The Roles of Corporate Governance in Bank Failures During the Recent Financial Crisis

The Roles of Corporate Governance in Bank Failures during the Recent Financial Crisis Berger, Allen N. 1 | Imbierowicz, Bjorn2 | Rauch, Christian3 July 2012 Abstract This paper analyzes the roles of corporate governance in bank defaults during the recent financial crisis of 2007-2010. Using a data sample of 249 default and 4,021 no default US commercial banks, we investigate the impact of bank ownership and management structures on the probability of default.The results show that defaults are strongly influenced by a bank’s ownership structure: high shareholdings of outside directors and chief officers (managers with a â€Å"chief officer† position, such as the CEO, CFO, etc. ) imply a substantially lower probability of failure. In contrast, high shareholdings of lower-level management, such as vice presidents, increase default risk significantly.These findings suggest that high stakes in the bank induce outside directors and upper-level management to control and reduce risk, while greater stakes for lower-level management seem to induce it to take high risks which may eventually result in bank default. Some accounting variables, such as capital, earnings, and non-performing loans, also help predict bank default. However, other potential stability indicators, such as the management structure of the bank, indicators of market competition, subprime mortgage risks, state economic conditions, and regulatory influences, do not appear to be decisive factors in predicting bank default.JEL Codes: G21, G28, G32, G34 Keywords: Bank Default, Corporate Governance. Bank Regulation 1 University of South Carolina, Moore School of Business, 1705 College Street, Columbia, SC, USA, Phone: +1803-576-8440, Wharton Financial Institutions Center, and CentER, Tilburg University, Email: [email  protected] usc. edu 2 Goethe University Frankfurt, House of Finance, Grueneburgplatz 1, Frankfurt am Main, Germany, Phone: +49-69798-33729, Email: [email  protected] uni-frank furt. de 3 Goethe University Frankfurt, House of Finance, Grueneburgplatz 1, Frankfurt am Main, Germany, Phone: +49-69798-33731, Email: christian. . [email  protected] com The authors would like to thank Lamont Black, Meg Donovan, Xiaoding Liu, Raluca Roman, Sascha Steffen, Nuria Suarez, Larry D. Wall, and participants at the 29th GdRE International Symposium on Money, Banking and Finance for useful comments. 1 Why do banks fail? After every crisis, this question is asked by regulators, politicians, bank managers, customers, investors, and academics, hoping that an answer can help improve the stability of the financial system and/or prevent future crises.Although a broad body of research has been able to provide a number of answers to this question, many aspects remain unresolved. After all, the bank failures during the recent financial crisis of 2007-2010 have shown that the gained knowledge about bank defaults is apparently still not sufficient to prevent large numbers of banks from failing. Most studies of bank default have focused on the influence of accounting variables, such as capital ratios, with some success (e. g. Martin, 1977; Pettway and Sinkey, 1980; Lane, Looney, and Wansley, 1986; Espahbodi, 1991; Cole and Gunther, 1995, 1998; Helwege, 1996; Schaeck, 2008; Cole and White, 2012). However, almost no research to date has empirically analyzed the influence corporate governance characteristics, such as ownership structure or management structure, have on a bank’s probability of default (PD). 1 This is perhaps surprising for two reasons. The first is the calls for corporate governance-based mechanisms to control bank risk taking during and after the recent financial crisis (e. . , restrictions on compensation and perks under TARP, disclosure of compensation and advisory votes of shareholders about executive compensation under DoddFrank, guidance for compensation such as deferred compensation, alignment of compensation with performance and ris k, disclosure of compensation, etc. by the G20, or more recent discussions in the UK regarding a lifetime ban from the financial services industry on directors of collapsed banks), which are largely without basis in the empirical literature on bank defaults.The second is the literature showing that governance mechanisms can have a very strong influence on bank performance in terms of risk taking (e. g. , Saunders, Strock, and Travlos, 1990; Gorton and Rosen, 1995; Anderson and Fraser, 2000; Caprio, Laeven, and Levine, 2003; Laeven and Levine, 2009; Pathan, 2009, Beltratti and Stulz, 2012). It is therefore the goal of this paper to analyze the roles of corporate governance, including both ownership structure and management structure, in bank defaults. The results are key to underpinning the recent calls for changes in corporate governance to control risk.As well, the results may add a new dimension to the extant literature on the effects of corporate governance   Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚   1 An exception is Berger and Bouwman (2012), which controls for institutional block ownership, bank holding company membership, and foreign ownership in models of bank survival and market share. However, the paper does not focus on these variables, nor does it include the ownership of directors and different types of bank employees, which are the key corporate governance variables of interest here. 2 on bank performance.Although this body of research has clearly established the causalities between corporate governance and bank risk taking, no study has so far used corporate governance structures to help explain bank defaults or to distinguish default from no default banks. Our paper attempts to fill this void. To analyze the influence of corporate governance structure s on bank defaults, we analyze 249 US commercial bank defaults during the period of 2007:Q1 to 2010:Q3 in comparison to a sample of 4,021 no default US commercial banks. We use five sets of explanatory variables in multivariate logit regression models of default.First, we include the impact of accounting variables on banks’ probability of default (PD). These accounting variables are well represented in the established literature on bank default. Second, we employ various corporate governance indicators to measure banks’ ownership structure and management structure. For ownership structure, we use the shareholdings of different categories of bank management, whether the CEO is also the largest shareholder, whether the bank or its holding company is publicly traded, and whether the bank is in a multibank holding company.For management structure, we use the numbers of outside directors, chief officers, and other corporate insiders (all normalized by board size), the board size itself, and if the Chairman of a bank is also the CEO. For the purposes of this paper, we define â€Å"chief officers† as all bank managers with a â€Å"chief officer† position, such as the Chief Executive Officer (CEO), Chief Financial Officer (CFO), Chief Lending Officer (CLO), or Chief Risk Officer (CRO). Third, we incorporate measures of market competition.We thereby account for the large literature on bank market power which is inconclusive on the effects of higher market power on bank stability, depending on whether the traditional â€Å"competition-fragility† view or the â€Å"competition-stability† view dominates, as discussed in Section II A. We also account for the bank’s competitors’ subprime loan exposure – a factor often cited as a major source of default risk in the recent crisis – which could help the bank by weakening or eliminating some of its competition.Fourth, we employ economic variables at the state level – GDP growth and the house price inflation – the latter of which is believed to have contributed to instability in the banking system due to banks being able to only partially recover collateral in defaulted mortgage loans. Finally, we account for potential differences among federal bank regulators. Our results confirm the extant bank failure literature by finding that accounting variables such as the capital ratio, the return on assets, and the portion of non-performing loans, help predict bank default. Our key new finding is that the ownership structure of a bank is also an important predictor of bank PD. Specifically, three bank ownership variables prove to be significant predictors of bank failure: the shareholdings of outside directors (directors without other direct management executive functions within the bank), the shareholdings of chief officers, and the shareholdings of other corporate insiders (lower-level management, such as vice presidents). Interes tingly, the effects differ among these three groups.While our results suggest that large shareholdings of outside directors and chief officers decrease a bank’s probability of default, larger shareholdings of lower-level management significantly increase bank PD. We find that these ownership structure variables add substantial explanatory power to the regressions, raising the adjusted R-Squared of the logit equations by more than half relative to the accounting variables alone. We offer explanations for these perhaps unexpected findings.We hypothesize that lower-level managers with large shares may take on more risk because of the moral hazard problem, whereas this problem may not apply as much to outside directors and chief officers because they are vilified in the event of a default. However, our other corporate governance indicators for management structure do not appear to significantly influence bank default probabilities. Perhaps surprisingly, bank market power, competi tors’ subprime loan exposure, state-level house price inflation and income growth, and different primary federal regulators also have little or no influence on bank failure.These results are robust to different specifications, time periods prior to default, as well as a possible sample selection bias caused by the types of banks for which corporate governance data are available. In an additional analysis, we develop a variable based on the individual shareholdings of outside directors, chief officers, and other corporate insiders as a single default predictor variable. This measure confirms that the ownership structure of a bank has significant predictive power for bank default, especially if observed some time period prior to default.Overall, our results add substantially to the question of why banks fail, and also contribute to the aforementioned discussion of corporate governance-based mechanisms to control bank risk taking. The remainder of the paper is structured as foll ows. In Section I, we provide an overview of the relevant literature regarding corporate governance and bank stability. In Section II A, we describe the composition of our data set. Section II B contains the summary statistics on anecdotal evidence of the reasons behind bank failures during the financial crisis of 2007-2010.We describe the ownership and management structures of the banks in our sample in Section II C. 4 Section II D contains summary statistics on the accounting, competition and economic data. Section III reports our main multivariate results, and in Section IV we develop and test a single indicator of bank ownership structure to predict default. Section V concludes. I. Literature Overview Our paper builds upon and expands the existing literature in two closely connected areas of research: bank defaults and the influence of corporate governance structures on bank risk taking.The literature on bank default mostly focuses on testing a wide variety of bank accounting va riables on banks’ default probabilities in discriminant analyses and regressions of dependent binary default indicator variables. Examples that precede the recent financial crisis are Meyer and Pfifer (1970), Martin (1977), Whalen and Thomson (1988), Espahbodi (1991), Thomson (1991, 1992), Cole and Fenn (1995), Cole and Gunther (1995, 1998), Logan (2001), and Kolari, Glennon, Shin and Caputo (2002). The predominant findings are that the default probability increases for banks with low capitalization and other measures of poor performance.Following this body of research, there are only few papers to date analyzing the relevant drivers of bank default during the recent financial crisis: Torna (2010), Aubuchon and Wheelock (2010), Ng and Roychowdhury (2011), Berger and Bouwman (2012), and Cole and White (2012). Torna (2010) focuses on the different roles that traditional and modern-day banking activities, such as investment banking and private equity-type business, have in the f inancial distress or failure of banks from 2007 to 2009 in the US. The paper shows that a stronger focus on these modern-day activities significantly increase a bank’s PD.Aubuchon and Wheelock (2010) also focus on bank failures in the US, comparing the 2007-2010 period to the 1987-1992 period. They predominantly analyze the influence of local macroeconomic factors on banks’ failure probability. Their study shows that banks are highly vulnerable to local economic shocks and that the majority of bank failures occurred in regions which suffered the strongest economic downturn and the highest distress in real estate markets in the US. Ng and Roychowdhury (2011) also analyze bank failures in the US in the crisis period 2007-2010.They focus on how so called â€Å"add-backs† of loan loss reserves to capital can trigger bank instability. They show that add-backs of loan loss reserves to regulatory capital increase banks’ likelihood of failure. Berger and Bouwman (2012) focus on the effects of bank equity capital on survival and market share