Seven signs of ethical collapse

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Seven signs of ethical collapse

  1. 1. The Seven Signs of EthicalCollapse: How To SpotMoral Meltdowns inCompanies . . . Before It’sToo Late A Focus on Ethical Culture Professor Marianne M. Jennings W.P. Carey School of Business
  2. 2. Companies That Fell; Round 2 for some• Adelphia • AT&T• Boeing • Xerox• Cendant • Kmart• Computer Associates • Citigroup• Tyco International • Lucent• General Electric • ImClone• Global Crossing • Arthur Andersen• Merrill Lynch • HealthSouth• Enron • Royal Ahold• Qwest • Parmalat• WorldCom • Apollo Group• Royal Shell • Marsh & McLennan• Nortel • AIG (Putnam)(Mercer)• Krispy Kreme • Fannie Mae• Refco • KPMG• Hewlett-Packard • GM• UnitedHealth Group • The stock options (130 companies)
  3. 3. Some sample fines . . .• Boeing • $615 million fine• Royal Shell • $120 million fine• AIG • $1.5 billion for accounting misstatements• HealthSouth • $1 billion restatement • $100 million fine• Tenet • $725 million settlement • Plus interest, for total of $900 million• HCA • $1.7 billion in civil and criminal fines• UnitedHealth Group• Parmalat 3
  4. 4. I. What can we learn? 4
  5. 5. a. These were not close calls.• Capitalizing ordinary expenses• Backdating options• Embezzlement• Insider trading• Fraud• Spying
  6. 6. b. We’ve been down this roadbefore."Where were these professionals ... when these clearly improper transactions were being consummated? Why didnt any of them speak up or disassociate themselves from the transactions?" Judge Stanley Sporkin Lincoln Sav. & Loan Assn v. Wall, 743 F. Supp. 901, at 920 (D.C.Cir.1990).
  7. 7. So, what makes good people atgreat companies do reallydumb and unethical things? Knowing business history and that these were not close calls, how do these ethical, legal, and, too often, financial collapses occur?
  8. 8. II. Thoughts on commonthreads among the collapsedcompanies and antidotes forprevention
  9. 9. Common Traits in Ethical Collapse1. Pressure to maintain numbers2. Fear and silence3. Young ‘uns and a Bigger-Than-Life-CEO4. Weak board5. Conflicts6. Innovation like no other company7. Goodness in some areas atones for evil in others
  10. 10. 1. Pressure to MaintainNumbers • High ROE; double-digit growth, etc. • Pledges to continue the performance
  11. 11. Pressure Antidotes• Antidote: Help employees distinguish between superior skill, foresight and industry and cheating.• Antidote: Watch unconsciously sent signals. • “Find a way.” • “Whatever it takes.” • “Sharpen your pencil.”
  12. 12. 2. Fear and Silence• There is never a problem with employees missing the ethical issues• Always a problem of not raising the issue, being ignored, not having an avenue for raising the issue, or being fired for raising the issue
  13. 13. Ethics at Work KPMG 2000 Survey KPMG 2005 Survey • 74% of employees observed a• 76% of employees observed a high level of illegal or unethical high level of illegal or unethical conduct at work in the past 12 conduct at work in the past 12 months months• 49% of employees observed • 50% of employees observed misconduct that, if revealed, misconduct that, if revealed, would cause their firms to would cause their firms to “significantly lose public trust” “significantly lose public trust”
  14. 14. State of Ethics• 65% DIDN’T REPORT (1999)• 37% DIDN’T REPORT (2003)• 41%-50% DIDN’T REPORT (2006)
  15. 15. Why didn’t they report? • 96% feared being accused of not being a team player (same 1999, 2003) • 81% feared corrective action would not be taken (2005 data leaning toward this as #1) • 68% feared retribution from their supervisors • 57% feel pressure to do “whatever it takes” to meet business targets • 49% believe they are rewarded for results, not the means by which they achieve them (SHRM and industry surveys)
  16. 16. Merck• “I just can’t wait to be the one to present those results to senior management.” Dr. Alise Reicin In a 1997 e-mail on “C.V. events” (cardiovascular effects of Vioxx) Merck had not yet begun selling Vioxx• “Obstacles” – reference for negative CV events data on Vioxx; used in videotaped sales training for Merck sales reps• “Dodgeball” – term used to describe what sales reps should do when asked questions about CV events and medical data
  17. 17. Fear and Silence Antidotes• Anonymous reporting• Response and follow-up• Review by board• Disciplinary actions• Reward system (guidelines now have both carrot and stick requirements)
