The changing ethics of business

Knowledge is power

Professor Deon Rossouw, CEO, Ethics Institute of South Africa
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The 2008 financial crisis and the subsequent economic recession have changed the rules of the game for business worldwide. Significantly, they have also changed the ethics of business — something that companies need to understand if they want to succeed in this new environment.

The 2008 financial crisis came close to bringing the global financial system to its knees, and it has also disrupted established patterns of business. While the crisis is far from resolved, many of the consequences are already clear. Smart companies are coming to grips with what these changes mean for them, and are starting to make strategic changes that will equip them to prosper in the emerging business environment.

I want to argue that ethics is integral to the type of strategic outlook that will be required, and so should be high on board and management agendas of any organisation that wants to prosper. To understand why ethics will be playing this role, one needs to analyse exactly what the effects of the global financial crisis have been. 

The first thing to note is that the 2008 crisis seems to have been some sort of tipping point. It was seen by many as the latest in a long series of crises associated with capitalism, among them the various fuel crises, a growing food crisis, an ecological crisis that could threaten human existence and is certainly changing the climate, a long list of financial crises and, of course, persistent levels of inequality that compromise social stability and cohesion.

Rethinking the model

For the first time since the fall of the Berlin Wall and the collapse of global communism a debate about the fundamentals of the economic system has emerged. Occupy Wall Street and its imitators in various financial capitals are manifestations of this sea change; so was Julius Malema’s 2011 march for economic freedom to the JSE. In a Global Survey of Business Ethics published in 2012, business ethicists around the world predicted that the ethics of capitalism will become a top issue over the next five years.

As yet, nobody is proposing a clear alternative to capitalism but it is clear that nothing less than deep reform is being demanded. Specifically, it is clear that publicopinion wants a new type of capitalism that is more inclusive and more responsible.

The global financial crisis eroded trust in capitalism as a system, and also had an impact on society’s trust in business. In the past, it was possible to hold the view that business as a whole, or a particular business, would consider the interests of society; that view is no longer tenable. On the contrary, it is now widely believed that businesses tend to act entirely in their own self-interest, with scant regard for wider concerns — even their own long-term interests. In today’s jargon, the social capital available to business has dwindled alarmingly.

Basically, social capital is the goodwill that society feels for its institutions. For companies, it is perhaps best considered a “license to operate” without which a company (or industry) would find it hard to do business. The banking industry has definitely depleted much of its social capital, but business in general can no longer rely on the reservoir of goodwill that it once enjoyed.

Social capital is founded on trust, and rebuilding that trust will require companies to communicate more transparently and honestly with their customers and the community at large. Critically, this communication needs to be a two-way one: companies must also listen to what society is saying to them.

As part of the process of rebuilding trust, companies will have to adhere to ethical standards, and they will have to show that they are acting benevolently towards society as a whole. The King III principle that boards should “ensure that the company is and is seen to be a responsible corporate citizen” speaks right to this point.

The scandal of executive pay

One of the flashpoints of the public’s extreme discontent with business and the capitalist model is excessive executive pay. While one must never lose sight of the contribution that talented executives make to corporate success, the disparity between the rewards that executives and their teams receive has literally become a festering sore. Public protest has been sustained and vocal, and state intervention is becoming possible. For example, a recent Swiss referendum overwhelmingly gave shareholders veto rights on executive pay, while the UK government is contemplating a change in company law to make executive remuneration the business of the annual general meeting rather than the board.

 At the same time, the link between company performance and executive remuneration has become decoupled — as a recent survey of the performance of South Africa’s 10 largest mining houses in relation to the salaries of their chief executives seems to show.

As part of the process of rebuilding trust and thus social capital, and renewing their licenses to operate, companies will need to rethink their executive pay and incentive structures in the light of these factors. Incentive schemes can — and indeed do — drive executives to focus on short-term goals and need to be reconceived to support sustained and responsible performance over the longer term.

More regulation isn’t the solution

The banking crisis triggered a wave of new regulation around the world. Regulation was seen as the panacea for the woes of the financial system. However, we have already seen this approach fail — Barclays’ involvement in the Libor scandal is one example. The only way to make banks and other businesses act more responsibly is by building a corporate culture founded on ethical values.

Cultures are tricky things, and building a new culture is not something that can be achieved easily or quickly. Simply complying with legislation will not do it. It’s not as though there was no regulation of banks before the crisis, after all. The problem was that the banks had developed a culture of irresponsibility; in this culture, regulation was seen as something to be circumvented, a tiresome barrier to mega-profits. Only a profound transformation can change this type of mindset.

Practically speaking, companies must manage their corporate cultures to ensure that the behaviours they want — those that contribute to sustained rather than short-term performanc — are embedded in the way they do business generally.

The recent Salz Review of Barclays puts it rather well: “Culture exists regardless. If left to its own devices, it shapes itself, with the inherent risk that behaviours will not be those desired.”

Changing a corporate culture is not likely to be quick but, as I have suggested, it is really the only way for a company to change its DNA. It will also, one should add, turn compliance from a costly exercise in policing and reporting to something that is easier (and cheaper) to achieve. Such a change has to come from the top, and it requires leadership by example.

In other words, executives and boards themselves cannot act in ways that contradict the new culture. The way a company treats its suppliers and staff, its customers, surrounding communities and the environment will have to be consistent with the new vision — as will the way it incentivises and pays its executives.

The King Report and other similar codes around the world have already begun to integrate this type of approach into corporate governance structures. But codes are only guides. It is up to boards and executive teams to make them real, “the way we do things — even when nobody is looking”. It’s not going to be easy to do, but it must be done or the organisation will ultimately suffer, and so will capitalism itself.

Deon Rossouw (CEO, Ethics Institute of South Africa)

 

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