Okomawa Case Study.edited

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Jomo Kenyatta University of Agriculture and Technology *

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Nov 24, 2024

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1 Okomawa Case Study Author Affiliation Course Instructor Due Date

2 Okomawa Case Study Question 1: Three (3) major issues that can impact public interests & shareholders A major issue is the poor working conditions at Okomawa's facilities, which present health and safety risks. Only three bathrooms are provided for the entire facility, and they are unsanitary. This fails to meet basic hygiene needs, especially for pregnant employees. Allowing indoor smoking has directly contributed to lung/breathing issues for 70% of employees, demonstrating disregard for worker health. Beyond facilities and smoking, systemic issues suggest deep workplace problems - low morale, increased discipline cases, and widespread tardiness. The poor working conditions paint a picture of an unhealthy, unsafe workplace that jeopardizes employees among a company's most vital assets. The impacts can include lawsuits, reputation damage, lower productivity, and higher turnover. Urgent attention is needed to upgrade facilities, implement smoking cessation programs, and address the underlying cultural issues. No business can succeed without unstable, unmotivated, unhealthy employees (Martínez‐ Ferrero et al., 2005). Okomawa must make meaningful changes to become an employer that values and protects its workforce. The board and new management must make this a top priority. Another major issue is unethical financial reporting practices like overstating income assets and falsifying loan documents. Intentionally reporting inaccurate financial information is a serious ethical breach. It needs to present the actual financial status of Okomawa to investors and lenders (Frecka, 2008). The case reveals several unethical practices - overstating revenues, understating expenses to boost net income, overstating assets like receivables and inventory to inflate the balance sheet, falsifying loan application documents, and more. The motivation presents better financial results than the underlying performance supports. The issue has permeated deeply as the CEO, Financial Manager, and Chief Auditor colluded to 'window dress'

3 the financial statements. The resulting statements do not reflect reality. This puts shareholders at risk of making investment decisions based on faulty information. It can also trigger shareholder lawsuits and probes by regulatory bodies like the SEC. Falsifying loan documents could have legal implications as well. The unethical financial reporting has short-term and long-term impacts on Okomawa's ability to raise capital, valuation, stock price, and reputation. A third major issue is the complete lack of protection against COVID-19 at Okomawa's facilities. Despite being two years into the pandemic, Okomawa has done nothing to protect or prevent the spread of the virus among its employees. This is highly irresponsible and unethical corporate behavior. The ramifications have been severe, with 47 hospitalized cases and even five deaths due to COVID-19. Beyond the direct health impacts, this also indicates how deeply Okomawa disregards employee well-being and safety. Such a high infection rate at one facility suggests clear violations of basic pandemic protocols like masks, distancing, quarantines, etc. This disregard for employees' lives opens the company to significant lawsuits by families of those affected (Martínez‐Ferrero et al., 2005). It also damages Okomawa's reputation and relationship with its workforce. Overall, the lack of COVID-19 protections demonstrates a failure of leadership on the most urgent health crisis facing the company. The board should investigate and establish accountability. In the future, clear policies and compliance monitoring mechanisms must be established. Question 2: Implications of Unethical Practices on Financial Statements The unethical financial reporting practices at Okomawa, such as overstating revenues and understating expenses, will directly distort the numbers reported on the income statement (Frecka, 2008). Reported net income will appear artificially higher than the actual underlying net income. Financial ratios like profit margin and EPS derived from the inflated net income will

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4 paint a deceptively positive picture of profitability. This could mislead management, investors, and analysts into thinking the company performs better than it is (Frecka, 2008). Similarly, overstating assets like accounts receivable and inventory and understating liabilities on the balance sheet makes the company seem financially stronger than is accurate. Inflated assets can improve liquidity and turnover ratios, while understated liabilities like accounts payable can make debt ratios look more favorable. This distorts working capital analysis, solvency, and capital structure (Martínez‐Ferrero et al., 2005). Management may underestimate the need for cash injections or loans. The cash flow statement will also become less accurate if transactions are not recorded when they occur. Cash from operations will appear higher if revenues are recognized early before cash is received. Changes in balance sheet accounts may not match the reported transactions. This makes the statement unreliable for projecting future cash flows. Overall, unethical reporting distorts all three primary financial statements. Metrics and ratios used by management to assess performance and make decisions will be based on inflated, inaccurate data (Akhigbe et al., 2005). Analysts valuing the company using multiples like P/E based on faulty earnings may overvalue Okomawa. Investors allocating capital based on distorted return ratios may wrongly judge Okomawa as a better investment than it truly is. Given the real risks, lenders may provide larger loans or better rates than are prudent. Poor decisions can be made at multiple levels based on misleading financials. In the short term, the unethical practices may boost Okomawa's perceived valuation and stock price. However, the truth is likely to surface in the long run, as the loan application issue indicates. This can seriously damage investor trust and result in shareholder lawsuits, stock