  18. 18. Remember two criticalelements:1. Tone at the top and the importance of example2. Enforcement: Must be absolute, unequivocal, egalitarian 19
  19. 19. Enforcement is Absolute,Unequivocal, and Egalitarian• “If the janitor had taken the liquor, he would have been fired.” Student’s observation on discussion of tolerance for a manager who “borrowed” three bottles of vodka on a Friday night for her birthday party after work and brought in replacements on Monday morning 20
  20. 20. 3. Young ‘Uns and Bigger-than-Life CEO• CEO a full generation older than direct reports and/or lack of depth in direct reports• MBAs (senior management)• “I hire them just like me: smart, poor and wants to be rich.” Dennis Kozlowski Former CEO, Tyco
  21. 21. A Look At Your Future WorkForce• 60% of high school students cheated on an exam in the last year• 62% of high school students lied to a teacher in the past year• 82% of high school students lied to their parents in the past year• 33% copied something from the Internet• 28% stole from a store in the past year• 23% stole from a parent or relative Josephson Institute 2006 22
  22. 22. Iconic CEO and Young ‘unsAntidotes• Always question the icon• Help the young ‘uns: ethics requires daily effort, reinforcement, and training• Without it, you slip – Everyone believes they are ethical!• Introspection is the key
  23. 23. High Ethical Self-Esteem Living in Denial and Slipping Into Complacency 24
  24. 24. Guess who said it?"Ethical standards and practices in the workplace are the pillars of successful employment and ultimately the benchmark for a strong business."
  25. 25. Guess who said it!“it is the responsibility of management to operate the company in a competent and ethical manner. Senior management is expected to know how the company earns its income and what risks the company is undertaking in the course of carrying out its business. Management should never put personal interests ahead of or in conflict with the interests of the company.”
  26. 26. Guess who said it!“We understand why the American people are stunned and outraged by the failure of corporate leadership and governance at Enron. It is wholly irresponsible and unacceptable for corporate leaders to say they did not know – or suggest it was not their duty to know – about the operations and activities of their company, particularly when it comes to risks that threaten the fundamental viability of their company.”
  27. 27. The Survey on Lying• 52% said lying was never justified• 66% said lying could be justified• 65% would lie to save someone’s feelings• 40% said they’d never lied or cheated• 10% of the 40% said they had told a lie in the past week• 40% said it is “okay” to exaggerate a story “to make it more interesting”• 33% said it is “okay” to lie about your age (only to make yourself younger, though, not for purposes of drinking age)• 33% said it is “okay” to lie about being sick to take a day off AP Poll, June 23-27, 2006 28
  28. 28. More on the survey• 77 Virginia college students monitored themselves for one week; only 1 reported telling no lies• 70 people in Charlottesville, VA did the same; 6 reported telling no lies• Most likely to lie: 18-29 College graduates Higher incomes 29
  29. 29. Statistics from the VoluntaryPayment System for BagelsPercentage of time people pay for the bagels? 30
  30. 30. Greatest decline in paymentrate? 31
  31. 31. After 1992 32
  32. 32. Greatest increase in paymentrate? 33
  33. 33. After September 11, 2001 34
  34. 34. Which companies had thehighest failure-to-pay rate?• Telecoms• Companies where security clearance is high• Mining and manufacturing 35
  35. 35. Which group had the highestfailure-to-pay rate?• Front-line employees• Executives• Sales 36
  36. 36. What do Finova, Nortel,Microstrategy, ComputerAssociates, and Fannie Mae allhave in common? 37
  37. 37. Accounting Improprieties andMassive Restatements Also ranked in Fortune’s Top 100 Companies to Work For – Some for three years running 38
  38. 38. 4. Weak Boards• Experience• Age• Conflicts • A. Consulting • B. Related parties transactions/interests • C. Philanthropy • D. Complexity of relationships
  39. 39. Quotes That Haunt!“Most of us made it to the chief executive position because of a particularly high degree responsibility . . . We are offended most by the perception that we would waste the resources of a company that is a major part of our life and livelihood, and that we would be happy with directors who would permit waste. . . So as a CEO I want a strong, competent board.” 40
