The Journal of American Academy of Business, Cambridge

Vol.  23 * Num.. 2 * March  2018

The Library of Congress, Washington, DC   *   ISSN: 1540 – 7780

Online Computer Library Center, OH  *  OCLC: 805078765

National Library of Australia  *  NLA: 42709473

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The Dark Triad of Personality: Impact upon Leadership and Employee Job Satisfaction

Dr. Steven H. Appelbaum, Professor, John Molson School of Business, Montreal, Quebec

Logan Hicks, John Molson School of Business, Montreal, Quebec

Luciana Brasil, John Molson School of Business, Montreal, Quebec

Sara Vitale, John Molson School of Business, Montreal, Quebec

Barbara T. Shapiro, John Molson School of Business, Montreal, Quebec



This article investigates the extent to which The Dark Triad of personality traits as exhibited by superiors affects employees and job satisfaction within organizations. A comprehensive search of relevant research related to the topic has been conducted to determine if a relationship exists between the two variables.  Findings suggest that there is a correlation but largely for short-term financial gains and innovation with the possibility of long-term company demise. This research was collected from other studies on similar and related topics; however, an empirical study directly investigating the subject should be conducted for the most accurate and reliable results.  Supervisors exhibiting The Dark Triad personality traits can have an effect on employee behavior and satisfaction which may have a resulting impact on the overall organization as a whole.  This research will provide companies with more insight into the repercussions of dark leaders on their employees so they may successfully identify, control and in some cases remove potential toxic leaders. This will allow organizations to make informed decisions about their leadership and future directions, effectively balancing the negative risks and visionary potential the Dark Triad can bring to the table. The information contained in this analysis could inform hiring practices within organizations in terms of personality traits, behavioral aspects and emotional quotient.  How does a superior exhibiting the dark triad of personality traits affect employee job satisfaction?: A Narcissist, a Psychopath and a Machiavellian Walk into a Bar… The bartender asks, ‘who has the darkest personality out of you three?’ The Narcissist says ‘me’, the Psychopath says, ‘I don’t care’ and the Mach says ‘it’s whoever I want it to be’ (Chopra, 2013).  The dark side of personality has garnered much interest in organizational behaviour research over the past few decades due to current political, economic, and social environments. The stable patterns of behaviour and consistent internal states often determine how an individual reacts and interacts with other (Appelbaum, 2007). The Dark Triad is composed of three personality types; narcissism, psychopathy, and Machiavellianism. Narcissism can be globally described as a grandiose sense of self-importance. Psychopathy encompasses a lack of empathetic concern and difficulty controlling their impulses towards control. Machiavellianism is the practice of using manipulation and exploitation for personal gain. As opposed to the Big Five personality traits universally accepted to describe personality, the dark triad can be perceived as socially undesirable, negative individual personality traits.   Leadership and job satisfaction are often intertwined, therefore it is essential to propose concrete definitions for these terms in order to investigate the impact that potentially toxic leaders and can have on employees. Job satisfaction is thought of as the employee's positive feelings about a job resulting from an evaluation of its characteristics. Leadership is a key characteristic that influences how employees feel about their jobs as it impacts: productivity, company culture, absenteeism, and turnover. While leadership is the ability to influence a group toward the achievement of a vision or set of goals. Zaccaro, Kemp, & Bader (2004) assert that leaders also possess certain attributes that non-leaders do not. These attributes include: emotional stability, social and emotional intelligence, and a need for power and achievement. However, social context and the company culture the leader is exposed to will also impact their ability to successfully lead the organization. Leslie and Van Velsor (1996) suggest that three negative features of leadership influence employee job satisfaction. These features include: lack of interpersonal abilities, incapability to complete work, and incapability to establish and sustain a team. This article, will explore how these personality traits manifest themselves in leaders and the effects they have on the organization and specifically, job satisfaction of employees.  Transfixed, suspended like a figure carved from marble he looks down at his own face; stretched out on the ground, he stares into his own eyes and sees a pair of stars worthy of Bacchus, a head of hair that might adorn Apollo; those beardless cheeks, that neck of ivory, the decorative beauty of his face, and the blushing snow of his complexion; he admires all that he’s admired for, for it is he that he himself desires, all unaware; he praises and is praised, seeks and is the one that he is seeking; kindles the flame and is consumed by it. –Ovid   The concept of narcissism can be traced back to Ovid’s Metamorphoses (2005) in which he recounts the tragic tale of Narcissus who falls in love with his reflection. Transfixed by his own beauty and unable to tear himself away, Narcissus dies leaving behind a single white flower (2005). In 1898, physician, Havelock Ellis, first used the term in psychology to describe a tendency "for the sexual emotions to be absorbed, and often entirely lost, in self-admiration” (Ellis 1898). Later, Freud moves away from the idea of narcissism as sexual perversion and suggests that a certain level of the trait has a place in normal human development. He described two types of narcissism: primary and secondary. Primary narcissism manifests during childhood as children develop their sense of self and secondary narcissism occurs when libido focuses inward. In extreme cases, this can cause megalomania (Freud, 1914).   Kohut (1966) expands on Freud’s meditation by commenting that, “ the interplay between the narcissistic self, the ego and the superego determines the characteristic flavor of the personality and is thus, more than the other building blocks or attributes of the personality, instinctively regarded as a touchstone of a person’s individuality or identity” (p. 256). It becomes clear then, that a healthy or “normal” dose of narcissism is an integral part of a mature adult’s psyche. Furthermore, it fosters positive traits such as creativity, humor, and wisdom. These are of course important qualities that many of the world’s genius artists, business people and scientists possess (Kohut, 1966). However, there is a flipside to this coin as Jorstad (1996) explains, “pathological narcissism can be seen as a result of grave deficits and traumas in early childhood, and as an unconscious defense against the unbearable pain which lies there” (Jorstad, p.18). Pathological narcissists can be extremely isolated, distrustful, lacking in empathy and perceived threats can easily cause them to fall into a fit of rage (Freud, 1914; Maccoby, 2000).  Though narcissistic personality disorder has not been included in recent editions of the Diagnostic and Statistical Manual of Mental Disorders, certain criterion for Narcissistic Personality disorder were outlined in previous versions. Individuals must possesses at least five of the following nine traits according to The American Psychiatric Association (2000): (1) Grandiose sense of self-importance  (2) Preoccupation with fantasies of achieving success and/or power   (3) Belief that they are superior to others or special   (4) Need for admiration from others   (5) Sense of entitlement   (6) Exploitive of others, manipulative  (7) Lack of empathy  (8) Envious or others, thinks others are envious of them  (9) Arrogant behaviours.  As Rosenthal and Pittinsky (2006) point out, hostility and fragility of self-esteem are missing from this list but are significant in the context of leadership. The definition of narcissism used in this article is based on Maccoby’s (2000) description of productive and unproductive narcissists in the workplace rather than those exhibiting levels of the trait that border on mental illness. However, it is important to note that there is debate in the field of psychology about whether or not narcissism is always pathological or if individuals can exhibit healthy levels of the trait as proposed by Freud (1914) and Kohut (1966).    Of the three personality traits in the Dark Triad, Narcissism is perhaps the only one that is considered to have a bright side in a leadership context. Thus the question boils down to whether or not the bright side outweighs the dark side. According to Maccoby (2000), because of their hunger for success and admiration, narcissists tend to be innovators who go above and beyond for their businesses. Furthermore, “they have compelling, even gripping, visions for companies, and they have an ability to attract followers” (Maccoby, 2000).  It is this confidence and larger-than-life attitude that propels them to the top. Rosenthal and Pittinsky (2006), expand on this notion by stating that narcissistic leaders often emerge during times of crisis where “ideal hungry” followers seek the leadership of a charismatic, confident, and creative chief.  As The Narcissist Next Door (2014) writer, Jeffrey Kluger, describes in a piece for Big Think:  Even our greatest and most humble people, Mahatma Gandhi, Martin Luther King, had to have had narcissistic components to their personality. They gravitated toward attention, they gravitated toward crowds. If we believe that they didn't get a charge out of standing before a crowd of half a million people, or in the case of Gandhi millions, and moving an entire nation with their words, well we don't really understand human nature then if that's what we think of (Big Think, 2014).


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Do Countries That Improve Corruption Levels Attract More Foreign Direct Investment?