during both financial crises (including 5 the recent crisis) and normal times. They find that capital helps small banks survive at all times, and is important to large and medium banks as well during banking crises.Finally, Cole and White (2012) perform a test of virtually all accounting-based variables and how these might add to bank PD, using logit regression models on US bank failures in 2009. Using the standard CAMEL approach, they find that banks with more capital, better asset quality, higher earnings and more liquidity are less likely to fail. Their results also show that bank PD is significantly increased by more real estate construction and development loans, commercial mortgages and multi-family mortgages.Although our paper is closely related to these studies – especially to the post-crisis research and in terms of sample selection, observation period, and methodology – we strongl y expand the scope of the existing analyses to include corporate governance variables and other factors and are therefore able to substantially contribute to the understanding of bank failure reasons. Our most important contribution is the analysis of detailed ownership and management structure variables in the standard logit regression model of default.The distress of the banking system in the wake of the recent financial crisis has triggered a discussion about the role of corporate governance structures in the stability of financial institutions. Politicians (e. g. , the Financial Crisis Inquiry Commission Report, 2011), think tanks (e. g. in the Squam Lake Working Group on Financial Regulation Report, February 2010), NPOs (such as in the OECD project report on Corporate Governance and the Financial Crisis, 2009), and academic researchers (an overview of scholarly papers regarding corporate governance and the financial crisis is provided by e. g.Mehran, Morrisson and Shapiro, 2011 ) have recently not only intensely discussed, but also strongly acknowledged, the importance of corporate governance for bank stability. The discussions resulted in a number of actions from regulators addressing corporate governance in banks, such as restrictions on compensation and perks under TARP, various compensation guidelines set forth by the G20, or â€Å"clawback† clauses for executive compensation in addition to guidance for deferred compensation in Dodd-Frank. Banks even started to implement voluntary â€Å"clawback† clauses for bonus payments (such as Lloyds TSB) in addition to these mandatory clauses.However, the finding that corporate governance has implications for bank stability was already established long before the recent financial crisis. Several studies such as Saunders, Strock and Travlos (1990), Gorton and Rosen (1995), and Anderson and Fraser (2000) show that governance characteristics, such as shareholder composition, have substantial influence on banks’ 6 overall stability. Their findings support that bank managers’ ownership is among the most important factors in determining bank risk taking.The general finding in all studies is that higher shareholdings of officers and directors induce a higher overall bank risk taking behavior. Saunders, Strock and Travlos (1990) show this for the 1979-1982 period in the US, and Anderson and Fraser (2000) confirm this for the 1987-1989 period. Although Gorton and Rosen (1995) obtain the same result for the 1984-1990 period, they additionally show that the relationship between managerial shareholdings and bank risk depends on the health of the banking system as a whole: it is strongly pronounced in periods of distress and might reverse in times of prosperity.Pathan (2009) provides empirical evidence for the period 1997-2004 that US bank holding companies assume higher risks if they have a stronger shareholder representation on the boards. Based on these findings, we have s trong reason to believe that corporate governance structures might also have an influence on bank default probability. In light of the recent financial crisis, some studies, such as Beltratti and Stulz (2012) and Erkens, Hung and Matos (2012), analyze bank ownership structures with special regard to bank risk. Testing an international sample of large publicly traded banks, Beltratti and Stulz (2012) find that banks with better governance (in terms of more shareholder-friendly board structures) performed significantly worse during the crisis than other banks and had higher overall stability risk than before the escalation of the crisis. Specifically, they find that banks with higher controlling shareholder ownership are riskier. This result is confirmed by Gropp and Kohler (2010).Erkens, Hung and Matos (2012) analyze the influence of board independence and institutional ownership on the stock performance of a sample of 296 financial firms (also including insurance companies) in over 30 countries over the period 2007-2008. They find that banks with more independent boards and greater institutional ownership have lower stock returns. Also testing an international sample, Laeven and Levine (2009) show that banks with a more diversified and outsidercontrolled shareholder base have an overall lower risk structure than banks with a highly concentrated hareholder base in which most of the cash-flow rights pertain to one large (inside or outside) owner. Kirkpatrick (2008) also establishes that weak corporate governance in banks 2 Another corporate governance-related body of research focuses on compensation structures in banks with special regard to risk. Among the most recent works on bank management compensation and risk taking behavior are Kirkpatrick (2009), Bebchuk and Spamann (2010), DeYoung, Peng, Yan (2010), Fahlenbrach and Stulz (2011), and Bhattacharyya and Purnanandam (2012). leads to inadequate risk management, especially insufficient risk monitoring through the board, a factor which contributed greatly to the bank instabilities during the crisis. 3 Although the existing body of research has clearly established a connection between governance and bank risk taking behavior, none of the studies investigates the influence certain governance characteristics might have on bank default. The risk variables most often investigated are the stock price (e. g. , Beltratti and Stulz, 2012), returns (e. g. Gropp and Kohler, 2010), lending behavior (e. g. , Gorton and Rosen, 1995), or general stability indicators, such as the Z-score (e. g. , Laeven and Levine, 2009). Standard governance proxy variables are managerial shareholdings (e. g. , Anderson and Fraser, 2000), bank insider shareholdings (Gorton and Rosen, 1995), the ownership percentage of the single largest shareholder (Beltratti and Stulz, 2012), or the shareholder friendliness of the board (as developed by Aggarwal, Erel, Stulz, and Williamson, 2009, and used by e. g.Beltratti and Stulz, 2012). Our paper offers three important contributions to the literature. We are the first paper to combine a range of these factors by investigating the influence the ownership and management structures in banks may have on their default probability. We are the first paper to differentiate between top- and lower-level shareholdings as well as between outside and inside director shareholdings. Finally, our paper is the first to analyze the influence of management structures on bank default probability. II. Data A. Sample SelectionOur main data set is a collection of more than ten different data sets merged manually on the bank level. We start with the population of US commercial banks using the FFIEC Call Report data set to collect bank balance sheet, income statement, and off-balance sheet data for each 3 As noted above, Berger and Bouwman (2012) include institutional block ownership, bank holding company membership, and foreign ownership as control variables in models of bank survi val and market share. They do not find strong, consistent results for any of these variables. 8 bank. We exclude systemically important financial institutions (SIFIs), commercial banks with at least $50 billion in total assets (as defined by Dodd-Frank), as none of these institutions failed during the crisis, perhaps because of the TARP bailout and/or extraordinary borrowing from the discount window. 5 These data are augmented by two additional data sets containing general economic indicators on the state level. The real estate price development is measured using the quarterly returns of the seasonally-adjusted Federal Housing Financing Agency (FHFA) house price inflation index for the state.The quarterly percentage change in state GDP is taken from the Federal Reserve Bank of St. Louis â€Å"Federal Research Economic Database† (â€Å"FRED†). The fourth data set we use contains detailed information on the annual census-tract- or MSA (Metropolitan Statistical Area)-leve l mortgage lending in the United States. This data set is referred to as the â€Å"Home Mortgage Disclosure Act† or â€Å"HMDA† data set, obtained through the Federal Financial Institutions Examination Council (FFIEC).This data contains the total amount and volume of mortgage loans by year and census tract/MSA, both on an absolute level as well as broken down by borrower characteristics. We classify each mortgage granted to a borrower with an income of less than 50% of the median income in the respective census tract or MSA as â€Å"subprime. † Although we acknowledge that borrowers falling into this income group might also be classified as â€Å"prime† borrowers in some cases, we believe it to be a fair assumption that mortgage borrowers of this category can be deemed as rather high-risk borrowers, and hence we group these as â€Å"subprime. We include the ratio of originated subprime mortgage loans to total originated mortgage loans in our data set cal culated on census tract or MSA level. We use the subprime variable and the Herfindahl Hirschman Index (HHI) of local market concentration as measures of competition. The HHI is based on the FDIC Summary of Deposits data on the branch level. We use each bank’s share of deposits by branch in each rural county or MSA market for these calculations, and take weighted averages across markets for banks in multiple local markets using the proportions of total deposits as the weights. 4 Merged or acquired banks are treated as if the involved banks had been merged at the beginning of the observation period, by consolidating the banks’ balance sheets. As a robustness check, we exclude all merged and acquired banks from our data set. Results remain unchanged. 5 We also exclude all savings institutions with a thrift charter obtained through the Office of Thrift Supervision. This also includes all failed thrifts and thrift SIFIs (such as Washington Mutual and IndyMac).We do so for r easons of comparability and to obtain a homogenous sample of commercial bank failures only. 6 We use total deposits in calculating the HHI because it is the only variable for which bank location is available. 9 In a next step, we collect data on corporate governance, specifically, ownership and management measures. The information is taken from four sources: the Mergent Bank Database, the SEC annual bank reports publicly available through the SEC’s EDGAR website, the FDIC Institutions data, and CRSP.The Mergent data base contains detailed ownership and management information for 495 US commercial banks (both stock-listed and private). We specifically use information on each bank’s shareholders, their directors, and officers as well as on the other corporate insiders. To expand the sample, we complement the Mergent data base with the information given in the annual reports filed with the SEC of each bank with registered stock. The information on whether a bank is in a m ultibank holding company or not is taken from the FDIC Institutions data set, obtained through the official FDIC website.Public banks are all banks or banks in bank holding companies (BHCs) with SEC-registered shares which are publicly listed and traded on a United States stock exchange over the observation period. We treat subsidiaries of multibank holding companies as public banks if their respective BHC is publicly listed. Information on trading and listing is obtained from CRSP. Banks with (CUSIP registered-) shares which have been sold in private placements are treated as privately-owned banks. All banks without a stock listing and without a stock-listed BHC are treated as private banks.In a last step, we have to determine which banks failed within our observation period. As we only focus on US commercial bank failures in the recent financial crisis of 2007-2010, we use the FDIC Failed Institutions list as reported by the FDIC. 7 This list contains a detailed description of eac h failure of an FDIC-insured commercial bank or thrift, including the name of the bank, the exact date of failure (i. e. , when the bank was put into FDIC conservatorship), its location, the estimated cost of the failure to the FDIC, as well as information on the acquiring institution or liquidation of the failed bank.This list allows us to compile the data set of all failed institutions which are eligible for the analyses in our paper. To gather additional information on each failure, we use multiple sources. First, we employ the Material Loss Reports (MLRs) published by the FDIC as part of their bankruptcy procedure for all material bank failures. 8 In it, the FDIC provides a detailed report on the causes for the failure of the bank, whether or not the failure was caused by the bank’s management and its (lack of)   Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚   7 As obtained through the FDIC website: http://www. dic. gov/bank/individual/failed/banklist. html The FDIC publishes Material Loss Reports for all bank defaults which result in a â€Å"material loss† to the FDIC insurance fund. On January 1st 2010, the threshold for a â€Å"material loss† to the FDIC fund was raised from $25 million to $200 million. 