Ethical Leadership and Decision-Making in Accounting - SMC ...

Copyright ©2017 McGraw-Hill Education. All rights reserved. No reproduction or distribution without the prior written consent of McGraw-Hill Education.

Ethical Leadership and Decision-Making in

Accounting Chapter 8


Ethical Reflection

• Andersen’s failures in the audit of Enron includes • Uncritically relying on management’s representations • Failing to exercise due care and professional skepticism • Getting too close to the client and allowing its judgment to be

compromised by its relationships and lucrative consulting services • Lacking independence from the client • Being careless in its approach to the audit • Failing in ethical leadership

• Leaders who lead ethically are role models, communicating the importance of ethical standards and holding their employees accountable to those standards

• Reflect on the following: • What are the characteristics of a moral manager? • How can moral managers create an ethical culture built on values-

based leadership? • What is the role of moral intensity in ethical decision making? • How does ethical leadership influence the judgments and decisions

made by accounting professionals?


What is Ethical Leadership?

• The Ethical Leader • Understands that positive relationships are built on respect, openness, and trust • Portrays the underlying principles of integrity, honesty, fairness, justice,

responsibility, accountability, and empathy • Aligns external actions with one’s internal values • Strives to honor and respect others in the organizations • Seeks to empower others to achieve success by focusing on right action • Leads by example • Has a vision of the future that entails some notion of the good

• Lawton and Paez framework for ethical leadership is built on • Who are leaders and what are their characteristics? • How do ethical leaders do what they do? • Why do leaders do as they do and what are the outcomes of ethical leadership? • Virtues cannot be separated from the context in which they are practiced • Different virtues will be appropriate to the different roles that leaders play

• Ethical leadership entails building an environment where those in the organization feel comfortable in talking to others to share perspectives of the importance of finding an ethical solution to problems


Ethical Leadership in Accounting Firms

• Auditors need to be virtuous and exhibit the characteristics of honesty, integrity, objectivity, and professional skepticism

• Those traits are essential in auditors’ relations with clients because they enable professional judgment and ethical decision making

• They also facilitate the kind of probing audits and targeted inquiries of management that should be conducted selflessly and in the public interest, not that of the client or self-interest

• Partners must exhibit moral imagination through ethical perception of what it means to be ethical, professional, and successful

• In dealing with conflicts in relationships with clients, auditors should demonstrate courage and moral imagination

• Ethical judgment and ethical decision-making skills become critically important in the audit: evaluate estimates and judgments made by management


Moral Person and Moral Manager

• Part of the role of leadership includes creating the “moral organization,” promoting development in others, and institutionalizing values within the organization’s culture

• Trevino et al. discuss building ethical leadership through two pillars of character: moral person and moral manager

• A moral manager creates a strong ethics message that gets employees’ attention and influences their thoughts and behaviors; cultivating the ethics and values and infuse the organization with principles that will guide the actions of all employees

• A moral person forms the basis of a reputation of ethical leadership and challenges the leader to convey that substance to others in the organization

• People think of an ethical leader as having certain traits, engaging in certain behaviors, and making decisions based on ethical principles

• Building trust is a critical component of moral managers and is demonstrated through consistency, credibility, predictability, openness, respect, and fair treatment of others

• Moral leaders strive not only to do the right thing but do so for the right reason and communicate to others that the right thing is going to happen at all times

• Building a reputation for ethical leadership means to enable ethics and values to shine through the fog of beating the competition and meeting financial projections


Authentic Leaders

• Authentic leaders are • Focused on building long-term shareholder value, not in just

beating quarterly estimates • Individuals who are deeply aware of how they think and

behave and are perceived by others as being aware of their own and others’ values/moral perspectives, knowledge, and strengths; aware of the context in which they operate; and confident, optimistic, resilient, courageous, and of high moral character

• Acknowledging the ethical responsibilities of their roles, authentic leaders can recognize and evaluate ethical issues and take moral actions that are thoroughly grounded in their beliefs and values

• Followers are • Likely to emulate the example of authentic leaders who set a

high ethical standard • Empowered to make ethical choices on their own without the

input of the leader • Becoming moral agents of the organization


Transformational Leadership

• Transformational leadership is defined as a leadership approach that causes change in individuals and social systems

