GOVERNANCE AND CORPORATE LEADERSHIP
HEI-861

CRITICAL ANALYSIS OF THE

“HYPOTHETICAL” ROLE PLAY

“INTEGRITY IN DECISION MAKING”

Author: Paul Tero
Student ID: 6187919

Date: 2nd Nov, 2009

Contents
INTRODUCTION 2
BACKGROUND 3
THE AUSTRALIAN PERSPECTIVE 4
Australian Corporate Law 4
Corporate Governance Charter 4
INTEGRITY RESEARCH 5
PIECING TOGETHER THE INTEGRITY JIGSAW 6
CONCLUSIONS 6
REFERENCES 7

INTRODUCTION

This essay is structured along the lines of an inductive argument. Related categories of information are placed before the reader upon which conclusions are drawn.

It first introduces the reader to the concept of integrity and lays the basis for a working definition. This document then goes on to look at integrity from an Australian perspective, especially as it applies to corporate Australia, and then covers off some relevant research and observations.

Finally, this brief critical analysis applies this foundational knowledge to the issues at hand (nepotism, trading whilst insolvent, et al) and draws some specific conclusions.

BACKGROUND

Why integrity? Why is it important? Is it a key ingredient to successful company governance?

Integrity is defined (Dictionary.com, 2009) as “adherence to moral and ethical principles; soundness of moral character; honesty”. It has to do with the choices a man or woman makes. It is, by extension, a reflection of their inner being. As Jefferson is quoted as saying, “In matters of principle, stand like a rock; in matters of taste, swim with the current”, Thomas Jefferson (Quote Garden, 2009).

Transparency International (July, 2009), a global not-for-profit organisation that looks at the issues surrounding transparency of business & government define integrity as “behaviours and actions consistent with a set of moral or ethical principles and standards, embraced by individuals as well as institutions, that create barriers to corruption”.

Thus, integrity is a barrier to corruption. Corrupt behaviour, then, is manifest when integrity in decision making is lacking.

And so, corruption, according to Transparency International, is “the abuse of entrusted power for private gain. Corruption can be classified as petty and political, depending upon the amounts of money lost and the sector where it occurs”.

The World Bank (2009), along with many other international organisations, has studied the impacts and consequences of corruption and have concluded that:

“The consequences of corruption for economic and social development are detrimental. Corruption deters investment and hinders growth. It spurs inequality and erodes macroeconomic and fiscal stability. It reduces the impact of development assistance and provides an incentive to exploit natural resources, further depleting our environmental assets. It reduces the effectiveness of public administration and distorts public expenditure decisions, channeling urgently needed resources away from sectors such as health and education to corruption-prone sectors or personal enrichment. It erodes the rule of law and harms the reputation of and trust in the state.

In short, it increases wealth for the few at the expense of society as a whole, leaving the poor suffering the harshest consequences”.

Consequently, integrity, that set of principles which manifests itself in ethical and moral decision making and actions, is the bulwark against corruption. Integrity is the bulwark against the abuse of power for private gain. Integrity, then, can be interpreted as choosing to not act corruptly. When faced with decisions on behalf of others, to choose not to act with self interest.

It was ethical behaviour, in my view, which was lacking in the “Hypothetical” at key moments. This paucity of integrity in decision making was well demonstrated in the issues that were raised in that role play. The issues of nepotism, undisclosed material risk, insolvent trading, sexual harassment, and so on were manifestations of the lack of integrity of the various characters portrayed during the role play.

THE AUSTRALIAN PERSPECTIVE

We’ve covered the basics of integrity. That is the definitions, and what happens when decisions are not ethically based. This section turns to the Australian Perspective. It briefly examines aspects of Australian Corporate Law, reviews the relevant areas of the mooted “Corporate Governance Charter”, and examines the application of the charter and law by discussing a recent “Centre for Australian Ethical Research” report.

Australian Corporate Law

As Kiel and Nicholson have pointed out (2007, p47), the primary source of director’s duties is the Corporations Act. Thus, with respect to the Corporations Act there are 5 fundamental duties of directors:
1. A duty to act in good faith (S.181)
2. A duty not to gain advantage by improper use of the position (S.182)
3. A duty not to misuse information (S.183)
4. A duty to act with due care and diligence (S.180)
5. A duty not to trade while insolvent (S.588G)

Going further, they conclude that the first three of these duties have to do with the fiduciary relationship between the directors and the shareholders. Because the directors have privileged access to information, power and resources they owe a special duty of care. This is summarised (Kiel and Nicholson 2007, p47) as:

“ a fiduciary duty has been defined by the High Court of Australia as the duty to act with fidelity and to trust another. That is, a director must act honestly, in good faith, and to the best of his or her ability in the interests of the company. The director must not allow conflicting interests or personal advantage to override the interests of the company. The company must always come first.”