8 10 risk management, and whether or not the failure could have been anticipated by the regulatory and supervisory authorities of the bank. For failed institutions for which no MLR was published, we gather news wire articles, press releases or reports from newspapers located in each bank’s local market.The information we take from these multiple sources is: the exact failure reason, whether or not bad risk management was among the causes for the failure, whether or not regulatory action had been taken against the failed bank (especially ce ase-and-desist orders), and whether or not the failure came as a surprise to the regulatory and supervisory authorities. We use one additional source to determine the surprise of each bank’s failure: stability reports (â€Å"LACE Reports†) published by Kroll Bond Ratings, an independent firm specialized in rating banks and other financial services firms.These reports contain a rating scheme for each bank (based on a number of standard rating indicators) ranging from A (best) to F (worst). As the ratings are published quarterly, we are able to determine whether or not a bank has a rating better than â€Å"F† in the quarter prior to failure. We deem any failure as â€Å"surprising† if either the MLR specifically states that it was surprising or the LACE report shows that the failed bank’s rating was better than â€Å"F† in the quarter prior to failure.This leaves us with a data set of 249 default banks and 4,021 non-default banks. All bank fai lures occur in the period 2007:Q1 to 2010:Q3. For the regressions we obtain a total of 79,984 bankquarter observations in an unbalanced panel. As corporate governance information cannot be obtained for all banks, we exclude all failed and non-failed banks from our subsample of banks with corporate governance data for which we cannot obtain reliable information on the desired ownership and management variables.Our final subsample of banks with corporate governance data consists of 85 default banks and 243 no default banks, recorded over the same period, for a total of 5,905 bank-quarter observations. A detailed description of all of the explanatory variables used in the regressions is provided in Table 1. (Table 1) B. Anecdotal Evidence on Bank Defaults We first investigate the causes of bank failures on an anecdotal level. We do so to better understand the different reasons for bank failures and to ensure that our sample of bank failures is not biased by e. . too many cases of fraud or regulatory intervention. We draw on the 11 aforementioned Material Loss Reports (MLRs) and news sources to determine that the reasons for bank failures can be clustered into six distinct groups: â€Å"General Crisis Related,† â€Å"Liquidity Problems Only,† â€Å"Loan Losses Only,† joint â€Å"Liquidity Problems and Loan Losses,† â€Å"Fraud,† and â€Å"Other. † The MLRs and other sources reporting on the failures mentioned these six groups of failure reasons almost exclusively.If MLRs and/or news reports do not contain a specific failure reason, but instead mention that the failure came as a result of the general economic conditions or the crisis, we label the failure as â€Å"General Crisis Related. † As shown in Table 2, Panel A, we find that 95 out of 249 banks fall into this category. If it is explicitly mentioned that either only liquidity problems, or only loan losses, or a combination of both was the cause for the failure, we cluster the banks in the respective groups â€Å"Liquidity Problems Only,† â€Å"Loan Losses Only,† or â€Å"Liquidity Problems and Loan Losses. We find that only one bank was put into FDIC conservatorship as the result of liquidity problems only. In contrast, 106 banks’ failures were triggered by loan losses only and 22 banks defaulted after the joint occurrence of both liquidity problems and loan losses. Finally, we find that 5 banks failed or were taken into FDIC conservatorship due to management fraud. For 20 banks, a specific failure reason could not be determined; we thus label their failure reason as â€Å"Other. These anecdotal results show that loaninduced losses played a dominant role for banks’ stability during the recent financial crisis, as opposed to liquidity problems. The FDIC also publishes the estimated cost of the failure to the FDIC insurance fund. We collect and report these numbers to show the economic importance and which fail ure types are the most costly. The overall estimated cost of all failures in our sample to the FDIC insurance fund amount to approximately $6. 75 billion. In 2009 the fund incurred the highest cost with an estimate of $2. 6 billion from 119 failures; however, the highest insurance costs per institution were incurred in 2008, with only 20 failures resulting in an estimated cost of $2. 61 billion. The 106 loan lossinduced failures are the most costly group with a total of $2. 08 billion. Interestingly, defaults due to both loan and liquidity losses seem to be much more expensive per institution as compared with loan loss-only failures. Although the overall contribution of the insurance cost to the overall estimated FDIC losses of the loan and liquidity loss group is only slightly smaller with $2. 3 billion, this group consists of only 22 banks, as compared to the 106 bank failures in the loan loss-only group. (Table 2) 12 In a second step, we collect anecdotal evidence on the role of the banks’ management and the regulatory agencies prior to bank failure. Specifically, we determine whether or not bad risk management contributed to the default. Whenever the MLRs, other official FDIC releases, or newspaper articles mention that the bank suffered from managers’ bad risk management, we classify the respective bank as a â€Å"Bad Risk Management† bank prior to default.Panel B in Table 2 shows that this is the case for only 18% of all defaults. The fact that not even a fifth of all bank defaults during the recent financial crisis happened due to inadequate risk control systems (or failures thereof) calls for a detailed investigation of alternative reasons for bank failures, such as the banks’ ownership and management structures. We also gather information on the actions taken by the regulatory and supervisory agencies prior to the default. Supervisory actions prior to default (especially cease-and-desist orders to prevent the bank from fail ing) are used in only 7. % of all defaults. Based on the MLRs and the LACE ratings, we also find that only 13. 6% of all bank failures came as a surprise and were neither anticipated by a rating agency nor by the supervisory authority. According to Panel B in Table 2, one explanation for this rather low percentage of surprises might be that most of the surprising failures occurred at the onset of the financial crisis, when market participants have not been able to predict the severity of the crisis, while in 2009 and 2010 more banks failed but this was expected more often.Taken together, Panel B in Table 2 shows that our sample of bank failures does not put too much weight on potentially distorting factors as for example regulatory intervention or fraud and emphasizes the requirement of an investigation of alternative reasons for bank failures, such as the banks’ ownership and management structures. C. Corporate Governance and Bank Defaults Table 3 shows summary statistics of the ownership and management data of our sample banks.We report summary statistics for the total sample, as well as broken down by default and no default banks, bad risk management, banks subject to cease-and-desist orders prior to default, and surprising versus non-surprising failures. We define â€Å"Outside Directors† as members of a bank’s board of directors, who do not perform any function other than being a board director in the respective bank. The literature on corporate governance also refers to this group as â€Å"independent directors. As noted above, we define â€Å"Chief Officers† as all bank managers with a â€Å"chief 13 officer† position. â€Å"Other Corporate Insiders† are all bank employees holding lower-level management positions in a bank, such as vice presidents, treasurers, or department heads. Note that these â€Å"Other Corporate Insiders† are neither â€Å"Chief Officers† nor members of the bank’s boa rd of directors. The shareholdings are determined based on the Mergent data base or SEC filings. The data contain name, title, and the amount of shares held by each manager.The shareholding variables are normalized by the number of the bank’s outstanding shares and the numbers of outside directors, chief officers and other employees are scaled by the board size. 9 Table 3 reports that, on average, default banks have much lower shareholdings of outside directors, slightly lower shareholdings of chief officers, and much higher shareholdings of other corporate insiders, as compared to no default banks. Additionally, the CEO is the single largest shareholder in some of the default banks. This is never the case in no default banks.In terms of management structures, we find that default banks have smaller boards, fewer outside directors and more chief officers relative to their board size, and the Chairman is less often also the CEO than in no default banks. (Table 3) These values paint an interesting picture of the ownership and management characteristics of default and no default banks in our sample. Table 3 provides empirical evidence that default banks tend to be characterized by fewer shareholdings of outside directors and chief officers and larger shareholdings of lower level management.A tentative conclusion of these descriptive results could be that the incentives are set very differently in default and no default banks. In no default banks, more than 80% of all shares are held by chief officers, who are responsible for the continuation of bank’s operations in the long term, or by outside directors, who are responsible for the oversight of these operations. Furthermore, outside directors and chief officers are publicly known figureheads of the banks. This might imply that their personal reputation is connected to the bank’s performance and survival, at least to some extent.In contrast, lower-level management, such as vice-presidents or t reasurers, hold more than 50% of all shares in default banks. This group is neither publicly known nor held responsible in public for the failure of the bank, even though they may exert a tremendous amount of direct influence on the actual risk 9 Note that the scaling with the board size does not imply that the sum of the three variables adds up to one because other corporate insiders are not members of the board while also chief officers are not always members of the board. 14 taking of the bank in its daily operations. 0 The position of lower level management is equivalent to equity holders in the classic Merton (1977) firm value model which states that shareholders of insured banks have a moral hazard incentive to increase variance of returns, since the assets of the bank can be put to the FDIC in the event of default. This incentive may be less for the outside directors and chief officers who are publicly known and vilified in the event of default as compared to opaque lower lev el management. Accordingly, Table 3 suggests that outside directors and chief officers behave more responsibly in terms of risk taking when they have large stakes in the bank.In contrast, other non-executive corporate insiders tend to increase risk taking when they hold shares of the bank. We investigate this result in more detail in the next section in a multivariate setting. Looking at the ownership structures of default banks with bad risk management, we find that they have fewer outside director shareholdings, fewer other corporate insider shareholdings and larger chief officer shareholdings as compared to banks where bad risk management is not mentioned.These exact same shareholder structures are featured by default banks against which cease-anddesist orders had been issued in comparison to banks without such orders before failure. Regarding the management structures of banks with bad risk management prior to default, we find that they are characterized by smaller board sizes, fewer chief officers and fewer outside directors relative to their size.Again, the exact same characteristics can be seen in banks against which cease-and-desist orders had been issued before default, except for the board size, which is slightly higher in banks with cease-and-desist order. These numbers allow for two tentative interpretations regarding the existence of bad risk management: first, banks run by managers facing little oversight through fellow corporate insiders or outside shareholders are more likely to be able to exercise bad risk management, causing the bank to fail.Second, the regulators might be aware of the bad risk management situation in these banks, but act to no avail, i. e. issue ceaseand-desist orders against the banks without being able to save them from defaulting. Interestingly, the ownership and management characteristics of bad risk management and ceaseand-desist-banks are also mostly shared by banks whose failure came as a surprise to markets and regul ators. As compared to banks whose failures were more predictable, they have fewer outside   Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚  Ã‚   10We acknowledge that there are a few exceptions, such as Nick Leeson, Jerome Kerviel, and Bruno Iksil, who became known to the public. However, individual traders have to severely