INTRODUCTION TO BUSINESS COMMUNICATION
Effective business communicators - to select those communication skills that will prove the most adequate for a particular situation and will serve their interests best.
Recent studies necessity to organise training courses for developing
communication skills
critical-thinking skills
to cope with:
high technology
competitive world
demands of the modern economy
written & oral communication skills
v advocacy
v elocution
v oral response
v preparing formal reports
v writing business plans
v planning and writing strategies
changing people's attitude towards acquiring these abilities
communication = innate ability?
Good communicators' strengths:
they know what to communicate
how to communicate to different people in different ways
a system of measuring their performance (how much they have progressed)
Business schools should teach both formal and informal skills
Specific language functions:
explaining
analysing
making tactful refusals communication expertise
persuading
making complaints
criticising tactfully
Needed to work consciously on these skills
to acquire a set of abilities associated with
high performance in business communication
ability to express oneself
ability to use analytical/conceptual skills
ability to write and speak creatively
ability to empathise with the partner (social self)
Exploiting the language functions
Emotive function ability to express oneself - induce a certain reaction; selection of vocabulary/structures/registers, etc)
Conative function correct level of approach; to get the partner involved; use of vocatives/ polite forms of address/titles)
Emotive + referential function ability to speak & write creatively; adequate reference to the business context = proof of increased creativity)
Phatic function empathy with the partner/ adapting to the partner
Phatic communication/ Rapport adequate use of those verbal and non verbal elements in order to create the atmosphere of sociability/ communion necessary to the development of co-operative relationships (business meetings & negotiations)
Oral and written communication
nature of the channel
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Oral communication |
Written communication |
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roles of speaker & listener reversible (biunivocal relationship) |
irreversible (univocal relationship) |
|
open to linguistic varieties (regional, social varieties, dialectal items etc) |
restrictive (standard language) |
|
negotiation of meaning (both partners contribute to the building of the meaning; "I mean", "What do you mean by?", "what I mean is .") |
once the message has been sent, the writer cannot change the meaning (cannot work out on it) |
|
the processing of information = spontaneous face-to-face communication (less elaborate, sometimes, faulty; repetitions; starts & re-starts; hesitations; fillers; redundant elements; non-verbal = paraverbal elements, violation of rules, feedback, more informal, etc) |
careful elaboration of the message; observance of rules (complex syntax, reduced repetition, precise, concrete vocabulary, lack of immediate feedback, more formal) |
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interactional + transactional Tends to establish and maintain relationship, to create a certain social atmosphere) |
predominantly transactional (orientation towards conveying factual information) |
Business communication strategy - based on the following elements
the problem
the objectives
the reader/writer
the order
the format
The problem assess the circumstances imposing the necessity to communicate (speak/write)
Particular setting/background
Factors:
internal external
strengths state of competition
weaknesses technological level
(of various people/depts) customers' attitude
The objectives
General objectives
to inform
to get approval
to get information
to persuade
to give instructions
to make complaints
to notify
to make adjustments
to make proposals
to congratulate
Specific objectives
to give details
to support the general objective
Successful communicators:
only one major objective for each piece of communication
make the message clear taken into account promptly
followed by immediate action
not clear objectives lead to misinterpretation
ineffective communication
additional action/waste of time
The audience (reader/writer)
Action oriented towards the audience
do whatever necessary to help the audience
sensitive to the audience's needs
try to anticipate their reactions
adapt their communication to the type of the audience
I. general public
expert audience
layperson
II. primary (decision makers; action takers, etc)
secondary (people affected by the decision taken)
The order of presentation
The way in which selected information & data are arranged to achieve the objectives
In business letters 3 levels where order becomes relevant
the overall message
the paragraph
the sentence
The overall message: can be arranged
directly - most important ideas at the beginning of the message
indirectly - main objective at the end of the message
Arrangement depends on:
type of message
objective
relationship with the partner
The paragraph - arranged such a way as to emphasize a particular point
direct the reader's attention to the main point
Topic sentence = the sentence carrying the core information;
all the other sentences will be related to it
A well-written paragraph should be;
coherent (it follows a definite plan)
developed (all sentences explain the main point)
unified (all sentences should be relevant to the main point)
The sentences: selection + combination of words
to achieve emphasis
to direct the reader's attention
Examples:
Decision-making is essential in managerial activity.
Managerial activity includes decision-making.
Presentation of ideas: certain patterns
simple complex
familiar unfamiliar
known unknown
most important least important
cause effect
chronological
The format - refers to the type of communication
oral presentation
memo
letter
note
fax
THE ORAL PRESENTATION
First condition - to understand the why of the communication
Without the why of the communication
Objectives
Most messages delivered in business have one of the three objectives:
to inform
to persuade
to celebrate
Inform
purpose of message
various presentations
instructions
training
Persuade
purpose of message
Situations:
to sell products & services
to support ideas/strategies
to motivate listeners to change behaviours
Celebrate - recognize/ acknowledge
a person
an event
an occasion
an organisational theme
purpose of message
commencement awards
retirement addresses
achievement awards
founder's day speeches
other congratulatory speeches
Understanding the Listener
Useful questions:
Are they clients/ potential clients/ colleague/ strangers/ supervisors/ subordinates?
Are they similar in age and background or widely varied?
What do they want to hear from me?
What questions will they want answered?
What is their political, social, economic, cultural background?
Will they be friendly or hostile?
How many will be listening to me?
Your chances of success depend on your perception of the audience.
Getting feedback
not all presentations need feedback (to celebrate an event, to acknowledge a merit, to recognize an achievement)
Feedback can be obtained:
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informally |
formally |
|
by chatting with the listeners after the presentation (reactions, comments will show you if and how well they understood the message) |
questions & answers sessions (plan carefully so as not to lose control of the meeting) |
Methods of Delivery
Reading from a prepared manuscript
Delivering from memory
Delivering extemporaneously relying on brief notes or clue cards.
