Conflict of Interest Blog

Global compliance law: recent developments, and what to watch for

Even if they aren’t lawyers, C&E practitioners generally need to have an understanding of compliance-related laws.  And for practitioners in global companies, the scope of that need can be pretty broad – particularly given how compliance programs are becoming a world-wide phenomenon. With this post I initiate what I hope will be an ongoing (but definitely occasional) series on noteworthy developments in this area,  including a look at what may lie ahead.

Of course, the notion of “global compliance law” is obviously broad – and somewhat difficult to define. Among other things, it should include the employment and privacy related laws of some countries that arguably inhibit meeting compliance program standards of other countries. But for many companies the most significant aspect of global law concerns enhanced enforcement activities throughout the world.

A prominent example of this is in the competition law realm – as described in this article last month from The Economist identifying significant enforcement initiatives not only in the U.S. and E.U. (traditional bastions of prosecutorial activity in this area) but also Brazil, India and Japan.   Noteworthy, too, in this regard is a recent  (and perhaps unprecedented) E.U. case fining the private equity owner of a company for the latter’s competition law violations, even absent any indication that the former had knowledge of the wrongdoing in question.  I don’t believe there is anything quite like this in U.S. law, and the decision has implications for global companies beyond private equity firms.

While competition law enforcement obviously serves important purposes in protecting consumers and other participants in market economies from unfair and deleterious conduct, a cynic might suggest that this extraordinary emphasis on enforcement is shaped- at least in part – by the ability of governments to use this particular area of law to secure large payments from companies, in the form of fines.   (For a list of massive competition law fines see the charts in The Economist article linked to above.)  In an earlier posting on the CCI site, I referred to this as the “demand side” of enforcement. .

Where else might the demand side of enforcement lead to enhanced risk for global companies?  In my view, an under-appreciated compliance risk among companies concerns taxes, for which enforcement also has the potential to generate large recoveries for governments. Indeed, just earlier this month, two executives of Hewlett Packard were detained by Pakistani authorities on suspicion of corporate tax evasion.  And Nokia’s tax troubles in India have been the subject of much recent press focus.

On the other side of the coin, as global punishment of wrongdoing by businesses and business people become more harsh, one expects that – at least to some degree – legal systems will go to greater length in protecting accused parties in business cases.  A noteworthy example of this can be found in this post last week on the Harvard Corporate Governance Blog  discussing a recent ruling of the European Court of Human Rights arising from a securities law enforcement proceeding in Italy.  As described in the posting, this “groundbreaking” decision, held that the sanctions imposed by Italy, although “formally defined as ‘administrative’ in nature under Italian law, are substantially ‘criminal’ sanctions in the light of their harshness and of the possibility to apply measures that affect the ability of the accused to work and their honorability. If the sanctions are criminal in nature, the application of the European Convention of Human Rights follows.” It will be interesting to see how this holding affects enforcement in other areas of business law as well.

Finally, another way in which the law might change in response to harsher enforcement measures directed against businesses is through the advent of a “compliance defense.”  The best known example of this is the “adequate procedures” defense under the UK Bribery Act.  Less well known is a proposed somewhat similar provision in the Spanish criminal code which I gather is expected to become law soon,    and I imagine that we’ll see at least some other nations pursuing a similar path (and note that in some instances – e.g., the case in Norway - the compliance defense may exist more as a matter of prosecutorial discretion than written law).

So, is that everything you need to know about global compliance law?  Not even close!  But hopefully it is an intriguing enough start to encourage you to revisit this blog for future compliance-law related postings from around the world.

Is being ethical in business a patriotic duty?

The most recent posting in this blog  briefly discussed how democracy and capitalism both require a widely shared sense of fair play to succeed.  Most of us are generally familiar – through news stories from home and abroad – with how this works in the political realm.  But given the rough-and-tumble origins of capitalism, is it really the case in the world of economics as well?

In a recent paper “Corporate Scandals and Household Stock Market Participation,” Mariassunta Gianetti and Tracy Yue Wang look at the issue of how scandals affect the appetite of households for buying/holding stock – a topic which is clearly relevant to the success of a capitalist economy. They report on research they conducted which found not only “unambiguous evidence that household stock market participation decreases … following corporate scandals in the state where the household resides,” but also that “households decrease their stock holdings in … non-fraudulent” – as well as fraudulent – firms.   Additionally, “[a]ll households [in a state where a fraud was committed,] not only the ones holding the stocks of fraudulent firms, decrease their equity holdings.” These findings certainly help make the case that unethical and illegal business dealings undermine the trust in capital markets that our economy needs to prosper.

