**4. 1980s and 1990s: folly in organization level**

These two decades are here detached from prior period as the corporation and legal environments suffered huge changes that led to spectacular level of executive remuneration and lack of control culminating in big scandals in 2000s—the next section. Different from prior section that started from a financial crisis and its consequences on governance, this section describes the main facts and movements important to understand the next financial crisis.

When the new economy expansion took place in 1980s and 1990s, stock options and restricted stock were intensively used and started to represent mega grants [13]. Stock options were not seen as a tax-avoidance vehicle anymore as in the 1960s and 1970s but as a way to get very rich quickly.

By this time, CEOs turned to be celebrities, *stars*, mainly in function of their millionaire compensation and publicity over it [13, 27]. If in 1929, an excessive payment outraged public, in 1990s, it enacted competency and talent. Media played an important role on this new discourse, publishing executive pay rankings and miraculous executive histories, creating myths [28].

It is supposed that with options, executives would be compensated only if shareholders also gained. The main problem was that the focus was shifted from company's operation to stock performance, considered the ultimate measure of a good corporation management [13]. As markets are not efficient as in theory, the stock price depends on variables others than longrun profitability of firm, and then, stock options would force manager to focus on even shorter run goal of raising stock price [29].

And if managers were too worried about stock performance, creative accounting would be useful to help them to sustain stock price. Many misrepresentations of financial statements (cooked numbers) and even frauds were perpetrated in name of such objective [9, 21]. Another usual managerial tool during this period was the challenging goals set linked to executive compensation plans. As some authors identified a good linkage between difficult goals with good performance (e.g. [30]), some others identified a linkage with cooked numbers (e.g. [31]) and unethical behavior (e.g. [32]). Anyway, unmet goals linked to compensation plan in this context amplify the perverse consequence.

After a wave of diversification of businesses and vertical growing, along the 1980s great corporations started to refocus on core business. Leverage buyouts (LBOs) and management buyouts (MBO) became popular means by which managers turned owners of split companies, intensifying the stock ownership among executives. Two factors seemed to be important to explain preferences for stock options: (a) it was not necessary to pay for shares and (b) there was a fiscal benefit. [13].

expensed. As companies made the exercise price equal to the quoted market price, the intrinsic value was zero, and it seemed that APB n° 25 did not require options to be expensed

In 1973, it was founded the Chicago Board Options Exchange (CBOE) and stock options started to be negotiated in a more regulated basis. At the same time, it was published the Black-Scholes method for valuing options [26], which turned to be the most widely used model. Despite a more precise method for valuing options, they were not yet recognized by

In 1976, Congress finally repealed the 1950 rule that had sheltered stock options from tax [24].

These two decades are here detached from prior period as the corporation and legal environments suffered huge changes that led to spectacular level of executive remuneration and lack of control culminating in big scandals in 2000s—the next section. Different from prior section that started from a financial crisis and its consequences on governance, this section describes

When the new economy expansion took place in 1980s and 1990s, stock options and restricted stock were intensively used and started to represent mega grants [13]. Stock options were not seen as a tax-avoidance vehicle anymore as in the 1960s and 1970s but as a way to get very

By this time, CEOs turned to be celebrities, *stars*, mainly in function of their millionaire compensation and publicity over it [13, 27]. If in 1929, an excessive payment outraged public, in 1990s, it enacted competency and talent. Media played an important role on this new discourse, publishing executive pay rankings and miraculous executive histories, creating myths

It is supposed that with options, executives would be compensated only if shareholders also gained. The main problem was that the focus was shifted from company's operation to stock performance, considered the ultimate measure of a good corporation management [13]. As markets are not efficient as in theory, the stock price depends on variables others than longrun profitability of firm, and then, stock options would force manager to focus on even shorter

And if managers were too worried about stock performance, creative accounting would be useful to help them to sustain stock price. Many misrepresentations of financial statements (cooked numbers) and even frauds were perpetrated in name of such objective [9, 21]. Another usual managerial tool during this period was the challenging goals set linked to executive compensation plans. As some authors identified a good linkage between difficult goals with good performance (e.g. [30]), some others identified a linkage with cooked numbers (e.g. [31]) and unethical behavior (e.g. [32]). Anyway, unmet goals linked to compensation plan in this

the main facts and movements important to understand the next financial crisis.

