Penn Square Bank & Down Corning Bankruptcy
According to Norm Bowie, “sometimes being moral enhances the bottom line rather than reduces it” (Hartman, 2005, p108). Unfortunately, in the instances of Penn Square Bank and the Dow Corning bankruptcy, that may not have been the case. The following will examine the particulars of these situations and discuss the ethical issues present for each.
Penn Square Bank
Penn Square Bank was a small bank that played a large role in the Oklahoma banking crisis of the early 1980s. In an effort to maximize on the profits of the booming oil industry, the upper management of Penn Square Bank cut corners in several areas of its new lending division. Documentation to support million-dollar loans became lax. Collateral valuation and revenue recognition was severely over estimated without verification of the documentation to support such claims. Loan contracts were with casual deals and unspecific terms. Credit was extended based upon unverified personal letters paid for by the client. These documentation errors led to loans not properly secured (Caskey, 1985).
In addition, Penn Square was more and more money, which facilitated errors in revenue recognition as the bank accepted over estimated valuation claims without requiring loan or interest payments. Thus, on paper the bank looked successful without ever possessing the funds to support its lending endeavors. Finally, credit was extended without true verification of asset valuation or proper documentation, and re-extended when the client could not produce the payments necessary to support the lofty loans (Caskey, 1985). Each of Penn Square Bank’s actions represents a form of financial statement fraud, which led to its downfall in 1982. According to Fraud Examination, there are three ways to deter financial statement fraud: (1) reduce the pressure to commit the fraud, (2) reduce the opportunity to commit the fraud, and (3) reduce the rationalization of the fraud (Wells, 2005). However, in this instance, most if not all of the fraud committed can be attributed to demanding goals set by Penn State Bank owner, Bill Jennings.
As explained by Hartman, the “driving force” of “profit maximization” created a business environment to facilitate fraud (2005). Because profit was the sole motivator, documentation was inadequate, collateral valuation and revenue recognition was overstated, and credit extension was unverified and inferior. Instead, Penn Square Bank should have considered the following measures:
•An oversight or review board should be been established to oversee verification of credit or collateral valuation and determine the risk associated with each loan.
•Documentation requirements should have been heavily enforced and maintained by the review board.
•Contract and loan deals should have been regulated to the office with strict documentation requirements.
•Disclosures should have been made regarding the lack of loan and interest payments.
•Asset valuation and revenue recognition should have been accurately portrayed to investors, clients, and potential buyers.
•Upper management should have established company ethical standards and enforced these standards with strict consequences for violation without exception. Unfortunately, all the measures to deter fraud that should have been considered were undermined by the owner’s overwhelming demand for success. Thus, Jennings’ need to maximize profits and increase sales created the pressure, opportunity, and rationalization to commit each action of fraud.
Dow Corning Bankruptcy
Dow Corning Corporation is the big name in silicone and silicone-based material production. But in 1995, the company filed for Chapter 11 bankruptcy to protect itself from lawsuits regarding their silicone-based breast implants. Some advocated that the action was an effort to “avoid compensating women for their injuries” (Book review, 1996, p7). However, according to Hartman, Chapter 11 bankruptcy is intended to protect companies from creditors while it undergoes restructuring in an effort to stave off liquidation. By doing so, the company continues business, pays taxes, and provide jobs but is allowed time to reorganize to triumph over its economic hardship (Hartman, 2005).
The ethical challenge is to use Chapter 11 as it is intended – as a restructuring tool to avoid losing everything – rather than file for Chapter 11 as a way of cheating its creditors out of owed money. Hartman suggests that what is ethical in regard to bankruptcy is to go beyond what the laws require and uphold the debt agreements made with creditors (Hartman, 2005). Dow Corning seemed to have that same perspective. Nine years later the company emerged from bankruptcy after settling the lawsuits for a payout of $3.3 billion over the next 15 years (Arndt, 2004).
During the time under Chapter 11, the company reorganized itself to refocus silicone production to develop fabrics, materials, and pharmaceutical products (Arndt, 2004). These sales and expanding markets will help Dow Corning to pay its debts to the 300,000 women named in the settlement (Sissell, 2004). Thus, Dow Corning is Chapter 11 bankruptcy free but still upholding its ethical obligation to the wronged party and its creditors.
Although Dow Corning’s actions following the Chapter 11 emergence was ethically sound, its actions leading to the filing was anything but. Problems with Dow Corning’s silicone breast implants began as early as 1984 when they lost a lawsuit claiming the implant caused medical illness such as autoimmune disease.
During the investigation for this lawsuit, lawyers found evidence showing Dow Corning executives were aware of complaints from doctors, concerns about the lack of long-term testing, and cases of the implant bursting during surgery. In addition, the study that supposedly proved the effectiveness and safety of the product revealed detrimental long-term effects on the animals under experimentation (Book review, 1996).
However, throughout all the breast implant concerns, Down Corning continued to advocate the safety of their product going as far as to hire high profile and extremely expensive teams of legal and public relations specialists. In addition, allegations were present of executives attempting to destroy damning internal documents suggesting upper management was trying to cover up its liability in the claims. The 1984 lawsuit found Dow Corning guilty of fraud and deceit stating the company provided inferior and incomplete information by understating the risks to make an informed decision (Book review, 1996). More important, it revealed the unethical behavior of the executives and company as a whole.