Dr. Vijay Sampath, CUNY-John Jay College of Criminal Justice, New York, NY



Drawing on internationalization and institutional theories, this study examines the impact of improvements in country corruption levels on foreign direct investment (FDI).  Internationalization theory suggests that investors consider corruption to be a crucial factor in evaluating the attractiveness of an investment location. Institutional theory provides guidance as to how countries as institutions can institute governance initiatives to reduce corruption levels. Using outward FDI data from the United States, the hypothesis is tested as to whether improvements in corruption levels result in increased FDI. Results suggest that improvements lead to significant increases in FDI, thus providing guidance to government leaders that steps taken to decrease corruption have positive effects on their economies.  The government of the Philippines’ efforts at curbing corruption appears to have been successful when it improved 24 positions in the Corruption Perception Index (CPI) in 2012 as compared to 2011 (Patria, 2012). A government spokesperson attributed the improvements to “efforts to strengthen institutions, provide deterrents against corrupt practices, and hold accountable those who have used power for personal gain” (2012: DU1). In the debate in recent years over the role of FDI in helping developing countries to reform their political and social systems, quality of governance has gained recognition as a crucial variable for measuring progress toward attaining such goals.  This paper attempts to fill this void in the literature on how improvements in corruption levels attract FDI. Institutional theory informs us that country differences in relation to the regulatory and normative pillars represent the governance attributes of those countries (Kostova, 1999).  Improvements in these attributes would be useful in exploring whether these improvements lessen corruption in countries, thereby increasing FDI from developed countries. Multinational enterprises (MNEs) from the developed world emphasize these improvements in governance attributes, making countries attractive as investment opportunities (Dunning, 1998). The cost of doing business increases in countries that are corrupt, which could have a detrimental effect on investments. This study demonstrates that lower corruption and improved country governance explain variations in FDI.  The results would inform policymakers as to how corruption risks can be overcome by understanding governance attributes in corrupt host countries.   In recent years, public policy and academic debates over the efficacy of FDI and foreign aid have polarized around two camps. One camp – proponents for increased FDI and aid – argues that previous investment has been too incremental to show definitive success in achieving the desired goals, and that a massive surge in investment is required for developing countries to experience economic development (Cassen, 1986; Riddell, 1987; Collier & Hoeffler, 2007). The other side of this argument contends that increased aid has had little to no effect in improving economic development or social reform and, in fact, has often done far more harm than good (Boone, 1996; Bauer, 2000; Easterly, 2001; Clark, 2008). According to this viewpoint, many of the economic development strategies pursued in the past by institutions such as the International Monetary Fund, the World Bank, and the Organization for Economic Cooperation and Development (OECD) have been based on narrow assumptions about the underlying causes of underdevelopment and corruption in the Third World, and thus their cures have not produced the desired results. This view has been supported in recent years by growing evidence that FDI to developing nations, especially those in sub-Saharan Africa, has not resulted in improved economic conditions for their respective societies and, in some cases, appears to have made economic (as well as political and social) conditions much worse (Seguino, 2009).  The history of the consequences of good intentions has been analyzed and documented by many scholars (e.g., Clark, 2008; Easterly, 2001).  Reflecting upon the many policy failures of the past, Easterly (2001) makes the case that most of the efforts to date on the part of economic development organizations to promote foreign investment, education, population control, and loan forgiveness have largely failed. Moreover, he argues that Third World development faces trends that work against economic growth, including leaks (dissipation of technology and know-how), matches (brain drains and wealth flight), and traps (self-perpetuating attitudes and behaviors); bad luck (vulnerability to both manmade and natural disasters); bad government; corruption, and internal ethnic and tribal conflict. In a nutshell, corruption remains an essential factor in inhibiting growth and presenting obstacles to attracting FDI investment.  Corruption is defined as an agreement between two parties in which public power is abused for private ends (Cuervo-Cazurro, 2008; Kwok & Tadesse, 2006).  Since it acts like an irregular tax, corruption increases costs and uncertainty related to investment incentives (Shleifer & Vishny, 1993).  Lamsdorff (2001) proposed a definition of corruption whereby an agent acts in a corrupt manner by trespassing the rules established by a principal by colluding with third parties and consequently benefitting from that transgression. Corruption represents violations of moral codes of conduct to obtain undue advantage to the detriment of other third parties (Rahman & Sampath, 2016). According to Habib and Zurawicki (2002), corruption negatively impacts FDI in that foreign investors avoid corruption because of its stigmatizing effect and the operational inefficiencies that it creates.  Investments by firms in different foreign locations constitute a major portion of a country’s outward FDI. Corruption in FDI “produces bottlenecks, heightens uncertainty, and raises costs” (Habib & Zurawicki, 2002, p. 292).  Management scholars and economists have used various theories to study corruption effects on firms.  Galang (2012) provides a comprehensive review of theories related to corruption and firm performance.  Lee, Oh and Eden (2010) use the residual control theory to examine firms’ exposure and vulnerability to corruption in terms of the size of the bribe paid.  Exposure to corruption depends on country-level characteristics, whereas vulnerability depends on a firm’s ability to withstand pressures to pay bribes to local officials (Lee et al., 2010).  Social network theory indicates that firms that are embedded in social networks between firms and government officials get preferential regulatory treatment (Burt, 1997); resource dependence theory posits that firms possessing scarce resources are most capable of extracting political concessions (Pfeffer & Salancik, 1978).  Cullen and colleagues (2004) draw upon institutional anomie theory to study managers’ willingness to justify ethically suspect behaviors.  Their study suggests that “hypernorms” are violated when firms engage in corrupt behaviors. Internationalization theory suggests that the attractiveness of a location in terms of markets, resources, efficiency, and strategic assets impacts FDI (Dunning, 2008). Thus, corruption is one of the factors determining location attractiveness (Habib & Zurawicki, 2002).  Furthermore, studies on corruption have shown that government corruption encourages oligarchic control (Fogel, 2006), leads to a greater use of bank loans (Straub, 2008), lowers market valuations (Miller, Li, Eden, & Hitt, 2008), and lowers international diversification (Wan, 2005).  Firms respond to government corruption by preferring to use informal network ties in lieu of formal networks (Peng, Wang, & Jiang, 2008) or use more non-market to market strategies (Wan, 2005).  In addition, firms require greater experience in dealing with corrupt practices (Gaur & Lu, 2007) and institute boards with more independent directors for necessary oversight (Ellstrand, Tihanyi, & Johnson, 2002).  Corruption affects the entry modes of firms because those firms suspecting corruption potential in international transactions often prefer non-equity modes and joint ventures over wholly-owned subsidiaries to disassociate themselves from such practices (Rodriguez, Siegel, Hillman, & Eden, 2006; Uhlenbruck, Rodriguez, Doh, & Eden, 2006). Multinational firms caught bribing public officials suffered penalties imposed by both the market and by regulators with a reputational penalty, the difference between market penalty and regulator penalty, accounting for $0.18 for every dollar of total penalties (Sampath, Gardberg, & Rahman, 2016). These firms also suffered losses in perception-based reputation measures (Gardberg, Sampath, & Rahman, 2012).  On the demand side of corruption, government intervention in firm activities can be characterized as rent-seeking, which generates excess returns for public officials (Galang, 2012; Ades & Di Tella, 1999).  Economists such as Krueger (1974), Bhagwati (1982), Rose-Ackerman (1978) and Tullock (1967) have made seminal contributions to the rent-seeking literature.  Krueger (1974), for example, proposed that rent-seeking arises because of government restrictions on economic activity.  Rent-seeking can be legal or illegal, where the latter takes forms such as bribery, fraud, embezzlement, smuggling, and black markets.  It focuses on the interaction between the state and private parties, in which the state possesses monopoly rights on the allocation of property rights, entailing a certain redistribution of income (Lambsdorff, 2001).  Private parties pursue their own self-interests to curry preferential treatment by trying to influence the decisions of state actions.  For these purposes, firms devote resources toward rent-seeking, for instance, by hiring “expediters” (Krueger, 1974).


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Bank Credit, Trade Credit and Innovation

Xixi Chen, Pepperdine University, CA

Dr. Jing Guo, Zhejiang SCI-TECH University, China

Dr. Fred Petro, Pepperdine University, CA



Whether bank credit can support innovation is a crucial issue which determines the success of China’s economic transformation and upgrading. In this paper, an empirical study examines the relationship between bank credit, trade credit and innovation. Also studied is the interactive term relationship existing between bank credit, trade credit and innovation, based on information taken from China’s Industrial Enterprise Database over the period 2012-2014. We show that the financing mode, dominated by bank credit for our country, both supported and nonsupported innovation, will be restrained if enterprises provide trade credit. We also find that the effect of repression from bank credit to innovation will be intensified through trade credit redistribution. Thus, to promote innovation, our traditional bank-credit financing mode should be revisited for modification. And we should Build Multi-Level Capital Market, propel financial market reform and reduce the opportunities allowing enterprises to exercise shadow banking in capital market.  China's economic development approach needs to promote comprehensive innovation to achieve quality-oriented and efficiency-oriented intensive growth. This is achieved with the intense speed of extensive growth, with innovation from the micro-enterprise level as the most important driving force. Due to the long cycle, high risk, information asymmetry and other reasons, business innovation is subject to serious financing constraints. The mitigation of corporate innovative financing constraints needs an efficient financial system.  China's financial system is dominated by banks. The allocation efficiency of bank credit funds largely determines the role of finance in promoting economic growth. In addition, China also has long-term financial restraint. Commercial credit plays an important role in the process of secondary allocation of credit resources. Under this special financial system, could bank credit support business innovation? And what is the role of commercial credit with credit secondary configuration? Theoretical and empirical research on this issue will help us to better understand the microeconomic mechanism of the financial impact on innovation in China's special financial system.  The study of finance and innovation goes back to Schumpeter's view that the services provided by financial intermediaries are of vital importance to technological innovation. However, it has been argued that financial intermediation is only a product of the rapid industrialization of society. Also, its impact on technological innovation is not as great as imagined. In general, early macroeconomic studies emphasize that the financial market is the major factor influencing technological innovation (Hicks, 1969; Acemoglu, Zilibotti, 1997 and etc.) Rajan and Zingales (1998) argue that the causal relationship between the two cannot be explained thoroughly if the overall correlation between financial development, technological innovation and economic growth is only studied from the macroeconomic level without explaining the transmission pathways and mechanisms that produce this effect from a microscopic perspective.  The micro-level research began at Hall (1992), where he promoted the assumption that financing constraints influenced firms' R&D investment based on investment theory and demonstrated negative correlation between the two by analysis of US export-oriented manufacturing firm data. Further studies have shown that the main reason for the lack of R&D is the financing constraints (Harhoff, 1998; Hall, 2009; Ayyagari, 2007). Canepa and Stoneman (2008)  found that financial capital, financial credit and other elements promote the upgrading of enterprise innovation based on EU innovation survey data. The impact is more obvious in high-tech enterprises and small and medium enterprises. However, Weinstein and Yafeh (1998) argue that banks have a natural cautious tendency and are not conducive to corporate innovation and growth under the Japanese main bank system. Gilles (1992) found that financial markets and technological innovation are interdependent. Good financial markets promote the development of high-tech industries, while high-tech industry development affects the degree of financial market development. Brown et al. (2009), by analyzing high-tech enterprise data in the United States, illustrated that R&D investment in large enterprises mainly relies on internal funds. However, small and medium-sized technology companies lack internal funds. Thus, they are mainly engaged in R&D financing through developed stock markets, and the upsurge of innovation in the 1990s was mainly driven by the stock market. Hall and Lerner (2009) argue that technology-intensive firms typically use less debt financing because R&D's equity financing has three major advantages: shareholders can share new positive returns from firms; Collateral is not required; and additional equity financing will not bring pressure on related issues such as corporate financial distress. Thus, there is controversy over whether bank financing or market financing is more supportive of corporate innovation.  Research for China is also emerging. Chinese corporate innovation may be more subject to financing constraints (Wen Jun et al. 2011). Studies, from Zhang Jie et al. (2007), Zhao Wei et al. (2012), etc., firmly illustrate that enterprises have difficulty in obtaining sufficient bank loans to support innovation because of their own incomplete information and low proportion of fixed assets: Han Jian, Yan Bing (2013) found that the positive impact of external financing on corporate R&D activities was more pronounced for small and medium-sized enterprises, private entities and high-tech enterprises. China's financial system is based mainly on indirect-financing. The banking market structure is monopolized by the state-owned large banks. Bank loans recognize more on real assets and less on intangible assets, which leads to R&D innovation activities facing a large capital bottleneck; Ma Guangrong et al (2014) considered that a significant factor, which impedes technological innovation, is lacking stable and continuous external financing channels: Zhou Fangzhao et al (2014) found that more convenient external financing for listed companies have a significant positive impact on technological innovation; Ju Xiaosheng et al (2013), Xie Jiazhi et al(2014) all argue that financing constraints have a significant inhibitory effect on R&D investment and study the role of working capital management and political linkages separately.  However, for China, in the midst of a changing economy, the key allocation of credit resources is in the hands of the government, and there is financial suppression. Commercial credit becomes an effective alternative to bank credit when firms are unable to obtain sufficient bank loans (Mcmillan, J, 1999). Guo Lihong et al. (2011) and Yang Jiayu et al. (2013) studied the relationship between bank credit and commercial credit. Wang Yanchao (2014) describes the financial constraints in the context of commercial credit can be allocated to the "lack of financing" enterprises by "over-financing" enterprises, to achieve the secondary allocation of credit funds in the context of financial repression.  Overall, the existing researches can be further deepened in the following aspects: First, there is a lack of research on whether bank credit supports enterprise innovation in the context of China's banking-dominated and financial suppression system. Foreign research emphasizes more on the financial market’s promoting role in innovation. And domestic research is a general emphasis on the inhibition of enterprise innovation from financing constraints which lacks specialized analysis of the role of bank credit. secondly, we lack research on the intermediary role of commercial credit between bank credit and enterprise innovation since most of the relevant researches regard commercial credit and bank credit as two independent financing channels instead of concerns regarding the possible transition between the two relationships.  This paper will address the above issues, study bank credit, trade credit and the interaction of the two on the impact of innovation. The research of this paper can provide a new perspective for understanding the mechanism of bank credit to the innovation of enterprise under the background of China's financial suppression and provide empirical evidence for the relationship between bank credit, trade credit and enterprise innovation. The research of this paper is of great significance to provide better financial support for enterprise innovation.  Enterprise innovation requires financial support. As the main output of innovative investment is non-exclusive knowledge, innovation investment has two main characteristics different from general investment: one is the formation of intangible assets; the second is the high uncertainty of output (Arrow, 1962). These two characteristics determine the existence of financing constraints for innovation activities. According to Pecking Order Theory, the general financing order for new projects is: internal financing, debt financing and equity financing. When the internal funding is insufficient, external financing constraints will inhibit enterprise innovation.  A lot of studies have shown that the characteristics of bank credit financing in risk management and information processing do not match the characteristics of innovation and it is performed specifically on the following:  Firstly, the risk management characteristic of bank credit is risk internalization and its expected return depends on the loan interest rate and the repayment probability of the borrowing. These characteristics of bank credit require relatively stable, assessible cash flow, repayment ability, and relatively low risk. Therefore, the bank credit serves for and provides capital mainly to the relatively mature and stable stage of the industry. It is difficult to support the innovation projects with high risk and little collateral. Secondly, the advantage of bank in processing information is to obtain information by authorization, so as to obtain economies of scale. The bank credit only provides the "one-way review" which cannot convey the depositors’ different judgment to the return and risk of the innovation project when there is little information about the innovation and the development prospect is diversified. Moreover, once the bank has a large amount of private information, there is the possibility of obtaining the largest information rent from the re-negotiation with the firm (Rajan and Raghuram, 1992), which combats the enthusiasm of the firm to invest in new projects and eventually affect technological innovation. Then, hypothesis 1 is proposed.


