Corporate Governance and Ethical Busines…

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Recent financial crisis and enterprise collapses across the globe again reinforce the need to check ethical behaviour in corporate dealings. It is true that a company is an artificial entity, with all the rights and powers of a natural person of full capacity conferred on it by law, however it was not the intention of Lord McNaughten (or indeed statutory codification of those principles) in laying out this principle in the locus classicus of company law – the old case of Salomon v Salomon Ltd, that there should be a total extrication of the importance of human behaviour in the management of these entities created by law.

It is the socio-economic nexus between managerial behaviour and company administration (or maladministration) that has brought out the subject – Corporate Governance. In simple words – Governance of the Corporation!
Corporate governance is “… the exercise of power over the direction of the enterprise, the supervision of executive actions, the acceptance of a duty to be accountable and the regulation of the corporation within the jurisdiction of the states in which it operates’.
Corporate governance guidelines and codes of best practices arise in the context of, and are affected by, differing national frameworks of law, regulation and stock exchange listing rules.   It is concerned   with –… holding the balance between economic and social goals and between individual and communal goals.

The governance framework is there to encourage the efficient use of resources and equally to require accountability for the stewardship of those resources. The aim is to align as nearly as possible the interests of individuals, corporations and society.
Corporate governance has been defined as an internal system encompassing policies, processes and people, which serves the needs of shareholders and other stakeholders, by directing and controlling management activities with good business savvy, objectivity, accountability and integrity.

Emerging phenomenon
Recent bank and company large scale failures across several jurisdictions have put to question the efficacy of standard models of corporate governance especially in relation to companies operating the group structure. The assumption seemed to be that where regulation is based on prescriptions and well written codes, there ought to be stable companies with good practices of corporate governance. However the reverse has been shown to be the case. Neither the big-stick wielding regulation approach, such as the United States’ Sarbanes Oxley Act, nor the United Kingdom’s prescriptive Code approach has prevented the large scale bank failures that occurred in both jurisdictions between 2008 and 2009.

Nigeria’s Central Bank Code of Corporate Governance, which was a tighter prescription for banks specifically, also did not prevent the bank failures in Nigeria that necessitated Government bailouts, and the move to establish an Asset Management Company to take up the toxic assets (bad loans) of those banks.  A number of questions therefore emerge, namely

– Were those recent instances of corporate governance failures really a result of absence of regulation or were they more of behavioural problems?
– Can reporting requirements really deal with behavioural problems by the delineation of relationships?
The force of codes vary from jurisdiction to jurisdiction, with some codes taking the “comply or explain model”, others taking the “mandatory compliance approach”. Some governance codes are linked to listing or legally mandated disclosure requirements.  Others are purely voluntary in nature. However, despite their origins, corporate governance codes have more or less the same principles.

The Central Bank of Nigeria in reviewing its code of corporate governance for banks in 2010 essentially drew from the United Kingdom’s Walker Report. It essentially sought to maintain the “comply or explain” principle, taking the view that the chief deficiency of banks and financial Institutions ‘was behavioural problems rather than organizational problems’.

It sought to get corporate boards challenged by requiring that non-executive directors (NEDs) should be charged to focus on risk issues separately from the executive risk committee process. It also required that fund managers and other shareholders should engage more productively with their investee companies over long-term objectives; and that there should be enhanced attention on remuneration policies in respect of variable pay, disclosures and incentives. Finally it looked to having board risk committees, and remuneration committees; and demanded communication and engagement of institutional shareholders.

Directors’ fiduciary duties
It is extremely important that board fiduciary responsibilities be enforced through setting up high ethical standards of behaviour by the board. A responsible board should see to it that a code of ethics or statement of business practices are drawn up for the company, published both internally and externally, and most importantly, enforced. In drawing up these rules, it drives the point home to employees if board members themselves provide examples of ethical leadership. Leadership drives ethics.

The term ‘fiduciary’ refers to serving the interest of other persons rather than one’s own personal interests.  This requires fiduciaries not to misuse their position. The personal interest of fiduciaries must not conflict with the interest of those persons they are serving; or knowledge-fiduciaries must not use knowledge and opportunities to their own or a third party’s advantage.   Under Nigerian law, directors owe a duty of care to the company, the breach of which renders him liable in an action for damages.

