CIMA Study Notes Q&A for Ethics article (P3) - Strategy Level- Risk and Control Strategy. Before attempting this Q&A please read the article by Martin Corboy in June 2008 Study Notes. Example- Past Question As an example of how to approach an ethics question, using the 5 step approach, let’s look at a past ethics question. This question came up on the old Organisational Management and Development paper, (which has largely been incorporated into the current strategic level Papers 3 and 6 and the Organisational Management and Information Systems Paper 4). The model solution is my own and is a mini-answer plan (i.e. points for discussion are raised but are not as fully developed as they would be in a full written answer). Ethical considerations You were appointed Financial Controller of a firm of builders' merchants almost a year ago, with the prospect of becoming Finance Director if you performed well. The problem customer An old-established customer, a contractor, X Ltd, which has expanded to take on a very large contract, is causing problems with delayed payments. X Ltd is a family firm, largely owned by its Managing Director, Y. Following a discussion at a management meeting, the Sales Director and a member of your staff visited the customer with instructions to “try and resolve the matter of delayed payments”. The meeting At the meeting, the Sales Director took the lead, having known Y for many years. Y provided the last annual accounts and the latest management accounts and contract accounts. This one large contract that X Ltd had undertaken represents some 70% of its current activity. If all, or almost all, suppliers allow additional credit for material, and X Ltd uses its very limited remaining bank facilities to pay the workforce, Y thinks the company should be able to complete the next stage of the contract, get the architect to certify the work has been completed, and obtain a progress payment. This would enable X Ltd to pay suppliers, get more materials, and finish the contract. However, Y considers the company will make a significant loss on the contract and will only be able to trade on a much reduced scale thereafter. The Sales Director suggested, and Y agreed, an arrangement by which Y would make a payment from personal funds, against which your company would release materials to X Ltd. When it receives the progress payment X Ltd will pay your company from its company's funds and reduce the amount owing to well within normal terms. Your company will then repay Y the personal funds he has paid. It was agreed that this arrangement should be discussed and agreed with your Managing Director in the morning. After the meeting On his return, the Sales Director commented that this sort of arrangement was probably the only way of getting any money back - if X Ltd went into liquidation nothing would be recovered. Later you received a telephone message that Z, the Finance Director of another firm of builders' merchants and whom you know through local CIMA branch meetings, has asked you to telephone urgently regarding the credit status of X Ltd. Required Write a report to your Managing Director, evaluating the ethical considerations and recommending the action to be taken on the account and on the telephone message. (25 marks) (2000 words to this point) Martin Corboy BCL, AITI, FCMA, MBA Martin Corboy is a former director of BPP Ireland and is currently a freelance tutor NOTE: Visit the new ethics area on the CIMA website (www.cimaglobal.com/ethics) for a summary of CIMA's code of ethics, new guidance on how to tackle an ethical dilemma and an E-library of ethics resources. Suggested solution Your report would need to consider not just the financial considerations of the proposal but also the ethical issues involved, like confidentiality-can we tell the other supplier what we know about X Ltd’s problems? To apply the CIMA code, you would have to identify the principles involved like integrity, confidentiality and objectivity -are you being objective- remember you are looking for a promotion here! REPORT To: The Managing Director From: The Financial Controller Date: xx/xx/xx Re: Issues arising from meeting with X Ltd Terms of Reference Executive Summary Main body of report Step 1-Analyse the situation Get to grips quickly with the key issues facing the company. X Ltd, who are in trading difficulties, want us to continue to supply them on credit. To secure our agreement, the directors are willing to offer a personal payment as security, which would be repaid once the company is able to clear its debt or at least, get its credit limit back within normal commercial terms. The Sales Director is keen to give the proposal the OK (not surprising given that he made the proposal!). Step 2-Identify the ethical issues From the CIMA Code, 3 key principles will have to be considered. 1) Integrity –are we being honest with all stakeholders if we accept the proposed personal payment? If we were to refuse further credit, other suppliers to X Ltd would take this as a signal that X Ltd were in trouble and would take steps to protect their own position. However, if we did accept the payment and supply more materials on credit, there is a risk that other suppliers might take that as a signal that all was well with X Ltd and could lose out as a result. Remember, integrity means being party to the supply of false or misleading information. Would continuing to supply on the basis of this irregular payment of funds be seen as misleading other parties? The mirror test, mentioned above, could be used here. How would we feel if our decision to continue to supply, based on this personal payment of funds, became public knowledge? 