Final Exam PDF

Chapter 4 – Practical Ethical Decision Making Multiple Choice Questions Which of the following is not a stakeholder right? a. Life, health and safety b. To earn a reasonable return on an investment c. Freedom of speech d. Fair treatment before the law e. All of the above are stakeholder rights The ﬁrst resource for guidance when a businessperson or a professional accountant faces an ethical problem should be: a. Commonly accepted social norms b. Corporate and professional codes of conduct c. Ethical decision-making frameworks d. Commonly accepted philosophical approaches e. All of the above What is the most common measure of shareholder well-being: a. Proﬁt or loss b. Proﬁt or loss plus externalities c. Proﬁt or loss plus cost-beneﬁt analysis d. Proﬁt or loss plus risk-beneﬁt analysis e. All of the above Pastin’s approach adds the following concepts to stakeholder impact analysis: a. Rule ethics b. Ground rule ethics c. End-point ethics d. Social contract ethics e. All of the above The following four standards make up the modiﬁed moral standards approach: a. Utilitarian, individual rights, justice, and virtues b. Utilitarian, individual rights, fairness, and virtues c. Legal, individual rights, justice, and virtues d. Utilitarian, moral rights, justice, and virtues e. Legal, moral rights, justice, virtues Which of the following is not one of the 5 questions in Graham Tucker’s original approach to ethical decision making? a. Is it proﬁtable? b. Is it right? c. Is it fair? d. Is it legal? e. Does it demonstrate the virtues expected? The 5 question approach is: will the decision be… 1. Proﬁtable 2. Legal 3. Fair 4. Right 5. Demonstrating the expected motivations, virtues, and character of the decision maker(s) The AACSB Ethics Education taskforce has called for business students to be familiar with the following approaches to ethical decision-making: a. Consequentialism (well-oYness), deontology, and virtue ethics b. Consequentialism, deontology, and moral imagination c. Distributive justice, deontology, and virtue ethics d. Distributive justice, deontology, and moral imagination e. Consequentialism, deontology, and distributive justice Which of the following is not an example of a common ethical decision-making pitfall? a. Conforming to an unethical corporate culture b. Focusing only on legalities c. Conﬂicts of interests d. Failure to identify all stakeholder groups e. None of the above List of ethical decision-making pitfalls 1. Focusing on short term proﬁt and impacts that only aYect shareholders 2. Conforming to an unethical corporate culture 3. Misinterpreting public expectations 4. Focusing only on legalities (“if it’s legal, it’s ethical) 5. Being biased towards a speciﬁc stakeholders group 6. Conﬂicts between personal vs corporations interests 7. Failing to identify all stakeholder groups 8. Failing to rank the speciﬁc interests of stakeholders 9. Failing to assess well oYness, fairness, and other right 10. Failing to consider the motivation for a decision 11. Failing to consider the virtues that are expected to be demonstrated 12. Failing to anticipate actions of a decision aYecting a speciﬁc group Frequently, decision makers have been subject to unreasonable expectations and unrealistic deadlines, this is an example of: a. Conforming to an unethical corporate culture b. Focusing only on legalities c. Conﬂicts of interests d. Failure to identify all stakeholder groups e. Failure to rank stakeholder interests These are character traits that dispose a person to act ethically and thereby make that person a morally good human being: a. Norms b. Moral judgement c. Virtues d. Values e. Ethical judgement The costs of environmental clean-ups absorbed by downstream individuals, companies, or municipalities are referred to as: a. Surrogates b. Externalities c. Future impacts d. Collateral damages e. Ethical costs These costs can be measured indirectly by using costs incurred in similar circumstances or mirror- image alternatives: a. Surrogates b. Externalities c. Future impacts d. Collateral damages e. Ethical costs Norms are character traits that dispose a person to act ethically and thereby make that person a morally good human being a. TRUE b. FALSE Virtue ethics focuses on a person’s character traits and virtues, rather than their actions. Failure to identify all relevant stakeholder groups for a proper stakeholder impact analysis may be the result of: a. Bias b. Conforming to an unethical corporate culture c. Conﬂicts of interests d. Failure to consider the motivation for the decision e. All of the above From a stakeholder point-of-view, which of the following must be satisﬁed for a decision to be considered ethical? a. The decisions should demonstrate virtues reasonably expected b. The decisions should result in more beneﬁts than costs c. The decision should not oYend the rights of any other stakeholders d. The distribution of beneﬁts and burdens should be fair e. All of the above must be satisﬁed for a decisions to be considered ethical This approach incorporates the expected future impacts of a decision into the analysis: a. Virtue ethics b. Consequentialism c. Cost-beneﬁt analysis d. Risk-beneﬁt analysis e. All of the above These values are the combinations of a value and the probability of its occurrence: a. Probable values b. Common values c. Present values d. Expected values e. Risk-adjusted values Which of the following are criticisms of virtue ethics? a. The interpretation of a virtue is culture sensitive b. The interpretation of what is justiﬁable or right is culture sensitive c. One’s perception of what is right is to some degree inﬂuenced by ego or self-interest d. All of the above According to the textbook, who developed the concept of utilitarianism in 1861? a. David Ricardo b. John Stuart Mill c. Jeremy Bentham d. Adam Smith The “Commons Problem” refers to a situation in which governments attempt to best determine an allocation method most appropriate for use of community assets such as state parks. FALSE: Commons Problem refers to a situation in which there is knowing or inadvertent overuse of jointly owned assets or resources What must one consider when making ethical decisions? a. Core values b. Code of ethics c. Practice Act d. All of the above Completing the following steps in this order provides a sound basis for challenging a proposed decision: a. Identify facts and stakeholders, rank stakeholders and their interests, and assess the impact of the proposed action b. Identify a proper ethical decision framework, rank stakeholders and their interest, and assess the impact of the proposed action c. Rank stakeholders and their interests, identify facts and stakeholders, and assess the impact of the proposed action d. Identify a proper ethical decision framework, identify facts and stakeholders, and assess the impact of the proposed actions e. Rank stakeholders and their interests, identify a proper ethical decision framework, and assess the impact of the proposed action What are examples of ethical issues in accounting? a. Lack of transparency in accounting decisions b. Misrepresenting expertise c. Breaches of conﬁdentiality d. Fraud and tax evasion e. All of the above The following approach does not speciﬁcally incorporate a thorough review of the motivation for the decisions involved or the virtues or character traits expected: a. 5-question approach b. Moral standards approach c. Pastin’s approach d. All of the above e. (a) and (b) only What is an important factor to consider when using stakeholder impact analysis for ethical decision making? a. Conducting the analysis based solely on one ethical theory b. Treating stakeholder impact analysis as a stand-alone technique c. Recognizing the interplay between the organization and its potential supporters d. Placing too much weight on numerical analysis Which of the following is “agent” centered versus “act” centered? a. Consequentialism b. Deontology c. Virtue ethics d. B and C If a decision is expected to be unfair to a particular stakeholder group, the decision may be improved by: a. Using stakeholder analysis b. Using a decision making approach c. Increasing the compensation to that stakeholder group d. Increasing the compensation to all stakeholder groups e. All of the above Lack of awareness of the following problem results in executives not attributing enough value to the use of an environmental resource: a. Commons problem b. Ethics Problem c. Value Problem d. Risk-assessment Problem e. Moral Problem Short Answer Questions 1. Discuss, in detail, the practical steps to ethical decision making (selecting and hiring ethical employees, codes of ethics, ethics training, and ethical climate). A general deﬁnition of business ethics is that it is a tool an organization uses to make sure that managers, employees, and senior leadership always act responsibly in the workplace with internal and external stakeholders. Practical steps of ethical decision making 1. Selecting and hiring ethical employees - Overt integrity tests – a written test that estimates a job applicant’s honesty by directly asking them what they think or feel about unethical behavior life theft or other non-ethical behaviors. - Personality-based-integrity tests – a written test that indirectly estimates job applicant’s honesty by measuring psychological traits 2. Codes of ethics - Communicate its codes to others both inside and outside the company - In company along with having general guidance, management also develop practical ethical standards and procedures - Speciﬁc codes make it easier for employees to decide what to do in certain situations 3. Ethics training - Managers are a sponsor and are involved in this along with compliance training, recognize what issues are ethical and then avoiding rationalizing unethical behavior by thinking… o Achieve credibility with the employees o Ethics training becomes more credible when top managers train or teach the initial ethics classes to their subordinate, who then repeat the process o Managers give training to employees a practical model of ethical decision making (is a framework that leaders or managers use to bring ethical principle to the company and ensure they are followed) 4. Ethical climate - Organizational culture or climate is key to fostering ethical decision making - First step, managers act ethically themselves - Second step, top management to be active in and committed to the company ethics program - Third step, put in place a reporting system that encourages managers and employees to report potential ethics violations - Follow through with consequences put in place 2. Why should directors, executives, and accountants understand consequentialism, deontology, and virtue ethics? - Directors, executives and accountants frequently encounter problems requiring decisions where the right action is not covered in law or a company’s code, or where the code is being created or re-examined. In those instances, the traditional philosophical approaches to ethical decision making can raise issues for consideration and provide guidance for ethical decisions. - Understanding why the consequences of an act are importance, and how to assess them with regard to expectations of duty, observance of rights and fairness, and of virtues to be demonstrated, can provide important insights. In the future, decisions will be increasingly scrutinized for their ethicality as well as their legality and proﬁtability, and must be, and be seen to be, defensible according to traditional considerations. 