• It creates valuable and positive change in followers with the end goal of developing followers into leaders

• It enhances the motivation, morale, and performance of followers through a variety of mechanisms and includes

• Connecting the follower’s sense of identity and self to the mission and the collective identity of the organization

• Being a role model for followers that inspires them • Challenging followers to take greater ownership for their work • Understanding the strengths and weaknesses of followers

• Transformational leadership is more effective than transactional leadership, where the appeal is to more selfish concerns

• Transformational leaders raise the bar by appealing to higher ideals and values of followers


Followership and leadership

• The flip side of leadership is followership • Introduced by Hollander and Webb, the term followership is

characterized as an independent relationship in which the leader’s perceived legitimacy can affect the degree to which followers allow themselves to be influenced

• Followership, servant leaders (next slide), and authenticity all share one common characteristic: Leader ethicality

• De Cremer and Tenbrunsel define leader ethicality as the intention to demonstrate normatively appropriate conduct and to create an environment within which others will be encouraged to act ethically and discouraged from acting unethically

• The social perception of a leader’s legitimacy may play an important role in determining how the leader’s morally relevant actions are interpreted and the influence leaders have on followers

• Leadership and followership are reciprocal relationships with one influencing the other


Servant Leadership

• Servant leadership advocates a perspective that leaders have a responsibility to serve their followers by helping them achieve and improve by modeling leaders’ ethical values, attitudes, and behaviors that influence organization outcomes through the fulfillment of followers’ needs

• Leaders should put the needs of the followers before their own needs

• Servant leaders use collaboration and persuasion to influence followers rather than coercion and control; they understand their stewardship role and are accountable for their actions


Social Learning Theory

• Social learning theory holds that individuals look to role models in the work context, and model or imitate their behavior

• Modeling is acknowledged to be one of the most powerful means for transmitting values, attitudes, and behaviors

• Leaders who engage in unethical behaviors create a context supporting what Kemper calls “parallel deviance,” meaning that employees observe and are likely to imitate the inappropriate conduct, especially if leaders are rewarded for the unethical conduct

• The social learning approach argues that because of leaders’ authority role and the power to reward and punish, employees will pay attention and mimic leaders’ behavior, and they will do what is rewarded and avoid doing what is punished in the organization


Moral Intensity

• The moral intensity of issues in an organization play a role in whether whistleblowing will occur

• The predictor of whistleblowing and that of empathy corresponds directly to the two moral intensity dimensions of seriousness of issue and proximity

• An ethical leader is more attuned to the magnitude of consequences and can use that in the pre-action decision stage to mitigate any bystander effect

• Taylor and Curtis found that auditors were more likely to report an observed violation and to persevere when moral intensity is high

• Moral awareness and moral leadership go hand in hand • A greater degree of harm or benefit results in an increase in

moral intensity because more shareholders are at risk and the potential negative effects of unethical actions are more serious

• Moral intensity is like materiality issues in accounting


The Role of Moral Intensity, Organizational Culture, and Ethical Leadership in Accounting

• In an interview with Fraud Magazine, Sherron Watkins characterizes the leadership of Ken Lay at Enron as

• Setting the tone • Once you got to the executive suite, the company’s

assets were there for you to move around for yourself or family

• Watkins said that CEO “must have pristine ethics if there is any hope of ethical behavior from the employees”

• Watkins also suggested that CEOs must have a zero tolerance for ethically challenged employees, otherwise the internal control system will eventually be worthless


Ethical leadership and Audit Firms

• The promotion of responsible leadership is seen within audit firms as a way to improve audit quality

• Responsible leadership is a critical component of setting the proper tone and encouraging members of the organization to ask probing questions when management’s representations are unclear or unsubstantiated

• Authentic partner leaders gain the confidence of audit staff and managers and create a foundation for ethical decision making

• Ponemon found that leaders of accounting firms set the tone of their organizations, promoting those whose personal attributes more closely reflected the leaders’ perceptions and moral reasoning development