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The Impact of Liqudity on Corporate Bond Yield Spreads

Dr. Melissa Woodley, Creighton University, NE

Dr. John R. Wingender, Jr., Creighton University, NE



Holding term-structure constant, corporate bond yield spreads have traditionally been assumed to be made up of only credit risk.  Recent work has expanded this view to include compensation for the tax consequences of interest income, as well as a liquidity premium and a systematic risk premium.  This work shows that while credit risk explains the yield spread for high yield bonds, only 20-32% of the spread of investment grade bonds, depending on the maturity, is attributable to credit risk.  The remainder of the yield spread contains compensation for bond-issue specific illiquidity, differential taxation, and systematic risk.  Further, monthly changes in individual corporate bond spreads are negatively correlated with changes in liquidity. These results suggest that not only is bond liquidity priced, but monthly changes in trading activity at the individual bond level are also a compensated risk.  What explains the corporate bond yield spread, the difference between the yield of a corporate bond and a U.S. Treasury bond of like duration?  Several factors cause this spread to be positive.  U.S. Treasury bonds are considered to be default-free, while there is a positive probability of default for even the highest quality corporate bond.  Income from U.S. Treasury bonds is exempt from state taxes, while income from corporate bonds generally is not.  U.S. Treasury bonds are among the most liquid securities in the world, while some corporate bonds trade only rarely, if at all.  The purpose of this essay is to determine the relative impact of each of these factors on the magnitude of the corporate bond yield spread.  Further, we will examine how changes in the probability of default and the liquidity of the bond are reflected in the yield spread.  There is some disagreement in the literature as to the relative importance of credit risk, liquidity, and tax effects in determining the size of the corporate bond yield spread.  Huang and Huang (2003) find that credit risk accounts for an average of 20% of the yield spread for corporate bonds and that the percentage is inversely related to credit quality.  Elton, Gruber, Agrawal, and Mann (2001) report that default risk accounts for, at most, only 35% of the yield spread.  Further, they find that default risk and asymmetric tax treatment taken together account for at most 74% of the spread.  Depending on credit quality and industry, default risk accounts for between 7% and 35% of the yield spread while the default and tax premia together explain between 54% and 74% of the spread.  Elton et al. go on to argue that the rest of the corporate bond yield spread represents compensation for systematic risk in corporate bonds.  They show that between 67% and 85% of the portion of the yield spread unattributable to default risk or taxes is explained by the three factors of Fama and French (1993).  Longstaff, Mithal, and Neis (2005) separate the corporate bond yield spread into a default component and a nondefault component.  They find that the default component increases from an average of 51% of the spread for AA bonds up to 83% for BB bonds.  The nondefault component in their sample varies substantially with a range of 18.8 to 104.5 basis points and a mean of 65 basis points.  Longstaff et al. (2005) find that the nondefault component is related to both the degree of asymmetric tax treatment and a proxy for bond liquidity.  The nondefault component is positively related to the coupon rate of the bond, indicating the market is pricing the differential tax treatment of corporate bonds.  Additionally, the nondefault component is positively related to the average bid-ask spread for all bonds issued by the company, indicating a liquidity component in yield spreads.  Collin-Dufresne, Goldstein, and Martin (2001) focus on changes in corporate credit spreads.  They find that credit spreads decrease as the market becomes more liquid as measured by the relative frequency of quotes versus matrix prices in the Fixed Income Database (FID) and by changes in the spread between on-the-run and off-the-run 30-year U.S. Treasuries.  Thus, Collin-Dufresne et al. show that the credit spreads of individual bonds react to changes in aggregate liquidity, but do not address changes in liquidity at the individual bond level.  A major problem with all previous studies of corporate bond yields is the lack of a direct proxy for issue liquidity.  Because the bond market is primarily an over the counter market, the standard equity market liquidity proxies of trading volume, order imbalances, market depth, bid-ask quotes, and trades have not been available.  Indirect liquidity measures including issue size, bond mutual fund flows, and percentage of matrix prices versus dealer quotes in the Fixed Income Database (FID) have been the norm in previous yield studies.  This study utilizes the direct liquidity measures of the TRACE system.  A secondary issue in previous studies is the source of the bond price history.  Virtually the only source of bond data for all prior studies is the Fixed Income Database.  Because this pricing source uses quotes from a single dealer (Lehman Brothers) instead of actual trade prices from the market as a whole, there is a potential for bias.  The current study uses trade prices as reported by all market participants, thus eliminating a potential source of bias.  The goal of this paper is to identify factors that influence the corporate bond yield spread in a unified framework.  We test whether changes in the corporate yield spread are associated with changes in liquidity and default risk.  The primary contribution of this paper is examining these components with a direct measure of the marketability of individual corporate bonds, as opposed to the indirect proxies employed by previous research.  A second contribution is this additional test of whether the corporate bond spread contains a liquidity premium.  The existence of a liquidity premium is tested using both the level of and changes in trading activity.  The paper proceeds as follows.  The next section measures credit risk.  The subsequent section describes the data.   The next section discusses the implementation of the methodology and empirical tests.  The next 2 sections do cross-sectional and time series analyses.  The final section presents our conclusions.  In order to measure the portion of the yield spread attributable to default risk, we implement the model-independent approach utilized by Hull, Predescu, and White (2004) and take the premium on an n-year credit default swap to be the price of default risk for an n-year par bond issued by the underlying reference entity.  The buyer of a credit default swap (CDS) for a given company (reference entity) pays a premium for the right to sell a bond of the reference entity to the CDS seller for par value in the event of a default.  As argued by Hull et al., in the absence of arbitrage, the premium of an n-period credit default swap should be equal to the yield difference between an n-year par bond issued by the reference entity and an n-year par Treasury.  More formally, at time t the premium on a credit default swap for a given reference entity with a term expiring at T should equal the yield on a par bond issued by the reference entity with maturity at time T minus the yield on a par Treasury with maturity at time T.  In a frictionless market if the CDS premium exceeds the par yield spread, an arbitrage profit could be captured by forming a portfolio that is long a riskless bond, short a corporate bond and short a CDS.  If the CDS premium is less than the par yield spread, the opposite positions capture the arbitrage profits.  Market frictions can cause the corporate bond yield spread to diverge from the price of default risk implied by the CDS premium.  If the corporate bond market prices liquidity, then the differential liquidity between the corporate bond market and Treasury market can cause a nondefault premium in the corporate bond market.  The differential taxation of corporate bond coupon and Treasury coupon payments may cause divergence.  The first portion of this paper examines this issue by separating the corporate bond yield spread into a default and a nondefault component using the CDS premium as the price of default risk.  We then test the correlation between the portion of the yield spread in excess of the CDS premium, liquidity and differential taxation of individual corporate bond issues.   In order to implement the approach described above, we need corporate bond prices, credit default swap premia, and yields on U.S. Treasury bonds.  Daily credit default swap prices between 10/1/2004 and 12/31/2005 are obtained from Bloomberg for 323 sample firms.  Yield observations on constant maturity US Treasury bonds are obtained from the H.15 file distributed by the Federal Reserve.  Bond prices are from the NASD’s TRACE system.  In order to be included in the sample, a company must have a traded credit default swap contract with a price history reported through Bloomberg.  Credit default swap contracts range from 2 years to 10 years in duration.  Further, for each day on which the credit default swap price is reported, the company must have trades in at least 2 corporate bond issues with a price reported through TRACE, at least one of which has a maturity of less than the term of the CDS and at least one of which has a maturity of greater than the term of the CDS, but less than double the term.  For example, a 5 year CDS swap requires one bond with a maturity of less than 5 years and one bond with a maturity between 5 and 10 years to be included in the sample.  The bonds must be unsubordinated, nonconvertible and nonputable, with a fixed coupon paid semiannually.  Callable bonds are allowed into the sample only if there is a make whole provision. A make whole call provision requires the bond issuer to make a lump sum payment representing the present value (at US Treasury rates) of the coupons payments eliminated due to the call, in addition to repaying the principal if the bond is called (Fabozzi (2007)).  Inclusion of bonds containing a make whole provision follows Hull, Predescu, and White (2004). Panel A of table 1 presents the sample companies by S&P credit rating.  Approximately 20% of the sample companies are rated below investment grade, allowing a first look at the differences in yield spreads for high yield bonds and investment grade bonds.