3. If a framework for ethical decision making is to be employed, why is it essential to incorporate all four considerations of well-oYness, fairness, individual rights and duties, and virtues expected? - It is possible for a set of stakeholders to be better oY as a whole, but the proposed action may be grossly unfair to one group (say, the children involved) or may oYend the rights of one or more groups (say, women or men) to a degree that may cause the decision to be considered unethical. Moreover, failure to consider expected duties and virtues will damage the corporation’s credibility and reputation, thereby weakening the support of various stakeholder groups and the organization’s ability to reach its strategic objectives. 4. Under what circumstances would it be best to use each of the following frameworks: the philosophical set of consequentialism, deontology, and virtue ethics; the modiﬁed 5- question approach; the modiﬁed moral standards; and the modiﬁed Pastin approach? - The traditional philosophical approaches – consequentialism, deontology, and virtue ethics are time-honored approaches that have been reﬁned into the modiﬁed 5-question approach; the modiﬁed standards; and the modiﬁed Pastin approaches for convenient decision making in those instances noted below. The philosophical approaches, taken as a set, can be applied to any problem rather than a speciﬁc sub-set, and they would be superior where there are strong expectations for the demonstration of duty and of virtues in the solution. - Given what was said in response to the last question, the modiﬁed 5-question approach seems best suited to short-term, proﬁt-oriented problems that confront the law and impact the environment or require a tailored, speciﬁc ﬁfth question. The modiﬁed moral standards approach is suited to people-related or future-oriented problems where externalities are present that are not captured in the proﬁt measure. Modiﬁed Pastin’s approach suits problems internal to an organization. 5. Using a combination of the three approaches (5-Question Approach, Moral Standards Approach, and Pastin’s approach), describe how a corporation can address the tension between ﬁnancial goals and ethical sustainability reporting. To address the tension between ﬁnancial goals and ethical sustainability reporting, corporations can combine the 5-Question Approach, Moral Standards Approach, and Pastin’s Approach. The 5-Question Approach ensures accountability by evaluating proﬁts, legal compliance, stakeholder rights, fairness and sustainability. The Moral Standards Approach evaluates decisions based on utilitarian outcomes, individual rights, and justice to balance proﬁt goals and social impacts. Pastin’s Approach adds depth by exploring the company’s ground rules, stakeholder boundaries, and ethical blind spots to identify conﬂicts and align sustainability practices with core values. Together, these frameworks enable ethical governance while meeting ﬁnancial and reporting objectives. Chapter 5 - Coporate Ethical Governance & Accountability 1. Corporations are now increasingly realizing that they are accountable a. Legally to shareholders b. Legally to all stakeholders c. Strategically to additional stakeholders d. (a) and (b) e. (a) and (c) 2. The company’s internal auditors and the Ethics OYicer should report: a. Day-to-day to the CEO b. Day-to-day to the Audit Committee of the Board of Directors c. Regularly to the Audit Committee of the Board of Directors without management being present d. (a) and (c) e. (a) and (b) 3. Which of the following is NOT true? a. Principles are more useful than rules because principles can be interpreted as new circumstances require b. Rules are more useful than principles because rules can be interpreted as new circumstances require c. A blend of principles and rules is often optimal d. All of the above e. (a) and (c) only 4. Experience has revealed that, to be eYective, a code must be reinforced by: a. Tone at the top b. Ethics oYicer and internal auditors c. A comprehensive ethical culture d. Principles, rules and examples e. All of the above 5. Which of the following is NOT an ethics risk management principle? a. Normal deﬁnitions of risk are too narrow for stakeholder accountability b. Assign responsibility, develop follow-up processes and board review c. Discovery and remediation are essential d. The code of ethics must be reviewed by independent parties e. An ethics risk exists when expectations of stakeholders may not be met 6. A conﬂict of interest exists when a given decision maker (D) and another person (P) are in the following situation: a. D has to exercise judgement in P’s behalf b. P has to exercise judgement in D’s behalf c. D has a special interest that interferes with proper judgement d. (a) and (b) e. (a) and (c) 7. A potential conﬂict of interest exists when a given decision maker (D) and another person (P) are in the following situation: a. P has a special interest that interferes with proper judgement b. D may have to exercise judgement in P’s behalf c. D has a special interest that interferes with proper judgement d. (a) and (b) e. (b) and (c) 8. This is the preferred approach to deal with conﬂicts of interest a. Management b. Disclosure c. Remediation d. Avoidance e. Awareness 9. A fundamental problem examined by agency theory is how it is possible to align: a. Shareholders’ and stakeholders’ goals b. Manager’s and stakeholders’ goals c. Shareholders’ and managers’ goals d. Agent’s and stakeholders’ goals 10. The 20/60/20 rule states that the total percent of employees who could commit fraudulent act is a. 20% b. 60% c. 80% d. 100% e. None of the above 11. Which of the following is not a characteristic identiﬁed by forensic experts in prospective fraud situations? a. High intelligence b. Greed c. Need for whatever is taken d. Opportunity to take advantage e. Low probability of being caught (Expectation of being caught are low) 12. The primary focus of a compliance-based ethics program is: a. Preventing, detecting and punishing violations of the law b. Deﬁne organizational values and encourage employee commitment c. Improve image and relationship with stakeholders d. Protect management from blame e. All of the above 13. The primary focus of an integrity-based ethics program is: a. Preventing, detecting and punishing violations of the law b. Deﬁne organizational values and encourage employee commitment c. Improve image and relationship with stakeholders d. Protect management from blame e. All of the above 14. The most important factor in encouraging employee observance to an ethics program is that employees perceive that it is: a. Compliance-based b. Value-based c. Achievement oriented d. Stakeholder-based e. Externally oriented 15. Building trust within an organization can have favorable impact on employee’s willingness to share information and ideas in a process of: a. Ethical awareness b. Ethical awakening c. Ethical renewal d. Ethical wave e. None of the above 16. A Conference Board survey identiﬁed the following rationale for developing codes of ethics: a. Make employees aware that adherence is critical to bottom-line success b. Provide a statement of do’s and don’ts c. Discuss what is expected in stakeholder relationships d. Establish values and mission e. All of the above 17. This code deals with ethics principles plus additional examples: a. Credo b. Code of ethics c. Code of conduct d. Code of practice e. All of the above 18. Which of the following is NOT a mechanism for monitoring a code of ethics? a. Ethics audit or internal audit procedures b. Reviews by legal department c. Awards and bonuses d. Annual sign-oY by employees e. Employee surveys 19. Which of the following is NOT an example of emerging public accountability standards or initiatives? a. SOX-404 b. GRI c. AA-1000 d. FTSE4Good e. All of the above 20. SOX imposed the following new penalties for executives: a. Fines b. Suspension c. Criminal prosecution for executives d. Return of ill-gotten gains e. All of the above Short Answer Questions 1. Explain why corporations are legally responsible to shareholders but are strategically responsible to other stakeholders as well. - Corporations are legally responsible to shareholders because corporate law separates ownership and control from liability. - Corporations are also strategically responsible to other stakeholders because they can impact the environment, society, and community. - Corporate social responsibility (CSR) encourages companies to consider the interests of all stakeholders, not just shareholders. CSR can help companies monitor and report their performance and risks - Corporate governance can impact multiple stakeholders, including shareholders, employees, customers and the community, with diYerent sets of principles. Good corporate governance helps protect shareholder’s investments, ensure that employees have fair labor practices, and help the community beneﬁt from long-term sustainability. 2. What is the role of a board of directors from an ethical governance standpoint? - Set the tone at the top: board of directors are responsible for upholding ethical principles and setting the tone for the organization - Oversee ethics and compliance program: Board of directors oversee the implementation of ethical practices throughout the company. - Enhance shareholders values: Board of directors should understand shareholder perspectives, ensuring transparent communication and proactively engaging with shareholders. 3. How can a company control and manage conﬂicts of interest? - Deﬁne and communicate policies: create a policy on conﬂicts of interest and communicate it to employees and stakeholders - Educate employees: provide training and education on conﬂicts of interest, including how to identify and manage them. - Monitor and Audit activities: monitor disclosures to ensure they are current, and design internal controls or an external audit. - Implement conﬂict resolution mechanisms: when conﬂicts arise, bring all parties together for a resolution. Use active listening, respectful communication, and an open mind. 4. What is the role of an ethical culture and who is responsible for it? - An ethical culture is one that supports employees’ ability to do the right thing at work. - Having clear expectations about what constitutes acceptable behavior at all levels of the organization so everyone understands what’s expected of them when it comes to upholding ethical standards. - An ethical culture within a company allows for all stakeholders to be aware of the ethical and legal implications of their actions. - LEADERS are responsible for creating and maintain an ethical culture. They should behave ethically and promote ethical behavior in their teams. - MANAGERS are responsible for creating and sustaining a work environment where ethical behavior is expected. They should communicate the standards to all employees. - BOARD OF DIRECTORS are responsible for setting the tone from the top and overseeing the implementation of ethical practices. 