• Ponemon hypothesized a correlation between the organizational culture created by leaders of the accounting firms and the subordinates’ personal characteristics and decision-making styles


Research on Leadership and Audit Firms

• Shaub et al. found mixed evidence of “the ability of an accounting firm to either change an auditor’s ethical orientation to match its own, or to provide an environment that closely matches an auditor’s norms”

• The selection-socialization bias causes a firm to hire and promote individuals who fit into the prevailing firm culture and causes individuals unable to fit into that culture to leave

• Douglas et al. studied the influence of ethical orientation and ethical judgment in situations of high and low moral intensity and found that perceived organizational culture is indirectly related to ethical judgments, as ethical culture affects individual values and idealism and idealism affects judgments

• Morris studied the influence of authentic leadership and ethical firm culture on auditor behavior

• Found that a typical senior more frequently under-reports time than prematurely signs off on audit work

• Constructs of authentic leadership have influence over the employee’s perception of the ethical content of a firm’s organization culture

• Authentic leaders can help to promote an ethical culture and reduce the instances of dysfunctional auditor behavior

• Authentic leaders seek to eliminate ethical dissonance


Research on Leadership and Audit Firms, cont

• Morris’ findings indicate there was a negative relationship between the audit seniors’ perceptions of their firms as ethical and instances of dysfunctional audit behavior

• The findings support the mediation of perceptions of authenticity in leaders on the auditor’s perception of ethical firm culture and auditors’ instances of dysfunctional behavior

• Thus, we conclude that auditors perceptions of their firms and authenticity of leaders influence ethical culture in a positive way


Gender Influence on Decision Making of Public Accounting Professionals

• Bobek et al. studied how professional role, decision context, and gender influence public accounting professional’s ethical decision making

• Males and females see their role as accounting professionals differently

• Males were less likely to recommend conceding to clients’ wishes, and less likely themselves to concede, in an audit context versus a tax context

• Females appeared to use a different decision-making process than males; they are more likely to use an intuitionist approach

• Perceptions of moral intensity were seen as a factor that might mediate context in decision in males but not females

• Results show that professional role, context, and moral intensity potentially affect male decision making in a significant way but not female decision making


Ethical Leadership and the Internal Audit Function

• Chambers identifies attributes of internal audit leadership behavior

• Internal auditors can sometimes be bullied by CFOs which makes it more difficult for them to carry out their ethical obligations

• Auditors may take their cue from executive management’s behavior, especially if such behavior is the social norm and has been rewarded in the past

• A high quality internal audit function can reinforce the tone at the top and provide guidance for decision makers by monitoring internal control and management’s actions


Research on Ethics and Internal Auditors

• Prawitt et al. found from their study of earnings management that a quality internal audit function is associated with moderation in the level of earnings management

• Arel et al. studied the impact of ethical leadership, the internal audit function, and moral intensity

• Found that the joint influence of ethical leadership and internal audit quality on accountants’ willingness to book a questionable accrual entry is fully mediated by participants’ perception of the moral intensity of the issue

• Accounting professionals who perceive greater moral intensity associated with the controller’s request to record a questionable entry are less willing to book the questionable entry

• Found a strong internal audit function may cause accountants to question the appropriateness and ethicalness of an undocumented journal entry when combined with weak leadership


Ethical Leadership and Tax Practice

• Bobek et al. found that tax partners rated the ethical environments of their firms as stronger than nonpartner tax practitioner, especially with respect to firm leadership

• In a later study, Bobek et al. found that, when nonpartners believe they have a meaningful role in shaping and maintaining the ethical environment of their firms and/or have strong organizational fit with the firm, they are more likely to perceive the ethical environment as strong and perceive it similarly to firm leaders

• They also found that among tax partners, the sense of having a stronger public interest responsibility and a higher frequency of receiving mentoring are both associated with stronger perceptions of the ethical environment

• Studies indicate that the weakest part of the ethical environment appears to be outcomes, rewards or sanctions and explicitly rewarding or punishing ethical behavior is a tangible way to encourage nonleaders to participate in maintaining a strong ethical environment for the firm


The Role of CFOs

• CFOs at HealthSouth showed how they can be influenced by a strong CEO --Richard Scrushy