As for the ethics-related connection between trust in business and in government, that would, I think, be hard to show by data of the sort reviewed in this paper – or perhaps any other kind of data (although I’m not a social scientist and so this last point is just  a guess).  But where, due to the nature of an issue, finding relevant data is inherently impossible, one can justifiably rely on common sense perceptions, particularly those articulated by thoughtful and experienced individuals on an issue.

One such person is German Chancellor Angela Merkel, who famously said in a speech to business leaders in 2008: “’Every irresponsible colleague in your circles endangers the basis of our liberal society…’”   Well put, and indeed, perhaps by appealing to a notion of patriotism that features ethicality the Chancellor has suggested what a deeper approach to business ethics might look like  – or at least include.  (For further reading on the promise of promoting ethical behavior through appealing to our broader allegiances, see the article by Jon Haidt and his colleagues on “Homo duplex” briefly discussed and linked to here.)

The connection between business ethics and patriotism is not new –  here, for instance, is a recent piece from Rwanda on the issue – though considerably more seems to have been written on the ethics of patriotism than the patriotism of ethics. But, in my view, it is an idea whose time has come, given how unprecedentedly important our trust-related needs now are – some of which are discussed in this earlier post on the “two conflicts of the apocalypse.”

A ray of sunshine at the end of an ethically dreary week

From the COI Blog’s perspective, the past week was dominated by two discouraging developments:

- The Supreme Court’s decision in the McCutcheon case, further eroding – on free speech grounds – the federal campaign finance reform legal edifice.  Particularly unfortunate was the holding that Congress’s ability to attempt to curtail corruption in this area is limited to the exceedingly  (one might almost say comically, if it wasn’t so sad) narrow category of cases of “quid pro quo” bribery.

-The various stories, prompted by the publication of Michael Lewis’ The Flash Boys, suggesting that stock exchanges effectively sell customer order information to high-speed traders, which the traders use to financially disadvantage  the customers.

While these two stories are, of course, different in many ways, given the deep connection between democracy and capitalism – and the fact that each requires a widely shared sense of fair play to succeed – they seem to reflect a dangerous insensitivity at high levels of both government and business  to the ethical dimension of the ties that bind us together as a society.

But the week actually ended with some good news concerning the promising but generally underutilized mechanism of ethics-related  ”clawbacks,” which was reported in a story by Gretchen Morgenson – “The Wallet as Ethics Enforcer” – in today’s NY Times.  She writes that while the “vast majority of [companies] across corporate America, require recovery of bonuses in only a few circumstances, mostly related to accounting… [and not] other types of unethical behavior … some large shareholders have been working to expand these so-called clawback provisions.”  Among other things, she reports: “the New York City comptroller… and his staff have successfully negotiated expanded thresholds for clawbacks at five companies this year:  Allergan, Halliburton, Northrop Grumman, PNC Financial and United Technologies” and that “[t[hese new clawback thresholds also state that executives can be forced to give back pay even if they did not commit the misconduct themselves; they could run afoul of the rules by failing to monitor conduct or risk-taking by subordinates.”

This is a promising development indeed, for just as financial incentives can serve as a powerfully corrupting force in both politics and stock markets so can such incentives – if properly directed – unleash energy and attention in the service of promoting ethical conduct … and building trust.   (For more on the importance of – and great challenges in – aligning incentives with ethical standards, see the posts collected here.)  

Risk assessment – by the book

Here is my latest risk assessment column in Corporate Compliance Insights.

I hope you find it interesting.

And here is information about a web cast on risk assessment that I’ll be presenting for The Network on April 3.

I hope you can attend.

Conflicts of interest disclosures, waivers, recusals … and fig leaves

Much of the most interesting  case law and social science research around conflicts of interest concerns the related topics of disclosure and waivers, some of which is discussed in the prior posts collected here.   Recusals are relevant to this general area, too, in that they represent an alternative to waiver as a response to a disclosed conflict.   Today, we look a bit deeper at two stories covered in earlier posts to see what they tell us about disclosures, waivers and recusals.