Reading from a prepared manuscript
Purpose: to deliver an exact, structured message
Examples: keynote speeches
speeches with long-range effect (government officials)
sometimes, scripts are approved prior to presentation
and made available to the members of the press
memorizing the presentation word-for-word
Possible problems:
may forget a line or sentence
may lose their place in the speech
Extemporaneous presentation - most popular, most desirable
materials are organised either in outline form or on note cards;
allows to monitor the audience's reactions, to slow down, to elaborate on different points;
encourage the audience's involvement;
contributes to building trust, confidence and commitment
The PMM Concept
Three basic components:
Person - individual making the oral presentation
Message - the presentation itself
Media - the presentation aids
The basis for the strategy for communicating orally
The PERSON
Every society has an unwritten standard by which its citizens are measured.
Professional image
implies capacity to determine what constitutes that standard in your society
Necessary: to analyse yourself objectivelly in terms of:
profession
educational background
intelligence level
status (leader or follower)
Nonverbal elements used as standards for determining success
good grooming
appropriate dress
natural manners silent communicators
effective body language
a pleasing voice
good eye contact
an authoritative presence
of what we believe about one another is based on our observation & interpretation of nonverbal signals.
Most people will judge you by:
your self-confidence
your personality
your determination
your self-control
Natural Manners
Stress = natural part of public speaking
Audience may detect how confident you are by observing your mannerism.
Annoying habits:
knuckle rapping
fist clenching
nail biting
foot tapping
coin jingling
During oral presentations, it is wrong to:
v fold your arms across your chest
v lean against the wall/lectern other object
v folding your hands behind you
v placing your hands in your pockets
Natural, self-confident manners - recommended
Professional speaker's stance:
standing straight (arms/hands hanging loosely at your sides)
feet firmly planted and spread naturally
Appropriate Attire
good grooming
appropriate dress
tailored clothing only (no frills, ruffles, straps or plunging necklines)
suits and blazers in plain, neutral colours
scarves for colour accents
skirts that are pleated, straight, or dirndl, with no extreme slits
basic dark pumps with medium or low heels
stud earrings; gold or pearl necklaces; avoid dangling bracelets
MEN
dark or grey suits; navy blazers and grey trousers
dress shirts in solid colours, mostly white, pale blue, or yellow
variety of ties in muted colours but in contrast to the suit . calf-length hose in dark colours to match suits
black or brown 1-inch belt
loafers, wingtips, or laceup shoes
avoid flashy cuff links, rings, or neck chains
Body Language
For effectiveness - natural gestures to emphasize a point.
Key word = natural
Good voice quality provides an effective presentation.
For feedback :
a tape recorder
a friend
a member of the family
the most prominent feature of your face;
use them to make contact with the audience;
try not to single out a particular person, but make eye contact with many people in the audience;
begin by looking ahead, rotate slowly from side to side, making eye contact with a number of different people;
lock eyes for a few seconds, but never long enough to complete more than 8-10 words;
let your eyes do some of the talking;
Visual presence:
The MESSAGE
3 basic parts:
the Takeoff gains the audience's attention
introduces the theme
the Convincing Evidence data /facts /info. (used to support the claim)
the Windup closes the message
a summary of key elements
The Takeoff - sets the stage for the audience's response
Reasons for being present:
Some participants desire information
Other participants are required to attend
Necessary: impact at the very first
Techniques for achieving effective beginning
Startling information
Humour
The Unusual
Suspence
The Message Core ("We are here to discuss the parking problems on the university campus")
Courteous Beginning - always effective
express your appreciation for the honour of speaking and then congratulate the listeners on any accomplishment relevant to the speech topic
Convincing Evidence - middle section of your presentation
Begin this section with:
concepts that are familiar to your audience
( esp. for controversial subjects)
gradually introduce more complex concepts
group important elements in logical sequence
support ideas with cases & incidents
use illustrations & examples
give your presentation the necessary depth but avoid boring, irrelevant details
The Windup
v restate the central theme
v summarize the evidence
v propose some type of action
v do not introduce new evidence
The MEDIA - any aids used to enhance an oral presentation
Varieties of media
Slides
The chalkboard/whiteboard
Flipcharts
Handouts
Transparencies
effective
inexpensive
Slides a really professional look
great impact on the audience
where quality, simplicity and mobility are demanded
The chalkboard/whiteboard
beforehand, write on note cards what you intend to present on the board, so as to avoid making mistakes
do not write pertinent information on the board beforehand: will divert the audience's attention to the board.
Flipcharts
v you can write information on one sheet at a time
v you can write information ahead of time and then flip the sheets as you discuss
v esp. useful for small group presentations
Handouts - a useful way of complementing your presentation
to take home some ideas
a summary of the presentation (key points)
to take some action
feedback (provide a checklist; easy for them to respond)
Business letters
General aspects
Communication between companies various means
telephones (mobile phones)
fax machines
the Internet
Phone messages, faxes or e-mail messages a certain degree of informality, that may not illustrate the real nature of the relationship
Consequently any important element in business, discussed or agreed upon the phone should be confirmed by an official, formal letter
For this reason (and for many others) writing ability appears in the top three activities of a business person
Businesses value effective communicators:
being an effective writer can enhance your professional career
the letters you write become your ambassadors
people in other departments of the company get to know you through your writing
your letters may get your superiors' attention showing how effective or ineffective you are as a business communicator.
The layout of a business letter some specific elements
Information about:
the two companies that communicate by letters
the people authorised to communicate on behalf of each company
or may refer to the filing system that enables tracing a letter (or a number of letters in the correspondence file)
Information about the sender:
the company's name and status
its address
telephone/fax number/ e-mail address
the logo
The date
There are various ways to express date:
The 1st of November 2001
November 1st, 2001
In business correspondence pattern recommended:
2 November 2001
The reference line
Your ref. ("your reference")
Our ref. ("our reference")
helps tracing a letter in the file
the name of the person who signed the letter
the name of the typist
the filing code
Example: Your ref.: FW/ms/P
the letter was written/signed by Frank Warrington
it was typed by Mary Storm
is located in the file P ("petrol") 25
"Our ref." gives similar information about the sender
The inside address indicates the following:
name and address of the addressee
position in the company (e.g. The Supply Manager, The Chief Accountant etc.)
