The Legal and Ethical Environment of Business

Business Environment and Law
Block
III
THE LEGAL AND ETHICAL
ENVIRONMENT OF BUSINESS
UNIT 9
Legal and Regulatory Environment 1-23
UNIT 10
Tax Environment 24-34
UNIT 11
Trade Environment 35-53
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BLOCK III: THE LEGAL AND ETHICAL
ENVIRONMENT OF BUSINESS
The third block deals with the legal and ethical environment in business. The
block contains three units. The first unit focuses on the legal and regulatory
environment of business. The second unit discusses the tax environment. The
third unit examines the importance of ethics in business.
Unit 9 discusses two of the external environment factors – the legal environment
and the regulatory environment. The unit discusses about the legal environment
of business by examining international laws and the host country laws. It then
discusses how the disputes can be settled related to international business. The
unit also examines the regulatory environment in terms of government’s role and
the purpose of framing regulations.
Unit 10 deals with how taxation affects the business of organizations. The unit
examines the purpose of taxation, and then moves on to discuss the various types
of taxation policies. The unit also explains the features or traits of an ideal tax
policy.
Unit 11 provides an overview of the ethical environment of business. The unit

examines the various definitions of ethics, followed by its importance in the field
of business from the macro and the micro perspectives. The unit also includes a
brief discussion on the ethical codes such as the Cadbury’s code of ethics and the
Kumar Mangalam Birla report on corporate governance, which define the
principles of appropriate behavior in organizations.
Unit 9
Legal and Regulatory Environment
Structure
9.1 Introduction
9.2 Objectives
9.3 International Legal Perspective
9.4 Host Country Laws
9.5 Conflict Resolution, Dispute Settlement and Litigation
9.6 Regulatory Environment: Role of the Government
9.7 Purpose of Regulations
9.8 Summary
9.9 Glossary
9.10 Self-Assessment Test
9.11 Suggested Readings/Reference Material
9.12 Answers to Check Your Progress Questions
9.1 Introduction
In the last unit of the previous block, we have discussed about technological
environment. In this unit, we will discuss about the impact of the legal and the
regulatory environments on business. The term legal environment refers to laws that
govern the setting up and operation of the business. A domestic firm must follow the
laws and customs of its home country. For the firm that has a global presence, the task
is more complex as it must obey the laws of its home country and all the host
countries it operates in.
The legal environment differs from country to country posing many problems for
businesses operating internationally. Diverse legal systems can pose significant
challenges for the firm. An understanding of the legal environment in the host country
and knowledge of international business regulations became necessary for the firm
irrespective of its business.
A competitive market should be able to ensure that good quality and fairly-priced
products are made available. The Government intervenes through regulations to
ensure that producers and service providers are reliable. In many developing
countries, an additional goal may promote the domestic industry besides ensuring that
the national industries contribute to overall economic development. Thus, an
understanding of the regulatory environment is necessary for every business operation
within and outside a country.
In this unit, we will discuss on
 Legal environment with regard to international and the host country laws
 How to solve conflicts and settle disputes in international business
 Regulatory environment
 Various forms of government regulations and
 Purpose of framing regulations.
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9.2 Objectives
By the end of this unit, you will be familiar with:
 International legal perspective
 Various laws regulating the entry of companies into foreign markets
 Conflict resolution and dispute settlement processes in global markets
 Government role in creating a regulatory environment
 Purpose of regulations.
9.3 International Legal Perspective

International legal environment is consisting of laws of the nations and regulatory
mechanism. International law may be defined as the rules and principles that States1
and Nations2 accept as binding. It can also be defined as a collection of treaties and
agreements between nations that are (more or less) legally enforceable. The field of
international law is complex. The two unique characteristics of operating in an
international legal environment are: (a) The national law is not applicable for overseas
transactions. It is binding only till the trade is conducted within the State or Nation,
and (b) There exists no international judicial and administrative framework or a body
of law that forms the basis of a comprehensive international system.
For the purpose of understanding the varying legal philosophies among countries,
legal systems can be categorized as common law and statute law. Common law, also
called British law, is followed by about 25 countries including the United Kingdom,
India, and the United States (US). This legal system depends heavily on precedents
and conventions. These are tradition-oriented and judgments are based on previous
court decisions.
Statute law (also known as code or civil law) guides countries by embodying the main
rule of law in legislative codes. Thus, under this system, the interpretations of the law
are strict and literal. Each circumstance is clearly spelled out to indicate what is legal
and what is not. Japan and most of the continental European countries follow this
legal system. However, the personal judgment of the judges and their interpretation of
the laws (which constitutes the major distinction) significantly affect the business
decisions and strategies.
9.3.1 Multiplicity of Legal Environment

Legal environments can be domestic, foreign, or international. Laws of a particular
country regulate the businesses of organizations operating in that country. Legal
disputes that may arise during the course of conducting business are very costly and
time consuming. Thus, it is imperative for a global company to understand the legal
environment, and its implications on the business.
Domestic Legal Environment
In this environment, the laws of the home country govern the business. Laws can
affect both imports and exports. Import/export of certain dangerous products like
narcotics and toxic substances are prohibited. Imports/exports of cultural treasures,
gold, automobiles, etc., are restricted, but not prohibited.
1
State means ‘A Self Governing Political Entity’.
2
Nation means ‘A Tightly Knit Group of People which Share a Common Culture.
2
Unit 9: Legal and Regulatory Environment
Foreign Legal Environment

As the company crosses the national border, the company and its practices will be
governed by the laws of the host country. The company needs to comply with the laws
of the host country.
International Legal Environment
This environment is a combination of legal systems and laws of various nations put
together. It includes all national laws, combined with various treaties among nations,
bilateral and multinational conventions, and regional laws. There is no international
law as such that describes acceptable and legal behavior for organizations. Thus,
international organizations such as the World Trade Organization are constantly
striving to promote free trade and settle disputes among nations.
9.3.2 Jurisdiction of Laws

There is no international body that makes rules and ensures that the parties follow
them. In the present scenario, a business incorporated in a particular country carries
the burden of complying with the laws of both the home country and the host country.
Major problems arise when laws of more than one country must be respected. When a
dispute occurs between two contracting parties, the question arises as to which
country’s laws should be used to resolve the dispute. If the contract between the
parties contains a jurisdiction clause stipulating which country’s legal system should
be used to settle disputes, the matter can be resolved accordingly. However, if the
parties have not included jurisdiction clause in the contract, two alternative courses of
action are possible – settle the dispute by following the laws of the country where the
agreement was made, or resolve the dispute by applying the laws of the country where
the contract has to be fulfilled. If the two alternatives are likely to lead to different
conclusions, each party naturally would like to settle the issue as per the legal system
that is favorable to it. This will in turn lead to legal and counter legal actions,
presumably in different courts and perhaps in different countries.
9.3.3 Extraterritorial Reach

Extraterritoriality refers to the State or Nation in which certain diplomatic
organizations and people operating in a foreign country are exempted from the
jurisdiction of the laws in that country. For instance, ambassadors, diplomatic agents,
military bases, offices of the United Nations, etc., are some entities that come under
the state of extraterritoriality.
In the case of businesses, extraterritoriality can occur when a government extends the
application of a law to people or organizations operating outside the country’s
boundaries. For instance, the US has imposed an embargo on trade with Cuba. If the
US government decides to enforce this embargo even in the case of non-US
government organizations – say companies operating in the EU – and these
organizations overruled it then they may well find themselves in breach of EU
legislation prohibiting such compliance. Therefore, such laws sometimes put
businesses in difficult situations.
The concept of extraterritoriality is however not very clear, and is a highly debatable
topic. For example, though they may be owned by Indian companies, foreign
subsidiaries of Indian companies are non-Indian firms doing business in a foreign
country. It is debatable whether these subsidiaries should comply with the home
country laws or the host country laws. When a country follows extraterritoriality,
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conflicts may occur among nations in the areas of anti-trust3, securities’ regulations,
product liability, tax collections, and export controls. They may sometimes lead
further to impeding trade worldwide and intergovernmental disputes.
Activity: Speed Cars is a sports car manufacturing company based in Brazil. The
company wanted to introduce its cars in the US market. For this, the company has
to conform to various regulations laid out by the US government. Under what kind
of a legal environment does Speed Cars operate? Explain the impact of such
environment on its business.
Answer:
Check Your Progress - I

1. _______________ can be defined as a collection of treaties and agreements
between nations that are legally enforceable.
a. Domestic law
b. Foreign law
c. International law
d. All of the above
2. Which of the following is the characteristic feature of the international legal
environment?
i. The national law is not applicable overseas.
ii. The national law is binding only till the trade goes on within the nation and
with only one other country.
iii. There is no international judicial and administrative framework or a body of
law that forms the basis of a comprehensive international system.
iv. The international legal environment is highly complex.
a. Only i, ii, and iii
b. Only ii, iii, and iv
c. Only i, ii, and iv
d. Only i, iii, and iv
3. Identify the statement that do not hold true regarding legal systems.
a. The common law system depends heavily on precedents and conventions.
b. Statute law is also called British law and is followed by countries like the
UK, India, and the US.
3
Anti-trust refers to the government policies aimed at opposing and controlling business
monopolies such as trusts and cartels. These policies are aimed at promoting free
competition, and achieving the benefits that free competition can provide to the economy
and to the entire society.
4
c. The common law system is tradition-oriented and judgments are based on

previous court decisions.
d. Under the statute law system, the interpretations of the law are strict and
literal.
4. ____________ guides countries by embodying the main rules of the law in
legislative codes. Under this, the interpretations of the law are strict and literal.
a. Statute law
b. British law
c. Common law
d. None of the above
5. Which of the following is the legal environment in which the laws of the home
country govern the business?
a. Domestic legal environment
b. Foreign legal environment
c. International legal environment
d. Both (a) and (b)
6. Identify the characteristic of the foreign legal environment.
a. The laws of the home country govern the business.
b. It is a combination of legal systems and laws of various nations put together.
c. The company and its practices will be governed by the laws of the host
country as the company crosses the national border.
d. It includes all national laws, combined with the various treaties among
nations, bilateral and multinational conventions, and regional laws.
7. Which of the following statements holds true regarding the international legal
environment?
i. It is a combination of legal systems and laws of various nations put together.
ii. It includes all national laws, combined with the various treaties among
nations.
iii. There are some international laws that describe acceptable and legal behavior
for organizations.
a. Only i and ii
b. Only i and iii
c. Only ii and iii
d. Only i, ii, and iii
8. In what ways can conflicts be resolved between two parties engaged in
international business in absence of a jurisdiction clause in the contract?
i. By following the laws of the home country
ii. By following the laws of the country where the agreement was made
iii. By applying the laws of the country where the contract has to be fulfilled
a. Either i or ii
b. Either i or iii
c. Either ii or iii
d. Either i or ii or iii
5
9. ___________ refers to the State in which certain diplomatic organizations and

people operating in a foreign country are exempted from the jurisdiction of the
laws in that country.
a. Expropriation
b. Nationalization
c. Extraterritoriality
d. Confiscation
9.4 Host Country Laws

Host countries enact certain laws to regulate the business of foreign companies in their
economies, in addition to the laws of the land applicable to domestic businesses. In
order to protect the interests of the domestic business, the specific laws are made to
regulate the business of foreign nationals. These laws depend upon the country’s
economic objectives and its obligations and position in relation to worldwide trade. At
times, laws are designed to allow the host country formulate the laws for reciprocity
with nations on good trading terms with the country. Some laws are also
discriminatory against foreign goods and businesses. In some cases, laws may be
crafted to suit political needs. That law made to check the entry of foreign players into
domestic markets has several forms, such as tariffs, anti-dumping laws, export/import
licensing, investment regulations, legal incentives, and restrictive trading laws.
9.4.1 Tariffs
A tariff is a tax that a government levies on exports and imports. Tax associated with
exports is called export duty, and tax associated with imports is called import duty or
customs duty. Customs duty is the tax/duties charged on goods at the time of their
entry into the country. Export duty is levied to discourage overseas selling to maintain
adequate supply at home, while import duty is levied for gaining a source of revenue
for the government, protecting the domestic industry from being out-priced by cheap
imports, etc. An import duty may be assessed on three ways – on the value of the
product (called Ad Valorem); on a unit basis (called specific duty); and on both
product as well as unit basis.
Many developing countries impose high import duties as there are limited resources, and
new industries cannot compete with imports from other countries. High import duties
would help in restricting imports and in helping the domestic industries. These help in
promoting economic development in such countries. A subsidy (reverse tariff) is also
provided by many countries to local manufacturers for exporting to other countries. It
may also be provided to local products to make them competitive against imports.
9.4.2 Anti-dumping Laws

Dumping is a pricing strategy used by many companies to sell products in foreign
markets below costs, or below the price charged for the same to domestic customers.
It is done to capture a larger share in a foreign market and compete with domestic
companies in foreign markets.
Dumping is not considered a condemnable practice for various reasons. In
international business, price discrimination through dumping is considered as a
normal practice as manufacturers sell their products at different prices in different
markets. The prices in various markets change due to changes in the conditions of
demand and supply. Another reason is that export prices are usually less than the
domestic prices.
6
Due to the above reasons, dumping is not considered illegal. However, if dumping
causes or threatens to cause problems to the domestic industry, it is subject to various
regulations. Thus, many governments passed anti-dumping laws to protect local
industries. These laws provide remedies to the domestic industry as against the injury
caused due to the practice of dumping.
9.4.3 Export/Import Licensing

Most countries have laws that call for exporters and importers to obtain licenses
before engaging in trade across national boundaries. Export licensing allows for
statistical tracking of export activities and helps in ensuring that certain goods are not
exported at all or at least not to certain countries. Import licensing helps in controlling
the unnecessary purchase of goods from other countries.
9.4.4 Foreign Investment Regulations