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Independent Accountant’s Issues with Recent Reporting Regulations

Dr. Michael Ulinski, Pace University, Pleasantville, NY

Dr. Roy J. Girasa, Pace University, Pleasantville, NY



Various security laws are designed to regulate financial markets, increase transparency of financial reporting and sometimes provide incentives for economic growth by deregulation of banking and other industries. The researchers describe past efforts to regulate reporting requirements beginning with the Sarbanes-Oxley Act, followed by The Dodd-Frank Act and the Choice Act recently passed by the US House of Representatives. The Choice Act also has implications for Crowd Funding and Dark Pools as alternative trading systems (ATS). Accountants are charged with compliance with changes brought about in reporting requirements as well as interpreting and defending against enforcement efforts by the SEC and other regulatory agencies. Conflicting views about the value of deregulation from the independent accountant's perspective as well as some members of the US Congress are presented. Conclusions are reached with regard to the effects on accountants ability to comply with new and revised regulations.  Independent and government accountants are faced with compliance issues with an ever changing landscape of securities and financial reporting regulations of financial markets. Recent legislation designed to streamline regulations of market activities have caused accountants charged with independent audits of financial statements or those within the SEC to comply with new rules and disclosure requirements. The Choice Act(1) recently passed by the US House of Representatives was designed to reduced regulation of the banking industry by repealing major portions of the Dodd-Frank Act and increase transparency of financial information while streamlining other supposed burdensome regulations to spur economic activity. Historically the Sarbannces-Oxley, Dodd Frank and Choice Act represent regulatory and legislation, or in the case of The Choice Act, deregulation, that effect both Independent and government accountants ability to navigate the complex laws and SEC regulations advanced by Congressional legislation. The Choice Act also contains legislation implications for Crowd Funding and Alternative Trading Systems such as Dark Pools.  Conflicting points of view as to whether changes suggested by the Choice Act are not in the best interests of investors to safeguard against predator brokers and large banking institutions. The American Institute of CPAs cautions against deregulation and rollback of laws they consider important for the protection of the consumer. The contrary point of view contends the regulations hold back small business economic activity and competition. Some evidence of both perspectives are discussed.  The Sarbances-Oxley Act, regulation of Public Accounting, Dodd-Frank Act, the Choice Act, Crowdfunding, Alternative Trading Systems and Dark Pools are discussed in order and future regulation regulation trends are proposed. Both independent and governmental accountants are stakeholders in the final analysis and need to do their best to understand the issues involved in complying and reporting in accordance with older and more recently proposed regulations.   The demise of the Enron corporation and other large corporations brought about new rules for independent public accountants with regards to required additional opinions on the internal controls to prevent fraud and the lack of transparency of major corporations listed on stock exchanges. Section 404(b) was considered a boom to the public accounting employment but also took much of the industries self-regulation into the hands of a quasi-private regulator the PCAOB. The PCAOB was created to levy fines on CPA firms for substandard work .When first limited to certain “issuers” of public float of more than $75 million, smaller capitalized companies were able to escape the sometime burdensome requirements of section 404(b), slightly larger companies would be held to expensive and onerous regulations which made economic growth harder for these companies to expand and grow.  According to the associated press federal regulators charged 69 accounting firms and partners with violating the SOX anti fraud law by auditing public companies without registering with the PAAOB. The SEC, which often brings charges and settles them on the same day , also said 50 of the firms and partners had settled with the agency.  There were no Big Four or major accounting firms among the 37 businesses involved. Yet the action was significant because it represents the SEC's first cases alleging violation of the provisions of SOX law requiring accounting firms that audit public companies to register with the PCAOB. Without being registered and subject to inspections by the board, the 69 accounting firms and partners around the country together issued audit reports for 53 public companies from November 2003 to October 2005.(2) Worse yet large firms such as KPMG fired six employees after it learned they received confidential information from an employee of the oversight board and shared it with others at KPMG.(3)   During consideration of the bills that became the Dodd-Frank Wall Street Reform and Consumer Protection Act, there were several amendments offered that would have exempted a large number of public companies from section 404(b). Ultimately, there was an exemption enacted for non-accelerated filers (companies with less than $75 million in public float). These smaller issuers were never required by the SEC to comply with section 404(b) since enactment of Sarbanes-Oxley Act.  Critics of the Dodd-Frank Act cited the new over 400 regulations to the American financial sector, including five times as many new restrictions as any other law passed since 2009. The legislation actually enshrined bailouts in permanent law, and created a lopsided system wherein big banks grew bigger while community banks and credit unions closed at an average of one per day. Implementing Dodd-Frank has cost billions of dollars and countless regulations and restrictions have resulted in millions of hours of compliance work.(4)  Proponents of Dodd-Frank desired regulation of the banking industry  and protect against another sub prime mortgage scandal that impacted the financial system. A number of new government agencies tasked with overseeing various components of the act and by extension various aspects of the banking system. Both governmental and independent accountants are asked to navigate a changing landscape with more public companies exempt from oversight and sometimes criticized for a lack of transparency in financial reporting.  The cost of compliance for independent accounting firms in complying with Dodd-Frank mirrors the complications inherent in the SOX and legislation. The economy of scale afforded the four largest accounting firms and the sophistication of their quality controls enable them to more effectively comply with constant revisions of Congressional legislation by the SEC. Regional and local CPA firms desiring to audit public companies of a certain size struggle to profitably comply with sometime draconian regulations of the banking and related financial market industries.  However, top banking officials urge the Trump administration to keep the act as a protection against predator banking that my be under capitalize or invest in inappropriate investments and limit speculative trading and proprietary trading. Accountants, both public and private, once again are caught in the quandary of complying with regulations either with the act or changing legislation.  The Choice act focused on dismantling the Dodd-Frank Act. Besides stripping the SEC of the power to use administrative proceedings as an enforcement tool, repeal provisions of Dodd-Frank that require disclosure of incentive -based compensation, say on pay amendments and Clawback rules. Most importantly for accounting issues the Choice Act increased Sarbanes-Oxley Act (“SOX”) 404(b) compliance threshold from $250 million public float to $500 million. A “smaller reporting company” is currently defined in the Securities Act rule 405(4)Security Act Rule 405 )as one that:  (i)has a public float of less than $75 million as of their most recently completed second fiscal quarter; or (ii) a zero float and annual revenues of less than $50 million during the most recently completed fiscal year for which audited financial statements are available The AICPA CEO warns in a letter to Congress “as the Choice Act continues, we strongly urge caution on a provision repealing the funding mechanism created in DodFrank for the Governmental Accounting Standards Board(GASB). First, the Choice Act would provide extensive carve-out from compliance. Sections 404(b) of SOX requires audit of management assertions made regarding their company's internal control of financial reporting. As you know, SOX was enacted to protect all investors in public companies by increasing the accuracy and transparency of financial reporting. We are concerned that by providing the carve-out envisioned in the Choice Act, fundamental protections that investors have historically relied on will no longer be in place.(5) Governmental accountants working to implement Choice Act regulations may not know exact requirements of the new law without further guidance. CrowdFunding regulation changes especially may cause both the SEC and Independent accountants to disagree as to the compliance features of the new law.


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Women CPAs:  Retention Remains a Challenge

Dr. Denise de la Rosa, Grand Valley State University, Grand Rapids, MI

Dennis C. Stovall, Grand Valley State University, Grand Rapids, MI



Public accounting firms have struggled and continue to struggle with the retention, attraction, and promotion of women at their firms. Part of this can be attributed to the fact that many women desire to have a more flexible schedule which allows them to have a better family and work balance. Due to this, many women will leave a firm after only working there a few years, most likely after obtaining their CPA certification. Legislation passed in Michigan in the past few years now allows for accountants to attain their certification through either industry or public practice. Firms have tried to entice women to join and stay by offering flexible-work and part-time arrangements, but this ultimately is not solving the problem in its entirety. Women continue to leave firms at a much higher rate than men. In addition to problems with the current workforce, firms also face a new challenge of attracting the next generation of women accountants, the millennial generation. Like any generational switch, firms must analyze their current policies to ensure they attract and retain the best new talent in the years to come. This paper explores employment trends of women CPA holders, and what measures firms are taking to attract and retain them.  In 1998, former Michigan governor John Engler signed into law Public Act 380 of 1998, requiring candidates applying for a Certified Public Accountant (CPA) certification after July 1, 2003 to have 150 semester hours of college-level education. The 150 hours gives the student a chance to broaden their educational horizon, allowing them to not only have a solid background in accounting and business but the opportunity to strengthen their verbal, written, and interpersonal skills as well. Once the law was enacted, the Michigan State Board of Accountancy was given the chance to create the official requirements that must be met by current CPA candidates.  The official educational requirements with which all CPA candidates must comply are as follows: A Master’s degree in accounting or business administration that includes not fewer than 12 semester hours of graduate-level accounting courses. The 12 semester hours of accounting courses shall not include tax or information systems courses.  OR   An academic program consisting of both of the following: Thirty semester hours of accounting subjects, including not more than six hours of taxation. Thirty-nine additional semester hours with a minimum of three semester hours, but not more than 12 semester hours, in not fewer than five of the following areas: business law, economics, ethics, finance, management, marketing, taxation, statistics, and business policy. (The Michigan Association of Certified Public Accountants)   The next step towards earning a CPA license is to pass the Uniform Certified Public Accountant Examination, which every CPA candidate in the United States must take. In Michigan, though, you are allowed to sit for the exam even if you have not completed your 150 semester credit hours. You must, however, have met certain requirements:  Received a baccalaureate degree from an educational institution recognized by the Michigan State Board of Accountancy (MSBA)  Completed 24 semester hours in accounting and 24 semester hours in business-accounting courses that must include auditing, financial accounting, managerial accounting, accounting systems and controls, U.S. taxation and government/fund accounting.  (*Michigan Association of Certified Public Accountants)   The final step towards earning a CPA is the focus of this report – experience. Experience in the workforce demonstrates an individual’s ability to put their educational experience to good use. An applicant is required to complete 2,000 hours of qualifying experience in a responsible audit position under the direction and supervision of a licensed CPA within no less than one year and no more than five years. There is no requirement as to when the experience can be completed, whether it is before or after taking the CPA exam, but there may or may not be restrictions based on each individual firm.  Before December 2010, these applicants must have done their work experience in either a public accounting firm or a government agency, all under the supervision of a licensed CPA. In June 2010, House Bill 6196 passed unanimously, which was expected to “bring Michigan in line with most other states that allow industry experience to count toward certified public accountant licensure(Lane  2011). The [EB1] law has eased some of the restrictions, and now experience earned in industry, such as working in a controller’s office in a manufacturing firm, counts toward the 2,000-hour requirement. A licensed CPA is still required to verify that the respected candidate has completed the necessary time allotment.   “Industry data suggest that law firms still have much to do in order to enhance the presence and roles of women lawyers. But here's a step in the right direction: Women's initiatives are now fairly common in large law firms to the extent that most have a program in place or are planning to set up a program aimed at retaining and advancing women practitioners” (McMahon 2007).   Working in a public accounting firm is a very demanding job. Between the long hours and the amount of hard work put in, it may be difficult for some people to balance their work and social lifestyle while working at a CPA firm. This is especially difficult for women who want flexible schedules and a life outside of the office.  To make matters worse, Michigan requires that practitioners have one year of experience working under a CPA before they become eligible to obtain a CPA license.  Author Beth Fitzgerald of Newshouse News Service explains the downfall of Michigan’s experience requirement. “For years, certified public accounting firms have hired women and men in roughly similar numbers straight out of school – then watched women leave in droves when the demands of motherhood collided with the industry's notoriously long hours and grueling travel.”  This scenario has been all too common for public accounting firms recently, as efforts to retain women are increasing; yet these efforts are not yielding desirable results under current Michigan law. Although women have been entering the accounting fields at record paces over the last decade, the public accounting firms are struggling to retain women after obtaining their CPA license in search of more flexible scheduling and career paths.  “One of the most vexing challenges for CPA firms, large and small, is how to effectively welcome women into the ranks of partnership. Graduation statistics and workforce demographics confirm that future new hires will most likely be composed of a majority of females” (Finkle).   One of the biggest factors that influence the quality of a public accounting firm is employee retention. With more and more women earning their CPAs, it has become a priority for public accounting firms to retain the women that satisfy their experience requirement through their firm. With an entire year of experience under their belt, they are more likely to transition into working for the company full-time. Add to that the fact that these firms are losing the women they had invested so much time and money in training and it is easy to see why firms are going to need to do a better job of retaining their women employees.