department
mail address - written exactly as given by your partner
The salutation
Forms of address used to open business letters
depend on: the addressee's status
the social distance between the partners
Dear Sir - when the addressee is a gentleman whose name we do not know;
Dear Sirs - used to address a company;
Dear Madam - the addressee is a lady whose name we do not know;
Dear Mr Robertson/ Dear Ms Watson - to address a person whose name is known to the writer;
Dear Bill used to address a person with whom the writer is on friendly terms
High officials or personalities:
(the addressee's name is associated with)
courtesy titles
titles deriving from appointment or honours
rewards
Useful information:
no special form of address for the Prime Minister and members of the Ministry
ambassadors are addressed as:
Your Excellency (formal)
Dear Mr Rodson or Dear Lord Bart
The subject line
below the salutation and underlined
tells what the letter is about
helps the reader direct the letter to the right person
facilitates fast processing of correspondence
Dear Mr Winter
Tax collection
The body of the letter the main text of the letter (the message of the letter)
the rule of the " four Cs"
clear, concise, correct, courteous
divided into paragraphs
information distributed according to the role of each paragraph
The opening paragraph
makes connection between the subject line and the rest of the text (" above" or "above-mentioned")
refers to the source of information, which is used as a basis for the letter you are writing
The following two or three paragraphs
the proper message of the letter
describe facts/give arguments/ make complaints/ make suggestions etc (according to the purpose of the letter)
The closing paragraph
emphasises the main idea of the letter
restate the writer's point of view
conclusion of the letter
The last sentence of this paragraph often contains the formula:
We look/are looking forward to hearing/ receiving news from you
We look/are looking forward to your answer/reply/letter
The complimentary line
depends on the level of formality
the relationship between the writer and the addressee
directly related to the salutation
Differences between British and American English:
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British English |
|
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Salutation |
Complimentary line |
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Dear Madam / Sir(s) |
Yours faithfully |
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Dear Mr/Mrs/Ms/Miss Waters/ Dear colleague/friend/customer |
Yours sincerely |
|
Dear Mary |
Yours/ Best regards/ wishes/ Kind regards |
|
American English |
|
|
Salutation |
Complimentary line |
|
Gentlemen:/ Dear Madam / Sir(s) |
Truly yours |
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Dear Mr/Mrs/Ms/Miss Hudson |
Yours sincerely |
|
Dear Nicholas |
Best regards/ Cordially |
The signature given together with
the writer's name
the writer's position in the company
If the writer is not the person authorised to sign the letter:
the printed name is preceded by:
"p.p." (per procurationem) or
"for":
Mary Smith
p.p. Tom Richard
Supply Manager
Enclosure line the last point of a business letter
abbreviated to Enc./encl.
gives the list of additional documents sent with the letter:
Encl.: 2 copies of the Monthly Statement
Types of business letter layout
Layout patterns/ styles:
v indented style
v block style
v semi-indented style
The indented style requires:
letterhead
inside address
complimentary close
signature block
each line be indented as compared to the line above
closed punctuation (full stops, commas, etc) is used after each element and line of these layout items
letter body
the first line of each paragraph is indented
reference line
date line
complimentary line
are placed on the right-hand side
The block style
all layout items are placed on the left-hand side
punctuation is omitted from all the items except for the main letter body
each line of the paragraphs starts in the left-hand margin
paragraphs are separated by double space
The two patterns differ from many points of view
However, the use of punctuation in the main body of the letter is compulsory in both cases.
Combinations of the two patterns:
semi-block style - (when some elements are placed in the centre of the paper or on the right-hand side)
semi-indented style indentation of the first line of each paragraph
full punctuation (inside address, salutation, complimentary line, signature block and enclosure line)
MAKING AN ENQUIRY
Complete
the following letter and then answer the questions:
He is arranging a meeting
making payment
sorting out letters
giving a presentation
making an enquiry
making a proposal
Letters of enquiry asking for information
You make an enquiry in order to find out:
where you can find the product
how much you have to pay for it
if you can get a discount
what quantities of that product are available
how soon the supplier may honour your order
what similar products are available on the market
The paragraphs of an enquiry letter have clear functions:
Paragraph |
Function |
Examples |
|
1st |
introduction(how you found information about the addressee: name, address, type of business etc.) |
"We have found the September issue of your magazine in the library of "RomTour"-Bucharest." "Mr. Steven Robson, Managing Director of FINDAS Corporation, one of our partners, has recommended your company to us and ." "We have heard of your firm at the 3rd Fair of Consumer Goods in Tokyo last year." |
|
2nd ; 3rd |
giving additional information about the situation; giving brief information about your company; offering to give further information; launching the request. |
"We are in the hotel industry and our chain of hotels is well-known throughout Europe" "Our company is involved in road building." "We will be happy to offer you further details." "We would like your comments on the possibility of organising a joint conference." "We would appreciate if you would consider our proposal for a partnership." "Could you please send us your catalogue and price list?" |
|
last paragraph |
ending the letter (a formal sentence to close politely) |
"We look forward to hearing from you." |
The general structure of an enquiry letter:
may begin directly with the request
information about the sender + his interest in the request made
has to indicate the source of information, which has facilitated the enquiry
Letters enquiring about people more specific
it shows clearly who you are enquiring about
describes the situation that has led to the enquiry (promotion to a top position, new employment, a prospective merger/partnership etc.)
Recommendations:
REPLIES TO ENQUIRIES
A serious businessperson will always answer an enquiry.
Answers:
positive an order or a contract will follow
negative (refusal)
Interested in the proposal answer it promptly!
Experienced business people use to move fast:
confirm the letter: orally, over the phone, by e-mail
a formal letter will be sent later
Read the enquiry reply letter below and then find in its text the parts that comply with the functions given in the list below:
a. confirming receipt of enquiry and thanking for the letter
b. expressing satisfaction for being contacted
c. giving specific information in answer to the questions in the enquiry
d. taking action
e. closing optimistically, expressing hope for future co-operation
2.a Complete the following sentences that are often used in letters expressing refusal:
We are __________ that we ___________ send the goods so soon.
We ________sorry ______ we ________ unable to help you ______ developing the project.
We are sorry to _________you that we __________invest in hotel industry.
