(Response to Question 6)
By Eric Holmes
There is an existential risk for the company that fails to operate ethically. In the worst case, the company will be dismantled by the society whose rules it has broken, and the investments of all stakeholders will be lost. Within the last decade, frequent occurrences of corporate fraud have come to light, prompting calls for greater corporate accountability. When corporations fail ethically, they inflict damage on society and lead to the destruction of customer value. Business leaders should consider ethical risk as part of their overall business risk. In order to address this risk, leaders must first assess how their business activities are shaped by the ethical standards of society, and identify where their activities may encroach upon ethical boundaries. Furthermore, business leaders must seek a culture of transparency in order to allow scrutiny from inside and outside of the company, and encourage an open culture to detect and address ethical problems before they consume the business. This paper will outline these key roles of ethical leadership, and discuss examples of business leaders’ success or failure to perform these crucial functions.
Companies are simply groups of people operating within society, and they must adhere to the social contract just as individuals do. Increasingly society is unwilling to allow corporations to “externalize” their costs by polluting, corrupting, or otherwise circumventing their legal obligations (Bakan, 2004). In order for corporate leaders to fulfill their obligations under the law, they must maintain full awareness of what those obligations are vis-à-vis their key business activities. Leaders of US Airline companies for example, must carefully monitor Federal Air Agency (FAA) regulations, and ensure that their company complies. US drug companies must ensure that products sold to the public comply with the US Food and Drug Agency (FDA) regulations. When corporations behave in a neighbourly way, for example the well-studied 1982 Tylenol product tampering case, they reap a tremendous reward of good will. Johnson and Johnson, the makers of Tylenol, went out of their way to accept responsibility for public safety, and they gained public trust as a result (Rockoff, 2011). It is ironic therefore, that J&J failed to behave as admirably in a series of recent product scandals such as the recall of faulty hips by their subsidiary company, Depuy orthopaedics (Voreacos, 2011). In recent statements, the CEO of J&J failed to assume responsibility, and suggested that recent quality failures are merely an unfortunate and singular occurrence, despite a pattern of such failures spanning many years. As hard as it may be for management in the short term, the first responsibility of an ethical leader is to know the business and its fundamental relationship to abide as part of society. Only a leadership philosophy which acknowledges a corporation’s social responsibility will allow corporate stability in the long term.
The ability to remain open to outside scrutiny and peer review is an important sign of healthy ethical leadership. The now defunct Enron Corporation is an example of the failure of a business to permit reasonable scrutiny, and Enron’s leaders became increasingly obsessed with autonomy and secrecy as their fraudulent activities grew (Velasquez, 2002). Enron’s opaque corporate governance masked ever more brazen illegal schemes, and left unchallenged, corrupt activities multiplied and infected the entire organization. The board didn’t ask crucial questions, and employees were often intimidated into complying with whatever decisions were handed down from above.
Today, with the increased ease of fact checking fostered by a "Google culture", and especially in the aftermath of the 2008 financial crisis, it is increasingly hard to conceal corrupt dealings. Corporate leaders have no choice but to design transparency into their internal and external business processes. Inside of an organization, leaders can target fraud by employing the “fraud-triangle” model, described by Albrecht in 2009. Used as a method for detecting when fraud is likely to occur, the three prerequisites of fraud are described as follows:
Opportunity is linked to oversight and transparency, while pressure is linked to the corporate culture, and pressure from peers or supervisors which may induce employees to commit fraud. Rationalization is the ability of an employee to rationalize his actions based on some logical framework. The Enron Corporation provided all three of these necessary preconditions to fraud, but the most crucial component was opportunity due to lack of sufficient oversight.
Corporate transparency is enabled by a balanced culture which incorporates different ideas and viewpoints. Companies such as GE have not been without ethical scandals in the past, but they continue to thrive in the long run because of a balanced approach where managers are allowed to ask questions, make mistakes, and grow in capability. There is a strong culture of transparency and accountability within GE, and this has become a core competency of the organization (Bartlett, 2006). GE employees are subject to periodic review, and these practices continue up to the executive level. GE’s Management Development and Compensation Committee reviews CEO pay packages as well as the risks that senior managers are taking (GE, 2010). By putting board members firmly in overlapping oversight positions, GE maintains ethical risk management, and thus ensures the healthy long term performance of the company.
Ethical judgements are crucial to a corporation and therefore must be a key concern for a company’s leadership. Corporate leaders must ensure that they first comprehend the laws that society imposes on them, and then take steps to ensure organizational transparency and oversight to minimize ethical risk. By reviewing company practices and hard-wiring robust ethical safeguards into the organization, business leaders can better enable long term corporate success. As society applies increasing pressure on corporations to behave as upstanding citizens, the stage is set for a new age of corporate behaviour. It is incumbent on corporate leaders to respond to increasing scrutiny, and to make provisions for ethics as part of their other considerations of business risk.
References:
1. Albrecht W. S., Albrecht C. C., Albrecht C. O., and Zimbleman M., 2009. Fraud Examination 3rd Edition Mason: South-Western Cengage Learning.
2. Bakan, J., 2004. The Corporation New York: Simon and Schuster.
3. Bartlett, C. A., and McLean, A. N. 2006. GE’s Talent Machine: The Making of a CEO. Boston: Harvard Business School Press. 9-304-049
4. GE, 2010. The Management Development and Compensation Committee Key Practices [pdf] Available at: http://www.ge.com/pdf/company/governance/board/ge_management_dev_key_practices.pdf [accessed 11 December 2011]
5. Lawrence, P.R., 2010. Driven to Lead: Good, Bad, and Misguided Leadership San Francisco: John Wiley and Sons
6. Rockoff, J.D., 2011. J&J’s Quality Control Draws Scrutiny, Wall Street Journal, [online] Available at: <http://online.wsj.com/article/SB10001424052748704791004575520423587454454.html> [accessed 11 December 2011]
7. Velasquez M., 2002. What Really Went Wrong with Enron? A Culture of Evil? Markkula Center for Applied Ethics. Santa Clara University. Panel Discussion. [online] Available at: http://www.scu.edu/ethics/publications/ethicalperspectives/enronpanel.html [accessed 11 December 2011]
8. Voreacos, D., Nussbaum, A., and Farrell, G., 2011. Johnson & Johnson’s Quality Catastrophe Bloomberg Business Week [online] Available at: <http://www.businessweek.com/magazine/content/11_15/b4223064555570.htm> [accessed 11 December 2011]