2) Objectivity -we obviously want to get paid. Are we being objective in accepting this payment? Is the Sales Director being objective in saying we should accept it-he admits that he has known Y for many years. 3) Confidentiality -can we disclose the content of our meeting with X Ltd to the Financial Director of the other supplier who is anxious to talk to us about X Ltd? Step 3-Identify the Options These are 1) Accept the payment as proposed 2) Reject it but supply anyway and hope that X Ltd can trade out of their difficulties 3) Reject it, refuse further credit and pursue the existing debt Step 4-Analyse the consequences of these options 1) Accept proposal If we accept the payment, this puts our existing debt at risk, not to mention the further credit now being sought. It seems unlikely that X Ltd can survive. They have 70% of their current trading activity tied up on one contract which they admit, even if they can complete it, they are going to make a loss on it. (What is the status of this personal payment? If we do decide to accept it, we would need to seek legal advice as to whether the director of X Ltd could sue for its return if his company did go insolvent, as this payment is not a normal commercial business transaction). Why doesn’t the director Y invest his personal payment into the company by way of a director’s loan and then seek to trade normally? Is it because he feels that the company could go out of business in the near future and that any such director’s loans might never be recovered? If Y isn’t willing to loan funds to his own company, why should we? If we go with the proposal, other suppliers may see that as a signal that X Ltd is OK financially and they will continue to trade with them. The golden rule from Kant could be considered here, how would we feel if we discovered that another supplier had continued to supply X Ltd, based on a personal payment like that proposed and we lost out as a consequence of continuing to supply? 2 Reject but supply This really is not an option. It increases our debt and based on what Y said at the meeting, the prospects of X Ltd surviving is unlikely. It still sends out a message to other suppliers that it is OK to trade with X Ltd when we know that is not the case. We could suggest that if X Ltd gets an agreement from all other suppliers to supply, based on what Y told us, that we would be willing to reconsider whether we could offer further credit at this time. Confidentiality is the issue here-we cannot tell the other supplier what we discussed with Y. We can and should, however, respond by saying that we have had a meeting with X Ltd regarding their account. We can’t really say more than that. 3) Reject and sue This might also increase our debt as we will incur legal costs without any realistic chance of recovery. X Ltd is given no chance to try to trade out of their difficulties, however remote that prospect might be. We might also be seen as too quick to sue. The threat of forcing X Ltd to face the prospect of liquidation might mean that we get paid before the remaining creditors. However, based on what Y said at the meeting, it is unlikely that X Ltd could pay now, the company would be liquidated and our debt would be written off. Step 5-Recommendations It is fairly clear that we should not accept the proposal as it is not a normal business transaction. Whilst I cannot state, without legal advice, as to whether the proposal breaks any laws, it does on the face of it appear to mislead other stakeholders as to the financial status of X Ltd. Our objectivity could also be questioned as we would accepting the proposal simply as a means of getting paid ahead of all other creditors affected by X Ltd’s current position. So the choice is either option 2 or option 3. There seems little point in suing for recovery of our debt at this stage. We simply add to our costs- neither does there seem much merit in continuing to supply. The best option would appear to be to reject the proposal and refuse further credit and see what happens. If the company goes into liquidation, we can seek repayment along with all other creditors. We need to respond to the query from the other supplier along the lines suggested i.e. advise that we had a meeting but don’t divulge the content of that meeting. On the wider front, we need to investigate how the current situation was allowed to develop. We should have been aware of X Ltd’s difficulties well before now. Tighter credit control should have been in place. Our control systems for determining customer credit limits and monitoring slow payments or the financial difficulties of our customers need strengthening. Signed ------------------------ Financial Controller Summary An answer based on the above framework would have covered most of the angles and would merit a good score. Finally, always try to adopt the concept of fairness in making ethical decisions. One of the key principles of Corporate Governance codes around the world is the idea of being fair to all stakeholders when making decisions.
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