The Corporate Environment

William J. FreyCollege of Business Administration

University of Puerto Rico at Mayaguez

Some sources• Stone, C. D. (1975) Where the Law Ends: The Social

Control of Corporate Behavior. Prospect Heights, IL: Waveland Press, INC: 1-30. (History of Corporation)

• French, P.A. (1984) Collective and Corporate Responsibility. New York: Columbia University Press. (Corporate Responsibility based on CIDS)

• Fisse, B. and French, P.A., eds. (1985) Corrigible Corporations and Unruly Law. San Antonio, TX: Trinity University Press. (Corporate Punishment)

• P.T. Leeson. (2009). The Invisible Hook: The Hidden Economics of Pirates. Princeton: Princeton University Press: 44-81. (Pirate Articles of Agreement)

Terms from History of Corporation• Property

– Des Jardins (a business ethicist) characterizes property, not as a single right, but as a “bundle of associated rights.” These include the right to “possess, control, use, benefit from, dispose of, and exclude others” from one’s property

• Ultra Vires– Literally “beyond the power”. If a corporate charter designates something as “ultra

vires” in relation to the corporation, it literally means that this action goes beyond the legitimate powers of the corporation.

• Implied Powers– If a company knows of an activity (or should know of it) and still permits the activity to

continue, then its consent is implied and the power to perform the action implied.• Joint stock company

– 17th and 18th centuries in Great Britain. Companies were formed to carry out complex business activities. Investors put their money into the venture and managers oversaw the activities. Joint Stock Companies produced problems because of unlimited liability

• Corporate shield– The corporate shield protects investors by distributing financial risk. Investor liability

limited to amount of investment.

Agency and Charters• Law of Agency

– Responsibility of agents to remain faithful to the interests of principals• Principal

– Originate action and determine its goal. Delegate executive authority to agent if unable to execute action working alone

• Agent– Carries out or completes action originated by another. Responsible to principal

to remain faithful to the principal’s goals and interests• Corporate Charter

– Founding document of corporation– Originally the charter was a device of corporate control because it outlined what

the corporation could and could not do. If not permitted by charter it was ultra vires (=beyond the power).

• Charter Mongering– Charters allow incorporation for all legal activities. Charter no longer defines

boundaries for legitimate and illegitimate corporate activities

Corporate legal and moral responsibility• Corporation Internal Decision Structure or CIDS

– Corporate goals, decision recognition rules, roles, and organizational flow chart– Licenses re-describing individual actions as corporate actions.

• Corporate Responsibility– Holding corporations legally and morally responsible for actions performed in their name.

Creates philosophical problems concerning the meaning of “personhood” and “agency.”• Legal Person

– Created in and through the law. A legal person has legal standing: it can sue and be sued. Legal persons also have legal rights and duties.

• Natural Person– Primarily human beings. Natural persons act through the medium of their bodies. Natural

persons also have minds which form intentions (goals, purposes). Criminal law applies to natural persons who have minds (that form intentions), bodies (that act to realize intentions) and a connection between the two such that minds direct the activities of bodies.

• Principle of Responsive Adjustment– Moral agents have an obligation to adjust their actions and habits to respond to lessons

learned from the past.• Stock Dilution

– A corporate punishment (a fine) that goes beyond the deterrence trap by tapping into the future earnings of a corporation. The stock of a company is divided (or diluted) and the additional shares are distributed to the victims of corporate wrongdoing or to the state. These shares are, then, liquidated at some future date.

1. Proto-Corporation is a Passive Device to hold property

• A monastery is not just the private property of the abbot

• The Church emerges as an abstract legal entity that holds property– No problem of succession when abbot dies; abbot doesn’t

own it—the Church does– What’s the Church? Something that “owns” property

• Passive: it doesn’t do anything but own property

2. Proto Corporations called Trade Guilds self-regulate the practice of a trade

• Shoe Makers– A skilled craft or trade– Learn to practice by undergoing an apprenticeship– Self-regulation

• Purpose of Guild: to regulate a practice or trade– Members make more money—you can command higher

payment for practicing trade if you control who can practice

– More socially responsible: guild sets standards and punishes individuals who fall short

3. Proto-Corporations called Joint Stock Companies pool capital and oversee complex ventures

• Device or Tool to pool capital– Outfitting a ship to travel to Orient and collect spices

• Device for distributing benefits of enterprise– Investors pay into venture. If successful they get a share of the

profits

• Unlimited liability– If venture fails investor liability to creditors is unlimited