cripple their financial institutions (with losses, only attributable to them, in the billions) before being in the news. Additionally, all of these now infamous cases were based on fraudulent risk taking, as opposed to risk taking within the allowed boundaries. The news on these tail events also supports the notion that lower-level employees may have a tremendous impact on bank risk. 5 directors and other corporate insiders as shareholders. In terms of management, they have slight ly smaller boards, more chief officers and outside directors relative to their board size. Only the number of shares held by chief officers is lower for surprising failure banks, a characteristic in which they differ from the bad risk management and cease-and-desist order banks. These governance features can be a sign of limited outside control of the bank’s executive management.As a result, executive managers might have been able to hide the true financial situation of the bank from regulators (in spite of a possibly higher scrutiny expressed by the cease-and-desist orders) and other stakeholders until the very end, either in an attempt to rescue the bank or for mere fear of admitting the failure of the bank. These structures might also allow for gambling for resurrection in an attempt to save the bank. Without outside control, the managers could have taken on excessive risks with promising high returns in a last effort to rescue the bank.We finally report information if the bank is publicly traded versus privately owned and if it is organized in a multibank holding company as this also describes a bank’s ownership structure. We also include these factors because publicly traded banks and banks in multibank holding companies might have access to additional capital markets besides only the bank’s internal funds (or the internal funds of the holding company) which, especially in times of distress, might serve as a source of financial strength.About 27% of all default and 41% of all no default banks in our sample were publicly traded over the observation period. Only 12% of the default banks and 14% of the no default banks were part of a multibank holding structure. We find similar numbers for the risk management, cease-and-desist order and non-surprising failure groups. Table 3 indicates that certain corporate governance characteristics, such as limited outside control of management through fellow top-level employees or through independent outside directors as hareholders, can foster bad risk management and the concealment of a bank’s true financial situation. If managers are inadequately monitored, they lack incentives to act in the best interest of shareholders. The fact that a small number of banks failed surprisingly might be an indication that it can be difficult for the regulator to recognize or anticipate problems if the managers are willing and able to conceal them. Our results are therefore in line with the findings of Anderson and Fraser (2000), who show that management shareholdings and risk taking are positively related.The results are also consistent with e. g. Laeven and Levine (2009), who show that banks with more concentrated ownership and management structures also exhibit higher overall risk 16 taking. We therefore substantially extend this body of literature by showing that the management shareholdings also have implications for the most extreme case of bank risk, which is default. D. Summary Statistics of Accounting, Competition and Economic Variables Table 4 provides summary statistics on the variables other than the corporate governance variables.It shows that default banks differ strongly from no default banks, especially in terms of general characteristics, business focus, and overall stability. As can be seen in the table, default banks are on average larger than no default banks as measured by asset size, have a lower capital ratio, lower loan volume relative to their assets, stronger loan growth as well as weaker loan diversification as measured by the loan-concentration HHI. On the funding side, default banks rely more on brokered deposits and less on retail deposits than no default banks.Not surprising, default banks also perform worse in terms of overall stability than no default banks: they have a negative return on assets and a much higher non-performing loan ratio. Interestingly, default banks have a lower exposure to mortgage-backed securities (MBS) than no default banks. Note that default banks do not have any off-balance sheet derivative exposure (not shown in the table), which is why we exclude this factor in our regression analyses. (Table 4) Table 4 also shows the differences in accounting data between default and no default banks for our sample with available corporate governance data.While most differences and values are very comparable between our full data sample and our corporate governance sample, one difference is asset size. The banks for which we are able to obtain ownership and management data are larger than the average banks in the full sample. However, this is to be expected, as mostly large banks register shares with the SEC, which in turn requires them to publish ownership and management data. We will therefore also test our results with respect to a possible sample selection bias in our following analyses with a specific focus on bank size and publicly traded shares.Finally, in the last three columns, the table shows the development of accounting variables from two years prior to default until the quarter immediately preceding the default. In line with expectations, we observe on average a very strong decline of the capital ratio, the return on assets, and the loan growth, paired with a strong increase in the ratio of non-performing loans 17 over the last two years before default. This confirms a rapid decline in bank profitability and a deterioration of stability.Interestingly, banks seems to strongly increase the amount of retail funding in the form of brokered deposits, from roughly 9% two years before default up to 18% in the quarter before default. At the bottom of Table 4, we show summary statistics for the market competition and state economic condition variables. For market competition, we report the deposit-based HHI of market concentration and the subprime lending ratio of originated subprime mortgage loans to total originated mortgage loans on census tract or MSA level.The state economic condition variables include the house price inflation indicator, calculated using the average quarterly returns of the seasonally-adjusted Federal Housing Financing Agency (FHFA) house price inflation index for the bank’s states, and the quarterly percentage changes in state GDP. 11 Comparing the values for default and no default banks, we find that default banks face slightly higher market concentration, competitors with lower subprime exposure, a steeper decrease in house price values and a slightly lower GDP growth than no default banks.These differences are confirmed for our subsample of banks for which corporate governance data is available, with the exception of market concentration, which is slightly lower for default banks than for no default banks. We do not detect any substantial change in the market competition variables over the twoyear period leading up to defaults. Market concentration only increases marginally, subprime risk remains virtually unchange d. We see slightly stronger variations in the two state economic indicators.The FHFA house price index stays negative throughout the period, decreasing slightly in the year before the default but moving to a slightly higher value in the quarter before default. The same goes for the GDP growth, which turns negative in the year before default, but moves back up to slightly positive values in the quarter before default. We will forego a detailed analysis of these univariate statistics and instead rely on the multivariate regression results to interpret the variables’ influence on bank defaults in greater detail. 11 We use the state economic variables from the states in which the banks have deposits.For banks with branches in different states, we calculate the weighted exposure to each state through the FDIC Summary of Deposits data, as previously used for the HHI calculation, to obtain a weighted exposure to the state economic variables. 18 III. Multivariate Analysis A. Methodol ogy In this section, we investigate the possible influence factors have on bank failure in a multivariate logistic regression framework with an indicator variable for bank failure in the default quarter as dependent variable and a number of predictor variables.By choosing this model specification, we follow a broad body of literature having established this approach as standard procedure (e. g. , Campbell, Hilscher, and Szilagyi, 2008), which was pioneered for banks by Martin (1977). We include a total of five sets of explanatory variables: accounting variables, corporate governance variables, market competition measures, state economic indicators, and bank regulator variables. We combine these sets of variables to test eleven different model specifications, in which each specification is comprised of either a different set of variables or a different subsample.As reported in Table 4, we have a main sample of 249 bank defaults and 4,021 no default banks. We also have a subsample com prised of 85 default banks and 243 no default banks for which we obtain corporate governance data of a bank’s ownership and management structures. The different model specifications alternate between these two data samples. We include both subsamples in our analyses to show that our data does not suffer from selection biases – i. e. , that similar results hold for banks with and without available corporate governance data.We test the contribution the different variable sets or combinations thereof have on the explanatory power of our model of bank default. We additionally test each model for three different time periods: the quarter immediately preceding the default, as well as one and two years prior to default. By also testing the time component, we follow a body of research (e. g. , Cole and Gunther, 1998; Cole and White, 2012) which shows that the predictive power of binary regression models in the context of bank defaults varies over time.Table 5 contains eleven m odels together with an additional model in which we account for a possible sample selection bias. Models I and II test only the influence of accounting variables on bank defaults, separately for all banks (Model I) and the subsample of banks with available corporate governance data (Model II). These models most closely resemble the extant empirical literature on bank defaults. Models III and IV focus on the corporate governance sample only. They incorporate accounting variables in addition to six corporate governance ownership variables (Model III) and five corporate governance management variables (Model IV).Model V subsequently investigates the joint influence of the accounting and all the corporate governance variables on bank default. Models VI-VIII expand 19 this setting by adding market competition variables, the bank’s local market power and its competitors’ subprime loan exposure (Model VI), by adding economic indicators for the state house price inflation and the quarterly change in state GDP (Model VII), and by adding possible effects stemming from different primary federal bank regulators (Model VIII), respectively.Models IX and X jointly incorporate these three variable sets together with accounting data and exclude corporate governance variables. Model IX does so for all banks, and Model X includes only the sample of banks with available corporate governance data. In Model XI, we include all variables. The final model, labeled â€Å"Heckman Selection Model,† presents a robustness check using a Heckman Selection model which will be explained later in more detail.In running these tests, we are primarily interested in three questions: First, how do the different sets of variables and combinations thereof contribute to the overall explanatory power of the regression? Second, which variables are statistically significant in explaining bank failures? Finally, at what point in time prior to the actual default date do sets of variable s or individual variables have the largest explanatory power in predicting bank defaults?The accounting variables include measures of the bank’s size, return on assets, capitalization, loan portfolio composition, funding structure, securities business, and off-balance sheet activities. By doing so, we follow a large number of articles on bank default (e. g. ; Lane, Looney, and Wansley, 1986; Whalen and Thomson, 1988; Espahbodi, 1991; Logan, 1991; Thomson, 1991; Cole and Gunther, 1995, 1998; Kolari et al. , 2002; Schaeck, 2008; Cole and White, 2012) who show that accounting variables have significant explanatory power in predicting bank default.By including the log of total assets, the ratio of equity to assets, and the return on assets, we follow Cole and Gunther (1995, 1998), Molina (2002) and others who show that these variables can serve as valid indicators for size, capitalization, and profitability. To measure the composition and stability of the bank’s loan portf olio, we include five accounting variables. We use the ratio of total loans to total assets, excluding construction and development (C&D) loans, as well as the ratio of C&D loans only to total assets.In doing so, we follow Cole and White (2012), who show that C&D loans have strong explanatory power in predicting bank defaults, especially in the recent financial crisis. We account for this finding by investigating the singular influence of C&D loans in a bank’s overall loan portfolio on the likelihood of bank failure, as well as incorporating the ratio of the bank’s remaining loans to its assets. We also include a loan concentration index, the growth of a bank’s loan portfolio and the ratio of non-performing loans to total loans in the 20 regressions to account for concentration and credit risk.Short-term funding and illiquidity risks are measured by the ratios of short-term deposits to assets and brokered deposits to assets, respectively. We additionally include the ratio of mortgage-backed securities (MBS) to assets. Finally, the ratio of unused commitments to assets is included as a measure for off-balance sheet risks. We do not include the off-balance sheet derivative exposure of the banks in our analyses as no default bank in our data sample has any exposure to these in any time period. The corporate governance variables are taken from the set of measures introduced above.To account for the bank’s ownership structure, we include the number of shares held by outside directors, chief officers, and other corporate insider shareholders (defined as in section II. C). Each of these variables is standardized by the number of shares outstanding of the respective bank. We also include a dummy variable indicating whether or not the bank’s CEO is also its single largest shareholder. In addition, we include dummy variables for whether a bank is organized in a multibank holding company, and whether the bank or its BHC is publicly trad ed.As mentioned before, publicly traded banks and banks in multibank holding companies might have access to further capital markets which might serve as an additional sources of financial strength. 