5. If you were asked to evaluate the quality of an organization’s ethical leadership, what would the ﬁve most important aspects be that you would wish to evaluate, and how would you do so? - Being an ethical leader entails both acting ethically and providing an example for others to follow. Leaders have the chance to encourage followers to think about who they want to be as individuals as well as the proper thing to do. Leadership is both an activity people engage in many spheres of their lives, such as professionals, citizens, parents, and volunteers, and a formal position people play in organizations. - These key characteristics help determine an organization’s value, and a person may assess the standard of ethical leadership within the organization. A. Ethical behavior: ensure the organization’s goal, vision, and values are morally and ethically sound. To ascertain an employee’s ethical behavior, an organization might do a mock experiment. B. Communication: interact with staY members, sit with them, and try to understand their behavior. It would allow the business to keep up strong contacts and communication with its staY. C. The ethical culture of the ﬁrm: make sure that the organization’s values and vision are supported by the ethical culture of the company, including the code, training, decision-making, performance indicators, monitoring system, and awards. D. Variance in business goals: to identify any diYerences in organizational goals, and compare them to those of internal staY members and external stakeholders E. Motivation to employees: an eYective leader has the ability to persuade subordinates, bosses, and other executives. The most lost long-lasting impact is founded on respect. 6. What are the core principles of ethical corporate governance, and how do they contribute to organizational accountability? The core principles of ethical corporate governance are transparency, integrity, fairness, and responsibility. These principles nourish accountability by ensuring open communication (enhancing whistleblowing), aligning actions with ethical values, ensuring equal treatment of all stakeholders, and holding leaders accountable for their decisions. By incorporating these principles, corporations can promote ethical decision-making, prevent misconduct, and strengthen trust with stakeholders, which ultimately supports sustainable and responsible business practices. These principles help develop strong governance structures that emphasize long-term ethical and organizational success. Chapter 6 – Professional Accounting in the Public Interest 1. The following elements are essential features of a profession: a. Extensive training, license or certiﬁcation, and provision of important services to society b. Extensive training, primarily intellectual skills, and representation by professional organizations c. Extensive training, provision of important services to society, and primarily intellectual skills d. license or certiﬁcation, autonomy, and provision of important services to society 2. The following value is NOT necessary for an accounting professional: a. Honesty b. Integrity c. Objectivity d. A primary commitment to self-interest e. All but none of the above 3. The following duties are essential to maintaining a ﬁduciary relationship in the accounting profession: a. Development and maintenance of required knowledge and skills b. Maintenance of trust c. Maintenance of an acceptable personal reputation d. All of the above e. (a) and (b) only 4. Professional Accountants, in their ﬁduciary role, owe primary loyalty to: a. The accounting profession b. The client c. The general public d. Government regulations e. All of the above 5. According to Kohlberg, at this stage of moral reasoning, fear of punishment and authorities are a motive for doing right: a. Pre-conventional b. Conventional c. Post-conventional d. Autonomous e. Principled 6. According to Kohlberg, at this stage of moral reasoning, adherence to moral codes or to codes of law and order are a motive for doing right: a. Pre-conventional b. Conventional c. Post-conventional d. Autonomous e. Principled 7. Which of the following is NOT a fundamental principle in codes of conduct for professional accountants? a. Act in the client’s best interest b. Objectivity and independence c. Maintain the good reputation of the profession d. Maintain conﬁdentiality e. Not to be associated with misleading information 8. If a professional accountant is billing an audit client for more hours than those actually worked, he will be violating the following fundamental principle: a. Objectivity b. Professional due care c. Integrity d. Conﬁdentiality e. All of the above 9. If a professional accountant is auditing a public company and she receives company shares as payment for her audit services, she will be violating the following fundamental principle: a. Integrity b. Objectivity c. Professional due care d. Conﬁdentiality e. All of the above 10. A professional accountant is auditing client A and providing consulting services to client B. Both clients are in the same industry. If the professional accountant uses speciﬁc information from client A’s audit to prepare a business plan for client B, he will be violating the following fundamental principle: a. Integrity b. Objectivity c. Professional due care d. Conﬁdentiality e. All of the above 11. The adoption of the following measures would reduce the expectation gap and lessen public misunderstanding of the auditor’s role: a. Publish a statement of management responsibility b. Auditor to report annually to audit committee c. Expand audit report to clarify auditor’s role and the level of assurance d. (a) and (b) e. (a) and (c) 12. The recommendation of appointment and review of the external auditors by the audit committee is an example of: a. Safeguards reducing the risk of conﬂict of interest created by the profession, legislation, or regulation b. Safeguards reducing the risk of conﬂict of interest between an auditor and management c. Safeguards reducing the risk of conﬂict of interest within a professional accounting ﬁrm’s own systems and procedures. d. All of the above e. (a) and (c) only 13. Using partners who do not report to audit partners for the provision of non-assurance services to an assurance client would be an example of: f. Safeguards reducing the risk of conﬂict of interest created by the profession, legislation, or regulation a. Safeguards reducing the risk of conﬂict of interest within a client b. Safeguards reducing the risk of conﬂict of interest within a professional accounting ﬁrm c. All of the above d. (a) and (c) only 14. The external review of an audit ﬁrm’s quality control system is an example of: a. Safeguards reducing the risk of conﬂict of interest within the audit profession b. Safeguards reducing the risk of conﬂict of interest within a client c. Safeguards reducing the risk of conﬂict of interest within a professional accounting ﬁrm d. All of the above e. (a) and (c) only 15. This organization is developing an international code of conduct for professional accountants: a. International Accounting Standards Board (IASB) b. European Federation of Accountants c. Financial Accounting Standards Board (FASB) d. Public Accounting Oversight Board e. International Federation of Accountants 16. This organization issues auditing standards, carries out inspections of public accounting ﬁrms, auditing U.S. public clients, and imposes sanctions when applicable: a. CPAB b. PCAOB c. SEC d. FASB e. AICPA 17. This organization can issue auditing standards in the U.S.: a. AICPA b. FASB c. SEC d. PCAOB e. All of the above 18. A professional accounting ﬁrm has several audit tax clients; however, a single client represents 40% of the ﬁrm’s revenue. This situation could result in the following threat to professional independence: a. Self-review b. Intimidation c. Advocacy d. Familiarity e. Over-dependence 19. A professional accountant has been the partner in charge of a particular audit client for the past eight years. This situation could result in the following threat to professional independence: a. Self-review b. Intimidation c. Advocacy d. Familiarity e. None of the above 20. A new audit client was taken on by a professional accountant’s ﬁrm. The fee for this client’s audit engagement is signiﬁcantly lower than that charged by the prior accountants. This situation could result in the following threat to professional independence: a. Self-review b. Intimidation c. Advocacy d. Familiarity e. None of the above Short Answer Questions 1. How does the concept of public interest inﬂuence the ethical responsibilities of accountants in their professional practice? The concept of public interest signiﬁcantly inﬂuences the ethical responsibilities of accountants. Accountants must prioritize societal welfare, ensuring transparency, fairness, and accuracy in ﬁnancial reporting to protect stakeholders such as investors, employees, and the public. Their professional codes distribute integrity, objectivity, and independence to prevent misleading information or harm. Public interest also requires accountants to address sustainability by combining environmental and social factors into reporting. Ultimately, accountants’ role goes beyond business interests, strengthening public trust, economic stability, and long-term societal beneﬁts. They are tasked with acting ethically, avoiding conﬂicts of interest, and promoting accountability across sectors. 2. What ethical dilemmas might accountants face when their personal interests conﬂict with their professional duties to the public? Accountants may face dilemmas when their personal interests, such as ﬁnancial gain or career advancement, conﬂict with their professional responsibilities to the public. For example, personal investments tied to a client’s ﬁnancial outcomes or pressure to manipulate ﬁnancial statements for career beneﬁt can compromise objectivity and transparency. Ethical standards demand that accountants prioritize public trust by avoiding conﬂicts of interest, maintain integrity, and ensuring unbiased decision-making. Recognizing and addressing such conﬂicts, while sticking to professional codes of ethics, ensures that personal interests do not undermine the credibility of ﬁnancial reporting and protect the public interest. 3. Why is it essential for accountants to maintain integrity and objectivity when providing services to the public, especially in light of professional ethics standards? It is essential for accountants to maintain integrity and objectivity when providing services to the public because these principles ensure that ﬁnancial reporting and decision-making are based on truth, accuracy and transparency. Professional ethics standards, such as those outlined in the AICPA Code of Professional Conduct, ensure that accountants act with honesty, fairness and unbiased. Integrity ensures that accountants avoid misleading ﬁnancial information, while objectivity helps them resists any pressures that might corrupt their professional judgement, such as personal or client interests. By following these values, accountants protect public trust, avoid conﬂicts of interest, and ensure that their services contribute to a transparent and ethical ﬁnancial environment. Maintaining integrity and objectivity is not only fundamental for fulﬁlling ethical standards but also important for safeguarding the long-term reliability of the accounting profession. 