The first story concerns disclosure and waiver in the recent Royal Bank of Canada case.  The case is noteworthy because the court declined to find that generalized language in an engagement letter between the bank and its client concerning a possible conflict was sufficient to waive the actual conflict at issue there. (See discussion starting on page 71 of the court’s decision, which is available through the link immediately above.)

Of course, at least in some circumstances, COI waivers by sophisticated parties are acceptable.  But in all cases involving any ambiguity, whether from a legal or ethical perspective, the efficacy of disclosures should be closely scrutinized and common sense applied to the claim of waiver.   By common sense I mean asking: Would a rational party have waived the COI  knowing all the relevant facts? And where the COI at issue seems to have been genuinely harmful to the complaining party – which was evidently the situation in the Royal Bank of Canada case – the proponent of the waiver will often have a tough sell indeed.

The second story concerns an aspect of the investigation (that is part of the broader inquiry concerning Governor Chris Christie)  of the chair of the Port Authority of New York and New Jersey, who was also a partner in a law firm – as  previously discussed briefly here  and more fully in this New York Times story.   Specifically, a Port Authority matter came before the chair in which a client of his firm had a clear interest and, while the chair apparently recused himself from voting on the matter, according to sources in the Times story, he evidently still “made his support for the plan [at issue] known to his fellow commissioners and was involved in planning” relating to the matter.

As described by a historian of the Port Authority, Jameson Doig (an emeritus professor at Princeton), who was interviewed for the Times piece, “the recusal afforded [the chair] an ethical fig leaf. ‘And the fig leaf is not adequate’…”  Note that the historian’s analysis may not be the final word on this – given the official investigations.  But the logic of analyzing recusals (this one and others) through a substance-over-form lens (like that which was applied by the court in the Royal Bank of Canada case) seems compelling to me.


Do you know your biggest C&E risk?

In the latest installment of the ECOA’s Ethics Exchange, Steve Priest and I take on risk assessment.

We hope you find it interesting.

Spanking bankers for conflicts of interest. Again.

Two years ago the Delaware Chancery Court had harsh words about Goldman Sachs’ advising El Paso Corporation on a possible sale of the company while also having an ownership interest in the buyer.   Ultimately, the bank lost a $20 million fee due to this and other conflicts.

Goldman’s ethical lapse was not unique in the banking world.  Indeed, just a few months before the El Paso case, Barclay’s paid/gave up claims for about $45 million to settle a lawsuit in the Chancery Court based on its undisclosed dual role  in advising Del Monte on a sale the company while also providing financing to the buyers.  

The most recent addition to the banking COI hall of infamy is the Royal Bank of Canada, which, as described in this Reuters piece, the Chancery Court last week found should be “held liable to former shareholders of Rural/Metro Corp because [the bank] failed to disclose conflicts of interest that tainted the $438 million buyout of [Rural/Metro. The bankers] were so eager to collect higher fees that they convinced Rural/Metro directors to sell the company in June 2011 to private equity firm Warburg Pincus LLC at an unreasonably low” price,  while “conceal[ing] their efforts to provide financing to fund the buyout and other transactions,…” The court will “decide later how much RBC should pay former Rural/Metro shareholders in damages, including possibly damages for bad faith.”

That this could happen after the El Paso and Del Monte cases seems amazing.  But maybe it isn’t – since we’re seeing only the cases where the conflicted bankers got caught.  Perhaps there are many others where the betrayal went undetected and the wrongdoing proved profitable.  If so, the prospect of giving back fees – even large fees – may be a weak deterrent.

A piece on the case in the Wall Street Journal concluded:   “The bottom line is that investment banks that aren’t paying attention the Chancery Court’s continuing admonitions on conflicts will continue to be spanked.”  Yes, but will they be spanked enough to deter future COIs of this sort?

(For those wanting to learn more about the actual spanking, the court’s 91-page opinion can be found here.) 

Teaching compliance in ethics class

While in the business world compliance is often seen as overshadowing ethics, in the classroom it is typically the other way around.

In a recent post on the Ethical Systems website, I offer a framework (embodied in a – hopefully – easy-to-use grid) for teaching compliance in  business school ethics classes.