Foreign investment regulations help in limiting the influence of multinational
corporations. These regulations help in achieving a pattern of foreign investment that
contributes most effectively to the realization of the host country’s economic
objectives. Foreign investment regulations can take the following forms.
 Decision making pertaining to the selection of foreign investment, control of
takeovers, prohibition or restriction of foreign investment in certain sectors and
elaboration of incentive schemes.
 Taxation and regulation of financial transactions through determination of locally
taxable income to inhibit avoidance of double taxation; control of capital and
profit repatriation; incentives for profit reinvestment; regulation of local and
foreign borrowing.
 Regulation of ownership, managerial control, and employment through local
participation requirement in ownership and management; limitation of expatriate
employment and local employment quotas.
9.4.5 Incentives
In most developing countries, investments are designed to attract foreign investment.
Sometimes, the only major way the foreign investment can be regulated is through
incentive schemes. Incentives are generally given to benefit the local companies. In
certain countries, foreign investment is the main beneficiary as local companies may
not be able to qualify for the kind of investment encouraged by the incentives. There
are also some incentives that are restricted to local enterprises, joint ventures, or
enterprises with a minority foreign participation.
Based on the basic approach to investment regulation, incentives may be awarded
automatically to all enterprises meeting the conditions specified in the relevant
legislation or it may be granted for a specific performance or contribution to the host
country’s economy (such as export promotion and diversification, transfer of modern
technology, the development of backward areas, encouragement to research in host
country, and so on). Some of the incentives for the establishment of an enterprise are
income-tax holiday for several years; tax measures such as accelerated depreciation;
and fiscal incentives such as waiver of import duties on equipment and materials for
production, exemption from property tax and tax concessions.
9.4.6 Restrictive Trading Laws

These are usually referred to as non-tariff barriers to international trade. These are
adopted by most governments to restrict imports or artificially stimulate exports (in
addition to the tax incentive laws). These can be in the form of customs and entry
procedures, and import charges.
7
9.4.7 Intellectual Property Laws

The Law of Intellectual Rights plays an important role in the business in general. The
investment in business and innovations are more linked to the extent protection
available to the owners of intellectual property. As such it is essential to understand
the nature and scope of intellectual property rights. The understanding of various
categories of intellectual property rights helps in designing strategy for realizing the
business objectivities.
Intellectual property refers to “ideas that are translated into tangible products,
writings, and so on, and that are protected by the State for a limited period of time
from ‘unauthorized commercial exploitation”. Intellectual property rights broadly
include patents, trademarks, copyrights, geographical indications, industrial designs,
circuit layouts, etc.
Patents
Patent is a legal document and evidence of rights on an innovation. Patents are granted
to innovations and inventions but not discoveries.
Patent laws differ from country to country. Most countries follow the “first-to-file”
principle, while countries like the US follow the “first-to-invent” principle. These
differences may lead to litigation as competing patent applicants may try to prove that
they were the first to invent the product or the first to file the application.
Trademarks
A trademark is a word, symbol, or device that identifies the source of goods and may
serve as an index of quality. It is primarily used to differentiate or distinguish a
product or service from another. Most countries mandate registration for a trademark
to be protected. Companies interested to do business globally should register their
trademarks in every country in which protection is desired.
Copyrights
Copyrights protect original literary, dramatic, musical, artistic, and certain other
intellectual works. In some countries, registration is required for protection of
intellectual works, while in some, copyrights protection is offered without registration.
There are also some countries which offer little or no protection for the works of
foreign companies.
Geographical Indications:
A geographical indication (GI) is a name or sign used on certain products which
corresponds to a specific geographical location or origin (e.g. a town, region or
country). Examples: Basmati rice, Swiss watches, etc. Characteristic or reputation
associating them with a given area, and at least one stage in the production process
must be carried out in that area, while the raw materials used in production may come
from another region.
Industrial Designs:
Industrial Design is the skilled service of creating and establishing concepts and
stipulation that optimize the purpose, worth and form of products and systems or the
shared advantage of both user and producer. A design is the protection of the
ornamental or aesthetic aspect of a product. A design makes a product attractive and
appealing for the consumers. They are developed through compilation, examination
and production of data guided by the particular needs of the client or manufacturer.
8
Integrated Circuit Layout Designs

The integrated circuit layout design is the arrangement on a chip of semiconductor
devices such as transistors and passive electronic components such as resistors and
interconnections.
‘Integrated Circuit’ means a product, in its final form or an intermediate form, in
which the elements, at least one of which is an active element, and some or all of the
inter connections are.
‘Layout-design’ means the three dimensional disposition, however expressed, of the
elements, at least one of which is an active element, and of some or all of the
interconnections of an integrated circuit, or such a three dimensional disposition
prepared for an integrated circuit intended for manufacture.
Trade Secrets
A trade secret is any classified or confidential information that provides an edge to an
organization over its competitors. It differs fundamentally from patents, copyrights,
and trademarks with regards to the protection aspect. A trade secret is protected for an
unlimited period of time as long as the secret is maintained. They are protected
without any registration or legal formalities. Given below are some ways in which a
trade secret can be protected.
 By restricting access to the secret information by locking it away at a secure place
 By limiting the number of people who know the information
 By making people who know the trade secret and people who come to know the
trade secret (by chance) sign non-disclosure agreements
 By marking the written documents containing the trade secret as proprietary
The Coca-Cola formula is considered as the most famous trade secret. Known by the
code name, ‘Merchandise 7X’, the Coca-Cola formula is known only to a few people
within the company who have signed non-disclosure agreements. The formula is also
kept in the vault of a bank in Georgia.
Intellectual property has gained importance over a period of time and has become a
source of competitive advantage. It can be violated very easily. To avoid this, nations
should enforce the ownership rights of the companies. The laws dealing with
intellectual property are not consistent across nations, and they cannot be extended
across national boundaries. Even if there is some similarity across nations, the levels
at which they are implemented differ widely. International treaties like the Paris
Convention for the Protection of Industrial Property, the Berne Convention for the
Protection of Literary and Artistic Works, and the Universal Copyright Convention
(developed by the United Nations as an alternative to the Berne Convention) provide
some protection to intellectual property rights.
Example: Trademark Problems for Ugg Boots in Australia

Uggs, a short term for ‘Ugly Boots’, was a very common word in Australia. They
were mainly used in Australia and New Zealand and were relatively unknown in
other parts of the world till the mid 1970s. In 1978, an Australian surfer, Brian
Smith (Smith), took them to the US, obtained a trademark for the term ‘Ugg’, and
started a company Ugg Holdings Inc. (Ugg Holdings). In 1995, Smith sold Ugg
Holdings to the US-based Deckers Outdoor Corporation (Deckers), which started
selling the products under the Ugg label. Deckers repositioned Uggs as a high-
fashion luxury item by the late 1990s. They were featured in some of the world’s
well-known fashion magazines and were endorsed by many Hollywood celebrities.
Contd…
9
Contd…
During the early 2000s, as the popularity of Uggs grew in the US, the demand for
them was so high that shoppers often had to return empty handed from the stores.
Many of them then resorted to buying Uggs online. The online demand for the
boots reached its peak in 2003 when bidding on auction websites for the Ugg
Australia boots was as high as US$ 500 for a single pair. To cash in on the
popularity of the Uggs, Australian sheepskin boot manufacturers too sold their
Uggs in the US through Internet auction sites such as eBay.com but for a much
lower price. Several consumers then started buying Uggs from the Australian
manufacturers through these websites. This irked Deckers which was concerned
about lost sales.
In 2003, Deckers issued legal letters to as many as twenty Australian sheepskin
boot manufacturers and retailers that used different versions of the word ‘Ugg’ to
stop using the word while selling and marketing their products. The firms were
asked to withdraw catalogues, labels, signs, price lists, advertisements, and
business names that contained the words ‘Ugg’, ‘Ug’, or ‘Ugh’. The letter sought to
prohibit the Australian companies from selling Ugg boots to American consumers
through auction sites in the US. Deckers threatened them with legal action if they
continued to use the term ‘Ugg’.
Though the Australian manufacturers had been trading their products using ‘Ugg’ for
several years, it was only in 2003 that Deckers decided to take action against them,
including against those who were selling their products online. This triggered a conflict
between Deckers and Australian sheepskin boot manufacturers. According to the
Australian manufacturers, the word ‘Ugg’ was generic in Australia and therefore could
be used by all the manufacturers of sheepskin boots. They claimed that several of them
had been using the name much before Deckers or Smith had registered it as a
trademark. They also alleged that Deckers was trying to bully smaller businesses.
According to them, trademark laws in Australia offered no protection for generic
words. Thus, a legal dispute started between Australian sheepskin boot manufacturers
and Ugg Holdings, which claimed to own the UGG Australia brand.
As many as three applications were filed with IP Australia by Australian
manufacturers seeking the removal of Ugg trademarks owned by Deckers. They
claimed that the registered trademarks of Ugg had not been used by Deckers over
three consecutive years (relevant period) in Australia, thus making them invalid.
The first application was filed on December 30, 2003, for the removal of the
trademark ‘UGH-BOOTS’ owned by Deckers. On January 16, 2006, IP Australia
ordered the removal of the trademark UGH-BOOTS from the trademark register as
the evidence provided by Deckers was not sufficient to prove that the trademark
had been used in Australia within the three-year period. On March 27, 2006,
another trademark ‘UGH’ was removed from the Australian trademark register
after Deckers withdrew its opposition. The case was filed by Mortel who claimed
non-use of the trademark ‘UGH’ in Australia. The decision was issued by IP
Australia and was subject to appeal in the Federal Court of Australia. In another
trademark hearing, Deckers was successful in retaining the trademark ‘UGG
Australia’ in the trademarks registry.
On July 30, 2004, Luda Productions Pty Ltd (Luda) filed an application for
removal of the trademark ‘Ugg Australia’ for its non-use in Australia. Deckers filed
a notice of opposition on the grounds that the trademark or versions of the mark
had been used within the relevant period. On August 11, 2006, Alison Windsor,
Hearing Officer, issued a decision relating to the application filed by Luda.
Contd…
10
Contd…
The decision was that the trademark (number 785466) would remain on the
Australian trademark register as it had been commercially used within the relevant
three-year period, i.e., from June 30, 2001 to June 30, 2004. John Kalinich, Vice
President of Consumer Direct and Intellectual Property for Deckers, provided
evidence in support of the trademark use in Australia. According to him,
approximately 195,000 pairs of boots manufactured in Australia and with the
trademark ‘UGG Australia’ embossed onto the boot soles were shipped to the US
during that period. He also stated that all the company’s boots manufactured in
Australia during the period also carried the ‘UGG Australia’ wordmark.
Analysts felt that Deckers owned the trademark in the US which meant that
Australian manufacturers could face a difficulty in selling their products in the US in
future. To avoid litigation, many Australian Ugg Boot manufacturers like Koolaburra
and Warmbat started marketing Ugg boots as “sheepskin boots” in the US.
Adapted from “Case Study – The Ugg Boot Controversy in Australia.”The IBS Center for
Management Research, 2008. www.icmrindia.org.
Activity: Fusion Records (FR) is an Africa-based music recording company. An

Indian music director used a song developed by FR in one of his movies. The
music director did not take any permission from FR prior to using the song. He
made certain modifications (changed the lyrics) to it to suit the Indian audience.
The management of FR came to know about this. It filed a case against the music
director as the works of the company were protected according to the laws in
Africa. What is this intellectual property right of FR called as? Name other
intellectual property rights.
Answer:
Check Your Progress - II

Indicate your choice of the correct answer from the options given by circling it.
10. Which of the following can be defined as ideas that are translated into tangible
products, writings, etc., and that are protected by the State for a limited period of
time from unauthorized commercial exploitation?
a. Diffusion
b. Intellectual property
c. Self-reference criteria
d. Either (a) and (b)
11. ____________ is a word, symbol, or device that identifies the source of goods
and may serve as an index of quality.
a. Patent
b. Copyright
11
c. Trademark
d. Trade secret
12. Which of the following statements is true regarding copyrights?
a. It follows ‘first-to-file’ and ‘first-to-invent’ principles.
b. All countries mandate registration for protection of intellectual works.
c. It is primarily used to differentiate or distinguish a product or service from another.
d. They protect original literary, dramatic, musical, artistic, and certain other
intellectual works.
13. Identify the statement that holds true regarding trade secrets.
a. It is legally protected just like patents and trademarks.
b. It is primarily used to differentiate or distinguish a product or service from
another.
c. Registration and certain legal formalities have to be fulfilled to protect the trade
secret.
d. It is any classified or confidential information that provides an edge to an
organization over its competitors.
9.5 Conflict Resolution, Dispute Settlement and Litigation

In global markets, conflicts are inevitable as different cultures come together to buy,
sell, compete, and engage in joint ventures. Differences in legal systems, currencies,
languages, business customs, and also procedural differences in settlement of disputes
complicate litigation in foreign courts.
To avoid such problems, the parties involved should prepare a contract that stipulates a
particular legal system that is to take precedence in resolving any contract dispute. The
court to be used for the purpose should also be specified. The company should keep in
mind that to win a case in its home court is completely different from enforcing a
judgment against a foreign company. It is difficult to enforce unless the foreign
company wants to continue its business in the country where the judgment is obtained.
The company should also ensure that the host country court would have jurisdiction to
hear the case if it is necessary to file a lawsuit in the defendant’s home country.
Arbitration, conciliation, mediation, and negotiations are some forms of settling
disputes in international markets. The International Center for Settlement of
Investment Disputes (ICSID) was established in 1966 to settle disputes between
governments of host countries and foreign investors through conciliation and
arbitration. In the same year, UNCITRAL (United Nations Conference on
International Trade Law) was established by the United Nations to promote a global
set of standards to solve disputes among countries. UNCITRAL, works along with the
World Trade Organization to formulate and regulate the international trade.
Activity: RF Textiles Limited is a textile manufacturing company in India. The

company sells its textiles in India as well as in Japan, Singapore, Malaysia, and
South Africa. To its overseas customers, the company prices its textiles at 30% less
than the price it charges for the domestic customers. Name the strategy adopted by
the company. Is it an ethical strategy? Why and why not?
Contd…
12
Contd…
Answer:
Check Your Progress - III