4. In what ways can accountants help to protect public trust by ensuring transparency in ﬁnancial reporting? Accountants help protect public trust be ensuring transparency in ﬁnancial reporting through following up with ethical standards and principles. By maintain integrity, objectivity, and independence, accountants ensure the accuracy, completeness and existence of ﬁnancial statements. They are responsible for full note disclosures of ﬁnancial risks and operations, allowing stakeholders to make informed decisions to ensure ﬁnancial stability in the future. Regular audits and reviews, conducted independently, enhance transparency. Maintaining suYiciency to professional ethics, including avoiding conﬂicts of interest and ensuring accountability, strengthens public trust and prevents ﬁnancial manipulation. 5. How can professional accounting bodies enforce ethical behavior among accountants, and what role do these bodies play in safeguarding the public interest? Professional accounting standards enforce behavior through codes of ethics, such as the AICPA Code of Professional Conduct, and by providing continuing training on ethical practices. They ensure transparency in ﬁnancial reporting and accountability by investigating misconduct for any violations. These codes of conduct also guide accountants to prioritize public trust over personal interests, ensuring that ethical standards are met and the public interest is safeguarded. Through training, audit reports, and ethical frameworks, professional codes of conduct help maintain integrity and prevent fraudulent behavior in the accounting profession, thus nourishing transparency and fairness in ﬁnancial practices. Chapter 7 – Managing Ethics Risks and Opportunities 1. Which of the following is NOT a dimension of the COSO Enterprise Risk Framework? a. Strategic b. Monitoring c. Operations d. Reporting e. Compliance “The traditional COSO ERM framework, developed in 2004, assesses how an entity achieves its risk management objectives on four functional dimensions; STRATEGY setting, OPERATIONS, REPORTING, and COMPLIANCE.” 2. Which of the following is NOT a component of the COSO Enterprise Risk Framework? a. Risk assessment b. Risk review c. Internal environment d. Information and communication e. Control activities Risk Assessment: A proactive approach to managing potential business risks Control environment: Sets the tone for an organization, including its ethical values and integrity Control activities: policies and procedures to reduce risk, such as reconciliations, approvals, and authorizations. Information and communication: Systems and processes for capturing, identifying, and exchanging information Monitoring: Evaluating performance and implementing corrective actions. 3. Ethics and ethical corporate culture should likely play a vital role in setting: a. Control environment b. Risk assessment c. Information and communication d. Control activities 4. Which of the following is a source of risk identiﬁed by both the AICPA/CICA and the Institute of Internal Auditors: a. Environmental b. Informational c. Financial d. Operational e. All of the above ONLY OPERATIONAL AND STRATEGIC 5. What is the recommended strategy when stakeholders’ potential for threat is HIGH and the stakeholders’ potential for cooperation is HIGH? a. Monitor b. Involve c. Discuss d. Defend e. None of the above 6. What is the recommended strategy when stakeholders’ potential for threat is LOW and the stakeholders’ potential for cooperation is HIGH? a. Monitor b. Involve c. Discuss d. Defend e. None of the above 7. The following three performance indicators are recommended by the Global Reporting Initiative: a. Economic, environmental and organizational b. Environmental, ﬁnancial and social c. Economic, organizational and social d. Environmental, ﬁnancial and organizational e. Cultural, environmental and social Impact on climate is considered as environmental disclosure, impact on human rights is considered social disclosure and impact on corruption is considered as ﬁnancial disclosure 8. The following performance component recommended by the GRI relates to customer health and safety, marketing communications and customer privacy: a. Labour practices b. Human rights c. Product responsibility d. Society e. Customer rights 9. Auditors are mandated to assess the client’s risk of ﬁnancial reporting fraud. Auditing standard SAS-99 considers the following a mandatory tool in fraud assessment: a. Discussion and brainstorming b. Fraud Triangle c. Interviews with management d. Development of fraud training programs e. All of the above 10. Which of the following would be the least useful report of ethics risks and opportunities? a. By hypernorm value b. By shareholder group c. By product or service d. By corporate objective e. By reputation driver 11. Which of the following best describes harassment? a. Improper behavior considered oYensive by the victim, and the perpetrator knows that this is an oYensive behavior b. Improper behavior considered oYensive by society in general, and the perpetrator knows that this is an oYensive behavior c. Improper behavior not considered oYensive by the victim, and the perpetrator knows that this is an oYensive behavior d. Improper behavior considered oYensive by the victim, and the perpetrator does not know that this is an oYensive behavior e. Improper behavior considered not oYensive by the victim, and the perpetrator does not know that this is an oYensive behavior 12. An employee in charge of counting and depositing cash holdings at end of the day urgently needs some extra cash to pay her son’s medical bills. Using the fraud triangle, this situation likely constitutes: a. Motive b. Rationalization c. Opportunity d. (a) and (b) e. (a) and (c) 13. An employee in charge of the customer service help line needs urgently some extra cash for paying his son’s hospital bills. Using the fraud triangle, this situation likely constitutes: a. Motive b. Rationalization c. Opportunity d. (a) and (b) e. (a) and (c) 14. An employee who thinks he is being treated unfairly because he is regularly working unpaid overtime urgently, needs some extra cash. Using the fraud triangle, this situation likely constitutes: a. Motive b. Rationalization c. Opportunity d. (a) and (b) e. (a) and (c) 15. An employee in charge of the cash register at a busy restaurant steals small sums of money at the end of the day whenever the cash in the register exceeds the sum of the day’s bills. He thinks it is ﬁne to do so because every day there are two to three customers that pay more than they should. This type of rationalization is based on: a. Everyone else is doing it b. Denial of the victim c. Condemnation of the condemners d. Appeal to higher loyalties e. Entitlement 16. An employee in charge of writing checks to suppliers in a manufacturing ﬁrm steals sums of money every month by writing himself a check for the total of the discounts he negotiates with the company’s suppliers. This type of rationalization is based on: a. Everyone else is doing it b. Denial of the victim c. Condemnation of the condemners d. Denial of responsibility e. Entitlement 17. An employee in charge of collecting tickets at the entrance of a movie theater lets her friends enter the theater without paying for tickets. She thinks it is ﬁne to do so because the employees at the popcorn bar give free popcorn to their friends. This type of rationalization is based on: a. Everyone else is doing it b. Denial of the victim c. Denial of responsibility d. Appeal to higher loyalties e. Entitlement 18. The following need is at the top of Maslow’s Hierarchy of Needs: a. Esteem b. Respect c. Fulﬁllment d. Safety e. AYinity 19. An important diYerence between anticipated and unanticipated crises is that: a. Unanticipated crises are easier to control than anticipated crises b. Unanticipated crises have less negative reputational impact than anticipated crisis c. Anticipated crises start much earlier than unanticipated crises d. Anticipated crises are less costly than unanticipated crises e. Anticipated crises have a longer uncontrolled period than unanticipated crises 20. Most of the damage is usually done in this phase of a crisis: a. Pre-crisis b. Reputation restoration c. Controlled d. Uncontrolled e. Post-crisis Short-Answer Questions 1. In what ways do ethics risk and opportunity management, as described in this chapter, go beyond the scope of traditional risk management? Risk management is usually narrowly focused on ﬁnancial matters. Even where the stronger enterprise risk management (ERM) is working, ethics risks are treated as reputation risks and are now searched for in a haphazard manner. As described in the text, ethics risk and opportunity management consists of three key phases: Developing a deep understanding of shareholder interests and expectations: This may include issues such as employee relations, environmental impact, corporate citizenship etc. Compare realistic activities to expectations to identify ethics risks and opportunities: What drives reputational factors for the ﬁrm and how to measure it? Create reports by diVerent perspectives: DiYerent perspectives include looking at issues by stakeholder group, by product or service, corporate objective, value or reputation driver. In general, ethics risk as opportunity management diYer from traditional risk management because they are more holistic in nature and place a greater emphasis on multiple issues and multiple metrics – whereas traditional risk management tends to assess issues primarily from a ﬁnancial bottom line. 2. How will the U.S. external auditor’s mindset change in order to discharge the duties contemplated by SAS 99 on ﬁnding fraud? Statement of Auditing Standards (SAS) 99 requires the U.S. external auditor to focus more on ﬁnding fraud. In the past, auditors have reviewed the corporation’s system of internal controls as a basis for their audit opinion, but this review has been focussed on the assessment of material errors in the accounts and ﬁnancial reports. The new focus will broaden this focus to identify transactions or behaviours that may not be material in a ﬁnancial sense, but may indicate patterns of misbehaviour that could aVect the company’s future fortunes. The intent of transactions, and how they are transacted, will become relevant rather than just the outcome. 3. Descriptive commentary about corporate social responsibility performance is sometimes included in annual reports. Is this indicative of good performance, or is it just window dressing? How can the credibility of such commentary be enhanced? Corporate social reporting (CSR) is growing in importance since it is increasingly expected, particularly for larger companies. This means that there is greater vulnerability now for oversights and mistakes, in the form of criticism and loss of the support of stakeholders. Recent failures in these situations include worker conditions at FoxConn factories in China and worker conditions for garment workers in Bangladesh. Referring to a comprehensive framework for CSR will help ensure that nothing is missed and that comparisons to established practice are made. There are a number of comprehensive models and related reports emerging including the Global Reporting Imitative (GRI G3) and Account Ability approaches that could provide a useful template against which a company’s CSR performance can be compared. 