• Aaron Beam, former CFO of HealthSouth in an interview with Business Report noted

• As CFO of a publicly traded company, you are under a lot of pressure to deliver good numbers

• It is just the culture of Wall Street: you learn to put lipstick on the pig • You learn to be deceptive, because you want to protect the price of the

stock • At HealthSouth there was no ethical leadership by the internal

auditors to raise the level of moral intensity to a degree that could have influenced the accounting

• Many employees of HealthSouth, particularly those who worked at medical centers in other parts of the country, thought they worked for an ethical company

• HealthSouth is a case study in how unethical leaders can corrupt the ethical culture and drag others into financial fraud that destroys a company and ruins lives along the way


Ethical Leadership Failure

• Linda Thornton identifies individual and organizational factors leading to ethical leadership failure

• Individual factors include ignoring ethical boundaries within a company; prominent personal values; and a lack of moral compass

• Organizational factors include lack of clarity; lack of positive role models; and no accountability

• Price points out that leaders characteristically make exceptions for themselves

• Ethical failures in leaders are typically cognitive rather than volition, a matter of belief rather than bad desire

• Leaders are oriented to the ends • Cognitive challenges

• They fail to note the ethical constraints on the means they use to achieve their ends • They may ignore the interests of parties outside their group of followers

• Moral failure is about knowing what is right and not doing it • On a cognitive level, it is a matter of being mistaken either about the content of

some moral requirement or about its scope • On a volitional level is primarily associated with egoism

• Leaders typically go wrong being committed to the intrinsic value of group ends and believe that goal achievement justifies moral costs to followers and outsiders


Implications for Whistleblowing in Accounting

• Mesmer-Magnus and Viswesvaran found that organizational employees have three options to address an unsatisfactory situation faced within an organization

• Exit the organization • Voice discontent, OR • Remain silent

• Sims and Keenan studied organizational and interpersonal values as predictors of external whistleblowing

• Found that employees were more likely to engage in external whistleblowing, if they had the support of their supervisor or perceived company policies suggested that such behavior was acceptable

• Found that external whistleblowing channels would be used only if they believed internal whistleblowing would be ineffective

• In public accounting, organizational commitment is heavily emphasized through identification with the ethical systems, quality controls, and firm leadership

• Colleague commitment is a sense of responsibility and readiness to support colleagues within the organization


Research on Whistleblowing

• Taylor and Curtis examined the complex relationships in accounting firms that influence an individual’s decision to report an ethical violation

• Auditors can be committed to the firm and the profession, neither one, or one or the other

• Individuals vary in their commitment to colleagues within the organization

• Materiality, moral intensity, and whether an act is critical affects reporting

• Perceived personal costs of reporting affects reporting • A correlation exists between the likelihood of audit seniors

reporting audit staff for premature sign-off based on whether the audit was a necessary step or not and the staff’s prior performance history

• Brennan and Kelly found that audit trainee showed a reluctance to report externally and findings indicate that audit firms should review and improve their structures for reporting suspected and actual wrongdoing, and to encourage staff to voice concerns internally


Research on Whistleblowing, cont.

• Miceli et al. found that feelings of moral compunction and role prescriptions form the basis of the moral intensity of the situation

• Graham found the higher the moral intensity, the more likely it will be reported and that the professional identify of the person reporting takes precedence over organizational and colleague commitment

• For auditors, the act of whistleblowing is internally required when differences exist on accounting issues with management because of compliance obligations


A Case Study in Ethical Leadership

• Diem-Thi Le, senior auditor at Defense Contract Audit Agency (DCAA), found the accounting system of defense contractor was inadequate; there were misallocations and mischarging costs to the government

• Le had her audit opinion of an inadequate system changed by branch manager; her work papers were similarly altered

• Le was not supported by her supervisor who deferred to the branch manager

• Le found out this was standard practice at DCAA • Le blew the whistle on the fraudulent practice; she was

retaliated against • DCAA violated whistleblower act • Le was ultimately put under whistleblower protection and now

trains auditors • Diem-Thi Le’s experience stands as an example of when doing

the right thing can lead to the right results, and that acting on one’s conscience and a sense of professional identify can lead to positive results