14. ________ is a tax that a government levies on exports and imports.
a. Tariff
b. Excise duty
c. Sales tax
d. Inheritance tax
15. Identify the statement that holds true regarding export duty.
a. It is levied to discourage overseas selling to maintain adequate supply at
home.
b. It is levied to protect the domestic industry from being out-priced by cheap
imports.
c. It is assessed based on the value of the product, on a unit basis, and on both
product as well as unit basis.
d. All of the above
16. Import duties are levied for:
i. gaining a source of revenue for the government
ii. discouraging overseas selling to maintain adequate supply at home
iii. protecting the domestic industry from being out-priced by cheap imports
a. Only i and ii
b. Only i and iii
c. Only ii and iii
d. i, ii, and iii
17. _______ is provided by many countries to local manufacturers for exporting to
other countries or to local products to make them competitive against imports.
a. Subsidy
b. Import duty
c. Export duty
18. Which of the following is a pricing strategy used by many companies to sell
products in foreign markets below costs or below the price charged for the same
to domestic customers?
13
a. Dumping
b. Licensing
c. Expropriation
d. Domestication
19. _________ allows for statistical tracking of export activities and helps in ensuring
that certain goods are not exported at all, or at least not to certain countries.
a. Dumping
b. Export licensing
c. Import licensing
d. Legal incentives
9.6 Regulatory Environment: Role of the Government

The government plays a major role in the domestic economy. The relationship
between the government and the economy has greatly transformed since the Great
Depression of the 1930s. According to Dimock, “The two most powerful institutions
in society today are business and government, when they meet on common ground-
amicably or otherwise, together they determine public policy- both foreign and
domestic, for a nation.”
The age of Laissez Faire, also called the era of “free enterprise” was based on the
assumption “that every individual acting as a rational being tries to get the greatest
satisfaction from life for himself and, in this process, contributes towards the greatest
possible satisfaction to the society.” The classical economists believed in the principle
of non-interference with economic and business activity. However, developments
particularly those after the Industrial Revolution, changed this view. The Laissez Faire
policy led to the concentration of control and ownership of industrial empires in the
hands of a small number of people.
Practices like monopolies and exploitation of consumers and working classes by
industrial majors for private gains made the government and the economists change
their views about the role of the State in relation to economic activity. It was realized
that the state cannot continue to be a spectator in the economic scenario where
business was uncontrolled and unregulated. Laissez Faire ended with the First World
War. From then on, the government began to play a positive role in the economic
affairs of the country. It became the regulator of the economic activity in the interests
of the people and the community at large.
Though the State became the controller of the economy worldwide, the extent and
nature of control varies widely among nations. For instance, in capitalist countries, the
government regulates economic activity and the operations of business and industries,
though the ownership and control lies in private hands. In democratic countries, the
government takes over the control and ownership of certain segments or activities of
the economy and the rest is left to the private companies, which function under the
guidelines and regulations set by the government. This pattern of economy is
popularly known as mixed economy. Most countries worldwide follow this economic
system including India.
In the mixed economy, the government plays a dual role in relation to private business
and private enterprises that co-exist with government enterprises. The government
provides finance and facilities to the selected companies. Through policies like
14
protection and export promotion, it tries to look after the interests of business houses.
In addition to it, the government also acts as a regulator, i.e., as a restraining force. It
lays down certain guidelines, rules, and regulations, within which companies should
function. In certain cases, the government also takes over a company or an entire
industry.
In totalitarian countries, such as the erstwhile Soviet Union and other communist
countries, the government has gone to the extent of taking over complete control of
economic activity. Economic activity has been completely regimented there. That is,
even production and consumption is determined by the State.
9.6.1 Forms of Government Regulation

The government regulation of business may include a broad range of guidelines
extending from entry into the market, up to the final exit from the market. Given
below are some of the important forms of regulation of private enterprise by the
government.
 General direction and regulation of investment activity in private enterprise.
Economic planning at the national level and the industrial policy helps in
achieving this.
 Regulation of investment, location size and expansion of individual enterprises
and specific industries through industrial licensing.
 Regulation of monopolies and unfair or restrictive trade practices through
legislative authority.
 Regulation of price of commodities and industrial products through legislative
authority.
 Regulation of wages and bonus for employees in the private sector to reduce
exploitation, ensure reasonable standards of living and maintain peace and
harmony in industry.
 Regulation of corporate management.
 Regulation of specific forms of business activity like speculation in shares and
commodities or imports/exports.
Control and Regulation of Prices
The government has the regulatory power to control over private enterprises. It has the
power to fix, control and regulate the prices of products and services. When there is a
probable fall in the production volume in an industry or a company which is not
justified, the government can order for an investigation. Also, if there is a noticeable
decrease in the quality of the products or service, or an unfair increase in the prices,
the government can call for investigation. The government is empowered to give
advice to the industry on pricing of its products and services. The objective is to fix
the price reasonably considering the consumers ‘interests at large. In India, the
government enjoys the power of fixing and regulating the pricing of essential
commodities such as sugar, wheat, and other commodities and basic drugs.
9.7 Purpose of Regulations

The main aim of government intervention should be to maximize society’s welfare.
According to Vilfredo Pareto, there are two ways to do this – pareto efficiency and
pareto improvement. While allocating resources in a society, if there is no way to
reallocate resources to make at least a person better off without making someone else
15
worse off, such a situation is called a pareto efficient. If these resources can be
reallocated in such a way that at least one person is better off without making
someone else worse off, then such a situation is called a pareto improvement.
A market-based economy automatically allocates resources efficiently. The allocation
may not however be fair without government intervention. This is an idealistic
situation and gives rise to two problems – society may not necessarily prefer this
method, and efficiency in resources allocation is not the only goal of any society as
there are other vital social objectives. Concentrating only on the efficiency aspect may
hamper equitable distribution, leading to incapability to satisfy the basic needs of few
people.
Example: Tackling Childhood Obesity Issues

In recent years, many governments have been hardening their stance against food
companies that target children in their advertisements. The reason – the childhood
obesity rate is said to have reached alarming proportions and to be on the verge of
becoming a ‘global epidemic.’ The increasing waistlines of children were
attributed primarily to ‘junk foods’ and reduced physical activity. There were
contrasting views among industry experts on whether there should be government
regulation or self-regulation on junk food advertising by companies.
Government Regulation
In 2000, the US Government made it mandatory for food companies to adhere to
strict nutritional labeling norms that would give details of the sugar and fat content
of their products. Various state governments also brought in regulations against
junk food promotions. For instance, States like Connecticut and California passed
bills to impose restrictions on companies advertising junk food to children. In
2003, the Australian government launched a national action agenda for ‘Healthy
Weight 2008 – Australia’s Future,’ to be coordinated by the National Obesity Task
Force. This program was targeted at children and adolescents and aimed to reverse
the trend of increase in overweight and obesity.
The UK Department of Education and Skills launched a ‘Healthy Living Blueprint’
for schools, in September 2004. It outlined initiatives to provide the required
support to schools to encourage children to eat sensibly, stay physically active, and
maintain good levels of personal health. The European Union (EU) convened a
meeting of representatives from the food industry, the advertising profession, and
Governments in January 2005; the objective was to control advertisements targeted
at children. The participants at the meeting saw a need to set up a self-regulatory
body to monitor the activities of its members.
These government initiatives were opposed by food companies. They came
together to form the Alliance for American Advertising, in January 2005, to defend
their ‘right’ to advertise to children. The alliance also contended that the need of
the hour was self-regulation and not a total ban on advertising.
Self-regulation by Corporates
McDonald’s faced criticism for selling food that was high in fat and calories. As
people became more aware of the downside of fast food, the company began
promoting the idea of an active lifestyle to adults as well as children. It revamped
its ads by showing its mascot, Ronald McDonald, burning calories, by working out
and playing soccer with children. It also used Olympic sportspersons to promote
health and fitness among children.
Contd…
16
Contd…
Kraft Foods voluntarily withdrew its ad campaigns aimed at children aged below
twelve. In early 2005, the company announced that from the year 2006, it would no
longer advertise some of its products on television, radio and in print media
vehicles that were primarily targeted at children in the age range between 6 and 11
years. The company also launched an education campaign that was aimed at
educating school students. The nutrition expert team of the company created a
program called ‘sensible solution’ based on the US dietary guidelines put out by
the US Food and Drug Administration (USFDA). The program provided details of
the nutritive value of the company’s food products. The company also introduced
the Kid Sense range of products that addressed the obesity issue and that had less
fat content.
Coca-Cola was criticized as being partly responsible for the rising obesity rates in
children, especially since the sugar content in its carbonated beverages was very
high. As a response to these concerns, Coca-Cola sought to provide children with
more choices and stopped promoting carbonated drinks through vending machines
at school. In the UK, the company voluntarily withdrew advertisements to children
below 12. In Australia, Coca-Cola introduced the ‘Active Lifestyle Program’ to
educate and support the community to combat overweight and obesity. This
program included a sub-program named ‘Active Factor’, to support initiatives for
increasing the physical activity levels of children, by focusing on education,
participation, and inspiration. In Thailand, Coca-Cola launched a television
commercial aimed at children; this ad featured an aerobics instructor appealing to
children to participate in more physical activities and become healthier and fitter.
Coca-Cola introduced a low carbohydrate (carb) drink called ‘C2’, which it
claimed had half the sugar content of the original Coke. Coca-Cola entered into a
tie-up with McDonald’s to promote ‘C2’.
Adapted from “Case Study – Childhood Obesity: Should Junk Food be Regulated?” The IBS
Center for Management Research, 2005. www.icmrindia.org.
Check Your Progress - IV

20. Which of the following statements is true regarding the role of government in
regulating an economy?
i. In capitalist countries, the government regulates economic activity and the
operations of business and industries, though the ownership and control lies
in private hands.
ii. In mixed economies, the government takes over the control and ownership of
certain segments of the economy and the rest is left to the private companies,
which function under the guidelines and regulations set by the government.
iii. In democratic countries, the government plays a dual role in relation to
private business, and private enterprises co-exist with government
enterprises.
iv. In totalitarian countries, the government has taken over complete control of
economic activity.
a. Only i and ii
b. Only i and iv
17
c. Only ii and iii

d. Only iii and iv
21. In which of the following ways can government regulate the private enterprises?
i. By regulating investment, location size, and expansion of individual
enterprises and specific industries through industrial incensing
ii. By regulating price of commodities and industrial products through
legislative authority
iii. By regulating specific forms of business activity like speculation in shares
and commodities or imports/exports
iv. By regulating wages and bonus for employees in the private sector to reduce
exploitation, ensuring reasonable standards of living, and by maintaining
peace and harmony in the industry
b. Only i, iii, and iv
c. Only ii, iii, and iv
d. i, ii, iii, and iv
22. While allocating resources in a society, if there is no way to reallocate resources
to make at least a person better off without making someone else worse off, such
a situation is called a __________ situation.
a. pareto efficient
b. pareto improvement
c. equitable distribution
9.8 Summary
 Legal environment refers to laws that govern the setting up and operation of the
business. It differs from country to country posing many problems with firms
operating internationally.
 International law may be defined as the rules and principles that States and
Nations accept as binding.. Legal environments can be domestic, foreign or
international.
 There is no international body that makes rules and ensures that the parties follow
them.
 In the present scenario, a business incorporated in a particular country carries the
burden of complying with the laws of both the incorporating nation and the host
country.
 Extraterritoriality refers to the State or Nation in which certain diplomatic
jurisdiction of the laws in that country.
 Host countries enact laws to control foreign business in their economies. These
laws depend upon the country’s economic objectives and its obligations and
position in relation to worldwide commerce.
18
 Intellectual property refers to ideas that are translated into tangible products,
from ‘unauthorized commercial exploitation’.
 Intellectual property rights broadly include patents, trademarks, copyrights, and
trade secrets.
 Laws that play a role regarding entry into foreign markets take several forms,
including tariffs, anti-dumping laws, export/import licensing, investment
regulations, legal incentives, and restrictive trading laws.
 In global markets, conflicts are inevitable as different cultures come together to
buy, sell, compete, and engage in joint ventures. To avoid such problems, the
parties involved should prepare a contract that stipulates a particular legal system
for taking precedence in resolving any contract dispute.
 Government plays a major role in every national economy of the world.
 The extent and nature of control varies widely between nations such as capitalist
economies, mixed economies, and totalitarian economies.
 Government regulation on business includes a broad range of guidelines
extending from entry into the market to the final exit from the market.
 Pareto efficient and pareto improvement are the two weapons, through its
application the government can maximize the society’s welfare.
9.9 Glossary
 Domestic legal environment: In this environment, the laws of the home country
govern the business.
 Dumping: A pricing strategy used by many companies to sell products in foreign
markets below costs, or below the price charged for the same to domestic
customers.
 Extraterritoriality: It refers to the state in which certain diplomatic
jurisdiction of the laws in that country.
 Foreign legal environment: As the company crosses the national border, the
company and its practices will be governed by the laws of the host country.
 International law: Law governing the legal relations among or between the
States and Nations.
 International legal environment: This environment is a combination of legal
systems and laws of various nations put together.
 Pareto efficient (to maximize society’s welfare): While allocating resources in a
society, if there is no way to reallocate resources to make at least a person better
off without making someone else worse off, such a situation is called a pareto
efficient situation.
 Pareto improvement (to maximize society’s welfare): If the resources can be
reallocated in such a way that at least one person is better off without making
someone else worse off, then such a situation is called a pareto improvement
situation.
 Tariff: A tariff is a tax that a government levies on exports and imports. Tax
associated with exports is called export duty, and tax associated with imports is
called import duty or customs duty.
 Trademark: A word, symbol, or device that identifies the source of goods and
may serve as an index of quality.
19

1. An understanding of the legal environment in the host country and knowledge of
the international business market is necessary for those involved in any business.
Explain the characteristics of operating in an international legal environment.
What are the various issues that need to be considered while operating
internationally?
2. Host countries enact laws in several forms to control foreign business in their
economies. What are these forms?
3. Conflicts are inevitable in global markets. Why do conflicts occur? How can they
be resolved?
4. Government intervenes through regulations to ensure that producers and service
providers are reliable. Explain the role played by government in the regulatory
environment of business. What are the various ways in which the government can
regulate the business of an organization?
5. The main aim of government intervention should be to maximize society’s
welfare. How can the government intervene to maximize the welfare of the
society?