4. Describe how ethical risks diYer from ethical opportunities in corporate decision-making Ethical risks in corporate decision-making involve potential harms, such as reputational damage, ﬁnancial loss, or decrease in stakeholders’ trust, arising from unethical practices. In contrast, ethical opportunities focus on creating value through motivated ethical practices, like adopting sustainable operations or nourishing diversity. While managing ethical risks requires compliance and harm prevention, leveraging ethical opportunities involves forward-thinking strategies to enhance trust, drive innovation, and achieve long- term sustainability. Balancing these aspects enables corporations to mitigate potential harms while advancing social responsibility and accountability, nourishing resilience and sustainable growth in a competitive environment. 5. Why should ethical decision making be incorporated into crisis management? Ethical decision making should be incorporated into crisis management because it is at times of crisis that corporations and individuals are most likely to compromise and are most in need of guidance. The decisions taken during crises usually shape the ongoing operations of a corporation to a greater degree than day-to-day decisions, so they are critical. The downside of non-ethical crisis decisions will be more diYicult to counter because they have such a lasting impact on corporate reputation. 6. Do professional accountants have the expertise to audit corporate social performance Reports? The ﬁve most important ethical guidelines for dealing with North American employees are: Creating and enforcing codes or guidance for corporate social responsibility – and in particular, ensuring that these standards are applied to all employees with equal fairness. Maintaining relations with communities and local stakeholders – including charitable donations. Fair and ethical treatment of employees – including progressive staY policies covering family, health, training and retirement issues. Environmental management and performance Ethical sourcing and trading practices. WHITE-COLLAR CRIME QUESTIONS What is the purpose of money laundering, how does it work, and why would people want to do it? Money laundering is the process of taking money that comes from illegal activities, like drug dealing, fraud, or corruption, and making it look like it was earned in a legal way. Criminals do this so they can spend or invest their money without getting caught. Here’s how money laundering works in simple steps: 1. Placement: This is when criminals ﬁrst put the dirty money into the ﬁnancial system. For example, they might deposit large amounts of cash into a bank account or buy things like expensive jewelry or property. The goal is to get the money out of their hands and into the system without drawing attention. 2. Layering: In this stage, the criminals try to make it really hard for anyone to trace where the money came from. They do this by moving the money around through diYerent bank accounts, buying and selling assets, or even sending money to diYerent countries. This confuses any attempts to follow the money and makes it look like normal transactions. 3. Integration: At this ﬁnal step, the money is now “clean.” It looks like it came from legal sources. The criminals can use it to buy things like real estate or start a business. Because the money is now mixed in with legitimate wealth, it’s much harder for law enforcement to ﬁgure out that it was originally from illegal activities. Why Do People Do It? 1. To Hide Their Crimes: Criminals don’t want to get caught with large amounts of cash that came from illegal activities. Money laundering lets them hide where it came from. 2. To Spend or Invest Freely: If the money looks legal, they can use it to buy houses, cars, or even businesses without anyone questioning where it came from. 3. To Keep It Safe: If they don’t launder the money, authorities might ﬁnd it and take it away. Laundering makes the money harder to trace and lets them enjoy it without worrying about getting caught. In short, money laundering helps criminals take the money they made illegally and turn it into something that seems legal, so they can spend or invest it without getting into trouble. How would you characterize Danske Bank’s preparedness to identify and root out money laundering? Danske Bank’s preparedness to identify and ﬁght money laundering has been heavily criticized, especially after a major scandal involving its Estonian branch. Here's a detailed but simpler breakdown of how the bank handled (and failed to handle) money laundering in the past, and what steps it has taken since then: The 2018 Money Laundering Scandal The Problem: Between 2007 and 2015, Danske Bank’s Estonian branch processed about €200 billion in suspicious transactions. These were mostly linked to Russia and other countries in the former Soviet Union. Many of these transactions were believed to involve money laundering. The Failures: o Weak Internal Controls: At the time, the bank did not have strong enough systems in place to detect or stop money laundering. The controls that should have been monitoring suspicious transactions were inadequate. o Ignored Warnings: Employees within the bank and even external auditors raised alarms about unusual transactions. However, these warnings were either ignored or not acted upon properly. The bank continued processing these transactions without fully investigating them. Steps Taken After the Scandal After the scandal became public in 2018, Danske Bank took several important steps to ﬁx its problems and better prevent money laundering in the future: 1. Improved Governance and Compliance: o The bank changed its leadership and revamped its compliance structure. It hired more staY for its anti-money laundering (AML) department and focused on better training for employees to spot suspicious transactions. o The bank introduced stricter internal rules and made sure that its compliance processes were stronger and more eYective. 2. Better Monitoring Systems: o Danske Bank started using more advanced technology to track ﬁnancial transactions. These new systems were designed to spot suspicious activity more eYectively, helping the bank catch possible money laundering attempts. o The bank also began to work more closely with regulators (like the government and ﬁnancial watchdogs) to ensure better reporting and cooperation on money laundering cases. 3. Review of Past Transactions: o The bank conducted a thorough internal investigation to go back and review the €200 billion in transactions that had been processed. It worked with law enforcement to help identify any further issues and understand how the scandal had happened. Continuing Challenges and Criticism Despite these eYorts, Danske Bank still faces criticism for its earlier failures: Reactive Approach: The steps the bank took after the scandal were seen as being too late. The money laundering had been happening for many years before it was discovered, and the bank’s response seemed reactive, rather than proactive. Cultural Issues: There are still concerns that the bank’s overall culture around compliance and risk management was not strong enough, which allowed money laundering to continue for so long without detection. Ongoing Scrutiny: Even after improvements, Danske Bank is under continued scrutiny from regulators, investors, and the public to prove that it has fully cleaned up its act. Conclusion In short, Danske Bank’s preparedness to identify and ﬁght money laundering was poor before the 2018 scandal. The bank’s systems for detecting suspicious activity were weak, and it didn’t act quickly enough to stop the illegal transactions. Since then, the bank has made signiﬁcant eYorts to strengthen its anti-money laundering measures, improve its internal controls, and better monitor ﬁnancial transactions. However, the scandal showed that the bank was too slow to catch the problem, and ongoing challenges still exist in rebuilding trust and ensuring stronger future compliance. How would you characterize the bank’s governance system? Who should have identiﬁed the red ﬂag warnings? Danske Bank’s governance system before the 2018 money laundering scandal can be described as weak and ineVective. There were major issues in the way the bank was managed, especially when it came to preventing and detecting money laundering. Let’s break it down in simpler terms and also see who should have noticed the red ﬂags: Key Problems with Danske Bank’s Governance System 1. Weak Internal Controls and Lack of Oversight: o Inadequate Compliance Measures: Danske Bank didn’t have strong enough systems in place to detect or stop suspicious transactions. The systems that should have monitored the ﬂow of money were not set up well enough to catch the huge volume of potentially illegal transactions, particularly at the Estonian branch. o Lack of Focus on Risk: The bank didn’t treat the risks of money laundering as seriously as it should have. Senior leaders didn’t make risk management a top priority, and the necessary checks and balances weren’t in place to stop illegal activities. 2. Failures at Senior Leadership Level: o Proﬁt Focus Over Compliance: Senior leaders, including the bank's CEO, were more focused on growing the business and making money, rather than making sure the bank followed all the laws. Since the Estonian branch was processing a large number of transactions, many of which should have been ﬂagged, there was a lot of pressure to keep those relationships strong and proﬁtable, which led to overlooking compliance issues. o Lack of Accountability: Senior managers and the board of directors did not take responsibility for the issue. Even when employees raised concerns about suspicious transactions, the leadership did not act quickly or strongly enough to investigate or stop it. This shows a lack of accountability at the top. 3. Poor Communication and Transparency: o Unclear Reporting Channels: Employees who noticed suspicious transactions didn’t always know how to report their concerns, or when they did, their warnings weren’t taken seriously or escalated to the right people. This meant that problems didn’t get the attention they needed. o Ignoring Warnings from External Auditors: Even when external auditors and regulators pointed out problems, the bank’s leadership did not act on these warnings quickly or eYectively. This shows that the governance system failed to respond properly to red ﬂags from outside sources. Who Should Have Identiﬁed the Red Flag Warnings? 