Ethical Behaviour - Legal Versus Moral Standards

High standards of ethical behaviour are becoming not just recognised as desirable for the reputation of global corporations but increasingly legally enforceable. But what do we mean by high ethical standards and how practical is it to introduce legal penalties for non-compliance?

Our Applied Corporate Governance approach rates an ethical approach as the very first of our Five Golden Rules of good corporate governance. Part of our process of measuring the corporate governance performance of an organisation is to ask the key stakeholders how they view the organisation concerned against our Five Golden Rules which are themselves straightforward: an ethical approach, a clear goal shared by all key stakeholders, a strategic approach to management, an organisation fit to deliver the goal, and transparency and accountability by management to the stakeholders. However, defining ethical behaviour is not as straightforward as it appears to the regulatory authorities in the developed countries.  

What do we mean by ethical behaviour?

In our ebook The Board eManual on Corporate Governance we address the ethical dimension and summarise our views as follows: “The business morality or ethic must permeate an organisation from top to bottom and embrace all stakeholders” This first Golden Rule is philosophically most important as without a fundamental ethical approach, no corporate governance implementation will mean anything and the organisation will ultimately fail.

Reviewing ethics involves looking internally, at the nature of the corporate culture, and externally, at the ethical performance through the eyes of “detached” stakeholders. The problem, of course, with ethics, is that it is intangible, and different people have different definitions and interpretations of what constitutes ethics, particularly good ethics. We need, therefore, to measure perception of ethical behaviour, in order to understand and respond to stakeholder expectations.

In a recent panel discussion held by Cass Business School three panellists considered the importance of leadership in promoting and inculcating ethical behaviour in organisations. One was a very senior City of London lawyer, one an academic with extensive experience of advising politicians and one a successful businesswoman who had fought patent battles with global companies to protect her inventions. The different perceptions of what constitutes an ethical approach and its intrinsic importance were predictably more interesting than the areas of common ground. 

Ethical standards in business

The City lawyer took an overarching view that ethical behaviour started at the individual level, was projected into corporate cultures and ultimately affected whole industries. Bad behaviour at the individual level therefore progressively tarnished all levels of activity. His (optimistic?) view was that, since bad ethics made a business unsustainable in the long term, good practice would progressively spread through the developed and emerging markets.

The academic had witnessed very questionable behaviour among politicians such that the newly elected regarded the old-timers as, with very few exceptions, totally untrustworthy. Putting a positive interpretation on this, she concluded that, in the rough and tumble world of politics, this hard and apparently cynical treatment of newcomers was a form of testing them to see how far they could be trusted when circumstances became extremely difficult. How ethical this form of initiation can be regarded is, perhaps, questionable.

The self-made businesswoman had a much more nuanced perception of ethical behaviour in business. Having introduced a new design concept into the national marketplace, protected by patents, and captured a significant market share, she had to fight the established leader as it challenged her product. Against the odds, she won her David against Goliath action. A parallel experience awaited her in North America where her licensee was prepared to roll over in the face of blatant copying by a major local player. She decided to fight the giant competitor and again won her case. Her conclusions from her scarring experience were that the consumer didn’t care about ethics and she didn’t really blame her business rivals for trying to exploit the uncertainties of patent law to defeat a potentially disruptive new competitor. So she saw ethics in business as a grey area where striving for business advantage could go quite a long way before crossing a clear red line into dishonesty.

Regulation versus culture in a global economy

The Cass discussions with an audience drawn from a range of backgrounds explored the role of regulation regarding ethical behaviour in the global economy. Two very influential pieces of regulation are the US Foreign Corrupt Practices Act 1977 and the recently introduced UK Bribery Act 2010. Well intentioned, these attempt to project western ideas of ethical behaviour into all the export markets with whom the developed nations hope to do business. Similarly, through the various pieces of money laundering legislation, the west attempts to keep out the ill-gotten gains of corrupt trading. 

The senior lawyer took the view that, in line with his optimism about good ethical practice progressively being adopted globally, these laws would become less of a problem for exporters. In any case, they were the law and had to be obeyed. His perception and hope, as a supporter of principles-based regulation, was that regulators were starting to see the dangers of companies complying with rules rather than the intentions behind the rules.

However, differing views were expressed about the appropriateness of imposing one culture’s values on another. For instance, it was suggested that one country’s “bribery” might be regarded as another country’s “welfare state” in that payments made to leaders would be (at least partially) used to look after extended families in the absence of a state welfare system. Certainly it seems questionable to make the statement that “morals change but ethics don’t” as was put forward to defend projecting western values globally, supported by the force of law.

