Monday, August 29, 2011

OSC: Barking up the wrong tree?

This weekend, an interesting business ethics story hit the papers in Canada. It is about the fairly unprecedented measure of the Ontario Securities and Exchange Commission (OSC), on Friday last week, to not only suspend the trade of Sino-Forest (TSX listing: TRE) but to also to demand five of their top executives to step down. Sino-Forest is a Hong-Kong based lumber company mostly operating in China which appeared to have overstated their reserves as well as their revenues. The OSC was alerted to this by a whistleblower in a Canadian investment bank (with the conspicuous name of Muddy Waters...). While the OSC later had to rescind their demand for personnel changes at Sino Forest – it turned out to have no jurisdiction over such far reaching changes in the corporate governance - the case raises some interesting questions about the role and intricacies of business ethics.

For one, it was a pretty unequivocal and drastic measure for a regulator. While the failure of the SEC in the US in the regulation of sub-prime mortgages or the Madoff case has been widely lamented, the OSC seems to be much more hands-on with these things. In some ways, many have argued that this relatively higher level of regulation has in fact strengthened over all the Canadian financial market place.

At the same time the case also raises questions about the role of a regulator. The job of the OSC is basically to ensure a functioning and fair market for capital and credit. The main challenge here is to make sure that the prices signal a credible account of the ‘goods’, and that the information about those goods is available to all players. Issuing commands about the intricacies of corporate governance, including who should do which job, certainly is not the job of the regulator.

In this sense, one could argue that the OSC – while trying to play the tough Sherrif in town – has maybe still some more work to do. Sino-Forest was correctly audited by Ernst & Young and got decent ratings by Standard & Poors and Moody’s (until Friday that is, when both agencies rated Sino-Forest down). It is amazing to see how little attention in the press is paid to these circumstances. How is it possible, that the very intermediaries in charge of making sure the information about a company out there is correct have failed so blatantly and frequently in recent times – with hardly any serious attention to this drawn by regulators? We would certainly recommend the OSC to look a bit closer to these actors.

The incident is also interesting in other respects. One might ask why such an allegedly strong ethical stand of the OSC comes at this point in time? One cannot help but to think about the ongoing plans of a merger between the Toronto Stock Exchange (TSX) and the London one (LSE) – something which is viewed by many Canadian business people as another sell-out of Canada’s business jewels. Arguably, this incident makes a point: the TSX, listing place of around 80% of all mining/resources stocks globally, lists mostly smaller und fairly unknown companies who – unlike big brands or companies with consumer interface – are mostly working under the radar of public scrutiny. Without strong scrutiny from NGOs, consumers or the media, a regulator in such a market has arguably more on its hands. Whether this could easily take place from London after such a merger remains open for discussion

It will also be interesting to watch if such a new approach of the OSC will debunk another Canadian myth: that as a small country in a global economy, regulators have to be soft in order to not shy business away to the US or even further. Currently, Sino-Forest is still traded over the counter in New York. Investors at the TSX though run no risk to buy this ‘junk bond’ any more. In some ways the case seems to provide another confirmation of the thesis that a stricter regulated financial sector has protected Canada and Canadians from many of the hardships the subprime mortgage crisis in the US in 2008 has landed their neighbours with.

Admittedly, this all sounds a bit like we are trying to sneak in another endorsement of the ‘ethics pays’-hypothesis. Well, in this case it might indeed, mostly for shareholders though. But that is a whole other ethical issue in itself.

Picture by jurvetson, reproduced under the Creative Commons Licence.

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