[23–25] and so was mere figurative enforcement.

**4. 1980s and 1990s: folly in organization level**

accounting rules and were not registered.

28 Corporate Governance and Strategic Decision Making

rich quickly.

run goal of raising stock price [29].

context amplify the perverse consequence.

[28].

An Internal Revenue Code Section approved in 1994 restricted excessive salaries packages to executives but exempted stock options from tax deductions limit. This exception was for performance-based remuneration preapproved by board formed by external directors [13, 33, 34]. Actually, the Section 162 m of this Code provided an environment to flourish two tendencies on governance instrumentals: (a) increasing of stock options on compensation plan and (b) board with outside directors.

It is worth to point out the role of high technology phenomenon of 1990s on governance changes forthcomings. Different from general industries where only executives were compensated with stock options, in high technology companies, every entry-level employee received them. An institutional study certified that biotechnology and computer companies granted 55% of stock options to non-management employees, from 1992 to 1997 [22]. Microsoft, Intel and Cisco Systems were examples of companies that granted stock options to all employees. It illustrates the importance of this industry on lobbies against regulation [13].

Boards were supposed to establish and monitor executive compensation plans and corporate strategy. Experiences (and scandals in 2000s) along these two decades showed that there was a lack of board independence (e.g. [35–38]), there was rudimentary instrumental or lack of competence to evaluate compensation plans and financial reports [13, 21, 37, 39], and as almost a consequence, a simulacrum of monitoring as board members acted as members of other boards acted, maintaining the status quo [13]. This reinforcing mechanism was expected, as Board members were also CEOs in other companies. Consultants should help but there was also a lack of independence of consulting firms. Many of them were also auditing or have closely relationship with management [13, 23, 29].

This problem of monitoring gets worst and more complex as at this time, there was no accounting measurement for stock options yet. If it was not registered in accounting reports, their cost was unknown by managers as also by board and investors. There was a legally hidden cost. Now, it is worthy to take a deeper look over this discussion.

In the early 1980s, the responsibility for setting accounting standards has migrated from American Institute of Certified Public Accountants (AICPA) to Financial Accounting Standards Board (FASB), dominated by accounting firms, some Wall Street analysts and corporate executives. Differently from Accounting Principles Board—APB, it will have full-time employee dedicated to the complex accounting issues [13, 15]. This movement had already occurred in UK after an accounting scandal related to a takeover. The intense repercussion on press led to the creation of the Accounting Standards Steering Committee in 1970 in order to develop and publish mandatory UK standards [9].

Since its creation, FASB began a campaign to require the expensing of stock options, fuelled by investors outrage over excessive executive pay. In 1993, they had prepared the SFAS n° 123 requiring expensing. Opposition was visceral. Companies that used stock options intensively (large companies in general industry and high-tech companies), if expensed its costs, would see the earnings and stock price drop. There was an intense lobby made by CEOs, corporations and also auditing firms. These great companies were important clients of auditing firms. Andersen was taken as a serious accounting firm until then but had a good portion of clients from high tech industry and actively acted against the FASB proposal [13, 15, 24]. The final bullet to kill the FASB proposal was done by North American Congress. They voted a resolution urging that FASB not to issue the statement (SFAS n° 123) obliging expensing stock options. It was a political threat to the independence of FASB as standard setting. This status could be revoked.