Ethics and governments

We have mentioned the experience of the ethics professor in advising politicians. Western governments are keen to take the moral high ground when addressing global business. However, how do their own actions stand up at the policy level (never mind in individual behaviour)? Let’s look at a some examples.

In taxation, there has been much righteous indignation at the small amount of tax apparently paid by global corporations operating completely within the existing tax laws. Politicians, at least in the UK, have taken to equating tax avoidance (completely legal) with tax evasion (illegal). Governments make tax law and are happy to advertise their own nation as a tax-friendly location for global business while pointing to neighbouring countries as having much more penal tax laws. So these same governments are enticing companies to migrate from neighbouring countries as a means of avoiding tax. Ethical? Consistent?

In the rescue of systemically important banks, two cases stand out. Following the recent financial crisis, the UK government persuaded the very healthy Lloyds Bank to rescue drowning HBOS with the offer of gaining a major share of the UK mortgage market without challenge from the Competition authorities, as long as they acted very speedily. So, without proper due diligence, Lloyds went ahead. Foolhardy, since they then required a government rescue themselves, but hardly a model of ethical behaviour by the government.

At the same time the US authorities persuaded JP Morgan to support Bear Stearns and Washington Mutual and in doing so prevented a financial catastrophe. No good deed goes unpunished. To restore their tarnished reputation, the regulatory authorities have been belatedly prosecuting some of the unethical behaviour which led to the financial crisis. JP Morgan’s reward for avoiding most of these problems and coming to the authorities’ assistance is a regulatory witchhunt which has most recently resulted in the bank offering to settle for $13bn for sins incurred by the institutions they were persuaded to take over. How ethical is that?

Finally, also on the subject of taxation, Adam Smith wrote that the way in which taxes are raised and spent should be transparent and visible for all to see. As tax specialist Emile Wolff wrote in an article some years ago, “the journey from first principles to contemporary reality leads to a fiscal statute book of such impenetrable complexity that few citizens are capable, unaided, of completing their own tax returns. Still less do they comprehend the laws and regulations that spawn taxes like so much litter. Nor are they able to trace the manner in which their contributions to state coffers are dispensed through labyrinthine expenditure channels. There is, in essence, no foundation for state accountability, no governance to which government itself is subject, no basis to measure value for each tax pound contributed.” Yet these western governments are laying down the ethical law, literally, to their peers round the globe.

Global investors and ethics

An organisation like the World Bank is very concerned with the ethical behaviour of the countries in which it invests and to whom it provides aid. It has a big presence in projecting global standards of corporate governance. However, setting up governance standards and protocols to guide behaviour may be seen as a lawyer’s approach to the issue. The big problem is not in getting governments to adopt the standards but to ensure compliance. 

When famed fund manager Anthony Bolton went to Hong Kong to set up his China fund for Fidelity, he was hoping to repeat his earlier success in the western markets. Sadly, even his experience wasn’t up to coping with the cultural differences. He seems to have misread the market, particularly for smaller companies and probably relied too much on the quality of the information he was able to acquire about his Special Situations. As western auditors have discovered, standards of probity in regard to disclosure are different. 

The London Stock Exchange has been criticised for relaxing its standards of corporate behaviour to attract big listings from emerging markets on the understanding that they would raise their domestic standards as a consequence of western regulatory and investor scrutiny. After a number of problems, like the Bumi saga, it is now having second thoughts, to protect its own reputation.

Currently, the FT reports that the $800bn Norwegian sovereign wealth fund is potentially about to become a more active ethical investor under proposals from a government-appointed strategy council. As Lombard comments, “the tricky bit for fund managers would be reconciling morality and the profit motive”.

Conclusions

Ethical behaviour is a difficult issue to tie down to precise rules. A general conclusion would be that ethical values ought to be related to the standards of the countries in which the primary stakeholders are resident. Problems are going to arise when countries insist on applying their own cultural standards globally and underpinning these with a legal framework.

One way or another, though, ethical risk ought to be in the Risk Register of every large company and particularly those trading globally. As we have said many times, we would advocate a regular survey addressing the key elements of good governance and especially addressing the ethical dimension for international businesses. In earlier articles we have referred to our Applied Corporate Governance Research methodology, based on a Stakeholder Survey which can be devised to link customers, management, owners and other key stakeholders in a co-managed exercise, carried out at regular intervals.


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