Accounting Leaders Discussed in the Text

• Accounting professionals identified in the book who demonstrated leadership qualities and were successful in putting an end to wrongdoing in their organizations

• Cynthia Cooper at WorldCom, Anthony Menendez at Haliburton, and Diem-Thi Le at DCAA

• Shared qualities of behavior include • Strong set of ethical values • Persistent in searching for the truth • Courageous and willing to put their own positions in jeopardy to serve

the public

• Many discussed in the book got caught up in the moment, gave into the pressure of superiors, and typically set aside their own values to do what they were told to do

• Betty Vinson at WorldCom, and numerous CFOs at HealthSouth are examples

• Common thread was fear, and intimidation • Being a team player, just going along with it this one time


Values-Driven Leadership

• Kouzes and Posner in The Leadership Challenge summed up values-based leadership as “Clearly articulating and demonstrating one’s values, forms the basis of a leader’s credibility – and credibility in leadership is character-based”

• GVV approach to decision making considers values to be the first pillar of the methodology

• GVV distinguishes between organizational and individual values • Organizational values should be highly visible within the organization • Individual values are internal to the very being of an individual

• When organizational values and actions differ from what one truly believes in, then a way should be found to voice one’s values with the intent of changing hearts and minds

• Ethical organizations encourage employees to voice their values • Example of Amy, an auditor at Black and White, LLP using the

GVV methodology


Ethical Leadership Competence

• Ethical leadership competence refers to the ability to handle all kinds of moral problems that may arise in an organization

• It requires developing the competency to reason through ethical conflicts in a systematic way, judgment and reflection on what the right thing to do is

• Thornton identifies five levels of ethical competence • Personal and Professional – accounting professionals

should internalize the values of the profession, including objectivity, integrity, diligence, and duty to society

• Interpersonal – working in teams requires respect of others and fair-mindedness

• Organizational and Societal – auditors should follow the ethics codes and expectations of their organization, but they should never compromise their professional identify


The Ethical Leadership Scales

• Kelly and Earley developed three measures called The Ethical Leadership Scales, which provide a measure of personal ethical competence, ethical leadership, and ethical organization

• Questions to ask yourself include • Are you reliable and dependable? • Are you willing to admit mistakes? • Are you true to your word? • Are you worthy of confidence? • Do you keep promises and commitments?

• The Ethical Leadership Scale fits nicely with GVV methodology • Consistency in words and actions underlies ethical leadership • When people face a moral problem they sometimes have great

difficulties in not confusing moral goals, values, feelings, and emotions with the problem-solving and decision-making processes and the methods adopted for the solution of the problem

• These skills require practice, commitment, reflection, and a continuous cycle of re-examining

• A worthwhile goal is to strive to eliminate any cognitive dissonance so that your behaviors match your values and beliefs


Concluding Thoughts

• The philosophical position of ethics as a choice, which focuses on the way that choices are made and the skills involved, starts from the Socratic dialogue

• The goal is not so much to impart knowledge about what is the “truth,” but to help you discover the truth for yourselves through a collaborative process of asking questions

• We have tried to develop critical thinking skills in our discussions and assignments

• Emphasis on the GVV methodology to engage you directly in discussions that can provide a pathway to the truth and stoke the fire of integrity

• Now it is up to you to summon the courage to do the right thing; act the right way; and influence others to do so as well, which is the true test of leadership


Video Links

• Ethical Leadership (excellent video on the subject)

https://www.youtube.com/watch?v=B9K9pNxljjg

• Tim Cook (Apple CEO)

https://www.youtube.com/watch?v=3ygNKNaMv4c

• TED Presentation on Ethical Culture

https://www.youtube.com/watch?v=wzicXbnmllc

https://www.youtube.com/watch?v=B9K9pNxljjg

https://www.youtube.com/watch?v=3ygNKNaMv4c

https://www.youtube.com/watch?v=wzicXbnmllc

Ethical Leadership and Decision-Making in Accounting - SMC ...

Documents

Transcript of Ethical Leadership and Decision-Making in Accounting - SMC ...