12 By including these ownership variables in our multivariate regression framework, we account for the previous literature on the relationship between banks’ ownership structures and bank stability, such as Saunders, Strock and Travlos (1990), Gorton and Rosen (1995), Anderson and Fraser (2000), Caprio, Laeven and Levine (2003), Laeven and Levine (2009), and Pathan (2009).We thereby moreover investigate if the stark differences in the descriptive statistics between default and no default banks in terms of ownership structure also hold in a multivariate setting. To further proxy for the bank’s management structure, we include the number of outside directors, the number of chief officers, the number of other corporate insiders, all scaled by the bank’s board size, to ac count for relative differences in management and oversight among banks. 3 We additionally employ (the logarithm of) the number of members of the board of directors (â€Å"Board Size†) and an indicator variable if the CEO of the bank is also its Chairman. We are thereby the first to explicitly investigate the impact of a bank’s management structure on bank default. 12 As a robustness check, we replace the multibank holding company (BHC) dummy with a dummy variable indicating whether or not the bank is part of any BHC structure, either single-bank or multibank. The results remain unchanged. 13As a robustness test, we also standardize the number of outside directors, chief officers, and other corporate insiders variables by the asset size of the bank. The results remain unchanged. 21 The set of variables on bank competition contains the Herfindahl Hirschman Index (HHI) of bank market power on MSA or rural county level, its squared value, as well as the ratio of originated subprime mortgage loans to total mortgage loans originated on census tract/MSA level. We use the HHI as a proxy for the competition a bank faces in its local market.To calculate the HHI, we define the deposits held by each bank’s branches as the product market, the rural county level or MSA in which the bank’s branches are located as the local market, and each quarter as the temporal market. Using the standard HHI calculation method, we sum up each bank’s squared market share in each market and quarter. For banks which are active in multiple markets, we use the weighted average across each market to determine the HHI. A broad body of research has shown that competition is an important stability factor for banks.According to the literature, higher market power may result in either a higher or a lower probability of bank failure. In the traditional â€Å"competition-fragility† view, higher market power increases profit margins and results in greater franch ise value with banks reducing risk taking to protect this value (e. g. , Marcus, 1984; Keeley, 1990; Demsetz, Saidenberg, and Strahan, 1996; Hellmann, Murdock, and Stiglitz, 2000; Carletti and Hartmann, 2003; Jimenez, Lopez, and Saurina, 2007). Thus, a higher HHI may result in a lower probability of failure.In contrast, in the â€Å"competition-stability† view, more market power in the loan market may result in higher bank risk and a higher probability of failure as the higher interest rates charged to loan customers make it harder to repay loans and exacerbate moral hazard and adverse selection problems (e. g. , Boyd and De Nicolo, 2005; Boyd, De Nicolo, and Jalal, 2006; De Nicolo and Loukoianova, 2007; Schaeck, Cihak, and Wolfe, 2009). Martinez-Miera and Repullo (2010) furthermore argue that this effect may be nonmonotonic.We control for this possibility by also incorporating the squared value of local market power. Berger, Klapper, and Turk-Ariss (2009) argue that the effe cts of both views may be in place – banks with more market power may have riskier loan portfolios but less overall risk due to higher capital ratios or other risk-mitigating techniques – and find empirical evidence of these predictions. In addition to the HHI, we also include in our analyses the ratio of originated subprime mortgage loans to total mortgage loans originated to account for the particularities of the recent financial crisis.As is known now, the excessive origination of mortgages to borrowers with subprime creditworthiness led to high losses for banks in the recent financial crisis. Additionally, prior research establishes that real estate loans in general also played an important role for bank stability in earlier crises (e. g. , Cole and Fenn, 1995). We include the average subprime mortgage loan ratio in a bank’s census tract to measure the subprime risk exposure of 22 the bank’s local competitors.Based on the aforementioned literature and the characteristics of the recent financial crisis, we hypothesize that stronger subprime exposure of a bank’s competitors could increase the competitors’ risk structures and therefore also their default risk, which might have helped the observed banks survive the crisis by weakening their competitors. The set of v

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Visa Inc - Research Paper Example Visa Inc. (2011) is a company that was founded from the simple idea of digital currency, but had managed to connect millions of businesses, consumers, financial institutions, and even governments to each other in the short while that it has been operating. It allows its customers, in over 200 countries (Visa Inc, 2011) and areas to replace their cash and check transactions to digital transactions. It has a separate network named VisaNet (Visa Inc, 2011) for financial institution clients. VisaNet is a central and modular payments network that offers three important services of â€Å"risk management services, information services and transaction processing services† (Visa Inc, 2011) all together in one package. Furthermore, VisaNet (Visa Inc, 2011) is constantly working on ways to improve their service, so that people can utilize the method of electronic payments for several more purposes and in more places, because of the network size and payment expertise. This enterprise also provides financial institutions with recognized payment products, which they use to provide â€Å"cash-access, prepaid, debit and credit programs to customers of all types† (Visa Inc, 2011), people as well as state owned and private businesses. This company is the owner of the Visa brand, with their customers crossing several millions and with 1.8 million ATMs distributed worldwide amongst several countries and regions (Visa Inc, 2011). This company remains a frontrunner amongst all electronic transaction companies since the start of its operations. It initialized with credit cards and moved on to offer mobile payments and neural networks, being one of the first companies worldwide to offer such services, thus always remaining updated and developed in an already rapidly changing industry. Considering the large contribution of Visa’s payment platforms to global commerce, its support to all its customers seems invaluable. Visa Inc. (2011) itself does not deal directly with customers in terms of issuing cards or

How Pizza Hut uses social media Facebook, Twitter, Instagram, and Research Paper

How Pizza Hut uses social media Facebook, Twitter, Instagram, and Youtube - Research Paper Example This is important for the company social media campaign because they are able to engage customers. According to Schweidel & Moe (398), many online customers often look for information about products they want through active social media platforms and would shy from following dormant company accounts. The company has also maintained high degree of engagement of their customers through posting of photos and tweets and responding to their customers tweets as well. This is of importance for this company because they are able to involve the people. As Ryan and Calvin (168) states, what individuals share or talk about with the users of the media is important. Content is important since it enables marketers to engage in conversation with customers thus creating social media promotional content that is resourceful, sharable and impacts positively in creating an effective relationship in the long run. Even though the company promotes a variety of products on their twitter handle, they do not promote future products or upcoming events which are very important for their nature of business. This is critical because through promotions prospective and existing customers get excited about the new products and events thus create interest and increase demand. Pizza Hut began its campaign through the most popular social media you tube in February 24, the year 2006. The company’s you tube channel also consists of 9, 769, 274 views with 13580 subscribers currently. Through the company’s you tube platform, their customers are capable of seeing their videos from facebook, TV commercials and behind the scenes footage as well as other fun contents. You tube page also provides a link to the company website which is very important for customers who want to find more about the company and their products. Even though Pizza Hut uploads many videos to you tube, they don’t respond to their customers ‘views concerning the

Criticism of the movie '' City of God'' Essay Example | Topics and Well Written Essays - 1250 words

Criticism of the movie '' City of God'' - Essay Example Additionally, this society never valued the right of others. For instance, despite being bathed in golden lights and amber moods, children were being kicked around like football. Furthermore, the City of God is often expected to flourish in light throughout or all the time. However, it was full of darkness at some points. The darkness in this film is characterized not only y the frequent blackouts it experiences, but also by the action of its people. Nonetheless, the film is produced in a captivating style that is appealing to the audience. The storyline is perfect and well formulated. The film portrays the social issues that happened in a society. The society in question is Brazilian society that needed quick interventions. Furthermore, despite the film’s setting being based in a Brazilian society, its message of rotten vices in was far reaching with some of the crimes being global concerns. The problems and damages caused by gang groups have continued to affect many parts of the global society including cities in the United States. It is also worth noting that the film depicted immense creativity particularly in reflecting real life violence in a society. Additionally, the creativity is in the use of slang language that makes the film truly local and appealing to its targeted audience. In addition, the music that changes depending on the scenes significantly adds value to the success of this film. The director and produ cer of the film also ensured that the cinematography and writing were also perfectly related. The written script of the film portrayed the vices in the society and the same I well brought in play by the cinema presented by the film. Notably, the first expression in the film is the lack of peace and order in the society. This theme strikes everywhere and it is what leads to criminal activities such as murder, theft and rape. One of

Political Philosophy and Machiavelli Essay Example for Free