• Managers distinguished from investors– Owners become Principals– Managers become Agents

Investor liability limited; corporations controlled through charter

• Financial risk is necessary for the growth of business

• But unlimited liability discourages potential investors– Afraid of going to debtor’s prison– Limiting liability to original investment distributes risk

and encourages investment

• Corporations controlled by charter which outlines legitimate activities

Corporations become legal persons• A series of legal decisions have given corporations

legal rights– Right to due process under the law (e.g., trial by jury)– Commercial Speech (Can advertise products and services)– Non-commercial Speech (Can take out political

advertisements)

• Dissenting opinion in First National Bank of Boston v. Bellotti– Corporate non-commercial speech can drown out the

speech of natural/individual persons• As powerful artificial persons they could supplant

natural persons

Problem of Agency• Separation of owners/investors from managers

– Principals: Owners/investors provide funds to finance corporate activity. They determine the fundamental goals of the corporation

– Agents: Managers are agents of the owners who delegate to them the responsibility of overseeing the day to day operation of the corporation

• Faithful agency– Managers (as agents) must remain faithful to the interests set forth by the

owners (principals)• But if managers are rational, self-interest maximizers, then…

– Why should their interests coincide with those of owners?– What prevents them from setting aside owner interests and pursuing their own?

• Corporate governance then becomes a matter of institutionalizing external measures that compel managers to remain true to owner interests – Set corporate directives– Monitor management compliance– Punish non-compliance (Business Judgment Rule)

The corporation can be understood as a series of interrelated solutions to different, successive historical problems

Problem Solution Organizational Form

Successfully transferring stewardship over church holdings to new abbot

Create a “passive device to hold property”

Proto-corporation

Control over and regulation of a practice or skill (monopoly / responsibility)

Create a device to (a) hold the privileges of some particular trade, (b) establish rules and regulations for commerce, and (c) holds courts to adjudicate grievances among members

Medieval guilds that evolve into regulated companies

Pooling capital and resources and directing complex ventures

Create a device (a) to hold privileges of trade (b) where investors provide capital and (c) that delegates operations to managers

Unchartered joint stock companies

As modern corporation emerges, limiting but fixing liability becomes central concern

Problem Solution Organizational Form

Limiting investor liability, limiting manager liability, and balancing the two

Corporation evolves into a legal person with (a) legal rights and duties, (b) owned by shareholders, (c) run by managers, (d) regulated through state charter

Limited corporation whose operations are defined in and limited by the charter

Ultra Vires (charter prevents growth) and Charter Mongering

Granted broad powers through more broadly defined charters

Corporation as an essential business tool

Finding agent responsible for wrongdoing

(a) Due Process, equal protection, and free speech rights, (b) legal duties, (c) legal standing, (d) Federal Sentencing Guidelines, and Sarbanes-Oxley Act

Corporation as a legal person

Human Nature

Homo Economicus• Humans are rational self-

interest maximizers• Human nature is complete

apart from any relation to nature or society

• Principal-Agent relation requires external sanctions to keep agents aligned with principal interest

Aristotle: Humans are political animals

• Animal spirits deflect from rational self interest (justice)

• Humans are related essentially to social and natural surroundings

• Agents, because not self-interest maximizers, can exercise stewardship over principal interests

Corporate Internal Decision Structures

• Corporate Goals: Principle objective of the organization– Charter– Informal charter– Core Values and Mission Statement

• Decision Recognition Structures– Rules and procedures that help us to recognize an

action or a series of actions as a corporate action– Example: liquidation travel budge after a trip

Corporate Internal Decision Structures

• Roles– An individual’s station and its associated duties within the corporate

hierarch itself

• Organizational management structure embodied in the organization’s flow chart– How the roles are coordinated with one another within the

corporation’s managerial system.– Reporting relations. The corporate ombudsperson reports to the

CEO.

• All four components of the CIDS work together to synthesize, coordinate and subordinate individuals and their actions in the performance of the corporations activities.

Pirate Charter

• Articles of Agreement– Signed by each member of the pirate crew– Outline the ship’s hierarchical structure– Detail the different roles of the pirate community

• Recruitment and Public Relations– Democratic election of captain offered alternative to authoritarian

captains of military and merchant marine– Attempted to overcome anti-pirate propaganda and portray pirates

more as responders to injustice than parasitic thieves.