The duty would however depend on the nature of the company’s business; the manner in which the works of the company are distributed among the directors and other officials of the company; and the express provision of the Articles of Association.  It is important here to examine the provisions of the law supporting director’s duties as would guard against self dealings and ‘managerial self enrichment.’

Duty to act in good faith
A director stands in a fiduciary relationship towards the company and must observe utmost good faith towards the company in any transaction with or for the company.   A director must at all time act in what he believes to be the best interest of the company.   Under Nigerian law, directors generally owe fiduciary duties to their company and not shareholders and creditors. Directors are required to act bona fide in what they consider to be in the best interest of the company.

Proper purpose
Directors must exercise their powers for the purpose for which it is specified and not for a collateral purpose. If directors exercise their powers for purposes other than those for which they were conferred by the company’s Memorandum and Articles of Association, they may be liable and accountable to the company for any loss, which it suffers. Furthermore, the transaction may be set aside, even If the directors honestly believed such an exercise was in the interest of the company.

Duty not to fetter their discretion
Although directors must act in good faith and for proper purpose, this duty requires them not to fetter their discretion to vote in a particular way. Similarly directors must not so delegate their powers as to amount to any abdication of those powers. Ajogwu concludes that, directors cannot validly contract as to how they will vote at future board meetings. To do so would amount to fettering their discretion which may be against the interest of the company.

Duty not to allow conflict of his duties with his personal interests
Directors as fiduciaries must not place themselves in a position in which there is a conflict between their duties and responsibilities to the company and their personal interest or duties to others. The common law and statutory requirement of “Good faith” must not only be done but must manifestly be seen to be done, and the law will not allow a fiduciary to place himself in a position in which his judgment is likely to be biased and then to escape liability by denying that in fact it was biased.

Transactions with the company
It is evidently established that the trustee-like position of directors was liable to vitiate any contract which the board entered into on behalf of the company with one of their members. This principle received its clearest expression in the case of Aberdeen Railway v. Blaikie    in which a contract between the company and a partner was avoided at the instance of the company, notwithstanding that its terms were perfectly fair. Out of this flows;

(i)        Statutory duty to declare interest.
A director’s personal interest must not conflict with any of his duties as a director. There is a conflict of interest where the director is put in a situation where he may sacrifice the interest of the company, which is his duty to protect, for his personal interest.
(ii)       Disclosure of misconduct.
Section 280(6) of CAMA provides that –
… where a director discloses his interests before the transaction and before the secret profit are made before the general meeting, which may or may not authorize any resulting profits, he may escape liability, but shall not escape liability if he discloses only after he has made the secret profits,  and in this case, he shall account for the profits.

Ethics in business dealings
Business ethics, an aspect of applied ethics, focuses on applying ethical theories of right or wrong, to real-life situations on such questions as how people should act in a company in order for it to be successful and provide fulfilment to all its stakeholders.
In examining the recurring question of the impact of behaviour on business, Adam Smith opined that ‘people of the same trade seldom meet together, even for merriment and diversion, but the conversation ends in a conspiracy against the public, or in some contrivance to raise prices.’

RC Solomon describes ethics in a succinct manner – Ethics is the quest for a life worth living: Putting every activity & goal in its place….. , Knowing what is worth doing & what is not worth doing,…It is also, within business itself, keeping in mind what is ultimately important and essential & what is not, what serves our overall career goals & what does not, what is part of business and what is forbidden to business, even when increased profit – the most obvious measure of business success – is at stake.
For most organizations, effective board leadership develops an organizational culture that guides the day-to-day actions of its management and by implication, the outcomes as reasonably expected by its stakeholders. Leadership will guide by integrating the rules, principles, or values that are acceptable.
Juan Elegido outlines the essence of being ethical in business, certain factors that can turn out to be sources of competitive advantage to an organization:
–  Enabling its members lead good lives in the real sense of the word.
–           Easily acquiring good business reputation within its business environment,
–       Winning the trust of its stakeholders (shareholders, customers, employees, creditors, tax authorities, and society.)
–           Fostering among its employees an attitude of commitment to the firm’s interests.
Value Based Ethics is therefore necessary for an organization ‘that cannot reliably monitor the quality of its employees work that is critical to success’, especially when it runs a multi branch or multi location operations network. It is also necessary for an organization that ‘seeks to rely on fast & accurate information management within and outside’ of the organization,   of one that is not large, but plans on the long term.
Ethical dealings require commitment to a purpose – the desire to achieve the corporate goals in such a way that is consistent with its values, through the behaviour of employees and the culture that results there from.
There are few examples to point at as the gains of proper ethical standards but a look across the globe reveals otherwise. They are:
– Strengthen Financial Performance: A 1999 DePaul University study of 300 large companies found that firms making an explicit commitment to follow an ethics code provided more than twice the value to shareholders than companies that did not. A 1997 study carried out at the same university found that companies with a defined corporate commitment to ethical principles outperformed (based on annual sales/revenues) companies that don’t.
–           Improve Sales, Brand Image, and Reputation: A 1999 survey of consumers in 23 countries by Environics International, the Prince of Wales Business Leaders Forum, and The Conference Board found that more than one-third of consumers in 15 of the countries surveyed believed that an important role of larger companies in society is to “set higher ethical standards and help build a better society.” The same study found that 40 percent of consumers had considered punishing a company based on its social actions and that nearly 20 percent had actually avoided a company for that reason.