  40. 40. Dennis Kozlowski – While CEO of Tyco and donating millions of Tyco money to charities, including his wife’s trainer and his decorator 41
  41. 41. Quotes That Haunt! “Boards should be absolutely certain that the company is run properly from a fiduciary standpoint in every degree. I am a great believer in the audit committee having full access to the auditors in every way, shape, or form.” Fortune , Nov. 18, 2002, p. 34. 42
  42. 42. Al Dunlap while CEO of now bankrupt Sunbeam 43
  43. 43. Weak Board Antidotes• Dig deep on conflicts• Don’t fall for governance myths: • Stock ownership • 10-year limits • Mandatory retirement • Nomination by shareholders• Challenge officers, but don’t micromanage• Pay attention to perks• Know industry accounting issues• MBWA
  44. 44. 5. Culture of ConflictsACTIVITY PERCENTAGE OF COMPANIESPurchases or sales of insiders’ products or services 47%Loans to executives 39%Directors who sell legal or banking services to company 35%Buying, selling, lending to or investing in companiesinsiders own 21%Hiring relatives 14%Director consulting arrangements 11%Leasing, selling or buying airplanes to or from insiders 10%Company borrowing from insider or insider’s company 6%SEC Report 2003
  45. 45. United HealthGroup Conflicts• Head of compensation committee managed CEO’s family trust• Members of compensation committee had their foundations receive donations from CEOs• Served on each others’ foundation boards 46
  46. 46. Conflicts Culture Antidotes• Believe in conflicts of interest!• Remember the two ways to manage a conflict: • Don’t • Disclose• Establish definitive rules and follow them.
  47. 47. 6. Innovation like no other
  48. 48. Guess who said it!“. . . standard accounting rules [are] not the best way to measure [CA’s] results because it had changed to a new business model offering its clients more flexibility.”
  49. 49. Sanjay Kumar, former CEO,Computer Associates; enteredguilty plea to fraud
  50. 50. A Few Quiz QuestionsWhat company was described in 2001 as having a delivery and marketing model that would change its industry?
  51. 51. HealthSouth Just emerging from bankruptcy
  52. 52. A belief that mundane rulesdon’t apply to them!• Dot-com mantra of EBITDA, “You know, if we hadn’t had all those expenses, we would have had earnings!”
  53. 53. 7. Goodness in some areasatones for evil in others• Culture of philanthropy• Culture of diversity• Culture of safety• Culture of environmentally conscious operations• Culture of volunteerism• “The Changing Lanes” Phenomenon of Moral Schizophrenia
  54. 54. Guess Who Said It!“It’s more than just money. You’ve got to give back to the community that supported you.”
  55. 55. John Rigas while CEO of Adelphia, who gave back to his daughter and others in business with him
  56. 56. Antidotes for the Good/EvilBalancing Act• Rethink popular notions of social responsibility and business• Rethink company activities, perceptions, realities• Be very skeptical about “doing well by doing good”• Rely on virtue ethics and simplicity: Truth, Honesty, Fairness, Egalitarianism
  57. 57. III. Thoughts on OverarchingPhilosophy and Attitudes
  58. 58. a. Watch the gradual slippagethat comes from complacency.
  59. 59. On Slipping . . .“You slip-slide into evil, he thought. You cross the line for just one moment. You cross back. You feel safe. You change things, you believe, for the better. The line is still intact. Okay, maybe there’s a smudge there now, but you can still see it clearly. And the next time you cross, maybe that line smudges a little more. But you have your bearings. No matter what happens to that line, you remember where it is. Don’t you?” Harlan Coben, Chapter 32
  60. 60. b. “We don’t think they beganas frauds.”• The problem of “A Simple Plan”• “Time-out” Antidote• “It’s a gray area.”
  61. 61. Questions About the GrayArea?• Why is it important that it be gray to you?• Is it legally gray?• Is it ethically gray?• Is it a good-faith disagreement?• Interpretation vs. loophole vs. nondisclosure of relevant information• Descriptors: “Aggressive opinion” “Aggressive accounting” “Financial engineering”
  62. 62. c. Ultimately, leadership andexample matter. Culture is to company what character is to individual. Culture comes from the collective actions and responses of leaders. Ultimately, culture depends on individuals’ character. The Missed Reassurance of the HP Crisis.
  63. 63. Layers of Responsibility forEthicsWho is responsible? Individual Action Company Regulations Government and Systems Regulations

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