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The Impacts of Safe Harbors on SMEs´ Performance and Other Economic Indicators

Dr. Veronika Solilova, Mendel University, Brno, Czech Republic

Dr. Danuse Nerudova, Mendel University, Brno, Czech Republic



SMEs are an economic backbone of the European economy as they generate 28% of GDP in EU28 and employ at least 60% of persons employed in EU28. Moreover, SMEs are involved in global value chains as partners, suppliers and distributors of large and multinational companies. However, SMEs face many obstacles one of them is tax system which generates excessive compliance costs, which are regressive with regard to firm size. The situation is worse for SMEs which are internationalized in EU i.e. having subsidiaries abroad, where transfer pricing and other international taxation issues may be in point. In this case compliance costs of transfer pricing issues were determined for European SMEs annually between EUR 3,090 and 5,564 per entity and represent 1.32 % up to 2.38 % of corporate tax collection. Therefore, greater simplicity in transfer pricing administration and improving the efficiency and effectiveness of transfer pricing enforcement are considered as essential mainly for SMEs, who are not able to bear the high administrative burden to comply with the transfer pricing rules as large enterprises. One of possible solutions can be considered the introduction of safe harbor arm´s length ranges. The aim of the paper is a research of impacts of the introduction of safe harbor on changes of SME´ performance and other selected items reported in the financial statements with emphasis on the fulfilment of the long-term goals of the EU2020 agenda, such as smart and inclusive growth in the EU. Based on the research we can conclude that safe harbors are able to support the SMEs´ performance as they are able to decrease compliance costs of transfer pricing issues resulting into a smart and inclusive growth in the EU. In this respect we recommend to invest such saved money to an increase of current assets, added value or number of employees.  Small and medium-sized enterprises (hereinafter SMEs) are categorized according to the number of employees and their turnover or balance sheet total. Based on the commonly-used categorization for SMEs provided by the European Commission (1) they are categorized on micro, small and medium-sized enterprises. Medium-sized enterprises are defined SMEs as “enterprises which employ fewer than 250 persons and which have an annual turnover not exceeding EUR 50 million, and/or an annual balance sheet total not exceeding EUR 43 million”. Small enterprises are defined as “enterprises having less than 50 employees and turnover or balance sheet total of less than EUR 10 million, and microenterprises as a firm with less than 10 employees and a balance sheet or turnover below EUR 2 million.” The European Commission report (2) states that SMEs presents almost 99% of all firms in EU, i.e. just under 23 million SMEs in 2015.  SMEs as an economic backbone of the European economy contribute significantly to national and global economic growth. They generate almost 58% of value-added and account for a large proportion of total employment (i.e. provide 90 mil. jobs), mainly in the service sector. (3) Even though the contribution of SMEs to employment differs by sector, as a whole SMEs creates at least 67% of jobs in the EU. SMEs are also involved in global value chains as partners, suppliers and distributors of large and multinational companies.   The surveys (4) of European Commission have revealed that all SMEs face the same obstacle, mainly in the form of tax systems which generate excessive compliance costs. As a certain features of the tax system may disadvantage SMEs relative to large enterprise even though many tax requirements may appear to be relatively “neutral” for business of all size. These tax requirements include higher fixed costs associated with tax and compliance regimes. Due to this fact, governments are taking many measures to reduce these impacts - providing tax preferences, special provisions, specific tax rules and simplification measures targeted at SMEs. If these measures are carefully designed i.e. they do not increase complexity, they can address the disproportionately high tax compliance burdens faced by SMEs.  From an international perspective, more than 44% of SMEs (in EU average) are active in any forms of international activities, such as exporting, importing, investing abroad, cooperating internationally, or having international subcontractor relationships, within the EU (5). However, only 2% (for micro), 6% (for small) and 16% (for medium) of SMEs are investing abroad. This is connected mainly with the facts that only 5% of SMEs are associated (i.e. have subsidiaries abroad) and that SMEs are generally less involved in cross-border activities. The European Commission adds that only 1.2 million SMEs are exporting, while 1 million of them export within the EU. (6)  We assume that the reason of the fact that the very small percentage of SMEs that are involved in international business activities can be caused by the complexity and specialized knowledge required in dealing with the international taxation issues. The most important issues which SMEs are facing when operating on Internal Market are compliance costs of taxation which are generated in connection with non-existence of unified system of SMEs taxation (there are 28 different tax system in EU), transfer prices and problems with cross-border loss compensations. As was already mentioned above, only 5% of SMEs have subsidiaries abroad, where transfer pricing may be in point. SMEs are also strongly heterogeneous, specifically across and within industries and sectors, in their innovation behavior, and in their profitability and growth potential. Further, they differ very significantly from large enterprises (hereinafter as LEs) in many aspects, for example in size, activities, needs, resources, labor productivity, in the qualification and skill levels of the employees and capital intensity. Thus they cannot reach the same scale economies as LEs. From the international taxation perspective, SMEs are facing specific problems and have specific needs as they do not have the comparable resources to bear the high administrative burden to comply with the transfer pricing rules. In 2007 (7), the European Commission highlighted that a big company spends one euro per employee to comply with a regulatory duty, a medium-sized enterprise might have to spend around four euros and a small business up to ten euros (European Commission, 2007a,b). In respect of compliance costs of transfer pricing issues, based on our research we determined them between EUR 3,090 and 5,564 annually per entity for European SMEs which represents 1.32 % up to 2.38 % of overall corporate tax collection.  Therefore, greater simplicity in transfer pricing administration and improving the efficiency and effectiveness of transfer pricing enforcement are essential mainly for SMEs. After the relaunching of the safe harbor (8) provision in the Transfer Pricing Guidelines for Multinational Enterprises and Tax Administrations (hereinafter as TP Guidelines), the application of safe harbor in other areas of transfer pricing within the arm’s length range for SMEs in different industry activities should be strongly considered. Safe harbor arm´s length ranges determined via industry where enterprise operates and a size of enterprise follow the fundamental principle of the arm’s-length standard of comparability, which is based on the theory that profitability rates earned by enterprises operating under similar conditions in the same market and industry sector are equalized in broadly similar product markets. Furthermore, it is based on the general analogy resulting from the generality of a simplified approach. For taxpayers and tax administrators, the application of safe harbors arm’s-length margin ranges can reduce compliance costs and administration costs, increase certainty for taxpayers and improve the effectiveness of tax administration, mainly by decreasing the number of transfer pricing disputes, audit, and MAP cases for tax administrators. In respect of SMEs, they would not be required to perform time-consuming comparability analysis resulting in the determination of the arm’s-length profit margin or mark-up. They could apply for publicly presented safe harbors, thus saving time, financial capital and human resources as well as reducing the compliance costs of taxation.  The aim of the paper is a simulation of impacts of the introduction of safe harbor on changes of SME´ performance and other selected items reported in the financial statements with emphasis on the fulfilment of the long-term goals of the EU2020 agenda, such as smart and inclusive growth in the EU. The paper presents the results of the research in the project GA CR No. 15-24867S „Small and medium size enterprises in global competition: Development of specific transfer pricing methodology reflecting their specificities“.  The tax system imposes compliance costs on the taxpayers who must comply with record keeping, filling and payment processes. Thera are a number of factors influencing tax compliance costs. For example the number of taxes that must be complied with, the frequency of changes to the tax laws, the complexity of the tax system, the existence of different tax administrations, the difficulty associated with interpreting unclear tax laws, multiple deadlines for tax payments throughout the year, costs of external tax service providers as well as internal staff or owner time spent complying, and tax registration procedures (European Commission, 2007b). Tax compliance costs involve a large fixed component and impose a relatively higher burden on SMEs than on LSEs which can benefit from economies of scale. Moreover, as states Cressy (2000) these costs tend to be regressive with regard to firm size, when are measured as a percentage of turnover or income. The same conclusion was reached by Sandford (1995) who further states that this regressive effect is accumulated and excessive burden of these costs can generate prohibitive effect. Nerudová, Bohušová, Svoboda, Široký (2009) also emphasize the regressive character of compliance costs with regard to firm size, but further mention that they are significantly higher in case of SMEs with foreign branch or subsidiary in comparison with SMEs which are not internationalized. The European Commission study (2007a,b), found out that “on average, a company with fewer than ten employees has to face a regulatory burden that is about three times higher than the burden of a company with more than twenty but fewer than fifty employees. For LEs, the burden per employee is only one fifth or one tenth of that of SMEs.”