-Strengthen Employee Loyalty and Commitment: A U.S. employee survey carried out in 1999 by Walker Information and the Hudson Institute found that only 9 percent of employees who thought their senior management was unethical were inclined to stay with their companies, while 55 percent who believed their leaders were ethical wanted to stay. A multi-sector survey carried out in the United States by the Hudson Institute in 2000 found a positive correlation between high ethical standards, work commitment, and loyalty, and concluded that “employees who believe they work in an ethical environment are six times more likely to be loyal than workers who believe their organization is unethical.”

–           Limit Vulnerability to Activist Pressure and Boycotts: Companies perceived to behave unethically toward shareholders, employees, the community, or other stakeholders are more likely to find themselves the target of activist pressure, boycotts, or “denial of service”. Conversely, companies with a demonstrated commitment to ethical behaviour can accrue a kind of “integrity capital” among stakeholders and the general public. This can help them weather an individual episode of misconduct or other crisis without lasting damage to their credibility or reputation.
–           Avoid Fines, Court-Imposed Remedies, and Criminal Charges: Companies and their employees must comply with local, national, and international laws governing their operations. Unethical conduct can result in increasingly substantial fines. For example, the European Commission, which has the power to impose fines of up to 10 percent of a company’s worldwide revenues, fined Volkswagen more than $90 million in 1998 for violating competition rules. In 2010, Halliburton was ordered to pay fines in the United States for wrong doings traced to the company’s operations in Nigeria. In some cases unethical conduct may even result in court-ordered remedies, such as the 2000 ruling that Microsoft be broken up for anticompetitive activities.
–           Avoid Loss of Business: As large companies increasingly look beyond their own ethics practices to those of their suppliers as well, supplier firms that have poor ethics practices may find contracts cancelled or future business lost. For example, in 1998 Royal Dutch/Shell cancelled 69 contracts with companies that failed to adhere to its ethical, health and safety, and environmental policies. Governments may also cancel contracts or otherwise punish companies perceived to be unethical.
Corporate Governance and Ethics have become real necessities for enterprise development in Nigeria. Company executives can no longer afford to pretend that business is not bound by any ethics other than abiding by the law. The Friedman position that corporations have the obligation to make a profit within the framework of the legal system, nothing more; and that the only duty of the business leaders is, ‘to make as much money as possible while conforming to the basic rules of the society’ can hardly stand in the face of several business failures where the companies were paying lip service to technical compliance with regulations.

Compliance should embody observance of statutory provisions, codes of corporate governance, as well as ethics. The isolation of ethics or ethical behaviour from business dealings have in so many instances in the past led to business and system failures with catastrophic consequences.
It is true that legal procedures are technical, bureaucratic, and obligatory, but then ethics is conscientious, voluntary, choice beyond normativity to what is considered to be right or wrong.

Law, especially criminal law, is reactive in nature and approach. That is why for instance criminal codes only criminalize an offence after it must have taken place once or twice. Corporate governance is leadership driven. Leadership largely shapes business ethics in any organization; and that way helps us consider the interest of others, and in so doing lead the good life in the real sense of the word.

In : Business