1. Senior Management: o Senior management, including the CEO and other top executives, were responsible for overseeing everything at the bank. They should have made sure the bank had strong systems to detect suspicious transactions, especially with the large amounts of money ﬂowing through the Estonian branch. They should have acted immediately when concerns were raised by employees or external parties. o These leaders should have made compliance and anti-money laundering a top priority and ensured that the right resources and systems were in place to spot suspicious transactions. 2. Board of Directors: o The board of directors is supposed to oversee the bank’s overall health and ensure that it operates properly and legally. They should have made sure that the bank had solid anti-money laundering policies in place, and that these policies were being followed. o The board should have been more involved in looking at risks, including money laundering, and should have asked the right questions to make sure the bank was following the law. When they received reports of suspicious activity, they should have taken stronger action to ensure the problem was ﬁxed. 3. Compliance Department and Employees: o The compliance department within the bank was also responsible for monitoring transactions for signs of money laundering. They should have had stronger tools and more training to detect suspicious activity. When they saw red ﬂags, they should have reported them higher up the chain of command. o Employees, particularly in the Estonian branch, should have been trained to recognize suspicious activities and felt empowered to report them. But because the culture wasn’t focused on compliance, many employees either didn’t report the issues or were not listened to when they did. Conclusion: The major problems with Danske Bank’s governance system were the lack of strong oversight, poor communication, and the failure to prioritize anti-money laundering eYorts. While employees did notice red ﬂags, senior management, the board of directors, and the compliance department were ultimately responsible for catching and acting on these warnings. Unfortunately, the focus on proﬁt, lack of accountability, and weak internal controls allowed the money laundering to continue undetected for years. The responsibility for identifying and dealing with these red ﬂags rested with the senior leadership, board of directors, and compliance oVicers, but they failed to take the necessary actions. What policies should the bank put in place to identify and avoid money laundering? To eYectively identify and prevent money laundering, Danske Bank (or any bank) should have strong policies in place that cover all aspects of anti-money laundering (AML) from prevention to detection and response. Here’s a detailed but simpler explanation of the key policies the bank should implement: 1. Clear Anti-Money Laundering (AML) Policy Written AML Policy: The bank should have a clear written policy that explains how it will prevent money laundering. This policy should be available to all employees and should outline what is expected of them when they spot suspicious activity. Dedicated AML Leadership: A senior Chief Compliance OVicer (CCO) should be in charge of AML eYorts. This person will oversee the implementation of the bank’s AML programs and report directly to the board to ensure AML is a priority. 2. Know Your Customer (KYC) Procedures Customer Veriﬁcation (CDD): The bank needs to verify the identity of every customer before allowing them to open accounts or make large transactions. This includes collecting basic personal information like name, address, and date of birth and conﬁrming it through reliable sources (like government IDs). Extra Checks for High-Risk Customers (EDD): For customers who are high-risk—like those from countries with a lot of ﬁnancial crime, or important public ﬁgures (politically exposed persons)—the bank should do more thorough checks. This means digging deeper into how they make money and checking their transactions more carefully. 3. Monitoring Transactions for Suspicious Activity Automated Monitoring Systems: The bank should use advanced software to automatically watch for suspicious transactions, like unusually large transfers, rapid movement of funds, or transactions to high-risk countries. This helps catch potential money laundering activity quickly. Alert Systems: The bank should set speciﬁc limits on certain transactions (like cash deposits over a certain amount) that trigger automatic alerts, prompting the compliance team to check these transactions. Use of Advanced Technology: The bank can use tools like artiﬁcial intelligence (AI) and data analysis to spot complex patterns that could indicate money laundering, such as when money is moved in small amounts to avoid detection. 4. Training Employees on Money Laundering Regular Training for All Employees: Every bank employee should be trained regularly on how to recognize signs of money laundering. They should know the steps to follow if they suspect suspicious activity. This training should be updated often, as money laundering tactics change over time. Training for New Employees: When new employees join the bank, they should receive training on the bank's AML policies and procedures as part of their onboarding. Ongoing Education: Continuous education should be provided to employees so that they stay informed about new trends and laws related to money laundering. 5. Reporting Suspicious Activities Clear Reporting Procedures: The bank should make it easy for employees to report suspicious transactions. There should be a clear, conﬁdential process in place that employees can follow if they notice something unusual. Filing Suspicious Activity Reports (SARs): When a suspicious transaction is identiﬁed, the bank should ﬁle a Suspicious Activity Report (SAR) to the relevant authorities, like ﬁnancial regulators or law enforcement. The bank should have a fast process for investigating and reporting these activities. 6. Risk Assessment for Customers and Transactions Assessing Customer Risk: The bank should assess the risk of each customer. Some customers might be riskier than others, such as those from high-risk countries or industries known for money laundering. These customers should be watched more closely. Ongoing Risk Review: The bank should regularly review customers and their transactions, especially if their behavior changes. For example, if a customer suddenly starts making large transactions, their account should be checked again for potential risks. 7. Internal Audits and Regular Reviews Internal Audits: The bank should conduct regular internal audits to check that the AML policies are being followed correctly. These audits help spot any weaknesses in the system and allow the bank to ﬁx them before problems arise. Independent Reviews: To ensure the AML system is working properly, the bank should also have independent experts review its compliance practices regularly. This helps bring a fresh perspective and ensures that the bank’s policies are up to date and eYective. 8. Collaboration with External Authorities Working with Regulators and Law Enforcement: The bank should cooperate closely with regulators and law enforcement agencies. If a suspicious activity report is ﬁled, the bank must work with these authorities to help with investigations and take any necessary actions to prevent further illegal activity. Summary By implementing these policies, Danske Bank can build a stronger system to detect and prevent money laundering. This includes verifying customer identities, monitoring transactions, training employees, and creating clear processes for reporting suspicious activities. It also means conducting regular audits and working with external authorities to stay ahead of criminals. A strong focus on AML policies and procedures is essential to reduce the risk of money laundering and maintain trust in the ﬁnancial system. Chapter 8 – Subprime Lending Fiasco – Ethics Issues 1. Some observers claim that the U.S. Federal Reserve Board encouraged the housing and credit bubbles by: a. Not regulating subprime mortgages b. Cutting interest rates c. Enforcing mark to market accounting d. (a) and (b) e. (a) and (c) 2. According to former Federal Reserve Chairman Alan Greenspan, the Fed became concerned about subprime lending in 2000, however: a. The global demand for mortgage-backed security ended in 2005 b. The quality of mortgage products began to deteriorate in 2005 c. The global demand for mortgage-backed security started in 2003 d. The quality of mortgage products began to deteriorate in 2003 e. The global demand for mortgage-backed security ended in 2008 3. The 1933 Glass-Steagall Act precluded banks from: a. Subprime lending b. Selling insurance c. Underwriting insurance generating more than 10% of total banking income d. Underwriting securities generating more than 10% of total banking income e. Underwriting any securities 4. Which of the following is NOT an example of aggressive lending practices contributing to the subprime crisis? a. Mortgagors were not required to make any down-payment at the inception of the loan b. Loans were given to people with poor credit histories c. Loans were given to people with no income d. A borrower could get a second mortgage and use it as down-payment e. None of the above 5. In simple terms, a mortgage-backed security is: a. A portfolio of mortgages sold to investors through publicly issued bonds b. A contract that transfers ownership of a lender’s mortgages receivable c. A contract that transfers the risk of non-collection from mortgage originators to other investors d. All of the above e. (a) and (c) only 6. In simple terms, the securitization process is: a. A way to sell Structured Investment Vehicles (SIVs) b. A way to sell accounts receivable by mortgage lenders to public investors c. A way to create high-yield investments with little risk d. All of the above e. (a) and (c) only securitization is a way for mortgage lenders (or any other company with accounts receivable) to sell their accounts receivable to public investors, but it’s a bit more structured. In the case of mortgage lenders, the accounts receivable are the payments owed on the mortgages. 7. Mortgage-backed securities lost their value when: a. The underlying assets lost their value b. Borrowers (the mortgagees) walked away without real obligation to repay c. Mortgage originators went bankrupt d. (a) and (b) e. (b) and (c) “the main vehicle involved in the ﬁnancial and economic train wreck was the securitization and resale of U.S. mortgage-backed securities to investors, which lost value when house prices plummeted and home owners walked away without obligation to repay the mortgage loans.” 