The solution found by FASB members was to issue SFAS n° 123 in 1995 saying that options *could be* expensed instead of *should be*. And for companies that chose not to expense, there was an obligation to disclosure them on footnotes. SFAS n° 123 also indicated that options could be valued by fair value method instead of intrinsic one, as Black-Scholes was a popular means to do it. Companies did not accept this recommendation and continued to value options by its intrinsic value (actually, zero) as APB n° 25 indicated [25].

Within this context of increasing financial misrepresentation, some principles of corporate governance and frameworks that support it started to be developed around the world. Two majors concerns besides corporate governance were internal controls and information systems. Two frameworks were developed and adopted worldwide by auditors to attend to these concerns: COSO and COBIT.

The National Commission on Fraudulent Financial Reporting, an initiative sponsored by the American Accounting Association (AAA), the American Institute of Certified Public Accountants (AICPA), Financial Executives International (FEI), The Institute of Internal Auditors (IIA), and the National Association of Accountants (now the Institute of Management Accountants, IMA), studied the causal factors that can lead to fraudulent financial reporting and were concerning to identify steps and provide recommendations to help reducing the incidence of fraudulent financial reporting. It organized the Committee of Sponsoring Organizations (COSO) in 1985 in order to develop internal control frameworks providing criteria for evaluation of internal control systems. The first document was released in 1992, Internal Control—Integrated Framework, known as COSO 1. It attributes the responsibility for internal control to the board of directors, directors and employees that should assure: (a) efficacy and efficiency on operations; (b) accountability on financial reports; and (c) compliance to legal and rules. This development fits so well to aspiration of regulators that AICPA substituted the internal control definition in SAS 55 by the COSO's ones when issued SAS 78. From then on, COSO 1 turned to be a reference to independent auditors in their evaluation of internal controls and in their opinion issuing. In 1996, COSO published another document, the Internal Control Issues in Derivatives Usage, as this type of financial instrumental was so new as complex [40].

The Information System Audit and Control Association—ISACA, a non-profit association of 140.000 professionals in 187 countries was established in 1969 with the purpose to set guidance in the growing field of auditing controls for computer systems. In 1994, it released the Control Objectives for Information and Related Technology (COBIT), a framework for the governance and management of firm's IT [41].

Regarding principles of corporate governance, important steps were taken around the world. The Committee on the Financial Aspects of Corporate Governance, established in 1991, set the first organized set of principles on United Kingdom. It was known as Cadbury Report and was published in 1992 as a response to increasing lack of investor confidence in the honesty and accountability of listed companies and low level confidence in ability of auditors to provide expected safeguards. The 1980s was considered a golden era of creative accounting also in UK. Some spectacular frauds and collapses between 1990 and 1991 outraged society and investors, as Bank of Credit and Commerce International (BCCI), The Mirror Group and Polly Peck. This led to the creation of the Cadbury Report that established a non-statutory Code of Best Practice on financial governance—the Combined Code [9, 42]. Among all recommendation, there are:


requiring expensing. Opposition was visceral. Companies that used stock options intensively (large companies in general industry and high-tech companies), if expensed its costs, would see the earnings and stock price drop. There was an intense lobby made by CEOs, corporations and also auditing firms. These great companies were important clients of auditing firms. Andersen was taken as a serious accounting firm until then but had a good portion of clients from high tech industry and actively acted against the FASB proposal [13, 15, 24]. The final bullet to kill the FASB proposal was done by North American Congress. They voted a resolution urging that FASB not to issue the statement (SFAS n° 123) obliging expensing stock options. It was a political threat to the independence of FASB as standard setting. This status could be revoked. The solution found by FASB members was to issue SFAS n° 123 in 1995 saying that options *could be* expensed instead of *should be*. And for companies that chose not to expense, there was an obligation to disclosure them on footnotes. SFAS n° 123 also indicated that options could be valued by fair value method instead of intrinsic one, as Black-Scholes was a popular means to do it. Companies did not accept this recommendation and continued to value options by its

