Wrong tone, wrong turn

Is there any correlation between corporate failures and the ‘tone' at the top?

Respect, integrity, community, excellence — so said Enron; shareholders lost nearly $11 billion when Enron, which hit a high of $90 per share in mid-2000, plummeted below $1 by the end of November 2001 and went bankrupt. More than 20,000 former employees in May 2004 won a suit of $85 million in compensation for the $2 billion lost from their pensions.

Earlier, even as Enron's reputation was growing, its internal culture seems to have begun deteriorating. The company had instituted a performance review committee, known as “360-degree review”, based on the company's stated values. However, employees believed the real performance measure was the profit they generated. Everyone was motivated to do deals for profits. Employees were regularly rated on a 1-5 scale, with the 5s usually fired within six months. Nearly 15 per cent of the workforce was replaced each year. In this environment, fierce internal competition prevailed, immediate gratification was preferred over long-term potential, paranoia flourished and contracts began to contain highly restrictive confidentiality clauses. Secrecy became the order of the day.

There was lack of transparency in Enron's disclosures. Questions from analysts were met with arrogant comments, leading to growing scepticism in the market and eroding trust and reputation.

When it's profit above all…

In the case of Barings Bank, the 233-year-old institution went bankrupt overnight in 1995. Shareholders lost $1 billion and, eventually, Barings was sold to ABN-Amro for a symbolic £1. Enquiring into the bank's collapse, the UK's House of Commons observed: “Management failed at various levels and in a variety of ways… to enforce accountability for all profits, risks and operations, and adequately to follow up on a number of warning signals over a prolonged period.

“At Barings, neither the top management nor the relevant members of the management has a satisfactory understanding of the business that was purported to be transacted, despite the significant profits that were reported and the funding it required.”

Former Goldman Sachs executive director Mr Greg Smith said in his resignation letter, “…And I can honestly say that the environment now is as toxic and destructive as I have ever seen it…”

He throws light on many of the aspects that define the ‘tone'. He mentions instances where customer interest was sidelined in the moneymaking process, the CEO and President losing hold on the firm's culture, and a change in leadership perspective from setting examples and doing the right things to promoting persons who make enough money for the company.

Changed tone at Satyam

Nearer home, Satyam Computer Services was the 2008 winner of the coveted Golden Peacock Award for Corporate Governance under Risk Management and Compliance Issues. Barely a year later the company was scam-tainted after its chairman, Ramalinga Raju, confessed to falsifying accounts. How did the company land in such disgrace despite having eminent members on its Board? Again, the answer is the ‘tone at the top'.

When it comes to losses, one can clearly see the contrast between Enron and Satyam. All Enron stakeholders suffered huge losses, but in the case of Satyam, the Indian Government's timely move to appoint the right people to govern the sinking entity helped in ensuring business continuity and restoring the confidence of creditors, employees and customers. Satyam's share price at one point plunged to Rs 6; today it is nearly 13 times higher than that. The reason: the right ‘tone at the top'.

Does your company have the right tone at the top?

Mr Stephen M. Cutler, Director, Division of Enforcement, US Securities and Exchange Commission in 2004 mentioned eight things a company can do to set the right tone at the top:

Managers must themselves comply with the letter and spirit of the rules.

Make character a part of the firm's set of key hiring criteria.

Make integrity, ethics and compliance part of the promotion, compensation and evaluation processes as well.

Make it clear that you won't tolerate compliance risks.

When someone does commit an ethical violation, the company should move to fix the problem and remedy the harm as quickly as possible.

Hold all your managers accountable for setting the right tone.

Monitor, follow up and re-assess.

Don't fall victim to a checklist mentality.

As the old saying in Sanskrit “Yatha Raja Tatha Praja” goes: Like king, like subject.

Hemant M. Joshi is Partner, Deloitte Haskins & Sells

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