Political Philosophy and Machiavelli Essay And if all men were good, this teaching would not be good; but because they are wicked and do not observe faith with you, you also do not have to observe it with them (69). Niccolo Machiavellis The Prince is arguably the most famous and controversial political science book of all time. Many think of Machiavelli as synonymous with evil. The father of the idea that the ends will always justify the means, the term Machiavellian has become connected with selfish, brutal, or immoral actions. Machiavelli has long been associated with totalitarianism, conquest, and tyranny. But is this label deserved? Is The Prince a book that expresses evil? Many argue that Machiavelli is not a teacher of evil, but bases his teachings on a pragmatic realism that has long been a part of politics. He would certainly not be the first to have such a view, and he is certainly not the last. In promoting his realistic view of power and politics, Machiavelli does not teach evil, instead, he uses necessity and practicality as the criteria in which his thought is based on. In this way we see that he does not put the matter of good or evil as a priority in his actions, but uses practical methods to make his choice in each instance as to what is necessary and beneficial. Through the exploration of the basis for Machiavellis treatment of ethics and his agenda for writing The Prince we see that his teachings are not evil, but based on political pragmatism and necessity. He himself makes it clear as he advises the Prince on how to be able to do what is necessary whether it is good or evil. And so he needs to have a spirit to change as the winds of fortune and variations of things commanded him, and as I said above, not depart from good, when possible, but know how to enter into evil, when forced by necessity (70). Machiavelli treats morality and prudence not as guides for a Prince, but as tools to use for political gain. In this way we see that Machiavelli is not preaching evil, which would be to encourage the opposite of virtue and morality, but to use them in different ways depending on the situation. Virtue is a key concept when discussing moral living and actions, and vice is the opposite of virtue. The concepts of virtue and vice are age-old ideas ingrained within human society. But the traditional view of virtue and vice, laid out by such thinkers as Aristotle and Plato, is changed to fit the pursuit of power in Machiavellians The Prince. Classic virtue comes from a criterion based on just and beneficial interaction, while pursuing an end, within a civil society. This interaction can involve the impact of an individual on another individual, a citizen and a state, or even an impact an individual has upon himself. Thus a man who sacrifices his life to save his friend, city, or beliefs is thought of as virtuous. On the other hand the reciprocal of this action would be vice, a man who sacrifices his friend, city or beliefs to preserve his life may be viewed as possessing a vice. Virtue finds its anchor in morality and ethics, and upholds that, it is focused on preserving qualities like justice and harmony. The change in the Machiavellian code of morality comes as a result as result of an entire shift in what the foundation of this morality is built on, namely the ends being pursued. The Machiavellian concept of virtue not only divorces virtue completely from its ethical foundation, but places it on a foundation of ability to execute what is necessary in order to achieve what is desired. In this case what is desired is power, which is to be strictly maintained and used to achieve glorious ends, whatever they may be. From this foundation of the pursuit and maintenance of power comes the Machiavellian outlook on everything else, and is the reason in which he is able to separate ethics from politics. Morality in its classical sense would only serve to get in the way of power and prudence; it creates unnecessary dilemmas between what is politically necessary and morally correct, interfering with being a wise ruler. Therefore the Prince must take the necessary actions regardless of their moral ramifications. ? [If] one considers everything well, one will find something that appears to be virtue, which if pursued would be ones ruin, and something else appears to be vice, which if pursued results in ones security and well-being (62). Machiavelli removes the foundation of prudence and virtue from morality, and reinterprets them in regards to necessity and power. Correct policy within The Prince is based on the Machiavellian conception of virtue and prudence. Stemming from this, Machiavelli at times refers to virtue and prudence in their classical definitions, pertaining to high morality, and just actions. But at other times in The Prince, he refers to them as directly pertaining to the proper execution of power. For example he often compares a rulers success, not morality, with virtue. No matter how brutal the ruler, if he is able to hold power well then he is virtuous. Prudence is thought of as being careful, observant and logical in the classical sense. But Machiavelli uses it to describe a ruler who is very sharp, decisive, and makes the correct choices. A prudent lord, therefore, cannot observe faith, nor should he, when such observance turns against him, and causes that made him promise have been eliminated (69). It therefore would be prudent for a ruler to massacre a rebellion, if it meant the ultimate preservation of power. In this case necessity calls for action, even if those actions go against classical morality. A ruler, who has correct judgment and knows what is the best course of action, would take the proper measures to stop the rebellion and pay no attention to the morality of his actions. The ends in this case change the conception of the codes in which the means are to be judged by; no longer is the end such universally beneficial ideas of peace and justice, but power and conquest. Virtue and prudence to Machiavelli hold meaning only in the sense of ability and accomplishment. To Machiavelli cunning would be a virtue, as would decisiveness while wielding power. A vice for a ruler would be stupidity, or ignorance of ones own subjects. Something that is virtuous in the classical sense would only be followed if it were deemed compatible with the situation, and did not in anyway undermine the ends being pursued. The Machiavellian view is based on and around a realism seen in politics and history, and is amoral. The entire intent of the book was to write a pragmatic and realistic approach to dealing with power, not a lesson in high virtue and morality. He states, But since my intent is to write something useful to whoever understands it, it has appeared to me more fitting to go directly to the effectual truth of the thing than to the imagination of it (61). He finds that necessity is what guides most actions. ? [Because] men will always turn out bad for you unless they have been made good by a necessity(95). A military training manual written on the best way to execute killing would not go into a debate on whether or not killing is right or wrong. The manual would be almost amoral and not go into the debate, those who have already settled that debate in their minds would read it, and the same follows for The Prince. One should not associate the teachings of The Prince as something that Machiavelli himself feels is moral, just and proper, but rather what history has shown to be the ideal and efficient way to handle power. Survivor in the political world creates certain necessities, and forces individuals to undertake certain actions in order to ensure success. ? [for] it is so far from how one lives to how one should live that he who lets go of what is done for what should be done learns his ruin rather than his preservation (61). The purpose of The Prince is not a guide to being a moral Prince, but how to abide by necessity and pragmatism. Just as a purpose of the war manual would not be the ethics of killing. The manual would not debate war as a just or unjust means to an end, but instead would accept it as reality, and try to approach it with the same harsh reality. In fact the entire purpose of The Prince was to serve as a guide to restore Italy to greatness, a path that can only be achieved by power. He uses examples from throughout history of rulers who acted successfully when faced with a situation, drawing from these examples he shows the correct actions that a Prince should follow. There is no room for being a virtuous and honest ruler, as it will be at odds with the reality of political life. Because he uses realistic examples from history, we see his true pragmatic nature; his ultimate goal is the achievement of his ends, not the correct actions. Machiavelli uses the actions of past rulers whether or not they are just, as long as they prove successful for the ends being pursued. Machiavelli himself states that he has taken a realist approach, and outlines the reason as to why he has taken this approach, as being necessary and efficient. If one were to examine the way in which Machiavelli looks towards allowing freedom towards his subjects, or the treatment of honesty toward his subjects, one would conclude that Machiavelli himself was not in favor of these things. It would be a mistake to reach this conclusion, it is not so much that he is against freedom or truth, but he realizes that these things will damage and undermine ones power the goal and focus of The Prince. For a man who wants to make a profession of good in all regards must come to ruin among so many who are not good (61). Machiavelli is not favoring things that we would view as brutality, deception and in many cases evil; instead he is using them as tools in an act to obtain what he desires. Machiavelli spends much time on the behavior that a Prince should follow in order to be successful. Although Machiavelli goes through many different traits and practices a ruler should follow, the two that he deems very necessary are to be loved and to be feared. Machiavelli stresses that a ruler should seek to be loved, but above all make sure that he is not hated, because if he is hated it will ultimately be his undoing. This follows the Machiavellian line of pragmatism and necessity; it is not motivated by a lust for evil or deceit, but is something that many people who are appalled by his amorality would agree with. If Machiavelli were a teacher of evil he would never make such a statement. A leader who is feared will ultimately deter any action against him by his ability to control the actions of the people with his fear. . Morality will only serve to hamper a princes abilities. This has to be understood: that a prince, especially a new prince, cannot observe all those things for which a men are held good, since he is often under a necessity, to maintain his state, of acting against faith, against charity, against humanity, against religion. And so he needs to have a spirit disposed to change as the winds of fortune an variations of things command him? (70). The most efficient way to deal with a problem is usually not the moral way, and Machiavelli time and time again points to this as the reason in which he chooses the path he does. His book is not for idealists, and as he states idealists rarely accomplish what they want. His book is for the guidance of a Prince towards power, and the ability to maintain that power. All of these things follow the strict Machiavellian criteria of necessity for power. Whether these things are good or evil in our eyes is not the topic of discussion for Machiavelli, therefore it does not concern him, what he seeks is the necessary actions to gain and maintain power. Hence it is necessary to a prince, if he wants to maintain himself, to learn to be able not to be good, and to use this and not use it according to necessity (61). This doctrine of pragmatism within The Prince was not invented by Machiavelli, one can look at it as merely an expression of the practical political ideas of his time, and perhaps forever. We see that Machiavelli puts forth an ethics of political convenience. It does not hold to or allow itself to be hampered by morality, virtue, or Christian values, but allows them only when opportune and beneficial. The Princes doctrine supports actions including murder, deceit, and betrayal given that the Prince will benefit from it. The ethics found within Machiavelli is entirely based upon a realistic outlook upon the political world and caters to political convenience. To Machiavelli this moral code of convenience and pragmatism is a political necessity. He states that when it is politically necessary to act in accordance with a vice then one must do so in the interest of power. And furthermore one should not care about incurring the fame of those vices without which it is difficult to save ones state? (62). He holds that the world will swallow up idealists, and that it is unrealistic to expect someone to exercise morality when dealing with a political situation, or their enemies. Through the exploration of the basis for Machiavellis treatment of ethics and his agenda for writing The Prince we see that his teachings are not evil, but based on political pragmatism and necessity. Machiavelli treats morality and prudence not as guides for a Prince, but as tools to use for political gain. By removing the foundation of prudence and virtue from morality, he reinterprets them in regards to necessity and power. The amoral Machiavellian view centers on a realism seen in politics and history. The entire purpose of The Prince is not a guide to being a morally, but a guide to necessity and pragmatism. This doctrine of pragmatism within The Prince was not invented by Machiavelli, but used masterfully by him to craft a powerful instructional book on power. The concept of morality is not attacked or thrown away, but put aside and only referred to or used when necessary. In the real world few will be honest, or moral, so it becomes necessary for one to also set these things aside as it will conflict with ones ends. This is the reality of politics and Machiavelli recognizes this and refers to it many times in the book as the reason to why he chooses the path he does and not out of evil or some wish for deceitful actions. Political reality deems his method necessary, thus it is a realistic and pragmatic way to approach the subject.