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Developing Production Standards for Multitask/Multilocation Service Installers with Varying Levels of Experience:  A Basic Theory

Dr. John Ed Knight, Professor, The University of Tennessee at Martin, TN



As the economy increasingly moves toward service applications and away from highly repetitive short-cycle manufacturing operations, the use and development of production standards necessarily must undergo similar changes.  This paper addresses the development of production standards for multitask/multilocation service installations with varying levels of installer experience.  The application of production standards to these tasks faces special issues given that the work order will contain various, non-standard general job tasks with specific outcomes but not specific and prescribed standard repeatable methods.  Each installation must depend on the experience level of the operator making a planning assessment on arrival at the installation location and deciding which sequence of task installations and methods of installation may be best.  Experience is assumed to play an important role in this assessment and work order execution.  An algorithm will be suggested that will not only make a work order prediction but also will develop a daily work order schedule that will meet the 8-hour daily work requirement with consideration for wide variances in the installation times, travel times from location to location, and the variances of sequential work orders so that the probability of completion in 8 hours meets a predetermined management assurance level.  Production standards have many benefits that have been reaped for years (Quick, 1962).  Production standards are the results of accurately and precisely timed tasks being extrapolated over a prescribed work day (typically 8 hours) with a given output per person per day being generated.  The basic job task times can then be utilized as elements for determining production standards for independent work stations and then utilized as input to assembly line balancing calculations when gross demand makes division of labor more efficient.  Production standards also regulate work flow, determine labor requirements for a forecasted demand level, establish labor costs for standard costing input to accounting, and establish a contract between employees and employer for a fair days work and a fair days pay.  This contract allows the employee to work with far less supervision and oversight.  However, poor production standards can lead to employee dissatisfaction, union grievances and other management complications.  This paper will focus on developing fair standards that do not distort the true nature of the actual work for service installations.  Good work standards and production standards must be viewed as neutral by the employees to be effective.  Employees possess an uncanny ability to understand how different factors affect their ability to complete a task with one of those factors being experience on the job.  Basic to the production standard is the development of time standards for various job tasks and series of job tasks.  Historically, many of the time standards focused on extremely repetitive tasks often performed in a factory location where the physical location, component work flow and completed work disposal were fixed and tightly controlled. Henry Ford was especially focused on the use of time studies and standards for the efficient production of millions of Model T Fords.   The works of Frank Gilbreth (Gilbreth, 1925) and Lillian Gilbreth (Robinson, 1994) and Frederick W. Taylor (Locke, 1982) and his scientific management approach helped develop many of the foundational aspects of time studies (as inputs into production standards).  Gilbreth focused on developing a best method utilizing the 17 therbligs of motion study before actual time studies were developed.  Once the most efficient method was established using those principles, the method was timed and a time standard was established.   Using that basic time, a production standard for a work day was established.   Interestingly, the change in methods and improved times were difficult to obtain in practice.  Lillian Gilbreth with her background and training in psychology began to observe the phenomenon and developed the tabletop experiments to demonstrate how the actual implementation of time standards can be more effective when the concepts of psychology were introduced to better understand how production changes affected the learning curve, worker acceptance, and achievement of the proposed work standard.   Meanwhile Frederick W. Taylor developed time standards focusing on timing of work based on the physical selection of different individuals to accomplish different tasks and the selection of various tools (e. g. shovels) and the sequencing or work and rest periods to optimize total production output.  The pig iron and shoveling experiments at the Midvale Steel Company were some of his famous historical studies.  These standards similarly focused on repetitive and tightly controlled work situations.  As time passed, the application of time study and production rates began to expand to other more unique applications.  During World War II, when airplane production was expanding rapidly to build a massive air armada to attack the Germans and Japanese, airplane manufacturers noticed that the time to produce an airplane continuously decreased as more of the same plane model were produced (Yelle, 1979).  After numerous attempts to plot this phenomenon on graph paper, a general curve form became fairly obvious when plotting various combinations of average time per plane versus the number of planes produced (Hirschmann, W.B., 1964).  Instead of a straight line and linear decrease in the time, the curve was a negative exponential shape.   In fact, when plotted on log-log paper, the plot became a straight line.  The learning curve has been used and applied in many industries since then although each application must determine the constants in the mathematical formulation.  Similar curved line applications also began to be observed in other production situations and methodologies to address those had to be addressed.  The same concept of the learning curve has also been applied to the increasing skill level of employees as they repetitively repeat the same task over and over.  De Jong (1957) described this phenomenon of how time standards change (decrease) over time.  As American manufacturing migrated from domestic to international production and as mechanization and robotics have reduced high cost repetitive labor content even further, the dominance of fixed location, high labor content jobs with small cycle times has waned.  In its place, a significant expansion of service labor has evolved.  For example, instead of a worker on a TV assembly line at Motorola, the installation of service packages of TV, internet, and telephone options at various home locations has become far more prevalent.  This category of work involves employees being routed to various locations with various work orders with different combinations of various tasks.  Although the tasks may be somewhat similar, oftentimes they are not exact duplicates (in contrast to an assembly line station). Additionally, the experience level of various installers and the uniqueness of each installation potentially indicates that experience might have a primary impact on the times (as learning can occur but in a unique general way contrary to the theoretical learning curve phenomenon).  Likewise, a route salesman delivering bread must stop at a variety of type stores located varying miles apart with a variety of different size orders with differing customer requirements.  How should time standards be applied to these cases?  In addition to the potential varying components of work, direct visual supervision of the person is impossible to achieve at off site locations.  Potential problems exist with each separate task assignment and the variance in times of completing the task is much larger than a short cycle standard production line job.  Methodologies to handle these multi-location, multi-task, large variance time tasks must be addressed and categorically analyzed.  Obviously, a case that illustrates these situations and pitfalls provides added understanding and robustness to the discussion.  A common thread throughout the history of time study and production standards focuses on several commonly accepted assumptions.   First, a common assumption recognizes that the majority of the learning curve phenomenon has been completed (although in reality, learning continues as more units are produced).  Secondly, the assumption is made that recorded times closely replicate the actual standard work task that has been identified.  Naturally, inherent in this definition is that a best standard method has been identified and cataloged prior to the actual timing.  The goal should always concentrate on timing a qualified and well-trained worker as they execute the standard task.  Adjustments can be made to the actual time via a rating factor assigned by a qualified time study analyst.  These parameters basically preclude the use of self-reported times from log sheets.  Such self-reported times are often utilized by companies that attempt to determine standard times for multi-task, multi-location operations, such as internet and cable TV route installers and other similar job classifications.  This paper will illustrate that physical timing and rating of a limited number of observations even with large variances will statistically still provide reasonably accurate and precise time measures when multiple tasks are involved and given the nature of the standard deviation of the sum of variances.  This paper attempts to address and to provide direction to the application of time study analysis and production standards to the array of applications that exist in business today where service employees with varying levels of experience must accomplish a varying list of installation tasks.  A basic theory of developing individualized production standards for each employee performing multi-location, multi-task operations with employees of varying experience, travel time between jobs, and large variance multi-task jobs will be addressed and demonstrated.  The basic theory for developing time standards for this classification of work (multi-location, multi-task) focuses on some basic goals for the successful formulation of the task.  First, the time and production standards for the assigned work should provide time and production standards not only for the day but for the week and month.  By providing the values over a longer period of time (not just a day), the theory takes advantage of the fact that the total variance of the sum of many individual variances will be greatly modulated thus resulting in the ability to absorb individual task variances into predictable longer-term outcomes.   Second, the theory recognizes the growth of this type work results in a wider range of employee experience and that experience plays a part in the ability to quickly plan and organize and execute the work at each unique on-site installation.  Traditional time study attempts to time a highly repetitive, short cycle task in a fixed location while these installations result in a wide variety of semi-standard tasks that may need to be sequenced and planned in a variety of ways once a site location is observed and evaluated.  Third, the theory attempts to factor in the reality of schedule adjustments and changes due to missed appointments, changes in customer requests once on site (different from the work order), and travel time between appointments. 


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Possible Way to Internally Generated Intangible Assets Reporting