We _________ that we are __________to grant you such a big loan without third-_______ guarantee.
We ____________ inform you _______ the C12 video projectors are _____ of stock.
We _________to inform you that the opening you are interested in was filled two weeks ago.
____________, you have failed to supply the goods as per the contract.
2.b Now fill in the paragraphs below taken from two letters of refusal:
"We .1. to inform you that we no .2. manufacture the projector type you are .3. in. Instead, we could .4. you a similar product at an affordable .5. and significantly .6. characteristics."
" Thank you for .1. letter .2.20 June 2004 .3. about a bank .4..
After careful .5. of your documents, we .6. to .7. you that we are .8. to help you.
.9., you do not .10. sufficient collateral, as it results .11.your documents."
carefully worded
the general tone of the letter respect and understanding
to create a favourable atmosphere for a possible relationship in the future
Stages:
confirm receipt of the enquiry letter
express regret (for not being able to help)
give reasons for your negative answer
offer an alternative (if possible)
end on a friendly, encouraging tone
LETTERS OF COMPLAINT
Possible reasons/situations of complaint related
delayed delivery
undershipment
slow operations
inadequate invoices
incomplete information
overshipment
bad behaviour
breakdown of the IT system
delays in money transfer
non-payment
inadequate advice
slow recording of documents
ineficiency in manipulating documents
overcharging
delivery of the wrong goods
Conflicts are very frequent in business.
Partners interested in achieving and defending their interests and goals
When conflicts occur try to solve them amiably
without affecting the basic relationship
without damaging the professional image or position held in the business environment
keep the costs of the conflict to the minimum
An effective way:
let our partner know that something wrong happened
try to find out about the causes of the mistake that have generated our discontent
speak or write about them
3.a What functions do the following phrases (a -f) express?
a. "We are ready to do that if you can offer us a 2% discount for the remaining shipments."
b. " We are writing with reference to the above-mentioned contract for repair works."
c. " We can presume that the contents of the second van were intended for another customer."
d. " However, we regret to inform you that ."
e. " We are sorry to remind you that, if you do not replace the wrong goods within 10 days as from the receipt of this letter, we will be obliged to refer to the Penalty Clause stipulated in our contract."
f. " According to a previous agreement with you, we have placed the merchandise in our warehouse and we will keep it there until you can collect it."
stating the subject; reference to documents (connection with the "subject line", if expressed)
stating the reason of complaint;
suggesting possible causes of the problem;
stating the action you request your partner to take;
mentioning the action taken by you (if any)
making suggestions to solve the problem (special requests to compensate you for the losses suffered; mentioning penalties if the partners may fail to repair the situation).
HITECH LTD.
Romanian Division
The Continental Hotel
Str. Azurului 15, Sector 2
63451 Bucuresti, România
30 September 2004
Mr Doru Dinescu
Director
ROMFAST Bank
12 Queen Mary Street
District 3, Bucuresti, Romania
Dear Mr. Dinescu
Contract 215 of 27 March 2004
We are .1.in connection with our. 2. contract for staff payment through card systems .3.between your bank and our.4..
As .5. in the contract, your bank .6. transfer the corresponding .7. to our staff individual .8. before the 9th day of each month. Everything went quite well until June 2004 when our employees .9. about their accounts .10. credited one week after the .11.date.
Since this .12. again in July and September, we wonder what has .13.with the relevant department of your bank.
.14., we have .15. all the records and documents delivery dates for .16.our .17.staff are responsible, but everything has been .18. without .19. delay or mistake.
Since .20. in .21.payment is a very serious matter, we .22. inform you that, if you do not take .23. so as such things be completely.24., we will be .25. to .26.to the .27.Clause in our contract and even to .28.the contract altogether.
In the hope that the situation will be .29.as soon as possible, we look forward to hearing from you.
Yours .30.
Tom Bell
Financial Manager
3.b Explaining the problem
Writing letters of complaint a difficult task
explaining the problem a key function in this situation
make the reader understand his full responsibility for the negative consequences deriving from the mistake
the letter should convey the necessary encouragement for immediate action
try to maintain the previous friendly relationship
Striking balance between irritation and politeness
the writer's ability to select adequate language
Polite negative messages:
"we are sorry but we have to remind you that.."
"Unfortunately,.."
"we regretfully inform you that.."
"we regret but we have to draw your attention to .."
"we are sorry to inform you that.."
"we were surprised to find out that.."
ADJUSTMENT LETTERS
Match the following meanings of the verbs in italics with the sentences below:
a. regulate
b. put in order
c. settling claims
d. in harmonious relations with other persons
e. change one's way of living, thinking, etc.
You have to be grateful to her for helping you to become a well-adjusted young man.
Please do not adjust your sets! (warning on TV screen)
Managers have to adjust themselves to new cultural contexts.
I've checked it myself. Our partner is right. We've delivered less than agreed. We have to send them an adjustment letter.
The device adjusts itself to changes in humidity.
An adjustment letter is an attempt to restore the relationship and maintain the company's good reputation. As a result, its tone should be polite and reconciliatory and should help to achieve the following functions:
confirm receipt of the complaint letter;
explain the cause(s) of the problem;
mention action taken so as the problem may not happen again;
reassure the customer;
state the steps taken in order to solve the problem;
if a solution was suggested, give your opinion by accepting it or coming up with a counterproposal;
apologise for the trouble caused and end optimistically.
Clients usually request compensation for the loss incurred:
a discount
an additional quantity
an extension of time for completion etc.
There are situations when their claims should be rejected
4. Choose a suitable paragraph from column B in order to reject complaints in column A:
|
A |
B |
|
1. the quality of the flour is not the same as that agreed on; the client asks for a 3% reduction in price for the whole quantity |
a. We are sorry but we cannot accept your complaint. Our experts have established that you did not observe the maintenance instructions. Therefore, we cannot assume any responsibility. |
|
2. the printers have been installed soon after unpacking but they do not work; the client wants the printers to be replaced |
b. Our people have checked the whole lot carefully and found out that the fabric has been damaged during transportation. Consequently, we cannot be kept responsible as the damage occurred in transit. |
|
3. the whole lot of fabric must be replaced as it is stained and torn |
c. We have investigated your complaint carefully. Samples of the material have been taken and tested again. They comply fully with the standard agreed on. We regret we cannot accept your complaint and, consequently, no reduction in payment will be made. |
|
4. after three month operation, five of the washing machines bought for the hotel laundry seem to have serious defects; the client claims that the machines be replaced |
d. Our experts have looked into the matter and say that the printers have not been installed according to our instructions. Therefore, we can offer you technical assistance to correct the installing defects but we do not accept to replace them. |
Seminar:
The Economic and Institutional Setting for Financial Reporting
"No one ever said accounting was an exact science."