8. These entities worked as second party consolidators, purchasing loans and reselling them to investors: a. Federal National Mortgage Association (Fannie Mae) and Federal Home Loan Mortgage Corporation (Freddie Mac) b. Structured Investment Vehicles (SIVs) c. Credit rating agencies d. Investment banks e. All of the above 9. Rating agencies were exposed to a conﬂict of interest because: a. Credit rating agencies were rating securities and investing in those securities b. Credit rating agencies used ratings to sell securities c. Clients of the credit rating agencies used ratings to sell securities d. Investors do not want rating downgrades e. Credit rating agencies were paid by the ﬁrms who created the securities being rated 10. These regulators were aware of the problem and tried to blow the whistle in 2003: a. Security and Exchange Commission and Federal Reserve Board b. Iowa and North Carolina State Attorneys c. OYice of the Comptroller of the currency and OYice of Thrift Supervision d. Federal banking regulators e. None of the above “It is also noteworthy that several “watchdog” regulators tried to blow the whistle and were thwarted. According to Businessweek, in April 2003 the attorneys general for North Carolina and Iowa went to Washington to warn oYicials about “predatory real estate ﬁnancing” and seek help in limiting the practices involved.” 11. A fundamental problem with Goldman Sachs’ GSAMP Trust was that: a. Loans were given to people with poor credit histories b. Homeowners’ equity in the securitized mortgages was less than 1 percent on average c. Loans were given to people with no income d. 58 percent of the securitized loans had little or no documentation e. All of the above 12. A fundamental problem with Goldman Sachs’ GSAMP Trust, impeding Goldman’s ability to foreclose on defaulted mortgages was that: a. Homeowners’ equity in the securitized mortgages was less than 1 percent b. 40 percent of the securitized loans had little or no documentation c. Investors relied on Goldman Sachs d. The underlying assets were second mortgages e. The mortgages were allocated into thirteen tranches with diYerent risk characteristics 13. Goldman Sachs’ GSAMP Trust was able to create AAA rated securities by: a. Separating the mortgage portfolio into tranches and assigning the tranches to share risks of default equally. b. Not disclosing the risks clearly c. Guaranteeing or protecting some tranches d. Separating the mortgage portfolio into tranches and designating the A-1, A-2 and A-3 tranches last in order, after the M-1 to M-7 and B-1 to B-3 tranches, to suYer losses if a default occurred e. All of the above 14. Investors relied on the judgment of credit rating agencies because: a. Credit rating agencies are supposed to be the experts in evaluating credit risk b. Information directly available to investors on mortgage pools was insuYicient c. Credit rating agencies are supposed to perform a thorough due diligence before rating a given security d. All of the above e. (a) and (c) 15. Early in 2008, mark-to-market accounting provisions caused the banks to: a. Revalue their portfolio downwards b. Be in jeopardy of falling below the regulatory capital requirements c. Restrict new loans d. All of the above e. (a) and (c) only 16. Late in 2008, the International Accounting Standards Board allowed ﬁrms to: a. Reclassify devaluated ﬁnancial assets delaying recognition of losses b. Estimate the value of the portfolio if there is no ready market for derivative portfolio c. Reduce their capital requirements d. Accelerate the recognition of losses through mark-to-market accounting e. None of the above 17. The 1999 Gramm-Leach-Billey Act allowed banks to: a. Engage in subprime lending b. Sell insurance c. Become more involved in investment bank activities d. Underwrite government bonds e. Choose between commercial and investment bank activities 18. Mark-to market accounting is usually related to all of the following items, EXCEPT: a. Derivatives and ﬁnancial instruments b. Firm’s long term cash ﬂows c. Firm’s short term taxes payable d. Firm’s short term cash ﬂows e. Immediate recognition of unrealized gains and losses 19. Mark-to-market accounting is incorrectly characterized as: a. Relevant for management compensation purposes b. Relevant for valuation purposes c. Relevant to investors d. Sometimes misleading e. Responsible for the subprime lending ﬁasco 20. An issue with mark-to-market accounting when there is a highly depressed market is that: a. Depressed values could be only temporary, portfolios are likely to re-gain value, and thus current unrealized losses are overstated b. Depressed values could be not only temporary, portfolios are likely to re-gain value, and thus current losses are overstated c. Depressed values could be only temporary, portfolios are not likely to re-gain value, and thus current losses are understated d. Depressed values could be only temporary, portfolios are not likely to re-gain value, and thus current non-realized gains are overstated e. Depressed values could be only temporary, portfolios are likely to re-gain value, and thus current non-realized losses are understated Short-Answer Questions 1. How the following would enhance our understanding of the causes of the subprime mortgage crisis? a) OTD b) CDS c) CDO a) The OTD model, in which the founder of a mortgage sells to various foreign companies, was a popular form of the mortgage before the onset of the subprime mortgage crisis. It is evident that the banks that have taken a leading role in the OTD market during the pre-crisis crisis have established very bad quality loans. b) Strong analysis shows that the expansion of credit default swaps (CDSs) has stimulated a high demand for subprime loans that have become ineYective due to CDS providing a way for market participants, especially developers and traders, to limit their exposure to risky loans. Therefore, the expansion of CDS has exacerbated the disadvantages of subprime mortgages. c) The strengths of the CDO are also its weaknesses. By combining the risks arising from debt instruments, CDOs make it possible to recycle the risky debt into AAA-level bonds that are considered safe to invest in retirement and meet the requirements of the deposit. This helped to promote subprime lending, and sometimes subpar, mortgages to borrowers who may not be able to properly repay their payments. 2. To what extend the subprime mortgage crisis was caused by the changes in incentive of banks? The subprime mortgage crisis was heavily inﬂuenced by changes in the incentives of banks. Here's a summary of how these incentives contributed: 1. Short-Term Proﬁt Focus: Banks were motivated to issue as many mortgages as possible, including high-risk subprime loans, to earn origination fees. They were incentivized to make loans quickly, often without properly assessing the borrower's ability to repay. 2. Securitization: Banks bundled the mortgages into securities (like MBS and CDOs) and sold them to investors. This allowed banks to oYload the risk of default, earning fees while avoiding the long-term responsibility for the loans they issued. 3. Risky Loan Products: Banks oYered products like adjustable-rate mortgages to attract more borrowers, even though these loans often became unaYordable later. They were willing to take on this risk because they could sell the loans to investors. 4. Overconﬁdence: Banks believed that rising home prices would continue indeﬁnitely, so they underestimated the risks involved in lending to subprime borrowers. They also overestimated the safety of the ﬁnancial products they were creating and trading. 5. Weak Regulation: With less oversight, banks faced fewer restrictions on risky lending and investment practices, which encouraged more aggressive behavior. 6. Compensation Structures: Bank employees were often rewarded based on the volume of loans or securities sold, which incentivized them to take on more risk, focusing on short- term proﬁts rather than long-term stability. 3. Examine the ethical considerations surrounding subprime lending practices that targeted low income and minority homebuyers. Discuss the balance between expanding home ownership opportunities and protecting consumers from predatory ﬁnancial products. How could ﬁnancial institutions better align their lending practices with ethical standards? Subprime lending: Lending to borrowers with lower credit scores and higher risk of default. Predatory Lending: Unfair, deceptive, or abusive lending practices that exploit borrowers. Homeownership Opportunities: Expanding access to homeownership for low income and minority communities Financial institutions: Banks, credit unions, and other lending organizations Ethical Standards: Guidelines for conduct that distinguish right from wrong Ethical Considerations in Subprime Lending Subprime lending targets low-income and minority homebuyers who may not qualify for traditional prime loans. While subprime lending can expand homeownership opportunities, it also carries risks of predatory lending practices. Expanding Homeownership Opportunities Financial institutions can help expand homeownership opportunities by oYering subprime loans to borrowers who may not meet traditional credit standards. However, this approach requires careful consideration to ensure that borrowers are not exploited or placed in unsustainable ﬁnancial situations. Financial institutions can better align their lending practices with ethical standards by focusing on the following: 1. Responsible Lending: Lenders should ensure they assess borrowers' ability to repay loans, avoiding high-risk loans to individuals who are unlikely to aYord them. This includes transparent credit assessments and oYering loans with fair terms. 2. Transparency: Financial institutions should be clear about the terms and risks of loans, ensuring that borrowers fully understand their ﬁnancial commitments, including interest rates, fees, and payment schedules. 3. Ethical Product Design: Lenders should design loan products that prioritize the ﬁnancial well-being of borrowers, avoiding exploitative features like excessive fees or predatory interest rates, especially in subprime markets. 4. Strong Risk Management: Financial institutions should be more cautious in taking on excessive risk, balancing proﬁtability with long-term stability, and ensuring that they do not contribute to systemic ﬁnancial instability. 5. Accountability and Oversight: Institutions should maintain strong internal controls and ethical guidelines, with regular audits and compliance checks. They should also ensure their employees are properly trained in ethical decision-making and the potential consequences of irresponsible lending. 6. Aligning Compensation: Compensation structures for employees should be based on long-term customer satisfaction and ﬁnancial stability rather than just short-term sales targets or loan volume. 7. Regulatory Compliance: Financial institutions must adhere to regulations designed to protect consumers and the broader ﬁnancial system, supporting fair lending practices and ensuring the protection of vulnerable borrowers. By adopting these practices, ﬁnancial institutions can help create a more ethical, transparent, and sustainable lending environment, reducing the likelihood of future ﬁnancial crises. i) What cause the housing bubble? ii) Did the government or the ﬁnancial market have any type of warning that there could be a crisis coming? i) The housing bubble was caused by easy access to credit, including low interest rates and relaxed lending standards, which made mortgages widely available. Speculation on ever-rising home prices led to excessive demand as buyers treated homes as investments. Financial institutions encouraged risky behaviors through subprime lending and securitization. A lack of regulation and oversight allowed risky practices to go unchecked, while overconﬁdence in the housing market fueled unsustainable price increases. ii) There were clear warnings of the ﬁnancial crisis, including rising subprime mortgage defaults, slowing housing prices, overleveraged ﬁnancial institutions, inﬂated credit ratings, regulatory concerns, and economic imbalances. Despite these red ﬂags, overconﬁdence, self-approval, and political pressures to promote homeownership led to inaction, allowing the crisis to unfold. How could Banks acted ethically with the subprime lending ﬁasco? Banks could have acted ethically during the subprime lending crisis by: 1. Avoiding Predatory Practices: Ensuring borrowers could aYord loans and avoiding risky products with hidden terms. 