1. Justin Paul, “Business Environment: Text & Cases,” Tata McGraw Hill
Publishing Company Limited, 2013.
2. “Intellectual Property Rights” <http://dipp.nic.in/ipr.htm>
3. “Intellectual Property Rights” <http:// www.ias.ac.in/ currsci/jun102000
/editorial.pdf>
4. “Trade Secret ”<http://www.wipo.int/ sme/en/ip_business /trade_secrets/ trade
_secrets .htm>
5. “Tariffs” <http://economics.about.com/cs/taxpolicy/a/tariffs.htm>
6. “Anti-dumping Laws”<http://commerce.nic.in/Anti-Dum.PDF>
7. “Anti-dumping Laws”<http://www.tariffcommission.gov.ph/anti-dum2.html>
8. “Export Licensing”<http://www.infodriveindia.com/Exim/Guides/How-To-
Export/Ch_7_Export_License.aspx>
9. “Pareto Efficiency and Improvement”<http:// wilcoxen.maxwell.insightworks.
com/ pages/225.html>
10. “Pareto Efficiency and Improvement” <http://www.economics.utoronto.
ca/osborne/2x3/tutorial/PE.HTM>

Following are the answers to the Check Your Progress questions given in the Unit.
1. (c) International law
International law may be defined as the rules and principles that states and
nations accept as binding. It can also be defined as a collection of treaties and
agreements between or among States and Nations that are (more or less) legally
enforceable.
20
2. (d) Only i, iii, and iv

The field of international law is complex. The two unique characteristics of
operating in an international legal environment are -- (a) The national law is not
applicable overseas. It is binding only till the trade goes on within the State or
Nation, and (b) There is no international judicial and administrative framework or
a body of law that forms the basis of a comprehensive international system.
3. (b) Statute law is also called British law and is followed by countries like the
UK, India, and the US.
All the statements are true except statement (b). Common law is also called British
law. It is followed by about 25 countries including the UK, India, and the US.
4. (a) Statute law
Statute law guides countries by embodying the main rules of the law in legislative
codes. Thus, under this system, the interpretations of the law are strict and literal.
It is also known as code or civil law.
5. (a) Domestic legal environment
Legal environments can be domestic, foreign or international. In the domestic
legal environment, the laws of the home country govern the business. Laws can
affect both imports and exports.
6. (c) The company and its practices will be governed by the laws of the host
country as the company crosses the national border.
Under the foreign legal environment, the company has to conform to the laws of
the host country. As the company crosses the national border, the company and
its practices will be governed by the laws of the host country.
7. (a) Only i and ii
The international legal environment is a combination of legal systems and laws of
various nations put together. There is no international law as such that describes
acceptable and legal behavior for organizations.
8. (c) Either ii or iii
If the parties have not included jurisdiction clause in the contract, two alternative
courses of action are possible -- settle the dispute by following the laws of the
country where the agreement was made, or resolve the dispute by applying the
laws of the country where the contract has to be fulfilled.
9. (c) Extraterritoriality
Extraterritoriality refers to the State or Nations in which certain diplomatic
jurisdiction of the laws in that country. For instance, ambassadors, diplomatic
agents, military bases, offices of the United Nations, etc., are some entities that
are under the state of extraterritoriality.
10. (b) Intellectual property
Intellectual property refers to “ideas that are translated into tangible products,
from ‘unauthorized commercial exploitation’.” Intellectual property rights
broadly include patents, trademarks, copyrights, and trade secrets.
11. (c) Trademark
A trademark is a word, symbol, or device that identifies the source of goods and
may serve as an index of quality. It is primarily used to differentiate or
distinguish a product or service from another.
21
12. (d) They protect original literary, dramatic, musical, artistic, and certain
other intellectual works.
Copyrights protect original literary, dramatic, musical, artistic, and certain other
intellectual works. In some countries, registration is required for protection of
intellectual works, while in some, copyrights protection is offered without
registration. There are also some countries which offer little or no protection for
the works of foreign companies.
13. (d) It is any classified or confidential information that provides an edge to an
organization over its competitors.
A trade secret refers to any classified or confidential information that provides an
edge to an organization over its competitors. Trade secrets differ fundamentally
from patents, copyrights, and trademarks with regards to the protection aspect. It
is protected for an unlimited period of time as long as the secret is maintained.
They are protected without any registration or legal formalities.
14. (a) Tariff
A tariff is a tax that a government levies on exports and imports. Tax associated
with exports is called export duty, and tax associated with imports is called
import duty or customs duty.
15. (a) It is levied to discourage overseas selling with intent to maintain adequate
supply at home.
Only statement (a) is true regarding export duty. Statements (b) and (c) pertain to
import duty.
16. (b) Only i and iii
Statements i and iii are true, while statement ii is false. Export duty is levied to
discourage overseas selling with intent to maintain adequate supply at home.
17. (a) Subsidy
A subsidy, also known as reverse tariff, is provided by many countries to local
manufacturers for exporting to other countries. It may also be provided to local
products to make them competitive against imported products.
18. (a) Dumping
Dumping is a pricing strategy used by many companies to sell products in foreign
markets below costs, or below the price charged for the same to domestic
customers. It is done to capture a foreign market and to damage rival foreign
national companies.
19. (b) Export licensing
Export licensing allows for statistical tracking of export activities and helps in
ensuring that certain goods are not exported at all, or at least not to certain
countries. Import licensing helps in controlling the unnecessary purchase of
goods from other countries.
20. (b) Only i and iv
Statements i and iv are true regarding the role of government in regulating an
economy. Statements ii and iii are false. In democratic countries, the government
takes over the control and ownership of certain segments of the economy and the
rest is left to the private companies, which function under the guidelines and
regulations set by the government. In the mixed economy, the government plays a
dual role in relation to private business, and private enterprises co-exist with
government enterprises.
22
21. (d) i, ii, iii, and iv

The government can use all the ways mentioned above to regulate the private
enterprises. Government regulation of business may include a broad range of
guidelines extending from entry into the market to the final exit from the market.
22. (a) pareto efficient
The government can maximize society’s welfare using two ways -- pareto
efficient and pareto improvement. While allocating resources in a society, if there
is no way to reallocate resources to make at least a person better off without
making someone else worse off, such a situation is called a pareto efficient. If
these resources can be reallocated in such a way that at least one person is better
off without making someone else worse off, then such a situation is called a
pareto improvement.
23
Unit 10
Tax Environment
Structure
10.1 Introduction
10.2 Objectives
10.3 General Purposes of Taxation
10.4 Types of Taxation Policy
10.5 Features of an Ideal Tax System
10.6 Summary
10.7 Glossary
10.1 Introduction
In the previous unit, we have discussed about the legal and regulatory environments.
We have discussed how the governments worldwide intervene in the business of
organizations through their legal framework, and rules and regulations. We have seen
how the governments play a vital role in ensuring that the business is carried on in a
just and equitable environment, and that there is an overall development of the
economy.
In this unit, we will discuss how taxation affects the economy and the business of an
organization. Taxation forms a crucial part of all economies, as the funds collected
through taxes are used by the governments of various countries for public welfare and
for developing their economies. In business, the understanding of taxation
environment within the country of its operation is crucial as it affects the business
both directly and indirectly. For a company, a good understanding of the implications
of the taxation policy for the business gives it a clear picture of the environment
within which the business functions.
In this unit, we will discuss the tax environment. We will first look at the purpose of
taxation. We will then move on to discuss the various types of taxation policies.
Finally, we will look at the features or traits of an ideal tax policy.
10.2 Objectives
By the end of this unit, you should be able to:
 Understand the general purposes of taxation
 Examine the types of taxation policies
 Study the features of an ideal tax system
10.3 General Purposes of Taxation

Tax is a compulsory contribution and obligation of a citizen, irrespective of the exact
amount of service rendered to the tax payer in return, and not imposed as a penalty for
any legal offence. Governments impose taxes for three main purposes. Taxes are
imposed in order to raise revenues, to promote economic goals, and to promote social
groups. These purposes are common to all countries worldwide.
24
Unit 10: Tax Environment
10.3.1 Raise Revenues

Taxes are imposed on individuals, organizations, products and services. These are the
most important sources of revenue to the government. The revenues earned through
taxes are used in promoting the welfare of the society.
10.3.2 Economic Goals

Taxes also help in promoting economic goals of the governments. These goals may be
at the national level or at the individual industry level. The government may decrease
taxes to stimulate the economic activity, while may increase taxes to slow down
excessive growth in the economy. The government may also provide tax concessions
to certain industries to encourage them to perform better. For instance, some countries
give tax concessions in order to promote research and development activities. Some
countries impose high tariffs on the manufactured goods which are imported. This is
done to promote economic goals of protecting a domestic industry from competition
from foreign companies or of discouraging the outflow of foreign exchange reserves.
10.3.3 Social Goals

Taxes also help in promoting social goals. The government may increase taxes to help
the people affected by natural calamities. For instance, the revenues earned through
taxes may be contributed to relief and rehabilitation programs of people who have
been affected by the floods, earthquakes, etc. Taxes may also be imposed in order to
discourage or encourage certain social behavior. For instance, heavy taxes may be
imposed on liquor and tobacco. This helps in raising revenues at one end, while
decreasing their use at the other end.
Example: Tax Problems for Cairn Energy in India

In 1996-97, crude oil production in India was around 32.90 million tonnes (mt)
while consumption of petroproducts was around 79.16 mt. India’s gross import of
crude oil and petroproducts in the year touched 54.17 mt, at a cost of Rs 341.72
billion. To reduce the increasing gap between demand and production, the
Government of India proposed a new exploration and licensing policy (NELP) in
the 1997-98 budget, which was accepted in 1998.
Under the NELP, a total of 48 exploration blocks – onland, offshore and deep-water
blocks were identified. The NELP aimed to increase the exploration of oil in India and
permit private, public, or joint venture partnerships in explorations. The government
signed 90 contracts, with investment of about US$ 4.4 bn. Also, additional fiscal
concessions were proposed for companies undertaking exploration in deep waters and
frontier areas for a period of seven years. The blocks under NELP were not subjected to
any cess by the state governments as against the old policy of paying cess to the
respective state governments where the block was identified.
Cairn Energy PLC is an independent, public oil and gas exploration and production
company based in Edinburgh, Scotland. The firm explores for and produces oil and
natural gas offshore and onshore in Bangladesh and India. In 2004, after extensive
exploration and appraisal program across its 5,000 square kilometre onshore
exploration block, Cairn Energy announced a major oil find in Rajasthan. The
British company planned to start production in 2007, and estimated that it would
produce 80,000 to 100,000 barrels per day from its Mangala and Aishwariya fields
in Barmer district in Rajasthan.
Contd…
25
Contd…
Cairn Energy received formal approval from the Government of India for a Declaration
of Commerciality in respect of its oil discoveries in Rajasthan. This approval provided
Cairn an extensive Development Area, inclusive of all development, appraisal, and
exploration rights, across 1,858 square kilometers of the Thar Desert in Rajasthan. The
Development Area was to be retained until 2020 and further extension in retention was
possible with the consent of Government of India. Cairn also started work on
developing the proposed oil sites and contemplated submitting the Field Development
Plan to the Indian government in the first half of 2005.
The Oil and Natural Gas Corporation (ONGC), a major Indian public sector
company in the petroleum industry, has a right to a 30 percent stake in any
development area resulting from a commercial discovery in the block. Cairn owned
100 percent stake in the Rajasthan block as ONGC was reluctant to exercise its
right to buy a 30 percent stake in the block, as it would become liable to pay
statutory dues of royalty for itself and Cairn. ONGC argued that what it would get
out of taking a 30 percent stake in terms of crude oil was much less than what it
would have to pay as statutory levies. After persuasion from the Indian
government, it finally agreed to take a 30 percent stake. Thus, Cairn became the
operator of the field while ONGC was the licensee.
The Petroleum Ministry asked Cairn to pay a production tax (cess) of Rs. 900 per
tonne of crude oil it planned to produce from Barmer district. But Cairn refused to
pay the cess, claiming that the Rajasthan block was a pre-NELP block where
ONGC, as the licensee, was responsible for the payment of all statutory dues such
as royalty and cess.
Finally, the Petroleum Ministry referred the case to the Law Ministry. The Law
Ministry ruled that Cairn Energy would have to pay the proposed cess on the crude oil
as it planned to produce from Barmer district. The Ministry sought a clear written
commitment from the company that it would pay up the cess. Also, the Ministry
warned that failure to pay the cess would result in the transfer of entire fields to ONGC.
The Ministry clearly stated that the production sharing contract (PSC) for the Rajasthan
block clearly mentioned only the royalty that would be paid by ONGC but not the
payment of production cess. Since Cairn and ONGC were partners, both were ordered
to pay the cess in proportion to their shareholding (ONGC was thus liable to pay a part
of the cess and also royalty). Cairn disagreed with the Law Ministry ruling too and said
that it was ONGC’s liability to pay the cess. It said that it could head for an arbitration
to resolve the dispute. As of September 2009, Cairn Energy appointed an arbitrator in
London to solve the dispute with ONGC over payment of cess.
Adapted from “Case Study – Cairn Energy: A Tryst with the Indian Market.” The IBSCenter for
Management Research, 2005. www.icmrindia.org.
Activity: In February 2001, the Government of India announced that a 2%

surcharge would be levied on income tax and corporate tax. The Government stated
that this was a tax-oriented relief measure that was taken up for rebuilding and
rehabilitation of Gujarat, which was badly hit by earthquake on January 26, 2001.
In the given situation, what goal does the imposition of taxes serve? For what other
purposes are taxes imposed by the Government?
Answer:
26

 Which of the following refers to a compulsory contribution imposed by the
Government, irrespective of the exact amount of service rendered to the payer in
return?
a. Tax
b. Rebate
c. Subsidy
d. Foreign exchange
 For which of the following purposes are taxes imposed by governments?
i. To raise revenues
ii. To promote economic goals
iii. To promote social groups
a. Only i and ii
b. Only i and iii
c. Only ii and iii
d. i, ii, and iii
 Which of the following statement is true regarding imposing of tax by the
government to promote economic goals?
i. The goals may be at the national level or at the industry level.
ii. The Government may increase taxes to stimulate the economic activity, and
decrease taxes to slow down excessive growth in the economy.
iii. The Government may provide tax concessions to certain industries to motivate
them.
iv. The Government may impose high tariffs on imported goods so as to protect
a domestic industry from competition from foreign companies.
b. Only i, ii, and iv
c. Only i, iii, and iv
d. Only ii, iii, and iv
 The Governments of some countries impose high tariffs on manufactured goods
which are imported in order to
a. promote social goals
b. protect a domestic industry from competition from foreign companies
c. discourage the inflow of foreign exchange reserves
d. All of the above
 Which of the following are the social goals served through the imposition of taxes
by the Government?
i. To protect the domestic industry from competition from foreign companies
ii. To stimulate the economic activity and reduce the outflow of foreign
exchange reserves
27
iii. To discourage the consumption of harmful products such as liquor and

tobacco
iv. To contribute the revenues toward relief and rehabilitation of people affected
by natural calamities such as floods and earthquakes
a. Only i and ii
b. Only i and iv
c. Only ii and iii
d. Only iii and iv
10.4 Types of Taxation Policy