Within this context of increasing financial misrepresentation, some principles of corporate governance and frameworks that support it started to be developed around the world. Two majors concerns besides corporate governance were internal controls and information systems. Two frameworks were developed and adopted worldwide by auditors to attend to these

The National Commission on Fraudulent Financial Reporting, an initiative sponsored by the American Accounting Association (AAA), the American Institute of Certified Public Accountants (AICPA), Financial Executives International (FEI), The Institute of Internal Auditors (IIA), and the National Association of Accountants (now the Institute of Management Accountants, IMA), studied the causal factors that can lead to fraudulent financial reporting and were concerning to identify steps and provide recommendations to help reducing the incidence of fraudulent financial reporting. It organized the Committee of Sponsoring Organizations (COSO) in 1985 in order to develop internal control frameworks providing criteria for evaluation of internal control systems. The first document was released in 1992, Internal Control—Integrated Framework, known as COSO 1. It attributes the responsibility for internal control to the board of directors, directors and employees that should assure: (a) efficacy and efficiency on operations; (b) accountability on financial reports; and (c) compliance to legal and rules. This development fits so well to aspiration of regulators that AICPA substituted the internal control definition in SAS 55 by the COSO's ones when issued SAS 78. From then on, COSO 1 turned to be a reference to independent auditors in their evaluation of internal controls and in their opinion issuing. In 1996, COSO published another document, the Internal Control Issues in Derivatives Usage, as

The Information System Audit and Control Association—ISACA, a non-profit association of 140.000 professionals in 187 countries was established in 1969 with the purpose to set guidance in the growing field of auditing controls for computer systems. In 1994, it released the Control Objectives for Information and Related Technology (COBIT), a framework for the

intrinsic value (actually, zero) as APB n° 25 indicated [25].

this type of financial instrumental was so new as complex [40].

governance and management of firm's IT [41].

concerns: COSO and COBIT.

30 Corporate Governance and Strategic Decision Making

• To emphasize the responsibility of directors over the institution of internal control systems

London Stock Exchange required listed companies to *comply or explain* this code. This principle would become the cornerstone of UK corporate governance practice, and this was spread around the world.

Since then, other countries and even Europe as a community intensified the debate on governance issues. In 1996, the European Association of Securities Dealers (EASD) created the EASDAQ, an electronic stock market for fast growing internationally oriented companies and in 1997 set a Corporate Governance Committee [9]. In 1997, Frankfurt created the Neue Markt, specifically to high tech new business but required a more restrictive rules of corporate governance related to kind of stocks and transparency on quarterly financial reporting. They should be based on a more friendly accounting system as USGAAP (Generally Accepted Accounting Principles developed in the US) or IAS (International Accounting Standards) [43]. In 1998, worried about bank failures, excessive CEOs paying, ineffective role of auditors board and how to revive the Japanese economy, the Corporate Governance Forum of Japan proposed its Governance Principles reproducing some aspects of American governance corporate monitoring practices and prior European documents, as independence of boards [44].

Finally, in 1999, it was published a set of principles that became a reference worldwide. This seemed to be a convergence of prior efforts. It follows a brief history of this institution and the main principles and recommendations.

European members believed that a post-war way to ensure peace was to encourage co-operation. They created the Organization for European Economic Cooperation (OEEC) in 1948, and with Canada and the US, it was created the Organization for Economic Co-operation and Development (OECD) in 1961 with the purpose of promoting policies that would improve the economic and social well-being of people around the world. By providing forums, governments from diverse countries (39 in nowadays) can work together to share experiences and seek solutions to common problems [45]. The OECD Council meeting in 1998 called to develop a set of corporate governance standards and guidelines. The result of this effort among member countries and relevant organizations was the first edition of OECD Principles of Corporate Governance [1]. These principles have also been adopted as one of the Financial Stability Board's Key Standards for Sound Financial Systems and form the basis for the World Bank Reports on the Observance of Standards and Codes (ROSC) in the area of corporate governance. They stated:

"Good corporate governance helps, too, to ensure that corporations take into account the interests of a wide range of constituencies, as well as of the communities within which they operate, and that their boards are accountable to the company and the shareholders. This, in turn, helps to assure that corporations operate for the benefit of society as a whole. It helps to maintain the confidence of investors–both foreign and domestic–and to attract more patient, long-term capital". (p. 5)

Different environment, traditions and legal systems can adapt these principles in different ways. The aim of this document was to set principles by them governments could evaluate and improve their laws and regulation, and private companies could design its own set of practices.

It seemed that good corporate governance practices would improve confidence on capital market and this was important to financial stability, which indirectly would benefit society. Notwithstanding, it is not clear that corporations will operate for the benefit of society as a whole. They believed that shareholders were interested on long-term performance and reputation and to achieve this it was important to consider societal interests [13]. It is an assumption that was echoed by many authors of corporate governance issues, but it is beyond the control possibilities emerged by these principles and good practices derived from them.

Environment, communities and societal interests are not reachable by corporate governance framework. The attendance to them is invisible to general public up to a scandal. As this constitutes a fundamental to the principles, companies disclosure many actions to show their environmental and societal responsibilities and this is bought as a true. What is disclosure often is a true (except in fraud cases) but there is no managerial tool that can check or evaluate what has not being done. Compliance in these issues is complex and dispersed in many regulatory norms and stakeholders interests. Some big companies in oil, gas and mining sector disclosure environmental responsibilities and attendance to international principles and index, but from time to time, there is a scandal of a spectacular environmental accident. It is not unusual that further analysis explicit that there was not an accident at all.

A huge accident in 1980s was the Exxon Valdez (1989) in Alaska and seemed that a crisis plan was not used, as it was too expensive [46]. A recent world largest accident occurred in Brazil, in late 2015, in Mariana town and affected many cities (over 40) down the River Doce, crossing two states up to the Atlantic Ocean (approx. 600 km). The partnership responsible for that was two giant companies with good reputation even in corporate governance: the Brazilian company Vale and the Australian BHP Billiton. Despite the expected revision on national mining code and regulatory efficacy, the point to be highlighted here is that this kind of negligence is very difficult to be accessed by boards or stakeholders communities as regulatory and auditing reports signalize compliance [47–49]. It is interesting to note that Vale had been preparing its Sustainability Report based on Global Reporting Initiative (GRI), a reference to transparency on risk and opportunities companies face [50].

governments from diverse countries (39 in nowadays) can work together to share experiences and seek solutions to common problems [45]. The OECD Council meeting in 1998 called to develop a set of corporate governance standards and guidelines. The result of this effort among member countries and relevant organizations was the first edition of OECD Principles of Corporate Governance [1]. These principles have also been adopted as one of the Financial Stability Board's Key Standards for Sound Financial Systems and form the basis for the World Bank Reports on the Observance of Standards and Codes (ROSC) in the area of

"Good corporate governance helps, too, to ensure that corporations take into account the interests of a wide range of constituencies, as well as of the communities within which they operate, and that their boards are accountable to the company and the shareholders. This, in turn, helps to assure that corporations operate for the benefit of society as a whole. It helps to maintain the confidence of investors–both foreign and domestic–and to attract more patient,

Different environment, traditions and legal systems can adapt these principles in different ways. The aim of this document was to set principles by them governments could evaluate and improve their laws and regulation, and private companies could design its own set of

It seemed that good corporate governance practices would improve confidence on capital market and this was important to financial stability, which indirectly would benefit society. Notwithstanding, it is not clear that corporations will operate for the benefit of society as a whole. They believed that shareholders were interested on long-term performance and reputation and to achieve this it was important to consider societal interests [13]. It is an assumption that was echoed by many authors of corporate governance issues, but it is beyond the control possibilities emerged by these principles and good practices derived from them.