• Pirate crew, itself, plays the role of directors of the pirate corporation when it holds an election of captain and quartermaster

Pirate Decision Recognition Rules

• Majority vote by crew to elect captain and quartermaster– Captain Roberts: “Every Man has a Vote in the

Affairs of Moment; has equal Title to the fresh Provisions, or strong Liquors, at any Time seized, and may use them at Pleasure, unless a Scarcity make it necessary, for the Good of all, to vote a Retrenchment.” From Leeson, 62

Pirate Roles• Directors

– By charter, members of crew become directors when they elect by vote the captain and quartermaster

• Managers– Captain and Quartermaster: Crew has to follow orders of captain when the

ship is engaged in battle; otherwise, they can remove “managers” by vote (Something like the Business Judgment rule which allows stakeholders to sue managers)

• Professional Crew (individuals with highly valued knowledge and skill)– Surgeon, carpenter, caulker, armorer, musician– “Ye ship’s surgeon shall have two hundred crowns for the maintenance of his

medicine chest and he shall receive one part of the spoil.” (Custom of the Brothers of the Coast)

– Unskilled Crew– Draftees (Kidnapped or Shanghaied)

Pirate Flow Chart

Directors (Voting members of crew)

Skilled Crew: surgeon, carpenter, caulker, armorer, mucian

Unskilled Crew (Volunteers)

Unskilled crew: Draftees (Shanghaied)

Elect a Captain & QuartermasterThese appoint…

Creating Corporate Responsibility Via Re-Description

• CID Structure licenses (permits) a re-description of a human action as a corporate action if it can be directly related to all elements of the corporation’s Internal Decision Structure.

• Thus X (an action performed by an individual) can be re-described as Y (a corporate action) if…– It carries out a corporate policy as outlined in the charter,

mission statement, or values statement– Takes place in accordance with a decision recognition rule– Is performed as a part of carrying out a corporate role– And this role has a clear and designated location in the

corporate flow chart

Example from Pirate World

• Setting aside 200 crowns for the maintenance of the surgeon’s medicine chest…– Contributes to the pirate ship’s overall objective of

maintaining a healthy crew– Conforms to a decision recognition rule spelled out in the

pirate ship “Articles of Agreement”– Carries out a role responsibility (It’s the quartermaster’s job

who has the overall responsibility of distributing spoils)– And the quartermaster role has a clearly designated place in

the overall pirate ship hierarchy (Quartermaster is selected by the crew serving as directors, reports to the captain, etc.)

Example from Business• Arthur Andersen (consulting, not accounting) shred

documents to coverup accounting irregularities with Enron• AA charter (any corporate charter) stipulates that illegal

activities are ultra vires (beyond the power of the corporation)– So blame our employees who were acting alone without corporate

sanction or authority• Nevertheless the U.S. prosecutor decided to prosecute AA to

the fullest extent of the law– Their actions, for a time, benefitted the corporation– Supervisors did not stop them (=implied powers)

• AA no longer exists– Corporate death sentence

Schedule• April

– 8—Finish corporate responsibility– 10—Group day to prepare for town meeting– 12—Burger Man town meeting

• April– 16 and 17—Pirate Code of Ethics and ADEM SOV Challenge

• April – 22—Hughes Aircraft Case (Summary)– 24—Drama Preparation Class– 26—Hughes Dramas

• April and May– 29—Review for Exam– 1—Third Exam– 3—Meeting with groups 1 and 2

• May – 6—Meeting with groups 3 and 4– 8—Meeting with groups 5 and 6– 10—Open class– 13—Evaluation and Closure

Burger Man

• Stakeholder: Animal Rights/Welfare Group and Agriculture Suppliers (Cattle People)

• Issue: Burger Man is responsible for humane treatment of animals and is culpable if suppliers mistreat animals

Burger Man

• Stakeholders: Burger Man shareholders (accionistas) and Consumer Health Advocacy Group

• Issue: Burger Man is responsible for the bad dietary habits of its customers

Burger Man

• Stakeholders: Local Government (representing local community in which Burger Man operates) and Burger Man management

• Issue: Burger Man has special responsibilities for the welfare and wellbeing of the local communities in which it operates

Your task

• Assess and/or outline Burger Man’s social responsibilities as a corporation– Make arguments with premises (evidence) and conclusions (Take a

position and state it at the beginning and end of your presentaiton)– Your arguments must support a position on corporate responsibility– Your arguments must have ethical content (tests, values, concepts)

• Address responsibility specifically in the context of your issue from the point of view of your stakeholder

• Be civil and make a special effort to listen carefully and respond thoughtfully to the arguments of other groups