Project Management and Innovation Past and Future Essay Example for Free

Project Management and Innovation Past and Future Essay It is unsurprising that development of innovation is often run as a project. Yet, theoretically both project management and innovation studies have evolved over time as distinctively separate disciplines. In this paper we make an attempt to conceptualize the innovation project management and past as well as future of same. By doing so, we contribute to the nascent academic debate on the interplay between innovation and project management. This paper is concerned with three topics and the interplay between them, namely â€Å"Innovation†, â€Å"Research and Development (RD)† and â€Å"Project Management†. The interest in these topics has exploded recently as they emerged both on the policy agenda and in the corporate strategies. The contribution of technological innovation to national economic growth has been well established in the economic literature. In the last couple of decades, new technologies, new industries, and new business models have powered impressive gains in productivity and GDP growth. While originally there was a tendency to equate RD and innovation, contemporary understanding of innovation is much broader than purely RD. RD is one component of innovation activities and knowledge creation among others. Innovation emerges as a pervasive and complex force, not only in the high-tech sectors in advanced economies, but also as a phenomenon existing in low-tech industry of developing, or catching-up economies. Still, the link between RD and innovation is often at the core of the innovation studies. Presently, we are witnessing â€Å"projectification† of the world as a growing number of specialists organise their work in projects rather than on on-going functional basis. The connection between RD and project management has a long history. Most tools of project management have been developed from the management of RD, often with military purposes (Lorell, 1995). The most vivid example of managing RD projects in the public sector is the PRINCE2 method (UK OGC, 2005). Due to the above mentioned difference between RD and innovation, RD projects should be distinguished from innovation projects too. Innovation is a non-linear process, not necessarily technology-led and may not necessarily result from formal RD investments. Innovation is the exploration and exploitation of new ideas and recombination of existing knowledge in the pursuit of sustained competitive advantage. Besides, both innovation and RD projects by their nature differ from conventional projects. Thus, there is a need to examine the Innovation Project Management (IPM) as a distinctive area of managing innovation in projects, using the tools and methods of the project management. The Evolution of Project Management Theory The genesis of the ideas that led to the development of modern project management can arguably be traced back to the protestant reformation of the 15th century. The Protestants and later the Puritans introduced a number of ideas including ‘reductionism’, ‘individualism’ and the ‘protestant work ethic’ (PWE) that resonate strongly in the spirit of modern project management. Reductionism focuses on removing unnecessary elements of a process or ‘ceremony’ and then breaking the process down into its smallest task or unit to ‘understand’ how it works. Individualism assumes we are active, independent agents who can manage risks and create ideas. These ideas are made into ‘real things’ by social actions contingent upon the availability of a language to describe them. The PWE focuses on the intrinsic value of work. Prior to the protestant reformation most people saw work either as a necessary evil, or as a means to an end. For Protestants, serving God included participating in and working hard at worldly activities as this was part of God’s purpose for each individual. From the perspective of the evolution of modern project management, these ideas were incorporated into two key philosophies, Liberalism and Newtonianism. Liberalism included the ideas of capitalism (Adam Smith), the division of labour, and that an industrious lifestyle would lead to wealthy societies Newton saw the world as a harmonious mechanism controlled by a ‘universal law’. Applying scientific observations to parts of the whole would allow understanding and insights to occur and eventually a complete understanding. LITERATURE REVIEW In this paper we seek to establish bridges between two distinctive disciplines – project management and innovation management (innovation studies). Despite seemingly interrelated nature of both subjects, these two research domains have been developing relatively isolated from each other. Innovation Studies Innovation studies are rooted in the seminal writing of Joseph Schumpeter in the 1920s-1930s (e. g. Schumpeter, 1934), whose ideas started to gain popularity in the 1960s, as the general interest among policymakers and scholars in technological change, RD and innovation increased. The field formed as a distinctive academic discipline from the 1980s. Scholars like Richard Nelson, Chris Freeman, Bengt-Ake Lundvall, Keith Pavitt, Luc Soete, Giovanni Dosi, Jan Fagerberg, Bart Verspagen, Eric von Hippel and others have shaped and formed this discipline. The seminal publications in the area include, inter alia, Freeman (1982), Freeman and Soete (1997), Lundvall (1992), Nelson and Winter (1977, 1982), von Hippel (1988). Regarding the definition of innovation – a general consensus has been achieved among innovation scholars who broadly understand this phenomenon as a transformation of knowledge into new products, processes and services. An in-depth review of the innovation literature is beyond the scope of this paper (refer to Fagerberg (2004) for such analysis). Our intention is to outline main directions of research. In a recent paper, Fagerberg and Verspagen (2009) provide a comprehensive analysis of the cognitive and organizational characteristics of the emerging field of innovation studies and consider its prospects and challenges. The authors trace evolution and dynamics of the field. Reflecting the complex nature of innovation, the field of innovation studies unites various academic disciplines. For examples, Fagerberg and Verspagen (2009) define four main clusters of innovation scholars. They are â€Å"Management† (cluster 1), â€Å"Schumpeter Crowd† (cluster 2), â€Å"Geography and Policy† (cluster 3. 1), Periphery† (cluster 3. 2) and â€Å"Industrial Economics† (cluster 4). For the purposes of our analysis we shall have a closer look at the â€Å"Management† cluster, since it is here where the connection between innovation and Project Management can be found. In fact â€Å"Management† is the smallest cluster within the entire network of innovation scholars, consisting of only 22 scholars, mainly sociologists and management scholars, with a geographical bias towards the USA. This small number of scholars (22) is in sharp contrast with the biggest clusters ? â€Å"Geography and Policy† (298 scholars) or â€Å"Schumpeter Crowd† (309). In terms of publication preferences, apart from Research Policy, the favorite journal for innovation scholars, members of â€Å"Management† cluster see management journals as the most relevant publishing outlets, particularly Journal of Product Innovation Management, Management Science and Strategic Management Journal. Fagerberg and Verspagen (2009, p. 29) see a strong link between innovation and management and provide a following description: â€Å"Management is to some extent a cross-disciplinary field by default and firm-level innovation falls naturally within its portfolio. †¦. So between innovation studies and management there clearly is some common ground†. Project Management The project management as a human activity has a long history; e. g. construction of Egyptian pyramids in 2000 BC may be regarded as a project activity. However, the start for the modern Project Management era, as a distinctive research area, was in the 1950s. Maylor (2005) determines three major stages of the PM historical development. Before the 1950s, the PM as such was not recognized. In the 1950s, tools and techniques were developed to support the management of complex projects. The dominant thinking was based on â€Å"one best way† approach, based on numerical methods. The third stage, from the 1990s onwards is characterized by the changing environment in which projects take place. It is more and more realized that a project management approach should be contingent upon its context. It is also noted that a shift is observed over time in development of project management – from focus on sole project management to the broader management of projects and strategic project management (Fangel, 1993; Morris, 1994; Bryde, 2003). Reflecting these changes in the managerial practices, the body of academic literature on PM has evolved and burgeoned. International Journal of Project Management and Project Management Journals became the flagship publication outlets for PM scholars and practitioners. A large number of (managerial) handbooks outlining the methods and techniques of PM have been published, e. g. Andersen et al (2004), Bruijn et al (2004) Kerzner (2005), Maylor (2005), Meredith and Mantel (2006), Muller (2009), Roberts (2007), Turner (1999), Turner and Turner (2008). Despite a growing number of publications, there is no unified theoretical basis and there is no unified theory of project management, due to its multidisciplinary nature (Smyth and Morris, 2007). Project management has a more applied nature than other management disciplines. Although the PM has formed as a distinct research field, there is no universal, generally accepted definition of a project and project management. Turner (1999) develops a generic definition of a project: A project is an endeavor in which human, financial and material resources are organized in a novel way to undertake a unique scope of work, of given specification, which constraints of cost and time, so as to achieve beneficial change defined by quantitative and qualitative objectives. There have been several attempts to provide an overview of the state-of-the-art research in PM and outline its trends and future directions (e. g. , PMI, 2004; Betts and Lansley, 1995; Themistocleous and Wearne, 2003; Crawford et al, 2006; Kloppenberg and Opfer, 2002). In a recent article, Kwak and Anbari (2009) review relevant academic journals and identify eight allied disciplines, in which PM is being applied and developed. These disciplines include such areas as Operation Management, Organizational Behavior, Information Technology, Engineering and Construction, Strategy/Integration, Project Finance and Accounting, and Quality and Management. Notably, one of these eight allied disciplines is â€Å"Technology Application / Innovation / New Product Development / Research and Development†. The authors found that only 11% of journal publications on the subject of project management fell under the â€Å"Innovation† heading. Yet, importantly, this area showed sustained upward interest, and hence the number of publications, since the 1960s. Overall, Kwak and Anbari (2009) conclude that the mainstream PM research proceeds largely in the â€Å"Strategy / Integration / Portfolio Management / Value of PM / Marketing† direction (30% of all publications examined by the authors). PM AND INNOVATION: THE PAST Projects in one form or another have been undertaken for millennia, but it was only in the latter part of the 20th century people started talking about ‘project management’. Earlier endeavors were seen as acts of worship, engineering or nation building. And the people controlling the endeavors saw themselves as members of groups focused on specific callings such as generals, priests and architects. There is an important distinction to be drawn here between projects: ‘a temporary Endeavour undertaken to create a unique product, service or result’ and the profession of project management; or at least ‘modern project management’. For a discipline to be considered a profession a number of attributes are generally considered necessary; these are: †¢ Practitioners are required to meet formal educational and entry requirements, †¢ autonomy over the terms and conditions of practice, a code of ethics, †¢ a commitment to service ideals, †¢ a monopoly over a discrete body of knowledge and related skills. Within this context, project management is best considered an ‘emerging profession’ that has developed during the last 30 to 40 years. Over this period project management associations around the world have developed a generally consistent view of the processes involved in ‘project management’, encoded these views into ‘Bodies of Knowledge’ (BoKs), described competent behaviors and are now certifying knowledgeable and/or competent ‘Project Managers’. Certainly, if ‘modern