This equates with the discussions in the preceding section. Integrity is evident when there is “no abuse of entrusted power for private gain”.

Or, to rephrase what the High Court said, integrity is “not allowing personal advantage to override the interests of the company”.

Corporate Governance Charter

The Corporate Governance Charter (Kiel and Nicholson 2007, p5) maps out four aspects of Corporate Governance: defining governance roles, improving board processes, continuing improvement and key board functions. Within this fourth aspect, the functions of the board, that the issues of integrity, through compliance, are covered.

Compliance is defined as a company operating within the relevant legal boundaries. It means that the directors know that they are operating with legal integrity, and that the rest of their fiduciary duties are being fulfilled.

By implication, the directors must be fully cognisant of their obligations before the law. They must understand their responsibilities when it comes to areas such taxation, occupational health and safety, the environment and anti-discrimination. And especially the Corporations Act and relevant Trade Practices legislation.

A compliance system, which is at the heart of good governance discipline, ensures that the directors are fully cognisant, and in compliance with, their obligations at law. As Kiel and Nicholson conclude (2007, p203): “a good compliance system helps boards and managers to do their jobs better. It serves to warn them of impending problems, can prevent potential problems, ….. and ensure they and the company are aware of relevant changes in the law.”

Thus, good compliance systems ensure good governance, which in turn is the province of decisions of integrity.

INTEGRITY RESEARCH

But why? Why do people act without integrity? What have we discovered about business and ethical practices? What is the Australian experience?

Heineman, who was the Senior Legal Counsel at General Electric for 20 years, has written of his experiences in the realm of integrity in business.

In one article (2008, June) he argues that performance pay can be linked to integrity. He says that a culture of integrity has three elements. One is a robust adherence to formal rules, the second is the adoption of ethical standards, and the third is to ensure that the subject’s subordinates have a commitment to candour, fairness, honesty, reliability and trustworthiness.

In a previous article (2007, Apr), he discusses the experiences, within GE, of the firing of senior management for the unethical behaviour of their subordinates. Even though they had no personal knowledge of the transactions themselves. One of his key thoughts was one of common sense “we recognized that we weren’t about to repeal human nature, but by learning from our missteps we could continually try to reduce improprieties to a minimum”

Teal (1996, Nov), in discussing the difficulties faced by leadership, states that most have trouble with what is meant by integrity. Some see integrity only as blind loyalty, others secretiveness, or consistency, discretion, or even being blunt. In other words, these men and women have no idea what is meant by integrity. They have no real grasp on the concepts of moral and ethical principles. As such, their leadership is lacking depth of character.

Bhide and Stevenson (1990, Sep) have a completely different perspective on integrity in the business world. Through their research they have identified that there is no evidence that honesty pays. However, it is though this very finding, that there is no specific correlation between being ethical and successful business dealings, that they conclude that integrity has a high value. That because there is no tangible price on ethical dealing, then operating with integrity is invaluable. That morality, that ethical principles, that integrity is something highly esteemed.

Further, Bhide and Stevenson couple our ability to fail integrity “tests”, with both our ability to “forgive”, ie to give a second chance or to rationalise the action, and our ability to be creative.

In other words, Bhide and Stevenson are saying that if we could put a price on (and pay for) morality, then there would be (on the negative side of the ledger) no room for error or mistakes, no room for “flying close to the line” and taking irresponsible risks. It would negate Machiavelli’s observation (Quoteland.com, 2009) of “Men seldom rise from low condition to high rank without employing either force or fraud”.

And, from a positive perspective, there would be no room for creativity, no chance to start gain, no opportunity to do better, no ability to appreciate the quality aspects of our humanity.

Finally, the Centre for Australian Ethical Research has published a paper (2006, Mar) on Australian businesses approach to bribery and corruption. Their conclusion are based on the fact that, in 2006, while 90% of ASX100 companies had some form of ethics policy, only 50% of this group of companies had policies concerned with bribery and corruption, while a total of 18% of these companies had a system to enforce these policies.

Thus, using this group of companies as a proxy for all Australian business, then it can be surmised that in general Australian business either pays lip service to the perils of operating without integrity, or does not see the need to enforce the good governance principles by which they are already operating.