Taxation policies can be divided into direct taxes and indirect taxes.
10.4.1 Direct Taxes

Direct taxes are paid by the person on whom it is legally imposed. They cannot be
passed on to someone else. Income tax and inheritance tax are the examples of direct
taxes.
10.4.2 Indirect Taxes

Indirect taxes are said to be indirect because tax payer is not the tax bearer. For
example, a retail shop owner collects the tax from his customers, to repay the same to
the government.
Direct taxes are different from indirect taxes. Direct tax is imposed on the tax payer
by the government, while indirect taxes are collected by the intermediary. In simple
sense, indirect taxes are collected by intermediaries like retailers from customers who
eventually bear the burden of the tax. Excise tax, sales tax, customs duty, value added
tax etc., are the examples of indirect taxes.
Compared to direct taxes, indirect taxes have certain advantages. Indirect taxes are
imposed on products and services, and not on individuals. Indirect taxes are paid by
individuals indirectly in the form of higher prices which include the taxes levied.
Thus, it reduces the resistance in paying these taxes. Indirect taxes are easier to
collect. These taxes can be easily recorded, verified, and controlled. Indirect taxes
cannot be evaded easily as compared to direct taxes. The government uses the revenue
collected through indirect taxes to provide subsidy and other benefits to develop
industrial growth in backward areas and high priority sectors of the economy.
There are also certain disadvantages. Indirect taxes are paid by all people, whether rich
or poor. Indirect taxes are also charged on the essential goods. These taxes increase the
price of the product or the service, and the customers have to pay more to buy the
product or the service. In case of imports of capital goods, if the indirect tax (customs
duty) is high, it is difficult to attract the best technology, which may contribute to good
quality products and services. To avoid payment of high customs duty, individuals or
companies may resort to unethical and illegal practices like smuggling.
10.5 Features of an Ideal Tax System

An ideal tax policy should be fair, neutral, and simple.
10.5.1 Fair
Tax payers must contribute their fair share in taxes. However, it is difficult to
determine the fair share in taxes for the tax payer. In most countries, the ‘ability to
pay’ is adopted as a measure for determining the ‘fair share’. That is, those with
28
greater ability (more money) should pay more taxes. In most countries, the ability to
pay is decided by considering the net income of the individual or the business.
10.5.2 Neutral
An ideal tax system should be neutral. Taxes should be imposed on individuals,
organizations, products, and services alike. In situations, where the tax system does
not contribute to the economic or social goal, the main aim should be to mitigate the
interference with the decisions of the taxpayers. The tax system should be designed in
such a way that it does not benefit an industry at the cost of others. It should not favor
a competitor (or a group of competitors) within an industry. It should not influence the
choice of production factors or product outputs of a firm.
10.5.3 Simple
A tax system should not be complex to manage. The costs involved in the collection of
taxes should be low. Individuals and firms should not be able to avoid taxes. They should
be able to comply with the provisions of the law without spending much time and money.
The tax system should be in tune with the level of development of the country.
The simple feature of the tax system may conflict with the equity and neutrality
features. These conflicts can be solved based on the economic circumstances
prevailing in the country at the time when the tax system was implemented. Overall,
the tax system should be designed in such a way that it contributes to the growth and
development of the country. It should also meet the requirements of the business
environment of the country.
Example: VAT in India

Value Added Tax (VAT) came into effect in India on April 01, 2005. The first few
days of its implementation saw protests from different sections of society. Even
after two months of implementation of VAT, traders were worried and confused
over whether they have to pay more tax; consumers were afraid that they will have
to pay higher prices for commodities; and companies were unsure of whether they
stand to gain or lose. Certain states in India which have implemented VAT and
those which were to take it up had a common concern – whether there will be an
increase in prices of products after implementation of the new tax system. There
were thus a lot of misconceptions and misinterpretations regarding VAT.
VAT is a tax structure intended to replace central sales tax and other state taxes.
Under VAT, which is a method of indirect taxation, a tax is levied on the value
added at each stage of a product being produced and sold and not on the gross sales
price. VAT is applicable to all goods, except those whose prices are not fully
market driven. Under VAT, there are only two basic tax rates – 4% and 12.5% –
and a special rate of 1% for few selected items like gold, silver, and precious
stones. The surge in taxes under the pre-VAT tax regime was expected to be
avoided under the VAT system. At each level of the value chain, the tax is levied
only on the value addition to the product at that particular level.
In the pre-VAT regime, for example, if inputs worth Rs 100 were purchased for
producing final goods (output) worth Rs 200 in a month, then the total tax worked
out to Rs 24 with input tax paid at four per cent (Rs 4) and output tax paid at 10 per
cent (Rs 20). Under the VAT regime, the tax levied on sales of final goods worth
Rs 200 would work out to only Rs 16 [output tax of Rs 20 minus Rs 4 (Rs 4 set off
from Rs 20) as it had already been paid as input tax]. Thus, the total tax paid would
amount to Rs.20 at all stages (Rs 4 in the first stage and Rs 16 in the second stage).
With this system, traders and consumers can expect paying reduced total taxes
when compared with the previous system.
Contd…
29
Contd…
However, some analysts viewed that there would be an increase in the prices of
some commodities while there would be a reduction in the prices of others. This
was because some products that were being taxed lower, say, at 5%, may now be
taxed at 12.5% while others, based on their relevance, may be taxed at a rate much
lower than earlier, say at 4% under VAT.
VAT was not a new concept. In fact, more than 130 countries worldwide had
introduced it over the past three decades. Studies from countries that had
implemented VAT successfully had revealed that there was no direct evidence
from any country of price increase due to its introduction. In April 2005, 21 out of
the 28 states in India began implementing VAT. The states had been assured by the
Union Government that they would be fully compensated for any revenue losses
incurred during the fiscal year ending March 2006 due to the implementation of
VAT. The states were therefore liberally experimenting with VAT rates and with
the list of commodities under each slab.
Prior to VAT, the tax being levied on a particular product by one state was different
from the tax levied on it by the other state. VAT is intended to bring about
uniformity in the tax structure throughout the country. However, as some states had
still not accepted the VAT system, the process of implementing a uniform tax
structure throughout India was getting delayed.
Some analysts felt that the benefits of the VAT system to manufacturers, traders, and
consumers needed to be communicated properly so that all sections of the society in
India will accept it whole-heartedly. According to analysts, VAT should curb tax
evasion to a considerable extent and this would result in increased revenue generation to
the Government. It was reported that State Governments that have been implementing
the VAT system from April 01, 2005, saw at least a 25 per cent increase in revenues
from the new tax system as against the erstwhile sales tax system.
Adapted from “Case Study – India: Before and After VAT.” The IBS Center for Management
Research, 2005. www.icmrindia.org.

 Which of the following is paid by the person on whom it is legally imposed, and
cannot be passed on to someone else?
a. Sales tax
b. Direct tax
c. Indirect tax
d. Customs duty
 Identify from the following an example of direct tax.
a. Sales tax
b. Excise tax
c. Inheritance tax
d. Value added tax
 Identify the statement that holds true regarding indirect taxes.
a. These are paid by the person on whom it is legally imposed, and cannot be
passed on to someone else.
b. These are paid by one individual initially, but the burden of these taxes is
passed on to another who eventually bears the burden.
30
c. Income tax and excise tax are examples of indirect taxes.

d. These taxes are imposed by the government on the tax payer.
 Which of the following is not an advantage of indirect taxes?
a. These are used by the government to provide subsidy and other benefits to
promote growth in backward areas.
b. They are imposed on all people, irrespective of their position in the society.
c. They can be easily recorded, verified, and controlled.
 ___________ is not an indirect tax.
a. Sales tax
b. Excise tax
c. Inheritance tax
d. Value added tax
 Which of the following is not a feature of an ideal tax policy?
a. Fairness
b. Neutrality
c. Simplicity
d. Partiality
 Which of the following statements is true regarding the neutrality feature of an
ideal tax system?
i. Taxes should be imposed on individuals, organizations, products, and services
alike.
ii. The tax system should not favor a particular competitor within an industry.
iii. The tax system should influence the choice of production factors or product
outputs of a firm.
iv. The tax system should be designed in such a way that it does not benefit an
industry at the cost of others.
Activity: In the Union Budget presented in 2014, the Finance Minister of India
proposed the following taxable annual income slabs and their respective tax rates
for the female citizens applicable for the financial year 2014-2015.
Taxable Annual Income Slab (Rs.) Tax Rate (%)
UptoRs. 2,00,000/- Nil
Rs. 2,00,001/- to Rs. 5,00,000/- 10%
Rs. 5,00,001/- to Rs. 10,00,000/- 20%
Rs. 10,00,001/- and Above 30%
Contd…
31
Contd…
The above given system satisfies which feature of an ideal tax system? What are
the other features that make up an ideal tax system?
Answer:
10.6 Summary
 Taxation forms a crucial part of all economies, as the funds collected through
taxes are used by the governments of various countries for public welfare and for
developing their economies.
 In business, the understanding of taxation environment within the country of its
operation is crucial as it affects the business both directly and indirectly.
 Tax is a compulsory contribution imposed by the government, irrespective of the
exact amount of service rendered to the tax payer in return, and not imposed as a
penalty for any legal offence.
 Governments impose taxes for three main purposes. Taxes are imposed in order
to raise revenues, to promote economic goals, and to promote social groups.
These purposes are common to all countries worldwide.
 Taxation policies can be divided into direct taxes and indirect taxes.
 Direct taxes are paid by the person on whom it is legally imposed. They cannot be
 Income tax and inheritance tax are the examples of direct taxes.
 Indirect taxes are paid by one individual initially, but the burden of these taxes is
passed on to another who eventually bears the burden
 Excise tax, sales tax, customs duty, value added tax etc., are the examples of
indirect taxes.
 An ideal tax policy should be fair, neutral, and simple. Tax payers must
contribute their fair share in taxes. Taxes should be imposed on individuals,
organizations, products, and services alike. A tax system should not be complex
to manage.
10.7 Glossary
 Customs duty: An indirect tax which is levied on the import or export of goods.
 Direct taxes: These are paid by the person on whom it is legally imposed. They
cannot be passed on to someone else.
 Excise tax: An indirect tax levied on the production or sale of a product and/or a
service within a country.
 Income tax: A direct tax levied on the income of individuals and business
organizations.
32
 Indirect taxes: These are paid by one individual initially, but the burden of these
taxes is passed on to another who eventually bears the burden. That is, indirect
taxes are collected by intermediaries like retailers from customers who eventually
bear the burden of the tax.
 Inheritance tax: A direct tax that arises on the death of an individual. It is levied
on the money or the property of a person who has died.
 Sales tax: An indirect tax that is levied at the point of purchase of certain products
and/or services. It is also known as a consumption tax. The tax is included either in
the price of the product and/or service or added at the point of sale.
 Tax: A compulsory contribution imposed by the Government, irrespective of the
exact amount of service rendered to the tax payer in return. It is not imposed as a
 Value-added Tax (VAT): An indirect tax levied on the value added at each stage
of a product being produced and sold and not on the gross sales price.

1. ‘Taxes are imposed in order to raise revenues, to promote economic goals, and to
promote social groups.’ Explain this statement in detail.
2. An ideal tax policy should have certain traits or features. What are these traits?
3. Taxation policies can be divided into direct taxes and indirect taxes. What are
direct taxes and indirect taxes? Explain the differences between these two.

1. Dr. Vinod K Singhania Dr. Kapil Singhania “Direct Taxes: Law & Practice,”
Taxman publications 2014.
2. V. S. Datey, “Indirect Taxes: Law & Practice,” Taxman Allied Services Pvt. Ltd,
34th Edition, 2015.

