. This is especially the case for so-called “green” environmental policies. For example, a manufacturing plant that dumps its hazardous waste into a nearby lake is negatively affecting the community and not being socially responsible.
Yet others argue that a firm is ethical if it meets the moral minimum of behavior. That is to say that the ethical duty a business owes to a community and other businesess is to “do no harm.” For example, an oil company that pollutes a body of water and then compensates those whom the pollution has negatively impacted has met its moral minimum of social responsibility.
Finally, stakeholder theory argues that in the calculation of ethical business behavior, a firm is unethical if it does not consider the parties impacted by its decisions. For example, a corporation that viewed its employees simply as means of expanding shareholder wealth would be in violation of the stakeholder theory. As the theory goes, persons or entities who have taken no risk in developing the business, but who may suffer some negative consequence of the firm behavior, should have a say in business decisions or should have their views considered. The definition of who is actually a stakeholder and how broad the stakeholder definition should be applied has not yet been fully agreed upon. Certainly under the theory, employees, customers, suppliers, financiers, communities, governmental bodies, political groups, trade associations, and trade unions and others are considered stakeholders.
11.10Foundational Ethical Philosophies Guiding Business
Business ethics is informed by different ethical philosophies such as utilitarianism, Kantianism, social justice theory, and virtue ethics.
Utilitarianism
Under the ethical theory of Utilitarianism, an action is ethical if it maximizes the greatest happiness for society. For example, if a citywide poll is taken that 85 percent of its population would be happier with a new central park, the park should be built. This theory holds to the notion that results govern what is ethical and society would be best served by the legislature considering which proposed law would benefit the most in society. A few of this theory’s weaknesses are the difficulty of measurement, the lack of sufficient information to make choices, and the very notion of what is beneficial. The principles of utilitarianism may be seen in administrative actions, cost-benefit analyses, and the balancing provisions we discussed in environmental impact statements.
Kantian Ethics
Kantian ethics, named after its originator, German philosopher Immanuel Kant, hold that ethical action arises from executing a duty and that duties arise from rational thought. Kantianism holds that any action must be able to be universalized–applied to all persons equally–in order to be ethical. If the action can be consistent–applied in all circumstances, and reversible–returning in kind to the doer without harm, it is ethical. For example, if you rationalize that it is acceptable for you to not fulfill contract terms to your utmost ability, it is acceptable for competitors to do the same. Kant espoused the notion of one categorical imperative–one rule from which all moral action could derive–which is: “Act only according to that maxim by which you can, at the same time, will that it should become a universal law.” It most closely aligns with the “golden rule” which is present in many ethical systems.
Social Justice Theory
Twentieth century thinker John Rawls espoused a social justice theory wherein he argues the greater good compels the loss of some freedom for individuals. In other words, social justice or fairness is the measurement of whether an action is ethical. Rawls’ work was founded on the philosophy of John Locke and Jean-Jacques Rousseau who argued under so-called social contract theory that a person’s moral obligations are founded on a social contract with others to live in an ordered society. Rawls wrote that “Each person possesses an inviolability founded on justice that even the welfare of society as a whole cannot override. For this reason, justice denies that the loss of freedom for some is made right by a greater good shared by others.” Very simply, he argued that each individual must surrender some rights to a legislative trustee who acts in good faith for the greater good and that the least advantaged in society should be afforded special treatment. Social justice theory has been criticized because fairness and justice are subjective terms which can never be quantified. For example, state seatbelt laws compel people to forgo the choice of wearing a seatbelt, but the laws have an overall good effect on society.
Virtue Ethics
Virtue ethics is a theory developed by the Greek philosopher Aristotle which emphasizes the value of virtuous qualities rather than rules or results. Aristotle argued that the individual should choose personal inward behavior to be ethical rather than relying solely on external law and customs. The idea is that if a person’s character is virtuous, his or her choices and actions will be also. For example, regarding lying, a virtuous ethicist will focus less on the lying and more on what telling a lie says about one’s character and moral behavior.
11.11Corporate Governance
Recent corporate misconduct has resulted in a renewed focus by regulators, shareholders, and business thought leaders on the concept of corporate governance. Corporate governance is defined as the systems of control, both external and internal, which monitor the actions of directors and management in an effort to mitigate risk and prevent misdeeds.
External Controls
External controls include law, customs, and reporting requirements. In recent years, corporate reporting requirements have become more onerous for firms as legislatures around the world have sought to protect investors from corporate malfeasance. Additionally, the rules governing disclosure of misconduct by those providing services to a firm, like accountants and lawyers, have become more demanding. As noted earlier, the passage of Sarbanes-Oxley is just such a response.
Internal Controls
Internal controls are measures that regulate a corporation’s actions, auditing, and authorizations and accounting to major creditors. It consists of monitoring of board and management action, auditing internal procedures and finances, reviewing remuneration rubrics, reporting to shareholders, maintaining a balance of power over financial decisions, and authorizations and accounting to major creditors.
Areas of Corporate Citizenship
There are five areas which govern the consensus view of good corporate citizenship.
Disclosure and Transparency
First is the requirement of disclosure and transparency. Organizations must make known the roles and responsibilities of key players in the business and maintain best practices procedures for financial recording and reporting.
Safeguarding the Rights and Interests of Shareholders
Second, a firm must safeguard the rights and interests of shareholders. A modern organization has the duty to inform shareholders of corporate actions, encourage shareholders to exercise their rights and responsibilities, and promote participation of shareholders in the annual meeting.
Strong Board of Directors
Third, a firm must have a strong board of directors. Much of the criticism of recent years about corporations has been the lackadaisical approach of the board of directors to executive manager oversight. Many boards were only too happy to hear the good news of high profits, without delving into the details of how some of those extraordinarily high results were achieved. The modern view is that a board of directors must be skilled, active, and vigilant in protecting the interests of shareholders with oversight.
Considering the Interests of Stakeholders
Fourth, a modern firm must account for the interests of stakeholders. As we saw earlier, it is often difficult to identify who is a stakeholder to which a corporation owes a duty, as many persons wholly unconnected with a company may be impacted by a corporate decision. Nevertheless, with every major action, a firm should take into consideration the interests of employees, customers, local communities, and policymakers, as well as environmental interests. These stakeholders may not have formal legal or contractual rights, but the modern view is that corporate social responsibility compels their inclusion into the decision-making process.
Integrity and Ethical Conduct
Finally, and perhaps most importantly, integrity and ethical behavior must permeate the culture of an organization. The possession of high ethical and moral conduct should be the highest priority in selecting board and executive officers of the firm. Every firm must have a code of ethics that is taught and modeled by senior executives.