It's the middle of May 2002.l An e-mail from your brother arrived late yesterday. He just bought 10,000 shares of WorldCom stock and he thinks you should buy some too. A favorable research report on the company from a highly regarded Wall Street analyst is attached to the e-mail. According to that report, WorldCom is a global leader in the telecommunications industry, providing a complete package of communications services (voice, data, and Internet) to businesses and consumers. The company grew fast, very fast-an average of 58% each year from 1996 through 2000-as a result of a robust economy and a near insatiable demand for wireless communication and high-speed Internet access. Then, in March 2001, the dot.com bubble burst and Internet spending came to a halt. Companies like WorldCom suddenly faced excess capacity and shrinking demand for their communications and Internet services.
According to the stock analyst, WorldCom is doing surprisingly well despite tough times throughout the industry. The company's 2002 first-quarter results, announced just two weeks ago, indicate sales of $8,120 million and $843 million in pre-tax operating profits. That's a 16% decline in sales and a 34% decline in profits but other firms in the industry, including giants like AT&T, are reporting even steeper sales and earnings decreases. And the stock looks incredibly cheap at its current price of $2 per share! As your brother points out: "The company has $2.3 billion in cash. That's nearly $0.78 per share. It has $104 billion in assets and only $44 billion in debt, which translates into a $20.50 book value per share. And you have to pay only $2 a share for this gem! You cannot find a more attractive investment opportunity in the market."
Your brother's enthusiasm for WorldCom gets you thinking about it. WorldCom stock has dropped from a high of $64.50 in June 1999. It's hard to believe the share price could fall even further below $2.
After all, WorldCom still dominates its segment of the telecommunications industry and it continues to report solid sales and profits. Perhaps investors have overreacted to the current slump in Internet spending and WorldCom's stock price suffered as a result. If so, now may be the ideal time to buy. This investment possibility intrigues you, so you decide to take a closer look at the company's business model, its past financial performance, and its prospects for the future.
WorldCom's financial statements confirm what your brother and the analyst are saying. Sales and earnings look solid and outpace the competition by a wide margin. Operating cash flows are positive and exceed the cash being spent for capacity expansion. And the balance sheet remains healthy. Overall the company seems to be on a solid footing.
But what's this? An article in this morning's newspaper raises a new concern. The article says that WorldCom's "line costs"-the rent WorldCom pays other companies for the use of their telecommunications networks-are holding steady at about 42% of sales. That's odd because line costs as a percentage of sales are rising at AT&T and other companies in the industry. WorldCom decided several years ago to lease large amounts of network capacity instead of building its own global communications network. These leases call for fixed rental payments each month without regard to message volume ("traffic"). This means that WorldCom must still pay the same amount of rent even though its customers are not sending much traffic through the network these days. What seems odd to the news reporter is that the same rental payment each month combined with lower traffic revenue should produce an increase in line costs as a percent of sales. That appears to be what's happening at other companies in the industry, but at WorldCom line costs have not increased. Perhaps WorldCom is particularly adept at managing this aspect of its business.
You call your broker who confirms that WorldCom's stock is available at $1.75 per share in early trading. Should you take advantage of this investment opportunity and buy 10,000 shares? Should you call your brother and tell him to sell his shares because WorldCom's income statement may contain a torpedo that could potentially sink the stock? Or should you take a closer look at company fundamentals-traffic volume, line costs, and other aspects of the business-before deciding whether to buy or sell WorldCom shares? The unusual trend in line costs could indicate that WorldCom is successfully managing its excess capacity problems during a period of slack demand or it could be a warning signal of problems at the company.
What do you do?
|
to buy - bought - bought | |
|
stock |
stock = amount, quantity; inventory stock of capital stock of cash stock capital stock= share common stock equity stock |
|
to pack package packing packaging |
a package of services package of shares packing of goods |
|
share | |
|
insatiable demand |
demand / supply high demand low demand slack demand |
|
bubble | |
|
to spend- spent - spent |
spending |
|
to shrink - shrank - shrunk |
shrinking demand shrinkage of output |
|
operating profits |
pre-tax operating profits |
|
steep | |
|
book value |
book value per share |
|
slump |
severe fall; depression |
|
assets |
assets/ liabilities |
|
to take a look at = to examine | |
|
to outpace |
to outpace the competition by a wide margin |
|
cash flows |
operating cash flows |
|
footing | |
|
to hold steady | |
|
to call for | |
|
revenue(s) | |
|
with regard to | |
|
to lease |
leasing |
|
adept = highly skilled | |
|
trend |
2. Epilogue to WorldCom
In late June 2002, WorldCom stunned investors by announcing that it intended to restate its financial statements for 2001 and the first quarter of 2002. According to the press release, an internal audit of the company's capital expenditures had uncovered $3.8 billion in improper transfers from line cost expense to the balance sheet. Without those transfers, the company would have reported a loss for 2001 and the first quarter of 2002.
Consequences:
The chief financial officer was fired
The controller resigned
A special committee (the company's board of directors) to look further into the matter
Trading in the company's stock halted on the exchange
When trading resumed the stock only 6 cents per share (lost more than 90% of its value)
The accounting rule that WorldCom violated says:
when expenditures (think "money spent") provide a future benefit to the company, then and only then can the expenditures be recorded as balance sheet assets.
This means that if the company spends a dollar today buying equipment that will be used for the next five years (the "future benefit"), the dollar spent should be shown as a balance sheet asset. But what if the dollar spent doesn't buy a future benefit? Then it cannot be shown as a balance sheet asset but instead must be shown on the income statement as a current period expense. That's the rule!