Following are the answers to the Check Your Progress questions given in the unit.
1. (a) Tax
Tax is a compulsory contribution imposed by the government, irrespective of the
exact amount of service rendered to the tax payer in return, and not imposed as a
2. (d) i, ii, and iii
Governments impose taxes for three main purposes. Taxes are imposed in order
to raise revenues, to promote economic goals, and to promote social groups.
3. (c) Only i, iii, and iv
All the statements hold true, except statement (ii). The government may decrease
taxes to stimulate the economic activity, and may increase taxes to slow down the
excessive growth in the economy.
4. (b) protect a domestic industry from competition from foreign companies.
Some countries impose high tariffs on manufactured goods which are imported.
This is done to promote economic goals of protecting a domestic industry from
competition from foreign companies or of discouraging the outflow of foreign
exchange reserves.
33
5. (d) Only iii and iv

Taxes help in promoting social goals. The government may increase taxes to help
the people affected by natural calamities. Taxes may also be imposed in order to
discourage or encourage certain social behavior. For instance, heavy taxes may be
imposed on liquor and tobacco. This helps in raising revenues at one end, while
decreasing their use at the other end.
6. (b) Direct tax
7. (c) Inheritance tax
passed on to someone else. Income tax and inheritance tax are the examples of
direct taxes.
8. (b) These are paid by one individual initially, but the burden of these taxes is
passed on to another who eventually bears the burden.
Indirect taxes are paid by one individual initially, but the burden of these taxes is
passed on to another who eventually bears the burden. Direct tax is imposed on
the tax payer by the government, while indirect taxes are collected by
intermediaries like retailers. Excise tax, sales tax, customs duty, value added tax
etc., are the examples of indirect taxes.
9. (b) They are imposed on all people, irrespective of their position in the society.
All the statements are advantages of indirect taxes, except statement (b).
Statement (b) is a disadvantage. Indirect taxes are paid by all the people,
irrespective of their position in the society, whether they are rich or poor.
10. (c) Inheritance tax
Excise tax, sales tax, value added tax, etc., are examples of indirect taxes.
Inheritance tax is a direct tax.
11. (d) Partiality
An ideal tax policy should be fair, neutral, and simple. A tax policy should not be
partial to any particular individual or business entity. Taxes should be imposed on
individuals, organizations, products, and services alike.
12. (b) Only i, ii, and iv
All the statements are true regarding the neutrality feature of an ideal tax system,
except statement (iii). The tax system should not influence the choice of
production factors or product outputs of a firm.
34
Unit 11
Ethics in Business
Structure
11.1 Introduction
11.2 Objectives
11.3 Definition of Ethics
11.4 Importance of Ethics in Business – Macro Perspective
11.5 Importance of Ethics in Business – Micro Perspective
11.6 Ethical Code
11.7 Summary
11.8 Glossary
11.1 Introduction
In the last unit, we have learnt about how taxation affects the business of an
organization. We have read that taxes are imposed by the government for various
purposes such as to raise revenue, to promote economic goals, and to promote social
goals. In this unit, we will discuss about the ethical environment of business.
In the recent years, business ethics has gained importance with the increased
awareness that it is critical to a company’s success. The intensity of consumer
movements and the rising level of awareness among the corporate stakeholders have
made companies realize that they can no longer get away with undesirable business
practices, and that business ethics and transparent operations enhance the company’s
image. In the highly competitive environment, the company should ensure that its
operations enhance shareholders’ values as well as protect the other stakeholders’
interests, especially the interests of the government and the society.
This unit provides an overview of the ethical environment of business. We will first
discuss the various definitions of ethics. We will then move on to understand the
importance of ethics in the field of business from macro as well as micro perspectives.
Finally, we would be discussing ethical codes such as the Cadbury’s code of ethics
and the Kumar Mangalam Birla report on corporate governance, which defines the
principles of appropriate behavior in organizations.
11.2 Objectives
By the end of this unit, you should be able to:
 Understand the meaning and scope of business ethics.
 Examine how the unethical behavior distorts the market system and an individual
firm.
 Study the ethical codes such as the Cadbury’s code of ethics and the Kumar
Mangalam Birla report on corporate governance.
35
11.3 Definition of Ethics

Different thinkers view the concept of ethics differently. In essence, they all agree that
ethics deals with right or wrong behavior of individuals. The word ‘ethics’ is derived
from the Latin word ‘ethicus’ and the Greek word ‘ethikos’, meaning character or
manners. Ethics can be defined as principles of morality or rules of conduct and moral
judgment that differentiates right from wrong. It is a system of rules that governs the
ordering of values. It identifies the rules that should govern people’s behavior and the
good principles that are desirable. Values are principles of conduct like honesty,
keeping of promises, pursuit of excellence, loyalty, fairness, and integrity. Ethical
responsibilities include behaviors and the activities that are expected of business by
members in the society. Business ethics refers to a set of rules, moral principles, and
standards that explain how organizations and their employees should behave in a
given situation. It has also been defined as the process of evaluating decisions, either
before or after they are made, considering the moral standards of the cultures in the
society. Ethical behavior is vital for the success of an organization in the long run,
both from the macro (economic system) and the micro (individual firm) perspectives.
11.4 Importance of Ethics in Business – Macro Perspective

Countries depend on the market system to allocate goods and services. They presume
that a market system is a more efficient and effective way of allocating a country’s
resources than a command system (an economic system in which a central authority
allocates the country’s resources). A market system can work effectively if the people
have the right to own or control private property, if they have the freedom of choice in
buying and selling products and/or services, and if they have access to accurate
information concerning those products and/or services. An exchange takes place only
when the private property is owned. Freedom of choice in exchange allows the forces
of competition to maintain order in the market. Accurate information enables buyers
to locate desirable goods and services in the marketplace so that they can exercise
their freedom of choice.
In a market system, the total set of goods and services available in a country is
allocated to the people based on their individual purchases. Each person buys the
goods and services that he/she believes would satisfy their needs. The goods and
services are allocated in the most effective manner possible, i.e., according to the
perceived value by the individual buyers. An item valued at equal to or greater than its
price is purchased, while an item valued at less than its price remains unsold. Thus,
the market allocation of goods and services considers how the item is valued by the
buyers. This holds good as long as there is a close correlation between perceived value
at the time of purchase and during the actual use.
The problems occur when information concerning the goods or services is incorrect,
or when either the buyers or the sellers are not free to exchange. This leads to
improper functioning of the market system. People are sometimes forced to buy items
that provide less satisfaction as more such items are produced and fewer of the items
that provide more satisfaction as less of them are produced. Thus, the total satisfaction
is less with this sub-optional allocation than it would be with other allocations.
11.4.1 Effect of Unethical Behavior

Unethical behavior distorts the market system, leading to an inefficient allocation of
resources. Such behavior can take the form of bribery, deceptive information, coercive
acts, theft, and unfair discrimination. For the market system to function effectively, it
is vital to indulge in ethical behavior. Given below are the effects of unethical
behavior viewed from a macro perspective.
36
Unit 11: Ethics in Business
Bribery
A bribe makes a choice more attractive to a decision maker by enhancing the personal
gain associated with it. The Black’s Law Dictionary defines bribery as, “the offering,
giving, receiving, or soliciting of any item of value to influence the actions of an
official or other person in discharge of a public or legal duty.” Usually, the decision
maker is gifted or paid money to influence the decision maker and his/her decision or
action to the fulfillment of a task. This task may in reality be a less attractive one or
may provide less satisfaction in comparison to the other tasks. The decision maker
thus gains by selecting the alternative with the bribe. Bribery reduces freedom of
choice by changing the conditions under which a decision is made. It leads to
allocation of more resources to a less desirable alternative. Most often, the overall cost
of the alternative proves to be higher, as the cost of the bribe has to be recovered.
Deceptive Information
Deceptive information creates false impressions and makes buyers purchase products
that provide less satisfaction than those which would have been purchased using
correct information. Such information may also lead to goods or services being
delivered at times other than promised. This results in production delays, which in
turn leads to high cost of output, further forcing the buyer to pay more for a less
quality product. This also distorts the system as resources will be allocated to the
delivered items and not to those which are desired.
Coercive Acts
Preventing a seller from dealing with certain customers, preventing buyers from
purchasing from certain sellers, or preventing buyers from buying certain products
and/or services, etc., are certain coercive acts. Such acts decrease effective
competition, lead to higher prices, and result in inferior products and/or services being
provided. All these, in turn, lead to a decrease in the satisfaction of buyers. Demand is
low at a higher price; this results in fewer resources being allocated to produce
products and/or services in the future.
Theft
Theft increases the cost of producing products and/or services. Losses due to theft can
be recovered by earning large profit margins. This leads to increased prices, which in
turn reduces demand, and leads to misallocation of resources in worst situations. A
huge theft leads to the exit of a product and/or service from the market.
Unfair Discrimination
Sometimes, buyers may purchase products and/or services from suppliers who sell
low quality products and/or services. Also, sellers may sell their products and/or
services to people who value them less than those discriminated against. This leads to
unfair discrimination, and which in turn, may lead to the purchase of inferior products
and/or services and low satisfaction.

1. Which of the following terms can be defined as principles of morality or rules of
conduct and moral judgment that differentiates right from wrong?
a. Ethics
b. Morals
c. Values
d. Behavior
37
2. __________ are principles of conduct like honesty, keeping of promises, pursuit

of excellence, loyalty, fairness, and integrity.
a. Ethics
b. Morals
c. Values
d. Behavior
3. Identify the statements that hold true regarding business ethics.
i. It refers to the principles of conduct like honesty, keeping of promises,
pursuit of excellence, loyalty, fairness, and integrity.
ii. It refers to a set of rules, moral principles, and standards that explain how
organizations and their employees should behave in a given situation.
iii. It is the process of evaluating decisions, either before or after they are made,
considering the moral standards of the cultures in the society.
a. Only i and ii
b. Only i and iii
c. Only ii and iii
d. i, ii, and iii
4. All the statements given below are true regarding a market system, except:
a. Countries depend on the market system to allocate goods and services.
b. It is considered as a less efficient and effective way of allocating a country’s
resources than an economic system in which a central authority allocates the
country’s resources.
c. In this, the total set of goods and services available in a country is allocated
to people based on their individual purchases.
d. It functions improperly if the information concerning the goods or services is
incorrect, or when either the buyers or the sellers are not free to exchange.
5. A market system can work effectively if:
i. the people have the right to own and control private property.
ii. the people are forced to buy fewer items that provide more satisfaction as
less of them are produced.
iii. the people have the freedom of choice in buying and selling products and/or
services.
iv. the people have access to accurate information concerning those products
and/or services.
6. Which of the following factors leads to an improper functioning of the market
system?
i. Incorrect information pertaining to the goods or services
ii. People are forced to buy items that provide less satisfaction as more such
items are produced
iii. Buyers or sellers are not free to exchange the goods or services
38
iv. Unethical behavior leading to an inefficient allocation of resources

7. Which of the following statements hold true regarding bribing, an unethical
behavior that distorts the market system?
i. A bribe makes a choice more attractive to a decision maker by enhancing the
personal gain associated with it.
ii. The choice is more attractive, and generally provides more satisfaction.
iii. Bribery enhances the freedom of choice by changing the conditions under
which a decision is made.
iv. It leads to allocation of more resources to a less desirable alternative.
a. Only i and ii
b. Only i and iv
c. Only ii and iii
d. Only ii and iv
8. Which of the following unethical behaviors creates false impressions and makes
buyers purchase products that provide less satisfaction than those which would
have been purchased using correct data?
a. Bribe
b. Theft
c. Unfair discrimination
d. Deceptive information
9. Coercive acts in the market system such as preventing a seller from dealing with
certain customers, preventing buyers from purchasing from certain sellers, or
preventing buyers from buying certain products and/or services would
i. lead to higher prices.
ii. decrease the satisfaction of buyers.
iii. result in inferior products and/or services.
iv. decrease the effectiveness of competition.
10. Which of the following statements hold true regarding the unethical behaviors of
theft and unfair discrimination in the market system?
i. Theft increases the cost of producing products and/or services.
ii. Unfair discrimination may arise due to the purchase of products and/or
services from suppliers who sell low quality products and/or services.
iii. Theft leads to increased prices, which in turn reduces demand, and leads to
misallocation of resources in worst situations.
iv. Unfair discrimination may arise due to selling of products and/or services to
people who value them less than those discriminated against.
39

11.5 Importance of Ethics in Business – Micro Perspective

Ethical behavior is a vital component for developing and maintaining trust in an
individual firm. L T Hosmer defined trust as, “Trust is the reliance by one person,
group, or firm upon a voluntarily accepted duty on the part of another person, group,
or firm to recognize and protect the rights and interests of all others engaged in a joint
endeavor or economic exchange.”
Trust can be of two types – trust as expectations of technically competent performance
and trust as expectations of fiduciary responsibilities, both that apply within and
among businesses. People hired to work are expected to be competent. They represent
the interests of the external stakeholders when they deal with them. Business is mostly
done relying on a person’s word or the expected honesty and decency of the other
party. Trust in the business setting reduces costs and improves efficiency.
Trust comprises three basic elements – dependability, predictability and faith.
Dependability provides assurance that one can be counted on to perform as expected.
Predictability tends to eliminate surprises, which are not usually welcome in the
business environment. Faith is the belief that one will continue to be predictable and
dependable. Trust in a person or on a firm is developed based on experience. Trust, on
the experience that the other person, group, or firm will honor the duty to protect
rights and interests, lowers perceived risk. Thus, trust is a risk-reducing mechanism.
Trust plays a vital role in fostering supplier, customer, and employee relations.
11.5.1 Trust in Supplier Relations

Suppliers are the important stakeholders of an organization. They provide inputs such
as raw materials, products, and services to an organization that enables it to carry out
its business. Organizations try to develop long term relations with their suppliers. An
exchange relationship is based on trust between both parties that each will honor
his/her commitments.
Mutual trust between the organization and its suppliers leads to cooperation and
increases efficiency as each party gains faith that the other will act in a predictable and
dependable manner. Buyer earns the supplier’s trust when all commitments are
honored and when a good credit standing is maintained. Supplier’s trust is lost when a
buyer engages in questionable practices such as giving up one supplier for another in
an effort to gain a price advantage. Practices such as cheating and lying in order to
lower the price also reduce trust. Exchange relationships based on trust develop when
there is firmness and fairness in negotiations.
An exchange relationship provides several benefits for the buyer. The buyer gets a
dependable source of supply. Time previously spent on frequent checks on quality and
delivery can be more productively spent elsewhere if the supplier provides goods or
services of acceptable quality and provides them on time. In periods of scarcity when
supplies are difficult to procure, a good relationship with the old suppliers gives
buyers a better chance of obtaining the scarce items. Suppliers generally give
preference to customers with whom they have established an exchange relationship
before they cater to the others.
40
11.5.2 Trust in Customer Relations

The sales force links the organization with its customers. A sales person earns a
customer’s trust by being honest, competent, customer-oriented and likeable.
Customers rely on suppliers to provide products and services of acceptable quality on
time. In case of products, early deliveries lead to increase in storage costs. In case of
services, early deliveries may become useless if they are required at a later time. Late
delivery may lead to stoppage in production, in turn, leading to high costs.
Customers rely on salespeople if they need information on new and existing products
and services. Salespeople must be honest and competent enough to provide the
required information. They should also be able to provide information regarding
shipping alternatives and arrival dates. Failure to do these, would lead to loss in value
and trust.
Suppliers too, benefit from exchange relationships as they provide an enduring
customer base. The customers who trust suppliers continue to buy from them, and new
customers also get added to the existing customer base. Suppliers also gain from
predictable sales. A stable or growing customer base ensures a constant source of
revenue.
11.5.3 Trust in Employee Relations