5 declines, higher borrowing costs, and regulatory action (Martínez‐Ferrero et al., 2005). The company's reputation also takes a significant hit. Rather than window-dressing financials, Okomawa's leadership should focus on improving actual operational performance. Unethical financial reporting produces illusory short-term gains but substantial long-term pain. The board must take action before more harm is done. Question 3: The primary causes of these crises A significant root cause of the multiple crises facing Okomawa is a need for more engaged leadership, oversight, and accountability. The tone at the top prioritizes short-term financial presentation and personal gain over ethics, controls, and long-term organizational health. The CEO has worked remotely for nearly two years and has only been seen at the company sporadically. He seems detached and has delegated extensive authority to the point of abdicating responsibility. The General Manager, whom the CEO delegated, has been on vacation for three months. This leadership vacuum at the top has directly enabled many of the problems. Lower-level managers have yet to have oversight, with the top leaders yet to be absent. The CFO, CAO, and other financial staff have deliberately avoided this oversight to manipulate financial statements. They have directly colluded with window dress statements, with approval from the CEO, indicating this unethical practice is driven from the top. The leaders who should be role models are instead actively enabling misconduct. The lack of leadership focus on the facility and employee conditions is also striking. How could the CEO and GM not be aware of or prioritize addressing issues like insufficient

6 bathrooms, widespread smoking-related illnesses, low morale, and lack of COVID-19 precautions? Their detachment from day-to-day operations has left significant risks unchecked. Beyond just the top leaders, the case makes clear that the company's culture is dominated by an ethos of impression management and window dressing over substance. Three out of five employees are described as "perfect window-dressing" who will not go above and beyond. The problems appear systemic rather than just isolated to a few individuals. Question 4: Identifiable solutions 1. Replace top leadership with more ethical and engaged leaders. A root cause of Okomawa's issues is a leadership vacuum and a need for tone at the top emphasizing ethics, transparency, and accountability. The CEO is detached and has delegated extensively to the point of abdicating responsibility. The GM takes excessive vacations. There is minimal oversight over the financial reporting process and workplace conditions. The board should immediately replace the CEO, GM, CFO, and CAO with leaders with a track record of integrity, engagement, and focus on the organization's long-term health over short-term numbers. The new leadership team must communicate and model the expected values and behaviors for the organization. They need to hold their teams accountable to ethical standards. 2. Implement strong financial controls as per the Sarbanes-Oxley Act. Okomawa needs to implement controls over its financial reporting process, including:  Require external independent audits annually to ensure unbiased assessment of financial statements.

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7  Executive certifications that financial statements are accurate with criminal penalties for false certification.  Enhanced internal controls over recording, authorizing, and reconciling transactions.  They are disallowing consulting/other services from auditors to ensure their independence.  Clawbacks of executive compensation if financials are found fraudulent later.  Confidential ethics hotline for anonymous reporting of issues.  Stricter accounting policies for revenue recognition and expenses. These measures will improve oversight, accountability, transparency, and confidence in Okomawa's financial reporting. 3. Improve workplace conditions and COVID protections. Okomawa needs significant improvement in its workplace conditions, employee policies, and COVID protections, including:  Upgrading facilities like restrooms to ensure basic hygiene and safety.  Enhanced medical insurance, smoking cessation help, and wellness initiatives to help employees, especially high-risk ones, to reduce health issues.  Straightforward COVID prevention, testing, quarantine protocols, and support for infected staff.  Protections and accommodations for pregnant employees like frequent breaks, modified duties, etc.

8  Feedback mechanisms like anonymous surveys and town halls for employees to voice concerns.  Diversity training for people managers and zero tolerance for any discrimination. These measures will help build an engaged, healthy workforce and reduce legal, reputational, and productivity risks from poor working conditions. It will demonstrate that Okomawa values its employees. Question 5: Integrating Sarbanes-Oxley (SOX) Act in Recommendations The issues at Okomawa point to an apparent breakdown in financial controls and ethical leadership. As such, implementing key provisions of the Sarbanes-Oxley Act (SOX) should be a priority for the company. SOX was enacted in response to major accounting scandals to improve corporate financial governance and investor protections. Several specific SOX reforms would address the problems faced by Okomawa:  Require external independent audits - A key SOX provision requires that public companies undergo annual external financial audits by an independent registered accounting firm (Coates & Srinivasan, 2014). Okomawa should adopt this policy to ensure an unbiased review of its financial reporting. Reliance on internal audits has allowed manipulation to go undetected.  Executive certifications - SOX requires CEOs and CFOs to personally certify the accuracy of financial statements, with criminal penalties for false certification. This “tone at the top” accountability would deter Okomawa’s executives from further misreporting.