2. Prioritizing Transparency: Clearly communicating loan risks and educating borrowers. 3. Strengthening Oversight: Enforcing ethical guidelines and monitoring compliance to prevent irresponsible lending. 4. Aligning Incentives: Rewarding quality lending practices over loan volume. 5. Honest Securitization: Only securitizing high-quality loans and disclosing risks to investors. 6. Supporting Borrowers: OYering loan modiﬁcations or reﬁnancing to struggling borrowers. 7. Regulatory Compliance: Proactively adopting policies exceeding minimum legal standards. To what extend the subprime mortgage crisis was caused by the changes in incentive of banks? The subprime mortgage crisis was largely driven by changes in bank incentives, particularly the shift from a traditional model of holding loans to the originate-to-distribute model. Banks focused on increasing loan volume, regardless of quality, since they sold loans quickly as securities and did not bear the default risk. This led to relaxed underwriting standards, with banks approving high-risk subprime loans. Additionally, conﬂicts of interest emerged with rating agencies inﬂating the risk levels of mortgage-backed securities, misleading investors. As a result, excessive risk- taking became widespread, contributing to the collapse of the housing market and the broader ﬁnancial crisis. How would the unreasonably low premium of CDS for subprime related loans aYect the property market in the US before the subprime mortgage crisis? The unreasonably low premiums on Credit Default Swaps (CDS) for subprime-related loans led to a false sense of security about the risk of mortgage defaults. This encouraged excessive investment in mortgage-backed securities (MBS) tied to risky subprime loans, as both investors and banks underestimated the true risk. The resulting increased demand for housing and MBS drove up property prices, fueling the housing bubble. Banks were also more willing to issue high-risk loans, further inﬂating the market. This contributed to the eventual collapse when the underlying risks were realized. SUMMARIZATION OF READINGS CHAPTER 4 Critical dialogical accountability: From accounting-based accountability to accountability-based accounting. The article discusses the shift from traditional accounting-based accountability to a more dynamic and inclusive approach called accountability-based accounting. While increased disclosure through accounting and reporting has been seen as a solution to improve social and environmental accountability, research suggests that it has not led to meaningful changes in accountability. This is largely because current accounting systems, which prioritize the needs of ﬁnancial capital providers (e.g., investors), fail to address the diverse needs of other stakeholders or constituencies. To address this issue, the article proposes critical dialogic accountability, a model rooted in agonistic pluralism (recognizing conﬂicting interests) and dialogic accounting. This model suggests that accountability systems should be designed to meet the needs of various groups aYected by an organization's actions, with the accountability process driven by dialogue and mutual understanding, rather than just one-sided reporting. Accounting systems would, therefore, support these broader accountability systems by providing information relevant to the evaluation criteria speciﬁed by these diverse constituencies. The authors argue that critical dialogic accountability would foster more meaningful and multidimensional accountability in pluralistic societies, moving beyond the limitations of traditional accounting-based frameworks. They propose a shift from focusing solely on ﬁnancial metrics to designing accounting systems that reﬂect the ethical, social, and environmental concerns of all stakeholders involved. Is accounting for sustainability actually accounting for sustainability...and how would we know? The paper explores the complexities and contradictions involved in accounting for sustainability, speciﬁcally at the organizational level. It critiques the dominant practices of sustainability reporting, highlighting that these often fail to truly address sustainability and are instead constructed narratives that suit organizational interests. The central argument is that sustainability, particularly in an ecological and societal sense, is a complex and systems-based concept that cannot be fully captured by traditional organizational accounting practices. The author raises questions about the feasibility of accounting for sustainability at the organizational level, pointing out that sustainability often cannot be meaningfully deﬁned within the boundaries of a single organization due to its global and systemic nature. This disconnect challenges the realism and procedural methods of conventional accounting, suggesting that a more nuanced approach is needed. This would require understanding sustainability through multiple, conditional narratives, avoiding simplistic, totalizing accounts. The paper also delves into the philosophical and ontological challenges posed by sustainability. It examines how sustainability intersects with modernity, exploring the moral, societal, and ecological implications. This critique leads to a broader reﬂection on whether sustainability can be genuinely understood and addressed through the lens of modern accounting. Ultimately, the paper suggests that a more critical and reﬂective approach is required in both academic and organizational discussions about sustainability and calls for a deeper examination of the concepts and practices that currently dominate the ﬁeld of sustainability accounting. CHAPTER 5 The article "Corporate Social Responsibility and Accountability" by Gray, Adams, and Owen (2014) is a foundational chapter in Accountability, Social Responsibility and Sustainability: Accounting for Society and the Environment. It explores the evolving role of corporate social responsibility (CSR) in the context of accountability and sustainability, emphasizing how businesses must account for their impacts on society and the environment. The authors critically assess the traditional notion of CSR and argue that it must go beyond mere compliance or philanthropic activities to integrate with the broader issues of social justice, environmental sustainability, and ethical governance. They challenge the prevailing corporate focus on proﬁt maximization, calling for greater accountability in business operations, and highlight the role of accounting in both measuring and communicating corporate responsibility to the public. Gray, Adams, and Owen also discuss the limitations of conventional CSR reporting practices, which often lack transparency and fail to drive real change. They advocate for more robust frameworks that link CSR eYorts with genuine societal impact, including better stakeholder engagement, more comprehensive reporting standards, and more meaningful corporate governance reforms. In summary, the article provides an in-depth critique of CSR in its current form and proposes ways to ensure that businesses are held accountable for their contributions to sustainability, ultimately aiming to bridge the gap between corporate actions and societal expectations. The article "Description, Development, and Explanation of Social, Environmental, and Sustainability Accounting and Reporting" by Gray, Adams, and Owen (2014), featured in the book Accountability, Social Responsibility, and Sustainability: Accounting for Society and the Environment, explores the evolution and theoretical underpinnings of social, environmental, and sustainability accounting and reporting (SESRAR). The authors provide a comprehensive overview of how these accounting practices have developed over time and their role in corporate accountability. Key points of the article include: 1. Historical Development: The authors trace the growth of SESRAR from its origins in corporate social responsibility (CSR) and environmental accounting. They note the increasing pressure on organizations to account for their impact on society and the environment, and how this pressure has led to more formalized reporting practices. 2. Theoretical Frameworks: Gray, Adams, and Owen discuss the theoretical foundations that inform SESRAR, including critical accounting theory, stakeholder theory, and theories of justice. They argue that these frameworks help guide the understanding and development of reporting practices that go beyond ﬁnancial performance to include social and environmental impacts. 3. Purpose and Function: The article explores the functions of SESRAR, particularly how it serves to communicate an organization's non-ﬁnancial impacts to stakeholders, including the public, investors, and regulatory bodies. It emphasizes that SESRAR is not merely a technical exercise but a mechanism for promoting corporate transparency, responsibility, and ethical behavior. 4. Challenges and Criticisms: The authors also critically assess the limitations of current SESRAR practices, noting issues such as lack of standardization, inconsistencies in reporting, and the often superﬁcial nature of some reports. They argue for more rigorous and comprehensive standards that truly reﬂect the sustainability eYorts of organizations. 5. Future Directions: Finally, the article discusses the future of SESRAR, urging for greater integration with mainstream ﬁnancial reporting and more proactive engagement with stakeholders. They stress the need for accounting systems that are more aligned with sustainable development goals and the realities of climate change, resource depletion, and social justice. Overall, the article highlights the signiﬁcant strides made in SESRAR while also identifying areas where further development is needed to ensure that it can eYectively drive accountability and sustainability in the corporate sector. CHAPTER 6 In The Audit Society: Rituals of Veriﬁcation (1997), Michael Power examines the rise and pervasiveness of auditing practices in modern societies, focusing on their role in managing risk, accountability, and organizational legitimacy. Power argues that auditing, once conﬁned to ﬁnancial assessments, has become a widespread ritual of veriﬁcation that extends beyond traditional domains to include areas like public policy, healthcare, education, and environmental management. Power analyzes the shift from trust-based systems to audit-driven systems of accountability, emphas

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