A climate of trust in an organization, that provides improved communication, greater
predictability, dependability, and confidence among its employees. It helps in
reducing employee turnover and resistance among employees. It also enhances
openness and willingness to listen and accept criticism non-defensively. Some factors
that promote trust among employees are – open communication, involving workers in
decision making, sharing of critical information and sharing of perceptions and
feelings. In a study conducted at General Motors, it was found that five factors
appeared to be correlated with trust in one’s employer. These are:
 Perception of honest and open communication both up and down the
organizational ladder
 Shared goals and values between workers and supervisors
 Faith and consistent treatment of employee groups
 Autonomy from close supervision, a sign of personal trust in employees
 Feedback from and to management regarding employees’ performance and
responsibilities.
Example: Unfair Trade Practices at Christie’s and Sotheby’s

In the early 2000, Christie’s Inc. (Christie’s), a famous auction house based in
London, and its rival Sotheby’s Holdings, Inc. (Sotheby’s) also based in London,
were rocked by anti-trust investigations by the US Department of Justice (DoJ) for
collusion and indulging in unfair trade practices. It was learnt that the roots of the
scandal dated back to February 1993 when the then Chairmen of both the
companies, Sir Anthony Tennant (Tennant) of Christie’s and Alfred Taubman
(Taubman) of Sotheby’s, attended to a series of one-to-one meetings. Taubman
supposedly instructed Diana D. Brooks (Brooks), Former President, Sotheby’s to
fix the deal with Christopher Davidge (Davidge), the then CEO, Christie’s but to
leave his name out of it. Brooks and Davidge met several times during the six year
period. It was in these meetings that the price-fixing deal was hatched.
Contd…
41
Contd…
In 1993, as part of its arrangement with Sotheby’s, Christie’s increased its buyer’s
commission. Almost immediately, Sotheby’s followed suit. In 1995, Christie’s introduced
a fixed non-negotiable fee for sellers (or seller’s commission) which was again followed
by Sotheby’s. In June 1996, the UK Office of Fair Trading announced that it was making
informal inquiries into the business practices at Christie’s and Sotheby’s which violated
Britain’s Fair Trading Act of 1973 and Competition Act of 1980.
In May 1997, the DoJ became suspicious of the business practices of Christie’s and
Sotheby’s and ordered the auction houses and several art dealers to submit documents
relating to correspondence between them. In December 1999, Davidge resigned from
his post, with a US$ 7 million severance package. In January 2000, sensing that anti-
trust investigations and other legal hassles would be heaped on the firm, Christie’s
lawyers worked out an arrangement with the DoJ. The arrangement, which required
Davidge’s cooperation with the DoJ came under the Antitrust Division’s Corporate
Leniency program. Christie’s cooperated fully with the investigating agency and
provided the anti-trust lawyers with evidence of misconduct. In exchange, the company
was exempted from some penalties resulting from the case.
In January 2000, as part of the arrangement with the DoJ, Davidge declared that
Christie’s together with rival Sotheby’s had resorted to price-fixing. Davidge
handed over the documents and other evidence that implicated the auction houses.
Davidge sought a conditional amnesty in exchange for the evidence. It was
estimated that the auction houses’ price-fixing deal had earned the firms more than
US$ 400 million in illicit gains through inflated commissions.
Soon after Davidge’s disclosure, the clients of Christie’s and Sotheby’s filed
hundreds of civil lawsuits against the auction houses which were consolidated into
a single class-action suit. In September 2000, the auction houses agreed to a US$
512 million settlement. As per the settlement, both the auction houses agreed to pay
US$ 206 million in cash and US$ 50 million in the form of discount certificates to
their clients.
Adapted from “Case Study – Ethical Issues at Christie’s,” The IBSCenter for Management
Research, 2006. www.icmrindia.org.
Activity: Kshitij Enterprises (KE) is a trading company that supplies spare parts to
automobile manufacturers. The company has good relations with the spare parts
manufacturers, and thus enjoys the advantage of getting spare parts at a discounted
price as compared to its competitors. Evolve Private Limited (EPL) is a spare parts
manufacturer that entered newly into the market. To establish its presence, it started
approaching companies like KE. Most companies rejected the products offered by
EPL quoting quality issues. However, when it approached KE, the procurement
manager of the company accepted EPL’s offer. It was later found that EPL paid a
huge amount to KE’s procurement manager that prompted him to accept the offer.
Name the strategy adopted by EPL to get the offer from KE. Was it an ethical
strategy? Why and why not? Explain the impact of this strategy on the individual
firm and the market system.
Answer:
42

11. __________ can be defined as the reliance by one person, group, or firm upon a
voluntarily accepted duty on the part of another person, group, or firm to
recognize and protect the rights and interests of all others engaged in a joint
endeavor or economic exchange.
a. Trust
b. Ethics
c. Values
d. Behavior
12. Match the following elements of trust with their respective descriptions.
Element of trust Description
i. Dependability p. Tends to eliminate surprises, which are not usually
welcome in the business environment
ii. Predictability q. The belief that one will continue to be predictable
and dependable
iii. Faith r. Provides assurance that one can be counted on to
perform as expected
a. i/r, ii/q, iii/p
b. i/p, ii/q, iii/r
c. i/r, ii/p, iii/q
d. i/q, ii/p, iii/r
13. Which of the following statements holds true regarding the role played by trust in
supplier relations?
i. Mutual trust between the organization and its suppliers leads to cooperation
and increases efficiency as each party gains faith that the other will act in a
predictable and dependable manner.
ii. Organizations can earn the supplier’s trust when all commitments are
honored and when a good credit standing is maintained.
iii. Supplier’s trust is lost when a buyer engages in questionable practices such
as giving up one supplier for another in an effort to gain a price advantage.
iv. Suppliers generally give preference to customers with whom they have
established an exchange relationship based on trust before they cater to the
others.
14. Which of the following factors promote trust among employees?
i. Open communication
ii. Giving workers a greater share in decision making
43
iii. Sharing of critical information

iv. Sharing of perceptions and feelings
15. Which of the following is a trust in employee relations that help an organization?
i. It helps in reducing employee turnover and friction among employees.
ii. It also enhances openness and willingness to listen and accept criticism non-
defensively.
iii. It provides improved communication, greater predictability, dependability,
and confidence among its employees.
a. Only i and ii
b. Only i and iii
c. Only ii and iii
d. i, ii, and iii
16. A study was conducted at General Motors in which it was found that five factors
appeared to be correlated with trust in one’s employer. Which of the following is
not a factor found in the study?
a. Faith and consistent treatment of employee groups
b. Shared goals and values between workers and supervisors
c. Autonomy from close supervision, a sign of personal trust in employees
d. Perception of honest and open communication only up the organizational
ladder
11.6 Ethical Code

A code of ethics is a document containing a list of principles prepared for the purpose
of guiding organization members when they encounter an ethical dilemma. Most
ethical codes address subjects such as employees’ conduct, community and
environment, shareholders, customers, suppliers and contractors, political activity, and
technology. Code of ethics also addresses topics such as conflicts of interest,
confidentiality of corporate information, and misappropriation of corporate assets,
bribery, and political contributions. Code of Conduct of a business, or in other words,
the conducting of the business according to the code of ethics has a greater impact on
the governance of business which is generally known as the corporate governance.
The code of ethics of business forms an important part of the corporate governance.
As such it is necessary to understand the concept of corporate governance.
A code of ethics must be carefully designed and implemented, and should be
integrated with the business strategy and policy. Employees are more likely to accept
a code if managers and others affected by it are involved in its development.
Moreover, companies should make sure that the code specifies procedures for
handling violations and that the procedures are enforced fairly. Also, the code should
be revised to reflect changes in the company’s product line or competitive practices.
In this section, we discuss the highlights of Cadbury’s code and the Kumar Mangalam
Birla Report on Corporate Governance. These documents provide useful insights into
Business Ethics.
44
11.6.1 Cadbury’s Code

In May 1991, The Cadbury Committee, chaired by Sir Adrian Cadbury, was appointed
by the UK government. The main purpose of the committee was to address the
financial aspects of corporate governance. The committee laid down certain
recommendations pertaining to the boards and accounting systems of the companies in
order to reduce the risks and failures involved in corporate governance. The
committee published its report in December, 1992. Given below are some of the
recommendations given by the committee:
 Decision-making power should not be vested in a single person, i.e. there should
be a separation of the roles of chairman and chief executive.
 Non-executive directors should act independently while giving their judgment on
issues of strategy, performance, allocation of resources, and designing codes of
conduct.
 A majority of directors should be independent non-executive directors, i.e. they
should not have any financial interests in the company.
 The term of a director should not exceed three years. This can be extended only
with the prior approval of the shareholders.
 There should be full transparency in matters relating to directors’ emoluments.
There should be a judicious mix of salary and performance related pay.
 A Remuneration committee made up wholly or largely of non-executive
directors, should decide on the pay of the executive directors.
 The Interim company report should give the balance sheet information and should
be reviewed by the auditor.
 The pension funds should be managed distinct from the company.
 There should be a “professional and objective” relationship between the board
and the auditors.
 Information regarding the audit fee should be made public and there should be
regular rotation of the auditors.
11.6.2 Kumar Mangalam Birla Report

Business ethics relates to the decisions that managers make, while corporate
governance is concerned with the rules governing the organization’s structure and the
exercise of power and control of the business of an organization.
In May 1999, the Securities and Exchange Board of India (SEBI) set up a committee
on corporate governance under the Chairmanship of Kumar Mangalam Birla. The
main objective of the committee was ‘to view corporate governance from the
perspectives of the investors and shareholders, and promote and raise the standards of
corporate governance’.
The committee gave certain recommendations, primarily focused on investors and
shareholders, who are the prime constituencies of SEBI1. These recommendations
pertained to the responsibilities and obligations of the boards and the management in
instituting good corporate governance systems. The recommendations were made
considering the fact that any code on corporate governance should be dynamic, and
should change with changing context and times.
1
SEBI responds to three groups that comprise the market. These are -- the issuers of
securities, the investors, and the market intermediaries.
45
Given below are some of the recommendations given by the committee.

 The board should comprise executive and non-executive directors. At least, 50%
directors on the board should be non-executive directors. The number of
independent directors depends on the nature of the Chairman of the board. In case
of a non-executive Chairman, at least one-third of the board should comprise
independent directors. In case of an executive Chairman, at least half of board
should be independent.
 A non-executive Chairman should be entitled to maintain a Chairman’s office at
the company’s expense. He/she should be allowed reimbursement of expenses
incurred in the performance of his/her duties, thus enabling him/her to discharge
the responsibilities effectively.
 The board should set up a qualified and independent audit committee. This would
help in enhancing the credibility of the company’s financial disclosures, and in
promoting transparency.
 There should be minimum three non-executive directors in the audit committee.
The majority should be independent, with at least one director having financial
and accounting knowledge.
 The Chairman of the audit committee should be an independent director; the
company secretary should act as the secretary of the committee.
 The audit committee should meet at least thrice a year. One meeting must be held
before finalizing of annual accounts and one every six months. The quorum
should be either two members or one-third of the members of the audit
committee, whichever is higher.
 The powers of the audit committee are – to investigate any activity within its
terms of reference; to seek information from any employee; to obtain outside
legal or other professional advice; and to secure attendance of outsiders with
relevant expertise, if it considers this necessary.
 A remuneration committee should be set up to determine on their behalf and on
behalf of the shareholders with agreed terms of reference, the company’s policy
on specific remuneration packages for executive directors, including pension
rights and any compensation payment.
 Board meetings should be held at least four times in a year, with a maximum time
gap of four months between any two meetings.
 The board should clearly define the role of the management.
 Disclosures relating to all material, financial, and commercial transactions must
be made by the management to the board, where they have personal interest, and
which may create a conflict of interest with the company.
 Shareholders have a right to participate in, and be sufficiently informed on
decisions concerning fundamental corporate changes. They should not only be
provided information as under the Companies Act, but also informed about other
decisions relating to material changes such as takeovers, sale of assets or
divisions of the company, changes in capital structure which will lead to change
in control or may result in certain shareholders obtaining control disproportionate
to the equity ownership.
 While appointing a new director or re-appointing a director, the shareholders
must be provided with the following information – a brief resume of the director;
expertise in specific functional areas, and names of companies in which the
person also holds the directorship and the membership of committees of the
board.
46
 All shareholders are entitled to receive the half-yearly declaration of financial

performance, including a summary of the significant events in the previous six
months.
 A board committee under the Chairmanship of a non-executive director should be
framed to specifically look into the redressal of shareholder complaints like
transfer of shares, non-receipt of balance sheet, and non-receipt of declared
dividends. Such a committee will help focus the attention of the company on
shareholders’ grievances and sensitize the management to the need to redress
their grievances.
 The institutional investors should maintain an arm’s length relationship with
management and should not seek participation at the board level which may make
them privy to unpublished price sensitive information. Given the weight of their
votes, the institutional shareholders can effectively use their powers to influence
the standards of corporate governance.
 A separate section on corporate governance should be maintained in the annual
reports of companies, with a detailed compliance report on the corporate
governance code. Non-compliance with any section of the code and the reasons
thereof should be specifically highlighted. This will enable the shareholders and
the securities market to assess for themselves the standards of corporate
governance followed by a company.
Example: Code of Ethics of ICSI
Given below is the code of ethics of the Institute of Company Secretaries of India
(ICSI).
A member (all categories) of the ICSI shall:
Organize the resources available to him and optimize these in attaining the objectives of
his organization.
Not misuse his authority or office for personal gains.
Comply with the Indian laws relating to the management of his organization and
operate within the spirit of these laws.
Conduct his affairs so as to uphold, project and further the image and reputation of the
ICSI.
Maintain integrity in research and publications.
As regards his/her organization, the CSI member should:
Act with integrity in carrying out the lawful policy and instructions of his organization
and uphold its image and reputation.
Plan, establish and review objectives and tasks for himself and his subordinates which
are compatible with the Codes of Practice of other professionals in the enterprise, and
direct all available effort towards the success of the enterprise rather than of himself.
Fully respect the confidentiality of information which comes to him in the course of his
duties, and not use confidential information for personal gain or in a manner which may
be detrimental to this organization or his clients.
Not snoop around in other people’s computer files.
In his contacts and dealings with other people, demonstrate his personal integrity and
humanity and when called to give an opinion in his professional capacity, shall, to the
best of his ability, give an opinion that is objective and reliable.
Contd…
47
Contd…
As regards the Employees, ICSI member should:
Set an example to his subordinates through his own work and performance, through his
leadership and by taking account of the needs and problems of his subordinates.
Develop people under him to become qualified for higher duties.
Pay proper regard to the safety and wellbeing of the personnel for whom he is
responsible.
Share his experience with fellow professionals.
As regards the Clients, the ICSI member should:
Ensure that the terms of all contracts and terms of business be stated clearly and
unambiguously.
Not use the computer to harm other people or to bear false witness.
Be objective and impartial when giving independent advice.
As regards the Community, the ICSI member should:
Make the most effective use of all natural resources employed.
Be ready to give professional assistance in community affairs.
Not appropriate other people’s intellectual output.
Always use a computer in ways that ensure consideration and respect for fellow
humans.
Source: “Code of Ethics” <http://www.csi-india.org/code-ethics>.
Activity: Stylus is a shoe manufacturing company. It has policies that define the
standards of conduct that it expects of its employees and suppliers. For instance, for
employees, the company expects that they should not engage in the conduct of
illegal activities, and should not indulge in drinking, smoking, gambling, fighting,
etc., while on the job. It also created a toll-free line for employees to report if any
law has been violated. It mandates that every year, employees should verify that
they have read and understood the policies. What are these policies called as?
Explain their importance to an organization.
Answer:
Check Your Progress - III