Environment, communities and societal interests are not reachable by corporate governance framework. The attendance to them is invisible to general public up to a scandal. As this constitutes a fundamental to the principles, companies disclosure many actions to show their environmental and societal responsibilities and this is bought as a true. What is disclosure often is a true (except in fraud cases) but there is no managerial tool that can check or evaluate what has not being done. Compliance in these issues is complex and dispersed in many regulatory norms and stakeholders interests. Some big companies in oil, gas and mining sector disclosure environmental responsibilities and attendance to international principles and index, but from time to time, there is a scandal of a spectacular environmental accident. It is

A huge accident in 1980s was the Exxon Valdez (1989) in Alaska and seemed that a crisis plan was not used, as it was too expensive [46]. A recent world largest accident occurred in Brazil, in late 2015, in Mariana town and affected many cities (over 40) down the River Doce, crossing two states up to the Atlantic Ocean (approx. 600 km). The partnership responsible for that was two giant companies with good reputation even in corporate governance: the Brazilian company Vale and the Australian BHP Billiton. Despite the expected revision on national mining

not unusual that further analysis explicit that there was not an accident at all.

corporate governance. They stated:

32 Corporate Governance and Strategic Decision Making

long-term capital". (p. 5)

practices.

Returning to the principles [1], they focused on problems resulted from separation of ownership and control and those questions about environment and societal concerns, although stated as an expectation, were treated more explicitly in other documents. Principles run about:


The main concerns emerged along these two decades were attended in some way by all these principles developed by several countries and by the OECD. They related to executives remuneration, the quality of accounting and financial information and independence of auditor and board members.

Notwithstanding, the capacity of misrepresentation was out of reach of all these enforcements, allowing companies to bypass them and intensify even more their malpractices. Along these two decades, society turned to be more spectacular characterized by rapid changes, mass communication and dissociation between substance and image [51, 52].

"In a age, when the average consumer has only the vaguest notion of the actual activities of a vast, complex corporation, the public image of the corporation substitutes for more specific or more circumstantial notions of what is actually going on". [52, p. 191]

In the image Era, celebrity is a short path to gain legitimacy from broader public and stakeholders. Celebrity promotes a positive emotional response leading to a favorable perception of a firm's quality and ability, even if its performance and historical data do not suggest this. Media play an important role as it controls the content to be divulgated and the instrument to do it. It dramatizes a story where companies are protagonists. These external narratives would help companies create an internal positive sense-making of what was going on and weak internal control did not represent a red flag [28, 53, 54].

In an environment that emphasizes a narcissistic culture, a message more than its content, with a media planting pseudo events, executives and companies also turned their attention to manage this impression about them. If reality was not so attractive and enforcements were being setting in order to restrict their behaviors, there was an intrinsic incentive to pseudo-actions and structures with placebo effects on people's impressions and definition of reality [51, 55–57]. Then, companies and their executives applied impression management on financial statements and communication [9, 21, 58, 59], on corporate governance [55] as on internal culture, control systems and negotiation [60, 61]. The *accounting for growth* and *accounting for profit* made history in this last decade [55, 62]. The spontaneous norm was: "Do whatever you can to show the profit rate is growing (…) whatever you can" [62, p. 231].

If in the 1980s, the misstatements were concentrated on earnings manipulation shenanigans [58, 63], in the 1990s with increasing concern regarding financial situation and excessive remuneration, two other groups of shenanigans were adopted: cash flow and key metric misrepresentation or fraud [9]. And it must be added to this list the external auditors role as helping companies in creative accounting and storytelling about numbers [64] and, ineffective audit committees [65].

Finally, the reduction in regulatory oversight as in severity and probability of being convicted for fraudulent accounting practices, added to lack of specialized knowledge of board members, analysts and regulators agents, complemented the enforcement landscape of the 1990s and the early 2000s [66, 67].