project management’ does not qualify as a fully fledged profession at this point in time, it will evolve into one fairly quickly. The Evolution of Project Management Tools The central theme running through the various project management concepts is that project management is an integrative process that has at its core, the balancing of the ‘iron triangle’ of time, cost and output. All three facets must be present for a management process to be considered project management. The evolution of cost and scope control into relatively precise processes occurred during the 14th and 18th Centuries respectively. Time management lacked effective measurement and control until the emergence of ‘critical path’ scheduling in the 1960s. The branch of management that gave rise to the development of the Critical Path Method of scheduling was Operational Research (OR). OR is an interdisciplinary science which uses methods such as mathematical modeling and statistics to assist decision making in complex real-world situations. It is distinguished by its ability to look at and improve an entire system, rather than concentrating on specific processes which was the focus of Taylor’s ‘scientific management’. The growth of OR was facilitated by the increasing availability and power of computers which were needed to carry out the large numbers of calculations typically required to analyze a system. [pic] Figure 1. The Iron Triangle The first ‘project’ to add science to the process of time control was undertaken by Kelley and Walker to develop the Critical Path Method (CPM) for E. I. du Pont de Numours. In 1956/57 Kelly and Walker started developing the algorithms that became CPM. The program they developed was trialled on plant shutdowns in 1957 And the first paper on critical path scheduling was published in 1959. The critical meeting to approve this project was held on the 7th May 1957 in Newark, Delaware, where DuPont and Remington Rand jointly committed US$226,400 to fund the project. The foundations of modern project management were laid in 1957; but it took another 12 years before Dr Martin Barnes first described the ‘iron triangle’ of time, cost and output in a course he developed for his UK clients in 1969 called ‘Time and Money in Contract Control’. PM AND INNOVATION: THE FUTURE Defining PM for Future The biggest challenge facing project management is answering the question ‘what is a project? ’ Until this question can be answered unambiguously the foundation of project management cannot be defined. Current definitions such as the PMBOK’s ‘a temporary endeavor undertaken to create a unique product, service or result’ can apply to the baking of a cake as easily as the construction of a multi story building. They are both temporary endeavors to create a unique outcome but in all probability the baking of a cake is not a project. The traditional view of projects embedded in the various BoKs is derived from both the management theories underpinning ‘modern project management’ and the industrial base of early project management practitioners (construction / defense / engineering). The BoKs tend to treat projects as naturally occurring entities that need to be managed. This is an easy enough assumption when focusing on a building or a battle ship. There is a physical presence that occupies a defined space that needs creating in a defined timeframe to a defined scope. This view assumes project exists and project management is about transforming the raw materials of the project into a finished and useful form. Consequently it is the presence of the project itself that defines ‘project management’. The PMBOKs version is ‘The application of knowledge, skills, tools and techniques to project activities to meet project requirements’. However, if we cannot precisely define a ‘project’, there is no basis for project management and consequently no foundation for a useable theory of project management. Researchers and academics are starting to reverse the idea that a project is necessary for project management to exist and suggest it is the application of ‘project management’ to an endeavour that creates a project. Some of the ideas being discussed include: †¢ Projects as ‘Temporary Knowledge Organizations (TKOs)’. This school of thought focuses on the idea that the primary instrument of project management is the project team and the recognition that predictability is not a reality of project management. Some key ideas include: o The concept of the project team as a ‘complex adaptive system (or organism)’, living on the ‘edge of chaos’; responding and adapting to its surroundings (ie the project’s stakeholders) offers one new set of insights. o The idea of ‘Nonlinearity’ suggests that you can do the same thing several times over and get completely different results. Small differences may lead to big changes whilst big variations may have minimal effect. This idea questions the validity of ‘detailed programming’ attempting to predict the path of a project (the ‘butterfly effect’, constrained by ‘strange attractors’). The concept of ‘Complex Responsive Processes of Relating’ (CRPR) puts emphasis on the interaction among people and the essentially responsive and participative nature of the human processes of organizing and relating. According to the modern trend in these field, consequence of accepting these theories is to shift the focus of ‘project management’ from the object of the project to the people involved in the project (ie, its stakeholders), and to recognize that it is people who create the project, work on the project and close the project with all innovation. Consequently the purpose of most if not all project ‘control documents’ such as schedules and cost plans shift from being an attempt to ‘control the future’ this is impossible; to a process for communicating with and influencing stakeholders to encourage and guide their involvement in the project. Notwithstanding the advantages of project management, it would be unreasonable to expect all innovation to be carried out through projects. In fact, many ideas are generated by employees in a company on a regular basis, not only within project teams. Thus, there is certainly a room for functional, on-going organization of innovation process. Even more so, in certain situations project management can be detrimental to innovation. Aggeri and Segrestin (2007) show that the recent project development methods in automotive industry can induce negative effects on collective learning processes and these effects have managerial implications for innovative developments. Argument for Managing Innovation in Projects The origins of project management in the manufacturing and construction ndustries determine an engineering perspective, viewing a project as a task-focused entity, proceeding in a linear or similar way from the point of initiation to implementation. This view prevailed until comparatively recently. This view is seemingly in stark contrast with the nature of innovation. It is increasingly being acknowledged that the innovation is a complex non-linear process. The earliest view on innovation process as a pipeline model (whereby a given input is transformed to a specific output) has been largely abandoned. Presently, however, project management is increasingly recognised as a key generic skill for business management (Fangel, 1993), rather than a planning-oriented technique or an application of engineering sciences and optimization theory, in which project management has its roots (Soderlund, 2004). The â€Å"management by projects† has emerged as general mode of organizing for all forms of enterprise (Turner 2003). This new conceptualization of project management enables to embrace the non-linear nature of innovation. Even a creative and non-linear nature of innovation is often characterized as an organizational or management process, rather than spontaneous improvisation. Davila et al. (2006) state, Innovation, like many business functions, is a management process that requires specific tools, rules, and discipline. Hence, a project, with its defined objective, scope, budget and limitations, can be an appropriate setting of innovation. The other closely linked element in the new world of project management with innovation is embracing uncertainty. Writing on paper cannot control the future! Schedules do not control time; cost plans do not control costs. Plans outline a possible future and provided a basis for recognizing when things ‘are not going to plan’. For innovation project management to succeed, both project and senior management are going to need to embrace uncertainty and learn skills to manage it rather than expecting predictability and inevitably being disappointed by the variability of ‘reality’ as it unfolds. Challenges of Empirical Studies Scarcity and unreliability, or even lack of data poses a big challenge in research in both innovation and project management. A macro-level research n PM is obstructed by the lack of data on the number of projects, carried out by firms and public institutions, and their characteristics. Problems stem from the definition of a project and the non-disclosure policy of most companies. In such circumstances, PM research has tended to rely on case-studies or on small-scale tailor-made surveys. There i s a widely acknowledged lack of large-scale empirical research in PM (Kloppenborg and Opfer, 2002; Soderlund, 2004). It is claimed that the Independent Project Analysis (IPA) is the market leader in quantitative analysis of project management systems, i. . in project evaluation and project system benchmarking (IPA, 2007). All IPA analyses and research are based on proprietary databases. As of mid-2009, IPA’s databases contain more than 11,000 projects of all sizes ($20,000 to $25 billion) executed across the world. Each year, approximately 1,000 projects are added with representation from the many different industries served by IPA. Each project in our databases is characterized by over 2,000 project attributes, including technology, project scope, project type, project costs, year of authorization, and geographical location (IPA 2009). All information contained in the IPA databases is carefully protected and kept as confidential proprietary data (IPA, 2009). Due to the issues of confidentiality, access for academic researchers is restricted. In the innovation field, academic community has been increasingly using several sources of data, such as granted patents, tailor-made surveys, as well as other data provided by national statistical offices. European research on innovation uses several instruments to obtain data on innovation indicators and to assess national innovation performance. The two main instruments are the Community Innovation Survey (CIS) and the European Innovation Scorecard (EIS). As of 2009, five successful CIS surveys have been carried out: CIS1 (1992), CIS2 (1996), CIS3 (2001), CIS4 (2004) and CIS 2006. Each new round was characterized by an improved questionnaire, in line with the evolution of understanding of the phenomenon of innovation. The more recent surveys embraced understanding of innovation in a broader sense, and for example, paid more attention to service innovations. Further, it is expected that the future surveys will also include management techniques, organizational change, environmental benefits, and design and marketing issues. We argue that, taken into consideration the growing relevance of innovation projects, a clearer and explicit wording should be used in CIS questionnaire for determining whether innovation is organized and carried out in projects or functionally. CONCLUSIONS Innovation studies and project management as distinctive disciplines have been developing in a relative isolation from each other. The analysis in innovation studies domain has rarely explored the mechanisms and patterns of innovation in projects in contrast to traditional (functional or hierarchical) organization. However, since innovation management in companies is increasingly organized in projects, it is of utmost importance to directly address the interplay between innovation management and project management. In this paper, based on the relevant literature and insights from practice, we conceptually examined the relationships between these two research areas aiming at bridging the gap between them. It is widely acknowledged within the discipline of innovation studies that there is a high percentage of failure of innovation initiatives, in other words, failure is inevitable when managing innovation. The key skill set of the competent project manager will be identifying and managing stakeholder expectations using tools such as the Stakeholder circle to help identify the project’s key stakeholders. Innovation is perceived as a luxury, not as a necessity. Therefore, it is of high priority to manage innovation effectively and efficiently with constrained budgets.