Sep 23, 2016
Discouraging Big Businesses From Behaving Badly Without New Major Gov’t Regulations
Abuses Lead To A Demand For New Regulations
The latest in a long series of business outrages, Wells Fargo Bank getting caught in a massive fraud, again incites the demand for the government to “Do something” about corporate wrong-doing.
When we see people behaving badly and we are individually powerless to do anything about, it we look to the government to fix the problem. That’s just human nature.
No matter what you think about government regulations, you have to understand that people aren’t just going to quietly sit there and let massive organizations continue to behave badly without consequences.
Telling Wells Fargo’s customers and the public to suck it up and live with it because somehow, someday, some political theoretician thinks that things will fix themselves just isn’t going to cut it. That’s a loser strategy. It’s a nonstarter.
Find Another Way To Curtail The Abuses
If you want to avoid more regulations, more paperwork, more bureaucracy, you need to stop the conduct that causes people to demand that the government take action in the first place.
Government regulations are costly and inefficient and left to themselves politicians are unlikely to come up with solutions that are either efficient or effective.
The mechanism that will best stop businesses from behaving badly needs to be smart and effective, things we seldom get by leaving things to the politicians.
That means it’s up to us to develop better ways, smarter ways, to deal with abusive business activities before this all ends up with the creation of new regulations.
What Does The Current Bad Business Conduct Tell Us?
When we look at the outrageous acts engaged in by businesses (VW, Wells Fargo, PG&E, Lehman Brothers, etc.) we see some very disturbing factors:
1) The conduct is often not just ethically wrong but is actually already illegal, and yet high-level executives chose to do it and/or to turn a blind eye to it.
2) The guilty companies are not just some fringe, fly-by-night businesses but rather they are multi-billion dollar organizations
3) Once the bad conduct is exposed, few if any of the responsible high-level executives are punished by the companies themselves. Adding insult to injury, in the Wells Fargo case the bank actually rewarded the executive in charge of the division engaging in the horrible conduct with a $125 MILLION severance payment.
It’s pretty clear that bad corporate conduct is not merely a freak anomaly. It’s not an outlier.
It’s an indicator of a systemic problem in how businesses are operated.
A Systemic Problem
When high-level executives in one of the world’s largest corporations decide that an acceptable response to their equipment not meeting legal requirements is to engage in a massive scheme to break the law, falsify their records and deliver tens of millions of substandard and, in fact, illegal units, we know that something is seriously wrong with the basic corporate governance system.
What Humans Do
The choices humans make are rooted in how human beings work.
The basic rules that govern what humans do and don’t do are:
- People generally act in conformance with their cultural rules, values and ethics, and
- People generally act to maximize what they see as being in their short-term to medium-term self interest.
Corporate Executives’ Culture & Motivations
The fact that executives in some of the worlds largest corporations, Volkswagen, Wells Fargo, PG&E, Lehman Brothers, British Petroleum, etc. etc. etc made conscious decisions to break laws and engage in what outsiders would consider to be egregious behavior tells us two things:
1) The morals, ethics, and values at work in the corporate management culture are wildly at odds with those of the average, law-abiding, decent citizen, and
2) Executives in business organizations are either (a) being excessively rewarded for, and/or (b) not facing any serious risk of material punishment for wrongful, not to mention, outright illegal conduct.
Change The Culture, Change The Penalties
If you want to stop corporations from behaving badly without massive new regulatory schemes you need to do two things:
1) Foster a corporate culture/ethics/values that support the conduct you want to encourage and condemns the conduct you want to discourage.
2) Directly discourage the unwanted conduct by punishing the human beings who actually engage in that conduct.
Today’s Corporate Culture
Executives and board members today seem to believe not only that it’s all right for them to do anything that is not clearly illegal to increase short-term profits but moreover that they have a fiduciary duty to do everything not actually illegal to increase short term profits.
Even an executive who wanted to do the right thing would be open to a charge of breach of his/her fiduciary duty if he didn’t authorize and pursue, or at least turn a blind eye to, the abusive conduct.
Given that corporate culture, how can you not have a continuous series of abusive corporate actions?
Expecting anything else is like throwing a bucket of mackerel into a shark tank and being surprised by a feeding frenzy.
New Ethical Rules
Rules of professional conduct can be enacted legislatively. The fiduciary rules governing corporate executives and boards of directors could be legally changed to provide:
1) Executives and Board Members have no fiduciary duty to increase the company’s near term (next twelve months) profits.
2) Executives and Board Members have no fiduciary duty to increase the company’s near term (next twelve months) stock price.
3) Executives and Board Members have an affirmative fiduciary duty to:
- Maintain and improve the quality of the company’s products and services to the extent possible while still maintaining reasonably profitable business operations;
- Provide a living wage and reasonable benefits to the company’s employees commensurate with those provided by other businesses of a similar size in the same industry
- Comply with the spirit as well as the letter of all laws and regulations applicable to the company’s products, services and operations
- Act in all ways that are fair and reasonable with regard to the company’s vendors, customers and employees.