What did this accounting rule mean for the money WorldCom spent on line costs?
Instead:
$3.8 billion (line costs) improperly "transferred"
from the income statement back to the balance sheet (were shown as an asset).
This transfer allowed WorldCom to appear more profitable than it actually was.
a tide of accounting scandals
One out of every 10 companies listed on the stock exchanges found flaws in past financial statements and restated earnings between 1997 and June 2002.
Investors in those companies lost over $100 billion when the restatements were announced.
Observers:
a confluence of events during the late 1990s created a climate in which accounting fraud wasn't just possible, it was likely!
This was accounting's perfect storm:
unprecedented economic growth with inordinate incentive compensation
an extremely aggressive management culture
investors preoccupied with quarterly profits
lax auditors
Congress responded by passing the Sarbanes-Oxley Act in late July 2002.
This legislation = the most groundbreaking corporate reform since the 1934 Securities Act
Among other things:
established the Securities and Exchange Commission
key provisions: to strengthen auditor independence and improve financial statement transparency
Public Companies Accounting Oversight Board (PCAOB) charged with:
establishing audit independence and ethical standards for auditors;
investigating auditor conduct
imposing penalties
Requiring the chief executive officer (CEO)
and chief finan
cial officer (CFO) to certify in writing that the numbers in
their
company's financial reports are correct. Executives face
potential civil charges of fraud or criminal charges of lying to
the government if their company's numbers
turn out to be
bogus.
Banning outside auditors from providing
certain non-audit
services-bookkeeping, financial-system work, appraisals, internal
audits, management and human resource consulting, investment-advisory work,
and other advocacy-related services-to their audit clients so
that independence is not compromised. Fees paid to auditors for services must
now be disclosed in the client's annual report.
Requiring public companies to disclose if the audit committee-comprised of outside directors and charged with oversight of the annual audit-has a financial expert and if not, why not.
"Our free market system does not depend on executives being saintly or altruistic. But markets do rely on institutional mechanisms, such as auditing and independent boards, to offset opportunistic, not to mention illegal, behaviour."
The Sarbanes-Oxley Act strengthens those important institutional mechanisms and, in so doing, calms the accounting storm.
*Robert Simmons as quoted in CFO Magazine (August 2002).
I.
adhere expectations forecast price for reflected investment predicting overvalued statements
down investors price even estimates professionals
The role of financial accounting information is to facilitate economic transactions and to foster the efficient allocation of resources among businesses and individuals. Perhaps the most familiar transactions involve raising financial capital; in these cases a company seeks to attract additional financial resources by issuing common stock or debt securities. Here, financial reports provide information that can reduce investors' uncertainty about the company's opportunities and risks, thereby lowering the company's cost of capital. If you think about this, you can see demand and supply at work. Investors demand information regarding the company's opportunities and risks. Because companies need to raise capital at the lowest possible cost, they have an economic incentive to supply the information investors want. In this section you will see that the amount and type of financial accounting information provided by companies depend on demand and supply forces much like the demand and supply forces affecting any economic commodity.
Financial statements are demanded because of their value as a source of information about the company's performance, financial condition, and stewardship of its resources. People demand financial statements because the data reported in them improve decision making.
The supply of financial information is guided by the costs of producing and disseminating it and the benefits it will provide to the company. Firms weigh the benefits they may gain from financial disclosures against the costs they incur in making those disclosures.
Of course, regulatory groups such as the Securities and Exchange Commission (SEC), the Financial Accounting Standards Board (FASB), and the International Accounting Standards Board (IASB) influence the amount and type of financial information companies disclose as well as when it is disclosed.
. A company's financial statements are demanded by: shareholders and investors, managers and employees, lenders and suppliers, customers, government and regulatory agencies.
Sareholders and investors.Shareholders and
investors, including investment advisors and securities analysts, use financial
information to help decide on a portfolio of securities that meets their preferences for risk, return, dividend
yield, and liquidity.
Financial statements are crucial in investment decisions that use fundamental analysis to identify mispriced securities-a stock or bond selling for substantially more or less than it seems to be worth. Fundamental analysis uses financial statement information - including footnotes in those statements - along with industry and macroeconomic data to forecast future stock price movements. Investors who use this approach consider past sales, earnings, cash flow, product acceptance and management performance to predict future trends in these financial drivers of a company's economic success or failure. Then they assess whether a particular stock or group of stocks is undervalued or overvalued at the current market price.
Investors who believe in the efficient markets hypothesis - and who thus presume they have no insights about company value beyond the current security price - also find financial statement data useful. To efficient markets investors, financial statement data provide a basis for assessing risk, dividend yield, or other firm attributes that are important to portfolio selection decisions.
Of course, investment analysis can be performed by shareholders and investors themselves - or by professional securities analysts who may possess specialized expertise or some comparative advantage in the acquisition, interpretation, and analysis of financial statements.
Shareholders and investors also use financial statement information when evaluating the performance of the company's top executives. When earnings and share price performance fall below acceptable levels, disgruntled shareholders will voice their complaints in letters and phone calls to management and outside directors. If this approach doesn't work, dissident shareholders may launch a campaign, referred to as a proxy contest, to elect their own slate of directors at the next annual meeting. New investors often see this as a buying opportunity. By purchasing shares of the underperforming company at a bargain price, these investors hope to gain by joining forces with existing shareholders, replacing top management, and "turning the company around."
Such a company's performance as described in its recent financial statements often becomes the focal point of the proxy contest. Management defends its record of past accomplishments while perhaps acknowledging a need for improvement in some areas of the business. Dissident shareholders point to management's past failures and the need to hire a new executive team. Of course, both sides are pointing to the same financial statements. Where one side sees success, the other sees only failure and undecided shareholders must be capable of forming their own opinion on the matter.
Managers and Employees. Although managers regularly make operating and financing decisions based on information that is much more detailed and timely than the information found in financial statements, they also need--and therefore demand-financial statement data. Their demand arises from contracts (such as executive compensation agreements) that are linked to financial statement variables.