Let me know what you think.

Do you know what you need to know about global C&E law?

Meaning global anti-corruption, competition, employment, privacy, IP, governance, securities and trade law.

If you’d like to learn more about these and other global law subjects relevant to the compliance and ethics field,  check out this description of the ECOA’s global law distance learning course. 

On this site, you can learn more about the topics covered in Global Law and meet the faculty, who speak about their respective parts of the program in short pod cast interviews.

Meet “Homo Duplex” – a new ethics super-hero?

In “Behavioral Ethics for Homo Economicus, Homo Heuristicus and Homo Duplex” – which is published in the March 2004 issue of Organizational Behavior and Human Decision Processes   –  Jesse Kluver, Rebecca Frazier and Jonathan Haidt describe three views of human nature and consider the implications of each for the field of business ethics:

-          The traditionally dominant “Homo economicus” model, which sees human nature as based  on “rational self-interested actors within systems of economic or social exchange” and which views incentive alignment as the key motivator for human behavior.

-          A more recently emerged “Homo heuristicus” approach, which posits that heuristics (ingrained mental short cuts) and biases “drive decision making behavior, including ethical decision and behavior.” The authors view this model as more psychologically realistic than the Homo economicus approach and believe it offers a variety of insights that can be useful for shaping “ethical systems” (including, presumably, C&E programs).

-          “Homo duplex,” a term coined by the sociologist/psychologist/philosopher Emile Durkheim, which posits that we operate on (or shift between) two levels: a lower one – which he deemed “the profane,” in which we largely pursue individual interests; and a higher – more group-focused – level, which he called “the sacred.”  The authors see this view as an extension – not as a contradiction – of Homo heuristicus.

This last model has considerable potential, the authors believe, for promoting ethical behavior.  That is because various studies have shown that “some of the neurobiological adaptations humans have developed for moral behavior work explicitly at the group level rather than the individual level,” “above and beyond what might be expected under the Homo economicus or Homo heuristicus models.”   Yet, the authors argue, Homo duplex has received far too little attention to date, and the paper offers  ways in which this model of human behavior could be used to promote ethical conduct in businesses and also suggests avenues for further research.

There is much more to this paper  - concerning, among other things,  lessons for organizations seeking to build what Haidt calls “moral capital,” as well as  the importance of designing “ethical systems” to bring employees of an organization  to the above-described higher state, and I wholeheartedly commend the piece to readers of the COI Blog.  Indeed, I hope to explore some of these possibilities in future posts.

Having said all this, I should note that there may be limits to how far this thinking can take a company in promoting ethical and compliant behavior, given that so many major business crimes emanate from the “C-Suite,” the inhabitants  of which may be both less likely to act ethically as a  general matter (as discussed in this post ) and less inclined to participate in what the authors call “ego-dissolving activities” – i.e., the basis for Homo duplex’s  higher level – than are the rank-and-file.  Indeed, the most famous corporate example involving an attempt to build team spirit is, the authors note, “Wal-Mart, where each day employees participate in the Wal-Mart chant…”  While presumably effective in reducing the rate of petty theft by store employees, based on various press accounts, this doesn’t appear to have done much to deter massive bribery by the company, which on some level seems to have involved some of its senior managers.

In a related vein, while I am a big fan of Homo heuristicus (as reflected in my many earlier posts on “behavioral ethics and compliance”), and (based partly on my deep admiration of Haidt’s landmark book, The Righteous Mind), while I embrace the authors’ agenda of conducting more research into how a Homo duplex view can be used to promote ethical behavior, I think it important to continue to work with the central insight of the much-maligned Homo economicus framework too (and believe that the authors – who note that we do not need to rely solely on an one view of human nature – would agree with this). That is, while the incentive-based approach to promoting ethical behavior is as old as the Code of Hammurabi, at least in the modern corporate crime setting it has been hobbled by moral-hazard-related infirmities – i.e., it has not , in my view, had a real chance to live up to its  own potential to be an ethical super-hero.

For further reading see:

Scott Killingsworth’s excellent paper, on C-Suite behavior, discussed and linked to in this earlier post

My recent “Ethics Exchange” with Steve Priest about “Ethics, Compliance and Human Nature” on ECOA Connects.