Dr. Hana Bohusova, Mendel University in Brno, Czech Republic

Dr. Patrik Svoboda, Mendel University in Brno, Czech Republic



Costs associated with intangible assets such as software, patents, licenses, copyrights and goodwill became an important item of costs in the recent days. Despite this fact, there are a lot of inconsistencies in their recognition, measurement a presentation in particular reporting systems. The paper is focused on the evaluation of the ways of intangible assets reporting and impacts the reporting treatment on financial position and performance of companies.  There are compared treatments for intangible assets measurement, recording and reporting in selected reporting systems in the paper. The IFRS system, US GAAP system and the Czech Accounting legislation (CAL) are evaluated. The aim of this paper is to evaluate the way of IAs reporting methodology. Based on results of comparative analysis, the most different ways of IAs reporting were identified and the model case was utilized for the demonstration of the impact of different treatments for recognition, measurement and reporting on financial statements items.  The characteristics of the economy had changed from the industrial one to today’s more service and information oriented during the past decades. There were especially manufacturing companies (US Steel, Jersey Standard, Pullman and American Tobacco) among the world’s largest companies in the beginning of the 20th century. Their success was based on their tangible assets: oil fields, railroads and factories. In the recent days besides these companies there are some new companies operating in quite different kinds of industries (Apple, IBM, McKesson, United Health, CVS Health, Microsoft, Intel, GE, and Merck) in the group of very successful companies.  A lot of major businesses (operating in pharmaceuticals, information technology, and consumer products) generate revenue, provide returns for their investors and generate a great deal of value due to investment in intangible assets.  The structure of companies´ assets has been changing since 80th of the 20th century. The share of intangibles in the total assets has increased from 5% in 1978 to the current 75-85 % of all assets in selected companies. According to Zéghal, Maaloul (2011), in 2002, the “total expenditure in intangible capital was larger than the investment in tangible capital” for firms in the United States and Finland. As identified in the PricewaterhouseCoopers’ publication Trends In Corporate Reporting 2004 – Towards VALUEREPORTING, much of the information that relates to value drivers and key intangible assets, and which is critical to a business’s success and sustainability (customers, people, brands and innovation), is not currently being reported in a sufficiently credible and consistent fashion by many companies. There are growing numbers of studies demonstrating the importance of intellectual property in economy. With respect to conclusions of studies carried out on factors of companies´ success, they are moving from tangible to intangible factors due to the realization of the high potential of intangible resources (Hand, 2001, Zigan, Zeglat, 2010). The shift towards consideration of power of IAs and their contribution to companies´ economic growth is attracting attention of researchers (García, Ayuso, 2003,  Vodák, 2011, Volkov, Garanina, 2007, Jerman, Kavčič, Kavčič, 2010, Hussi, Ahonen, 2002, Gerpott, Thomas and Hoffmann, 2008, Boekenstein, 2009).  Also Grüber (2014) concluded that major production inputs do no longer comprise of items, such as property, plant and equipment, but rather of brands, knowledge and other technological innovation and intangible values have continuously become significant value drivers of companies in today’s economy. Despite these facts, financial accounting and reporting still lacks to incorporate and to report such values properly. Academics and practitioners argue that the economic importance of intangible values in industrialized countries has increased significantly during past decades. This phenomenon is mainly due to the notable growth of the tertiary sector, resulting in fundamental changes of the economy: the traditional industrial business model has continuously become less important, as economic wealth creation is more and more based on the exchange and manipulation of invisible or intangible values. The significant items that are key to a business and that drive revenues are brands, copyrights, patents, licenses and the like.   There are some studies concerning the significance of IAs within European companies (Nell, Tettenborn, Rogler, 2013, Jerman, Kavčič, Kavčič, 2010).  Nell, Tettenborn, Rogler (2013) examine both the materiality of intangibles and the related disclosure quality under IFRS in the notes of firms on the German benchmark stock index DAX during the four-year period 2008-2011. The study of Jerman, Kavčič, Kavčič (2010) aims the significance of IAs in transition economies like Croatia, Slovenia, the Czech Republic, Germany and USA. The study is based on data of the period 2004-2008. The results of the study prove that intangibles constitute an important asset for traditional market economies, while it was not proven for post-transition and transition economies.  In 2002, the “total expenditure in intangible capital was larger than the investment in tangible capital” for firms in the United States and Finland (Zéghal & Maaloul, 2011). Also the studies of Dunse, Hutchinson and Goodacre (2004), Edvinsson (2000) proved that a creation of the future value is significantly based on IAs such as IP and goodwill. Company’s IAs — especially those related to internally generated information technology and other internally generated IAs — are not well reported on corporate balance sheets according to these studies. The vast majority of intangible spending is expensed, due to strict criteria for recognition of IAs in an accord with IFRS or US GAAP (Lev, Daum, 2004). According to Garcia, Ayuso (2003), concluded that the research efforts conducted over the past three decades have provided evidence especially that intangibles are fundamental sources of competitive advantages that must be identified, measured and controlled in order to ensure the efficient management of corporations and there is a lack of relevant and reliable information on the intangible determinants of the value of companies that actually results in significant damages for business firms and their stakeholders.  Much of the attention on IAs has been paid to research and development (R&D), key personnel and software. But the range of IAs is broader. OECD (2008, 2011) groups intangibles into three types: computerized information (such as software and databases), innovative property (such as scientific and nonscientific R&D, copyrights, designs, trademarks) and economic competencies (including brand equity, firm-specific human capital, networks joining people and institutions, organizational know-how that increases enterprise efficiency, and aspects of advertising and marketing). These assets are getting more important, and their identification and measurement have become a point of high interest of all financial statements users, despite the fact that tangible assets often have been dominating to discussions of success factors up to now. It is clear that such tangible factors explain only part of the outcome, and for complete comprehension, organizations need to consider intangible success factors.  Regarding to both types of long-term assets, organizations can obtain a complete picture for making comparisons and improvements in performance. Despite these facts, the financial reporting developing bodies (IASB and FASB) pay only little attention to this category and there are many discrepancies in intangible assets reporting by particular systems.  The paper is concerned with the significance of IAs in the economy of companies over the world. The main aim is to assess IAs recognition, measurement and reporting methodologies according to IFRS, US GAAP and CAL as a representative of the continental reporting system. The continental reporting system is used mainly by countries such as France, Spain, Germany or Austria. The value, materiality and structure of IAs and the impact on B/S total and P/L is researched. The comparative analysis was used for identification of main areas of differences in recognition, measurement and reporting in individual reporting systems (IFRS, US GAAP and CAL).   Based on results of comparative analysis, the most different ways of IAs reporting were identified and the model case was utilized for the demonstration of the impact of different treatments for recognition, measurement and reporting on financial statements items.   Despite the increasing significance of IAs and a number of changes in the standards used to account for intangible assets over the last decade, the majority of existing standards largely “recognize those assets only when they are acquired from others” (Upton, 2001). According to Smalt, McComb (2016) current accounting policies for internally generated IAs differ for individual reporting systems.  The primary characteristics and goals of financial statements can be decreased. There are following treatments in the world´s most significant reporting systems:


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Pygmalion Syndrome and Misunderstanding the Duality Accounting Concept

Dr. Farrell Gean, Pepperdine University, CA

Dr. Fred Petro, Pepperdine University, CA

Virginia Gean, California Lutheran University, CA



Years ago, the famous physicist, J.L. Synge, commented on the tendency of people to confuse a concept with a something.  He called this confusion the Pygmalion Syndrome.   It is sometimes called reification from the Latin res meaning thing or object.  To reify a concept means to speak of the concept as a physical thing.  This paper has the modest goal of linking this tendency of the human brain to confuse a concept with a something to difficulty in understanding the accounting language.  One of the most important, fundamental concepts underlying financial reporting by accountants is the duality notion.  This is an economic principle that says every business transaction has dual effects on the financial position of an entity. Sometimes one or both effects may be conceptual and not an empirical something such as cash.  Grasping this duality concept is absolutely essential for learning the accounting language. This paper presents a strong argument that the Pygmalion Syndrome is the barrier to cross if accounting is to be learned.  Some empirical evidence gathered from students will be presented to support our philosophical reasoning.  In this information age in which we live, there seems to be an increased tendency for human beings to confuse conceptual models of real things and events with the things and events themselves.  A well-known physicist  chose to call this confusion the Pygmalion Syndrome, after the symptoms of the legendary sculptor of Cyprus who carved a statue of such astonishing realism that it came to life for him and he fell in love with the statue.  A concept is an idea. It is a generalized idea of a class of of objects.  It is a thought; a notion or abstraction of something existing in the real, empirical world.  It is often used to explain something that cannot be directly observed. A conceptual model is often thought of as a simplified way of communicating that which cannot be detected by any of the five senses.  At this point in the paper an excursion into ontology is taken for the purpose of illuminating an understanding of empirical reality as opposed to concepts existing only in the thought world.  This detour into a higher philosophical level is taken because of the revived interest in reality issues within accounting and other social sciences. But more importantly, this seemingly digression will indirectly help provide insight into the primary communication problem addressed in this paper. It does this by clarifying the meaning of real, empirical world as it is used in this research study as opposed to how real world is thought of in certain branches of metaphysics.  Whenever accounting is discussed it often involves dealing with owners’ equity concepts like revenue, income, dividend and retained earnings. The focus in this paper is in what sense do those phenomena that these accounting concepts refer to actually exist in a real world and when are they concepts only. An analysis of the underlying assumptions about the existence of reality that are reflected in accounting concepts is considered outside the scope of this paper and not examined. Instead, the traditional, general idea of objectivity that dominates the thinking in both accounting theory and practice is followed by the authors.  Thus, accounting concepts are interpreted as reflecting the reality that exists somewhere “out there”.  This “out there” is a real external world outside of an individual that can be detected with the 5 senses.  This ontological point of view corresponds to realism in philosophy.  This dominant role of realistic ontology in favor of an idealistic ontology is the view taken in this paper. This realistic ontological view, therefore, rules out the existential view of reality where no external world exists, but what is perceived as an external world is merely an extension or projection of an individual’s thoughts and feelings.  This is inconsistent with the real empirical world we refer to when we contend that assets such as cash, inventory, land, buildings, equipment and so forth are things.  So when reference is made to existing in the real world we are speaking of those things external to ourselves that can be seen, smelled, and kicked.   Accountants function in a world of conceptual models. Accountants speak of revenue, expense, income, and dividends.  All of these are concepts.  A number of years ago, Reed Storey, one of the primary theorists involved with developing the Financial Accounting Standards Board’s ( FASB) conceptual framework, referred to financial reports as “quantitative representations of economic things and events in the real world”.  Other accounting theorists have referred to geographic maps as being analogous to financial reports.  The physicist who originated the term Pygmalion Syndrome claimed that this syndrome is a disease of the mind which blurs the distinction between the real world and the conceptual models employed by humans to communicate complex issues.  Accounting theorists contend that this disease is just as widespread and perhaps more prevalent among accountants than it is among physicists. Loyd Heath claims that this syndrome is insidious in that it begins as a seemingly harmless short-hand way of describing things, but it evolves into much more serious communication problems for those attempting to teach or learn accounting as a discipline.  The writers believe that many problems in communicating with clients, users of financial reports, financial press and other users of accounting information may be caused by the Pygmalion Syndrome. These communication problems in turn lead to faulty reasoning and poor economic decision-making. A clearer understanding of this syndrome should lead to improved communication and better decisions related to accounting reports.  Implications of this syndrome are not limited to the corporate world and the practice of accounting but it has perhaps even more potential, negative consequences in the field of accounting education.  This is due primarily to the key accounting concept of duality. Grasping the duality economic phenomenon, which is that there are at least two effects on the financial position of a business entity from every economic transaction, is critical to learning the accounting language in the classroom.  Understanding this duality concept is absolutely essential to learning accounting but the Pygmalion Syndrome can be a major deterrent because so often one of the effects involves a thing and the other is only a concept. This blurred distinction between concept and thing can be extremely detrimental to learning the field of accounting and for some individuals insurmountable.  This paper has the modest goal of explaining this disease and to provide examples of where it exists in accounting.  A better understanding of this syndrome should lead to significant improvements in both accounting practice and accounting education. This paper shall focus on the improvement of accounting education.  Since the Pygmalion Syndrome is inextricably linked to the basic accounting concept of duality, it is useful to first describe this economic principle and the associated double entry procedural system for capturing these dual effects into a set of business accounts.  Let there be no confusion, duality is the economic impact of a business transaction and the double entry system is an arbitrary procedural system designed to capture this dual economic impact on the financial position of a business entity. In other words, duality is a conceptual model while the accounting double entry system is a procedural something.  The double entry system has rules but no underlying theory to explain them. There is no “because answer” to any “why question” related to this procedural debit/credit system. This paper is written with the assumption that the reader understands the basic debit/credit rules of this procedural system.  If the rules are followed appropriately, the dual economic effects would result in equal debits and credits when the transaction giving rise to the effects is recorded into the accounts. These rules will be followed when illustrations of concept vesus thing are provided throughout the paper.  The late management theorist, Peter Drucker, said the fundamental accounting model is the basic model from which all other business models are derived.  He was referring to the fundamental accounting equation expressed as follows:  ASSETS  = LIABILITIES + OWNERS’ EQUITY.This model is the expression of an equality of the financial position of a business entity that exists at any point in time. The three basic elements of this equation each represents a collection of accounts into which dual effects of business transactions are stored. The Pygmalion Syndrome is most related to misunderstanding the nature of owners’ equity accounts.  Consequently, a discussion of these accounts is considered important before we begin looking at some illustrations of the communication problem connected to the Pygmalion Syndrome.   So that changes in owners’ equity can be determined by time periods for comparison purposes:  both cross sectional analysis with other companies and over time with trend analysis, it is necessary for accountants to record the effects on owners’ equity into temporary accounts and then transfer the balances of these temporary accounts into more permanent owners’ equity accounts for the start of a new accounting period.  For example, revenue, expense, and dividends are conceptualized as temporary owners’ equity accounts.  Revenue minus expenses is how the concept of accounting income is calculated. As stated, it is important to know income by period, therefore, it is necessary to use these temporary owners’ equity accounts; otherwise you would not have the data to know the changes to owners’ equity on a per period basis. Again, it should be stressed that these temporary owners’ equity accounts are concepts of real, empirical world happenings.