Executive compensation contracts usually contain annual bonus and longer term pay components tied to financial statement results. Using accounting data in this manner increases the efficiency of executive compensation contracts. Rather than trying to determine first-hand whether a manager has performed capably during the year (and whether the manager deserves a bonus), the board of directors' compensation committee only needs to look at reported profitability or some other accounting measure that functions as a summary of the company's (and thus the manager's) performance.
Employees demand financial statement information for several reasons:
the increasing popularity of employee profit sharing and employee stock ownership plans will be provided upon retirement;
union contracts may link negotiated wage increases to the company's financial performance;
and more generally, to help employees gauge their company's current and potential future profitability and solvency.
Lenders and Suppliers. Financial statements play several roles in the relationship between the company and those who supply financial capital. Commercial lenders (banks, insurance companies, and pension funds) use financial statement information to help decide the loan amount, the interest rate, and the security (called collateral) needed for a business loan. Loan agreements contain contractual provisions (called covenants) that require the borrower to maintain minimum levels of working capital, debt-to-assets, or other key accounting variables that provide a safety net to the lender. Violation of these loan provisions can result in technical default and allow the lender to accelerate repayment, to request additional security, or to raise interest rates. So lenders monitor financial statement data to ascertain whether the covenants are being adhered to or violated.
Suppliers demand financial statements for many reasons. A steel company may sell millions of dollars of rolled steel to an appliance manufacturer on credit. Before extending credit, careful suppliers scrutinize the buyer's financial position in much the same way that a commercial bank does-and for essentially the same reason. That is, suppliers assess the financial strength of their customers to determine whether they will be paid for goods shipped. Suppliers continuously monitor the financial health of companies with whom they have a significant business relationship.
Customers. Repeat purchases and product guarantees or warranties create continuing relationships between a company and its customers. A buyer needs to know if its supplier has the financial strength to deliver a high-quality product on an agreed-upon schedule and if the supplier will be able to provide replacement parts and technical support after the sale. You wouldn't buy a personal computer from a door-to-door vendor without first checking out the product and the company that stands behind it. Financial statement information can help current and potential customers monitor a supplier's financial health and thus decide whether to purchase that supplier's goods and services.
Government and Regulatory Agencies Government and regulatory agencies demand financial statement information for various reasons. For example, annual reports are submitted to the Securities and Exchange Commission and then made available to investors and other interested parties. This process of mandatory reporting allows the SEC to monitor compliance with the securities laws and to ensure that investors have a "level playing field" with timely access to financial statement information. Taxing authorities sometimes use financial statement information as a basis for establishing tax policies designed to enhance social welfare. For example, the U.S. Congress could point to widespread financial statement losses as justification for instituting a tax reduction during economic downturns.
Financial statement information is used to regulate businesses - especially public utilities, such as gas and electric companies. Governments offers monopoly privilege to certain individual companies and the rates these companies are permitted to charge consumers are closely regulated. Accounting measures of profit and of asset value are essential because the accounting rate of return-reported profit divided by asset book value - is a key factor that regulators use in setting allowable charges. If a utility company earns a rate of return that seems too high, regulators can decrease the allowable charge to consumers and thereby reduce the company's profitability.
Banks, insurance companies, and savings and loan associations are also subject to regulation aimed at protecting individual customers and society from insolvency losses - for example, the inability of a bank to honor deposit withdrawal requests or the failure of an insurance company to provide compensation for covered damages as promised. Financial statements aid regulators in monitoring the health of these companies so that corrective action can be taken when needed.
II. Group work + short oral presentations on the basis of Texts 1 - 5 (cards submitted to Ss)
III. The words given in boxes A and B form word partmenrships that may be found in the text you have read. How many word partnerships, (of the type A+ B), can you establish?
B. policy supply return contest strength capital yield statements forces downturn making welfare utilities a compaign
IV. Match the following words with their definitions or synonyms:
|
1. assets promised by a borrower to a lender if the borrower cannot repay the loan |
a. vendor |
|
2. skill in a particular field |
b. to measure |
|
3. something which is used to encourage people, esp. to make them work harder, produce more or spend more money |
c. to default |
|
4. profit |
d. incentive |
|
5. to gauge |
e. to ascertain |
|
6. a formal written agreement to do something or not to do something |
f. disclosure |
|
7. to fail to pay money that you owe at the right time |
g. dividend |
|
8. to get to know |
h. collateral |
|
9. the duty of someone in a professional position to to inform customers, shareholders etc. about facts that will influence their decision |
i. stewardship |
|
10. a part of the profits of a company for a particular period of time that is paid to shareholders for each share they own |
j. covenant |
|
11. the way in which someone controls and takes care of an organization or event |
k. expertise |
|
12. seller |
l. benefit |
6. Disclosure Incentives and the Supply of Financial Information
Activity 1. Discussion
What attitudes do companies have as regards disclosure of financial information?
Discuss this issue within your group and be prepared to present your point of view to the other groups. The following questions may help you in structuring your discussion:
Activity 2 Read the following text and find out how many of your assumptions are supported by the text.
Investment bankers and commercial lenders sometimes possess enough bargaining power to allow them to compel companies to deliver the financial information they need for analysis. For example, a cash-starved company applying for a bank loan has a strong incentive to provide all the data the lender requests. But most financial statement users are less fortunate. They must rely on mandated reporting (for example, SEC 10-K filings), voluntary company disclosures that go beyond the minimum required reporting (for example, corporate "fact" books), and sources outside the company (for example, analysts and reporters) for the financial information needed to make decisions.
What forces induce managers to supply information? Browse through several corporate financial reports and you will notice substantial differences across companies-and perhaps over time-in the quality and quantity of the information provided.
Some companies routinely disclose operating profits, production levels, and order backlogs by major product category so analysts and investors can quickly spot changes in product costs and market acceptance. Other companies provide detailed descriptions of their outstanding debt and their efforts to hedge interest rate risk or foreign currency risk. Still other companies seem to disclose only the bare minimum required. What explains this diversity in the quality and quantity of financial information?