17. _________ is a document prepared for the purpose of guiding organization
members when they encounter an ethical dilemma.
a. Vision statement
b. Code of ethics
c. Mission statement
d. Corporate governance report
48
18. Which of the following items that are included in a code of ethics.
i. Employees’ conduct
ii. Misappropriation of corporate assets
iii. Conflicts of interest
iv. Confidentiality of corporate information
19. Which of the following is not a recommendation given by the Cadbury
committee that was created to address the financial aspects of corporate
governance?
a. Boards should have separate audit and remuneration committees made up
entirely of executive directors.
b. Audit committees should meet with the external auditors at least once a year
and without executive directors.
c. The director’s term of office should run for no more than three years, without
shareholders’ approval.
d. Independent directors should be fully independent and free from links with
the company, except for matters pertaining to remuneration and
shareholding.
20. Which of the following are the recommendations given by the Kumar Mangalam
committee set up on corporate governance?
i. A non-executive Chairman should be entitled to maintain a Chairman’s
office at the company’s expense. He/she should be allowed reimbursement of
expenses incurred in the performance of his/her duties, thus enabling him/her
to discharge the responsibilities effectively.
ii. The board should set up a qualified and independent audit committee. This
would help in enhancing the credibility of the company’s financial
disclosures, and in promoting transparency.
iii. The Chairman of the audit committee should be an independent director; the
company secretary should act as the secretary of the committee.
iv. The audit committee should meet at least thrice a year. One meeting must be
held before finalizing of annual accounts and one every six months. The
quorum should be either two members or one-third of the members of the
audit committee, whichever is higher.
21. Which of the following statement deals with the powers of the audit committee?
i. To investigate any activity within its terms of reference
ii. To seek information from any employee
iii. To obtain outside legal or other professional advice
iv. To secure attendance of outsiders with relevant expertise, if it considers
necessary
49

11.7 Summary
 Ethics can be defined as principles of morality or rules of conduct and moral
judgment that differentiates right from wrong.
 Business ethics refers to a set of rules, moral principles, and standards that
explain how organizations and their employees should behave in a given
situation.
 Ethical behavior is vital for the success of an organization in the long run, both
from macro (economic system) and micro (individual firm) perspectives.
 Unethical behavior distorts the market system, leading to an inefficient allocation
of resources. Such behavior can take the form of bribery, deceptive information,
coercive acts, theft, and unfair discrimination.
 Ethical behavior is a vital component for developing and maintaining trust in an
individual firm. Trust helps in fostering good relations with suppliers, customers,
and employees.
 A code of ethics is a document containing a list of principles prepared for the
purpose of guiding organization members when they encounter an ethical
dilemma.
 Ethical codes such as the Cadbury’s code and the Kumar Mangalam Birla report
on corporate governance have been laid down that define the principles of
appropriate behavior in organizations.
11.8 Glossary
 Bribe: Bribe makes a choice more attractive to a decision maker by enhancing the
personal gain associated with it. This is done by paying an unearned income.
 Business ethics: A set of rules, moral principles, and standards that explain how
organizations and their employees should behave in a given situation.
 Code of ethics: A document containing a list of principles prepared for the
dilemma.
 Ethical responsibilities: Behaviors and activities that are expected of business by
members in the society.
 Ethics: Principles of morality or rules of conduct and moral judgment that
differentiates right from wrong.
 Trust: It is the reliance by one person, group, or firm upon a voluntarily accepted
duty on the part of another person, group, or firm to recognize and protect the
rights and interests of all others engaged in a joint endeavor or economic
exchange.
 Values: Principles of conduct like honesty, keeping of promises, pursuit of
excellence, loyalty, fairness, and integrity.
50

1. Ethics identifies the rules that should govern people’s behavior and the good
principles that are desirable. Define ethics.
2. ‘Ethical behavior is vital for the success of an organization in the long run, both
from the macro (economic system) and the micro (individual firm) perspectives.’
Substantiate this statement.
The Cadbury committee laid down certain recommendations pertaining to the boards
and accounting systems of the companies in order to reduce the risks and failures
involved in corporate governance. What were the recommendations given by the
Cadbury committee?
The Kumar Mangalam Birla committee was set up to view corporate governance from
the perspectives of the investors and shareholders. This was to promote and raise the
standards of corporate governance. In this regard, highlight the recommendations
given by the committee.

1. Joseph W Weiss “Business Ethics: Concepts and Cases,” Thomson Business
Information, 2009.
2. “Cadbury Committee Report”<http://business.gov.in/ corporate_governance/
cadbury_report.php>
3. “Cadbury Committee Report”<http://www.krannert.purdue.edu/ centers/ CIBER/
publications/pdf/99-004.pdf>
4. “Kumar Mangalam Birla Report”http://www.sebi.gov.in/ commreport/
corpgov.html

Following are the answers to the Check Your Progress questions given in the unit.
1. (a) Ethics
The word ‘ethics’ is derived from the Latin word ‘ethicus’ and the Greek word
‘ethikos’, meaning character or manners. Ethics can be defined as principles of
morality or rules of conduct and moral judgment that differentiates right from
wrong. It is a system of rules that governs the ordering of values.
2. (c) Values
Ethics is a system of rules that governs the ordering of values. Values are
principles of conduct like honesty, keeping of promises, pursuit of excellence,
loyalty, fairness, and integrity.
3. (c) Only ii and iii
Statements ii and iii hold true regarding business ethics. Statement i give the
definition of values.
4. (b) It is a less efficient and effective way of allocating a country’s resources
than an economic system in which a central authority allocates the country’s
resources.
All the statements are true regarding a market system, except statement ‘b’. The
market system is considered as a more efficient and effective way of allocating a
country’s resources than a command system (an economic system in which a
central authority allocates the country’s resources).
51
5. (c) Only i, iii, and iv

Statements i, iii, and iv are all factors that contribute to the effective functioning
of the market system, except statement ii. People are sometimes forced to buy
items that provide less satisfaction as more such items are produced, and fewer of
the items that provide more satisfaction as less of them are produced. This
behavior distorts the market system.
A market system may function improperly when information concerning the
goods or services is incorrect, or when either the buyers or the sellers are not free
to exchange. Unethical behavior also distorts the market system, leading to an
inefficient allocation of resources.
7. (b) Only i and iv
Statements i and iv are true regarding bribery, whereas statements ii and iii are
false. A bribe makes the choice less attractive, and generally provides less
satisfaction. It reduces the freedom of choice by changing the conditions under
which a decision is made.
8. (d) Deceptive information
Deceptive information creates false impressions and makes buyers purchase
products that provide less satisfaction than those which would have been
purchased using correct information. Such information may also lead to goods or
services being delivered at times other than promised.
Preventing a seller from dealing with certain customers, preventing buyers from
purchasing from certain sellers, or preventing buyers from buying certain
products and/or services, etc., are certain coercive acts. Such acts decrease
effective competition, lead to higher prices, and result in inferior products and/or
services being provided. All these, in turn, lead to a decrease in the satisfaction of
buyers.
All the statements are true regarding theft and unfair discrimination. Both these
are unethical behaviors that distort the market system.
11. (a) Trust
L T Hosmer defined trust as, “Trust is the reliance by one person, group, or firm
upon a voluntarily accepted duty on the part of another person, group, or firm to
recognize and protect the rights and interests of all others engaged in a joint
endeavor or economic exchange.”
12. (c) i/r, ii/p, iii/q
Trust comprises three basic elements -- dependability, predictability, and faith.
Dependability provides assurance that one can be counted on to perform as
expected. Predictability tends to eliminate surprises, which are not usually
welcome in the business environment. Faith is the belief that one will continue to
be predictable and dependable.
All the statements given above are true regarding the role played by trust in
supplier relations. Suppliers are the important stakeholders of an organization as
they provide inputs such as raw materials, products, and services to an
organization that enables it to carry out its business. Organizations try to develop
long term relations with their suppliers.
52

All the factors given above promote trust among employees. A climate of trust in
an organization provides improved communication, greater predictability,
dependability, and confidence among its employees.
15. (d) i, ii, and iii
A climate of trust in an organization provides improved communication, greater
predictability, dependability, and confidence among its employees. Some factors
that promote trust among employees are -- open communication, involving
workers in decision making, sharing of critical information, and sharing of
perceptions and feelings.
16. (d) Perception of honest and open communication only up the organizational
ladder
In a study conducted at General Motors, it was found that five factors appeared to
be correlated with trust in one’s employer. These are: perception of honest and
open communication both up and down the organizational ladder; shared goals
and values between workers and supervisors; faith and consistent treatment of
employee groups; autonomy from close supervision, a sign of personal trust in
employees; and feedback from and to management regarding employees’
performance and responsibilities.
17. (b) Code of ethics
A code of ethics is a document containing a list of principles prepared for the
dilemma.
Most ethical codes address subjects such as employees’ conduct, community and
environment, shareholders, customers, suppliers and contractors, political
activity, and technology. Code of ethics also addresses topics such as conflicts of
interest, confidentiality of corporate information, misappropriation of corporate
assets, bribery, and political contributions.
19. (a) Boards should have separate audit and remuneration committees made
up entirely of executive directors.
All the statements are true regarding the recommendations given by the Cadbury
committee, except for statement (a). Boards should have separate audit and
remuneration committees made up entirely of independent directors.
All the given statements are the recommendations given by the Kumar Mangalam
committee on corporate governance. The main objective of the committee was to
view corporate governance from the perspectives of the investors and
shareholders, and promote and raise the standards of corporate governance.
All the statements given above are the powers of the audit committee. These were
recommended by the Kumar Mangalam committee on corporate governance.
53
Course Components
BLOCK I The Socio-Political Environment of Business

Unit 1 Business Environment: An Introduction
Unit 2 Demographic and Social Environment
Unit 3 Cultural Environment
Unit 4 Political Environment
BLOCK II The Economic and Technological Environment of Business
Unit 5 Economic Environment
Unit 6 Financial Environment
Unit 7 Trade Environment
Unit 8 Technological Environment
BLOCK III The Legal and Ethical Environment of Business
Unit 9 Legal and Regulatory Environment
Unit 10 Tax Environment
Unit 11 Ethical Environment
BLOCK IV Business Contracts
Unit 12 Law of Contracts
Unit 13 Special Contracts
BLOCK V Law Relating to Corporate Business Entities
Unit 14 Formation and Organization of Companies
Unit 15 Company Management and Winding Up
BLOCK VI Tax Laws
Unit 16 Direct Taxes
Unit 17 Indirect Taxes

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Business Environment and Law

Ref. No. BELIFHE – 052015 B3

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Unit 11 provides an overview of the ethical environment of business. The unit

9.3 International Legal Perspective

9.3.1 Multiplicity of Legal Environment

Foreign Legal Environment

9.3.2 Jurisdiction of Laws

9.3.3 Extraterritorial Reach

Check Your Progress - I

c. The common law system is tradition-oriented and judgments are based on

9. ___________ refers to the State in which certain diplomatic organizations and

9.4 Host Country Laws

9.4.2 Anti-dumping Laws

9.4.3 Export/Import Licensing

9.4.4 Foreign Investment Regulations

9.4.6 Restrictive Trading Laws

9.4.7 Intellectual Property Laws

Integrated Circuit Layout Designs

Example: Trademark Problems for Ugg Boots in Australia

Activity: Fusion Records (FR) is an Africa-based music recording company. An

Check Your Progress - II

9.5 Conflict Resolution, Dispute Settlement and Litigation

Activity: RF Textiles Limited is a textile manufacturing company in India. The

Check Your Progress - III

9.6 Regulatory Environment: Role of the Government

9.6.1 Forms of Government Regulation

9.7 Purpose of Regulations

Example: Tackling Childhood Obesity Issues

Check Your Progress - IV

c. Only ii and iii

9.10 Self-Assessment Test

9.11 Suggested Readings/Reference Material

9.12 Answers to Check Your Progress Questions

2. (d) Only i, iii, and iv

21. (d) i, ii, iii, and iv

10.3 General Purposes of Taxation

10.3.1 Raise Revenues

10.3.2 Economic Goals

10.3.3 Social Goals

Example: Tax Problems for Cairn Energy in India

Activity: In February 2001, the Government of India announced that a 2%

Check Your Progress - I

iii. To discourage the consumption of harmful products such as liquor and

10.4 Types of Taxation Policy

10.4.1 Direct Taxes

10.4.2 Indirect Taxes

10.5 Features of an Ideal Tax System

Example: VAT in India

Check Your Progress - II

c. Income tax and excise tax are examples of indirect taxes.

10.8 Self-Assessment Test

10.9 Suggested Readings/Reference Material

10.10 Answers to Check Your Progress Questions

5. (d) Only iii and iv

11.3 Definition of Ethics

11.4 Importance of Ethics in Business – Macro Perspective

11.4.1 Effect of Unethical Behavior

Check Your Progress - I

2. __________ are principles of conduct like honesty, keeping of promises, pursuit