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ASEAN, the 50 Years Old, Successful Association and Hungary Prospects and Challenges in the Economic Relations, Focusing on Vietnam

Dr. Laszlo Kozar, Professor, Head of Institute of Commerce, Budapest Business School – University of Applied Sciences

Dr. Gyorgy Ivan Neszmelyi, Associate Professor, Institute of Commerce, Budapest Business School – University of Applied Sciences



The economic integration process started fifty years ago among five countries in the Southeast-Asian region. As a result of this, nowadays, the ten members of ASEAN (Association of Southeast Asian Nation) – together – grew to be a new Asian economic power, besides China, Japan, India and South Korea. Beyond the overview of the main steps of this five-decade development, the authors aimed to give an insight to the economic, social and political aspects of the relations between Hungary and ASEAN. The timeliness of the topic can be underlined by the foreign economic strategy “Eastern Opening” proclaimed by the Hungarian Government in 2012. However, the success of this policy has still not been reflected in the trade statistic figures. The integration of the ten Southeast Asian countries develops rapidly, which is coupled by their increasing weight in the world trade. The dynamic economic and social development in the ASEAN region – and in parallel with this the growing demands and purchasing power - may encourage the Hungarian ventures in theory. In practice, however, there are still very few Hungarian entrepreneurs are ready and able to enter the markets of the countries in the region and operate successfully there in long run. Since the political and economic changes, Hungarian foreign trade has become strongly concentrated to the European Union. Due to the geographic distance ASEAN countries cannot be an alternative of the EU market, but in a certain extent they can relieve the one-sided concentration to the EU and may provide additional opportunities for the export of Hungarian goods, services and know-how. The ratio of the ASEAN region within the entire Hungarian foreign trade figures has still been modest moreover for Hungary this region means rather and import source than export market. The presentation is supplemented with a brief case study about Vietnam focusing on how bilateral relations developed and what are the present challenges and possibilities of broadening the economic relation focusing on the field of trade with agricultural goods.  It was just a few months ago when the 50th anniversary of the day was celebrated when - on the 8th August, 1967 - five developing countries of Southeast-Asia (the Philippines, Indonesia, Malaysia, Singapore and Thailand) signed the Bangkok Declaration, which launched a loose alliance of governments – the Association of South-East Asian Nations (ASEAN). The Permanent Secretariat of ASEAN resides in Jakarta, the capital city of Indonesia. Brunei, after having gained her independence, joined the organisation in 1984, Vietnam in 1995 and Laos and Myanmar in 1997 and at last Cambodia joined to the Association in 1999. The declared aims of this regional organisation are the promotion of economic growth and the acceleration of social and cultural development in the region. However, there were also other important political and security considerations for creating ASEAN, which included: a) prevention of political conflicts in the region, which could lead to, or provoke the intervention of an outside power, b) to create a forum for handling disputes between member nations, c) to bring stability to the social and economic systems of the member nations. The member states expressed a keen interest in broadening the forms of cooperation among themselves. In January, 1992 ASEAN announced the future development of AFTA (ASEAN Free Trade Area) for the period 1993 to 2008, with the gradual phasing out of customs restrictions within the Association. In 1995 the deadline for the completion of AFTA was brought forward to 2003. In the course of the half-century history of ASEAN, its members have been among the most spectacularly developing countries in the world. According to competent analysts, the economy has been continuing to grow rapidly in the forthcoming years (see figures of Table 1). The member countries in total represent a population of 622 million people, which - in case of the continuation of the economic growth and increasing incomes - bodes for considerable growth in consumption for the coming decades. According to its population ASEAN is bigger than the European Union or the United States, it is the 3rd largest market in the world, behind only India and China. ASEAN is a fast growing and promising region. Its total trade increased by nearly USD 1 trillion between 2007 and 2014, with intra-ASEAN trade comprising the largest share of ASEAN's total trade by partner. ASEAN attracted USD 136 billion in FDI in 2014, accounting for 11% of global FDI inflows, up from only 5% in 2007. The most recent milestone in the economic integration process of Southeast Asia was formal establishment of the ASEAN Economic Community (AEC) on 31st December 2015 which was built on four interrelated and mutually-reinforcing characteristics: (a) a single market and production base, (b) a highly competitive economic region, (c) a region of equitable economic development, and (d) a region fully integrated into the global economy. ASEAN is nowadays is a highly competitive economic region in the world with a combined GDP of USD 2.6 trillion in 2014, ASEAN economy was 7th largest in the world and the the 3rd largest in Asia. The formal establishment of the AEC in 2015 is not a static end goal, but a dynamic process that requires continuous reinvention of the region to maintain its relevance in an evolving global economy. The agenda “AEC Blueprint 2025” has therefore been adopted to guide ASEAN economic integration from 2016 to 2025 (Fact Sheet on ASEAN Economic Community, 2015).  The goal of the present study was to explore the economic, social and political attributes by descriptive analysis based mainly on results and information of secondary research being gained from bibliographic sources and databases. In addition, it needs to be mentioned that both authors used to work in the field of the development of the economic and political relations with various ASEAN countries therefore their direct experiences could also mean a contribution to this study. The data which are used in this study were received from the Hungarian Research Institute of Agricultural Economics (AKI), from the Central Statistical Office (HCSO), the Ministry of Agriculture and Rural Development (MARD) of Vietnam, while the prices of commodities were published by ICE, NASDAQ, IG UK and the CME Group. In case of the agricultural trade the authors had to rely on the classification of the Hungarian statistical trade system which uses four categories as follows: I. Alive animals, animal products (01-05) II. Plant products (06-14), III. Animal and plant fat, oil and wax (15) and IV. Food products, beverages and tobacco (16-24). Even though this classification does not comprise several types of goods, especially various raw materials, which may have either agricultural or mineral origin the statistical system does not make a proper differentiation among them. However, the aggregate figures deriving from the sum of the mentioned four categories of products can well represent the trends and approximate figures of the agricultural trade. Hungary’s relations to some countries of the ASEAN region were already established in the 1950’s and 1960’s. The partnerships to Vietnam, and the previously socialist Cambodia and Laos can by now be seen as well established (bearing in mind that behind the development of political and economic relations stood the interests of the Socialist Bloc, representing the interests of the Soviet Union, not particularly Hungary).  Hungary’s relations to the other countries in the region have been more recent. Relations started developing with Thailand, Malaysia and Singapore in the 1980’s and 90’s. Although an economic partnership was formed with Indonesia in the second half of the 1950’s, this relationship was setback by the political changes there in 1965, and only began developing again in the second part of the 1980’s. Hungary has very modest economic relations with the other two ASEAN nations, Brunei and Myanmar. Hungary never had particular contacts with Brunei, but used to have more intense connections with the once “socialist” Burma until the end of the eighties. The ruling military junta and the international political isolation of Myanmar since 1988 have provided an unfavourable economic environment for the maintenance of previous relations. The aim of this paper is to explore the importance of the Asia and within Asia the ASEAN region with the view of suggesting diversification of the foreign market structure as it has been strongly focused on the European Union. In 2015 79.2 % of Hungarian exports were dispatched to and 76.5 % of Hungarian imports derived from the member states of the European Union. Asian countries – including China, India, Japan, ASEAN members and other countries – totalled in 5.7 % in Hungarian exports and 12.8 % (Külkereskedelem 2015, KSH, 2016). Our suggestion coincides with the intention of the Hungarian government which has recently launched its new foreign economic strategy called Eastern opening and Southern opening with the view of increasing trade activity with Asian, African and Latin-American countries. Foreign trade with the surveyed region was compared with the total volume of Hungarian foreign trade. The data in Tables 2 and 3 shows that trade with ASEAN countries represented only a small and slightly shrinking fraction of the total of Hungary’s foreign trade turnover, although it is evident that Hungarian imports exceeded the exports to the region between 2010 and 2015. During this period both total Hungarian exports and imports grew (the total exports from around 94.7 to 100.3 bln USD, imports 87.4 to 90.7 bln USD).  It would be difficult to discover straight trends as figures altered from year to year, but in terms of Hungarian exports to ASEAN countries it looks that the top year was 2011 (almost 1.4 bln USD) and from then a shrinking trend can be seen until 2015 (538 M USD). In terms of Hungarian exports to ASEAN the shrinking trend can be explained mostly with the drop in Hungarian exports to Singapore, Thailand and Malaysia. Hungarian exports started to grow to Myanmar and Brunei during these years from nearly ground zero, but besides them the only ASEAN country is Vietnam, where Hungarian exports grew since 2010. It also looks well that from the point of Hungarian exports to ASEAN the top year was 2011 while import figures declined during this period (from around 1.8 bln USD to a bit less than 1.5 bln USD). Hungarian imports from several ASEAN countries (Indonesia, Malaysia, Thailand and Vietnam) grew during this six-year period while shrinking imports could be seen from Singapore and the Philippines). In spite of the fact that ASEAN region has a small share within the Hungarian foreign trade activity, there are several countries where trade relations and other types of co-operation have been steadily growing. The best example for the latter is Vietnam. It is also worthwhile to see what can be the reasons of the relatively low and shrinking figures of the export performance of Hungary to this region. A previous research (Neszmélyi, 1999) pointed out the comprehensive political and economic metamorphosis in Hungary during the early 1990’ when the fragmentation privatization of the former, state owned Hungarian foreign trade companies narrowed the new business entities’ econo-geographic radius, and the increasing focus on the European markets. Another previous research, undertaken at the beginning of the nineties, suggested that the poor export performance of Hungary to the Southeast-Asian region was largely due to the country’s export-structure, as the exports mostly consisted of on mass-products with a high demand of resource inputs (raw materials, semi-finished products) and high transporting costs, (Gáspár-Sass, 1992). But since then – during the recent 20-25 years - a lot of things changed. Hungary is a well functioning market economy which successfully overcame the negative impacts of the economic crisis of 2008-2009, and during the examined period in macro-figures the overall trend is positive. Besides the considerable geographic distance and the different business culture another reason might be the lack of capital might prevent Hungarian SMEs to open towards Southeast Asia as exporters or even in capacity of FDI investors. Behind the growing in imports there lies a global trend in diversification. This can be seen, for example, by the export of certain vehicles or semi-conductors from Malaysia or Singapore, which are less expensive than from other sources.


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