9  Enhanced internal controls - SOX mandated that companies establish robust systems of internal procedures and controls over financial reporting. Okomawa needs to bolster these, given how easily numbers have been manipulated. Annual audits of the control system are also required.  Audit committee oversight - SOX increased the obligations of boards’ audit committees to oversee the audit process and review financial statements (Zhang, 2007). Okomawa's audit committee must exert its oversight authority rather than just accept manipulated reports.  Forfeiture of incentives - SOX dictates that CEOs and CFOs must forfeit bonuses or other compensation if financials are restated due to misconduct (Coates & Srinivasan, 2014). This “clawback” provision should apply to any performance incentives Okomawa’s executives have received during the period of misreporting.  Protections for whistleblowers - SOX prohibits retaliation against whistleblowers who report suspected financial wrongdoing. Okomawa needs to protect any employees who come forward to report concerns actively. The SOX reforms enhanced transparency, integrity, and accuracy in financial reporting. Okomawa's board should urgently move to implement these measures. Doing so will help restore investor trust and mitigate the risks from the company's ethical lapses related to its financial statements (Coates & Srinivasan, 2014). Adopting SOX best practices can support the more considerable culture change needed at Okomawa. Question 6: Internal control weaknesses and suggestions to fix them

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10 1. Lack of segregation of duties in financial reporting A key internal control weakness is that duties around financial reporting are not adequately segregated at Okomawa. The CFO and CAO could perpetrate statement manipulation without checks and balances. There should be a separation between preparing statements, recording, approving, and reconciling accounts (Coates & Srinivasan, 2014). Combining these roles enabled unethical collusion. Suggestion: Ensure different employees are tasked with critical steps like recording transactions, approving journal entries, preparing financial statements, reconciling accounts, and reviewing statements. This ensures that no one person has too much control over the process. 2. Lack of independent external audits Reliance only on internal audits allowed the financial misconduct to go undetected. The CAO was complicit in the manipulation, compromising any internal audits. External independent audits are essential. Suggestion: Require annual external audits by a reputable registered public accounting firm, per SOX regulations. This will provide unbiased eyes to verify financials. 3. Lack of oversight on executive expenses/perks There appears to be minimal oversight on executive spending and potential appropriation of corporate assets for personal use. Monitoring and controls are needed. Suggestion : Require detailed disclosure and board approval for executive expenses above a threshold. Audit expense reports and company credit card statements regularly. Tighten travel and entertainment policies.

11 4. Insufficient ethical policies and training The unethical practices indicate a culture lacking solid values or understanding of acceptable vs. non-acceptable behaviors. Formalized policies and training could help. Suggestion: Develop a code of conduct that all employees must certify, with clear guidance on behaviors like integrity, conflicts of interest, company resources, etc. Require anti- fraud and ethics training regularly for all employees. In conclusion, unethical leadership, poor oversight, and lack of controls led to major ethical, financial, and liability issues for Okomawa. Solutions require new ethical leadership, Sarbanes-Oxley-type financial controls, better workplace policies, COVID-19 protections, enhanced oversight, and improved internal controls. Implementing these can help Okomawa rebuild trust and integrity.

12 References Akhigbe*, A., Kudla, R. J., & Madura, J. (2005). Why are some corporate earnings restatements more damaging? Applied financial economics , 15 (5), 327-336. https://www.tandfonline.com/doi/abs/10.1080/0960310042000338722 Coates, J. C., & Srinivasan, S. (2014). SOX after ten years: A multidisciplinary review. Accounting Horizons , 28 (3), 627–671. https://publications.aaahq.org/accounting- horizons/article-abstract/28/3/627/2189 Frecka, T. J. (2008). Ethical issues in financial reporting: Is intentional structuring of lease contracts to avoid capitalization unethical? Journal of Business Ethics , pp. 80 , 45–59. https://link.springer.com/article/10.1007/s10551-007-9436-y Martínez‐Ferrero, J., Garcia‐Sanchez, I. M., & Cuadrado‐Ballesteros, B. (2015). Effect of financial reporting quality on sustainability information disclosure. Corporate social responsibility and environmental management , 22 (1), 45-64. https://onlinelibrary.wiley.com/doi/abs/10.1002/csr.1330 Zhang, I. X. (2007). Economic consequences of the Sarbanes–Oxley Act of 2002. Journal of Accounting and Economics , 44 (1-2), pp. 74–115. https://www.sciencedirect.com/science/article/pii/S0165410107000213

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