Executive Disincentives
In my post, Another Strategy To Avoid More Government Bureaucracy, I suggested two strategies to give executives a disincentive for abusive conduct:
- Publicly identifying the executive in charge of the company’s department or division that engaged in that wrongful conduct, and
- Imposing personal financial liability on the executive for a portion of the fines and penalties levied on the corporation for that wrongful conduct.
There are further disincentives that could be imposed on executives and board members.
- Executives responsible for committing or turning a blind eye on the wrongful conduct would be barred from receiving any severance pay if terminated within two years after the discovery of the wrongful conduct, and they would be required to refund a portion of the salaries and bonuses they received during the period that the wrongful conduct took place.
- Board members who failed to initiate or, if initiated by others, failed to vote in favor of board actions that would have discovered or halted the wrongful conduct would be personally liable for a percentage of the company’s fines and penalties without reimbursement from the corporation. Further, the company would be prohibited from providing any insurance that would otherwise indemnify the directors from any such obligations.
Whistle Blower Incentives
If the company’s wrongful conduct was disclosed by a third party then the company would have a direct obligation to the whistle blower(s) for an additional payment over and above the fines equal to a percentage (10%?) of the total amount of fines and penalties paid to any governmental entities in connection with the conduct in question.
Limitations On Executive Compensation
Enact A Shareholder Protection Act RE: Executive Compensation
Much of the abusive corporate conduct comes from executives’ desperation to increase the short-term stock price so that they can make a greater profit on their stock options.
To counter that lust for short-term profits and to protect the shareholders from the excessive payments to corporate executives, every five years all publicly-traded corporations would be required to obtain the approval of a majority of all issued and outstanding shares (not just a majority of the shares merely participating in the vote) for any compensation plan or payment with a value in excess of one-million dollars per employee over any twelve month period.
No more insiders voting themselves hundreds of millions of dollars worth of company stock. Instead, the company would need to set up high-compensation programs, severance programs, bonus programs and the like in advance in an organized way and then have those programs approved in advance by the shareholders. Without such approval there could be no payments with a value in excess of $1 million in any one year to any one person.
Corporate Bad Behavior Is Perfectly Understandable
These corporate scandals are understandable and they will continue for some very basic reasons.
Executives Think What They’re Doing Is Ethically Right
The executives been told that what they’re doing is right and moral, that they have a fiduciary obligation to increase short-term profits any way they can.
In their minds it’s morally right to raise the price of an EpiPen that contains about three dollars of medicine to three HUNDRED dollars because they have a fiduciary obligation to their shareholders and only to their shareholders to make as much money as possible as quickly as possible by any means possible.
To them anything that makes the company more money is, by definition, right, moral and good.
The customers? No duty. The public? No duty.
Huge Payments For More Profits
On top of a moral code that tells the executives that extracting every dollar of their customers money that they can get their hands on by any means possible is right and good, these same executives have tens, even hundreds, of millions of dollars in salaries, options and bonuses dangled in front of their noses to also encourage that “anything goes” conduct.
For example, the compensation paid to the current Wells Fargo CEO is already over $200 million dollars. That’s a really strong incentive for him to keep his mouth shut and not rock the boat.
These executives are further promised even more future huge sums if the company continues to meet its earnings targets by any means possible.
The benefits to these executives of hitting those targets are astronomical.
That’s the upside.
No Penalties If It All Turns To Crap
On the downside, the responsible executives face no penalties if things go wrong. Again, the Wells Fargo executive who ran the division at the heart of this scandal received an additional $125 million upon her resignation, not counting whatever bonus she’ll also get for 2016.
For corporate executives, business as usual is one huge game of “Heads I win, Tails the company loses.”
Under These Circumstances Corporate Bad Behavior Is Almost Guaranteed
Why wouldn’t they cook the books? Why wouldn’t they break the law? Why wouldn’t they ship defective products?
These executives have everything to gain from bad conduct and nothing to lose. They can even tell themselves that what they’re doing is right and moral because someone told them that their only duty is to make as much money as possible as fast as possible by any means possible.
There is zero surprise that major businesses act so badly, and they will continue to act badly unless and until something changes. That might be major new laws, regulations, and bureaucratic structures or something even worse — Breaking up the banks? Setting a limit on the percentage of profit a pharma company or medical devices company will be allowed to make? Legislated limits on compensation? Establishment of a government owned generic drug company to compete with the for-profit pharma companies?
Sooner or later this greed-driven bad conduct is going to blow up in business’ face unless things change.
The Change
My suggestion is that we employ risk/reward principles and new ethical standards to deter business from behaving badly before Congress and state legislatures do it for us in ways we may like far, far less.
–David Grace (www.DavidGraceAuthorl.com_