If the financial reporting environment were unregulated, disclosure would occur voluntarily as long as the incremental benefits to the company and its management from supplying financial information exceeded the incremental costs of providing that information. In other words, management's decisions about the scope, timing, and content of the company's financial statements and notes would be guided solely by the same cost and benefit considerations that influence the supply of any commodity. Managers would assess the benefits created by voluntary disclosures and weigh those benefits against the costs of making the information available. Any differences in financial disclosures across companies and over time would then be due to differences in the benefits or costs of voluntarily supplying financial information.
But, in fact, financial reporting in the United States and in many other developed countries is regulated by public agencies such as the SEC and by private agencies such as the FASB. The various public and private sector regulatory agencies establish and enforce financial reporting requirements designed to ensure that companies meet certain minimum levels of financial disclosure.5 Nevertheless, companies frequently communicate financial information that exceeds these minimum levels. They apparently believe that the benefits of the "extra" disclosures outweigh the costs. What are the potential benefits from voluntary disclosures that exceed minimum requirements?
Disclosure Benefits Companies compete with one another in capital, labour, and product markets. This competition creates incentives for management to reveal "good news" financial information about the firm. The news itself may be about a successful new product introduction, increased consumer demand for an existing product, an effective quality improvement, or other matters favourable to the financial perception of the company. By voluntarily disclosing otherwise unknown good news, the company may be able to obtain capital more cheaply or get better terms from suppliers.
To see how these incentives work, consider the market for raising financial capital. Companies seek capital at the lowest possible cost. They compete with one another both in terms of the return they promise to capital suppliers and in terms of the characteristics of the financial instrument offered. The capital market has two important features:
Investors are uncertain about the quality (that is, the risk) of each company's debt or equity offerings because the ultimate return from the security depends on future events.
It is costly for a company to be mistakenly perceived as offering investors a low-quality ("high-risk") stock or debt instrument-a "lemon."
This lemon cost has various forms. It could be lower proceeds received from issuing stock, a higher interest rate that will have to be paid on a commercial loan, or more stringent conditions-such as borrowing restrictions-placed on that loan.
These market forces mean that owners and managers have an economic incentive to supply the amount and type of financial information that will enable them to raise capital most cheaply. A company offering attractive, low-risk securities can avoid the lemon penalty by voluntarily supplying financial information that enables investors and lenders to gauge the risk and expected return of each instrument accurately. Of course, companies offering higher risk securities have incentives to mask their true condition by supplying overly optimistic financial information. However, other forces partially offset this tendency. Examples include requirements for audited financial statements and legal penalties associated with issuing false or misleading financial statements. Managers also want to maintain access to capital markets and establish a reputation for supplying credible financial information to investors and analysts.
Financial statement disclosures can convey economic benefits to firms-and thus to their owners and managers. But, firms cannot obtain these benefits at zero cost.
Disclosure Costs. Four costs can arise from informative financial disclosures:
Information collection, processing, and dissemination costs
Competitive disadvantage costs
Litigation costs
Political costs
The costs associated with financial information collection, processing, and dissemination
can be large. Determining the company's obligation for postretirement employee health-care benefits provides an example. This disclosure requires numerous complicated actuarial computations as well as future healthcare cost projections for existing or anticipated medical treatments. Whether companies compile the data themselves or hire employee benefit consultants to do it, the cost of generating a reasonable estimate of the company's postretirement obligation can be considerable. The costs of developing and presenting financial information also include the cost incurred to audit the accounting statement item (if the information is audited). Owners-that's the shareholders- ultimately pay all of these costs, just as they ultimately bear all other company costs.
Another financial disclosure cost is the possibility that competitors may use the information to harm the company providing the disclosure. Several disclosures-financial and nonfinancial- might create a competitive disadvantage:
Details about the company's strategies, plans, and tactics, such as new
products, pricing
strategies, or new customer markets.
Information about the company's technological and managerial
innovations, such as new
manufacturing
and distribution systems, successful process redesign and continuous qual
ity improvement methods, or uniquely effective marketing approaches.
Detailed information about company operations, such as sales and cost figures for individual product lines or narrow geographical markets.7
Disclosing sales and profits by product line or geographical area may highlight opportunities previously unknown to competitors, thereby undermining a company's competitive advantage.
Labour unions or suppliers may also use the company's financial information to improve their bargaining power, which would increase the company's costs and possibly weaken its competitive advantage.
Litigation costs result when shareholders, creditors, and other financial statement users initiate court actions against the company and its management for alleged financial misrepresentations. For example, it's common for shareholders to initiate litigation when there's a sudden drop in stock price. If the price falls soon after the company has released new financial information, shareholders may sue the company and claim damages based on the disclosure. These shareholders argue they would not have committed financial capital to the company if they had known then (back when they bought the stock) what they know now (after the company's disclosure).
The costs of defending against suits, even those without merit, can be substantial. Beyond legal fees and settlement costs, there is the damage to corporate and personal reputations and the distraction of executives from productive activities that would otherwise add value to the company.
There are potential political costs of financial reporting, especially for companies in highly visible industries like oil or pharmaceuticals. Politically vulnerable firms with high earnings are often attacked in the financial and popular press, which alleges that those earnings constitute evidence of anticompetitive business practices. Politicians sometimes respond to (or exploit) heightened public opinion. They propose solutions to the "crisis" that is causing high earnings, thereby gaining media exposure for themselves and improving their chances for re-election or reappointment. These "solutions" are often political initiatives designed to impose taxes on unpopular companies or industries. The windfall profits tax levied on U.S. oil companies in the late 1970s is one example. This tax was prompted, in part, by the large profit increases that oil companies reported during several years prior to enactment of the legislation.
Activity 3: On the basis of the information provided by the text above, decide whether the sentences given below are true or false:
Many financial statement users have to rely on mandated reporting, voluntary disclosure made by companies and on interpretations made by reporters and analysts.
By voluntarily disclosing otherwise unknown good news, companies reduce their chances to obtain capital more cheaply.
The Securities and Exchange Commission and the Financial Accounting Standards Board establish minimum levels of financial disclosure.
High return on securities does not depend on future events in the company's activity.
Companies compete with one another in various terms except for return promised to capital suppliers.
A "lemon" is a low-risk stick or debt instrument.
Owners do not pay for disclosure costs.
Communication
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