PIECING TOGETHER THE INTEGRITY JIGSAW

And so to the issues uncovered during the course of the Hypothetical.

– Nepotism:

• Definition: favouritism granted to relatives, friends or associates without regard to merit
• Hypothetical Example: Formal recruitment process sidestepped to favour a client
• integrity says: follow formal recruitment process
• corruption result: relationship strain, open to irregular “pressure” from client

– Undisclosed material risk:

• Definition: accountability for factors that involve risk in the areas of legislative, business, etc
• Hypothetical Example: key office holder (CEO) conceals critical personal health issues
• integrity says: implement contingency plans, operate under continuous disclosure
• corruption result: ignore and cover-up due to self-interest

– Trading whilst insolvent:

•   Definition: inability to meet payments to debtors
•   Hypothetical Example: CFO was hiding transactions, and transaction history, from scrutiny
• integrity says: open to scrutiny and allow corporate administration
• corruption result: criminal sanctions

– Sexual harassment:

• Definition: intimidation, bullying or coercion of a sexual nature
• Hypothetical Example: employee allegedly sexually harassing a third party at a work-related event
• integrity says: treat people with respect (prevention), or be open and accept judgement (resolution)
• corruption result: stonewall, lie and ultimately besmirch reputation of involved parties

All of these issues involve some degree of abuse of power for personal gain. At their heart lies a decision to not act ethically, to not act morally, but to instead act corruptly.

At face value, they are decisions with a short term timeframe in mind.

CONCLUSIONS

The starting point is Bhide and Stevenson’s observation: That (paraphrased) because there is no tangible price on ethical dealing, then operating with integrity is invaluable. Decisions based on integrity are, prima facie, the right ones and the ones with long term gain.

And so, with each of the issues, whether nepotism or the denial of sexual harassment, and so on, there was no observable short term cost to the corrupt decisions that were made. Each of the actors in each of the situations were not faced with tangible loss. So, although we can have laws that form boundaries around a company and we can install compliance systems to ensure that those within the company act with ethically, integrity still relies upon an internal and guiding principle of those making decisions.

As Teal observed: “we recognized that we weren’t about to repeal human nature, but by learning from our missteps we could continually try to reduce improprieties to a minimum”

So yes, we can have efficient and effective compliance systems (or we can ignore the need to inculcate effective anti-corruption systems as is the Australian experience), or we can have an abundance of information leading to decisions, or we can instil a culture of openness and transparency, and we can even portray the forces of the law as a “Sword of Damocles” hanging over each of the director’s heads. But yet, decisions of integrity require personal standards.

REFERENCES

Bhide A, Stevenson H. Sep/Oct 1990. “Why be honest if honesty doesn’t pay”. Harvard Business Review, 68(5), pp121-129

Centre for Australian Ethical Research, 2006. “Just how is business done: a review of Australian business’ approach to Bribery and Corruption”, [online], available at: http://www.caer.org.au/publications/CAER_bribery_report_print.pdf, [accessed 25 Oct, 2009]

Dictionary.com, 2009. “Integrity”, [online], available at: http://dictionary.reference.com/browse/integrity, [accessed 25 Oct, 2009]

Heineman, B. Apr 2007. “Avoiding Integrity Land Mines”. Harvard Business Review, 85(4), pp100-108

Heineman, B. Jun 2008. “The Fatal Flaw in Pay for Performance”. Harvard Business Review, 86(6), pp31-34

Kiel G, Nicholson G, 2007. “Boards that Work: a new guide for directors”. Sydney: McGraw-Hill

Quote Garden, 2009. “Quotations about Integrity”, [online], available at: http://www.quotegarden.com/integrity.html, [accessed 25 Oct, 2009]

Quoteland.com, 2009. “Nicollo Machiavelli”, [online], available at: http://www.quoteland.com/rate.asp?QUOTE_ID=8842, [accessed 25 Oct, 2009]

Teal, T. Nov/Dec 1996. “The Human Side of Management”. Harvard Business Review, 74(6), pp35-44

Transparency International, July, 2009. “The Anti-Corruption Plain Language Guide”, [online], available at: http://media.transparency.org/fbooks/pubs/pl_guide/, [accessed 25 Oct, 2009]

World Bank, 2009. “Costs and Consequences of Corruption”, [online], available at: http://go.worldbank.org/BVKN7CIK60, [accessed 25 Oct, 2009]
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