Short Term versus Long Term

Companies and compliance officers that adhere to a narrow view of their legal responsibilities and ignore their ethical ramifications, probably also take a short-term view of their responsibilities. What avoids any short-term legal risk and penalty will also serve the short-term fiduciary duties to shareholders. Whenever a short-term risk is taken that provokes a legal penalty, it would be better in the short term to settle any legal case rather than assume a risk that the company may not eventually win in a court case. Hence, legal settlements have become the norm over taking a tougher stand through litigation (Shapiro 2014).

If a company, meanwhile, takes a more expansive view of its legal responsibilities, it may opt for a long-term view of its ethical responsibilities to shareholders and other stakeholders, and may not opt for a quick fix or settlement. The company might indeed take more short-term legal risks if they promise the possibility of more long-term gains for shareholders and stakeholders. That mentality could also lead to more principled stands against legal pressures and shareholder lawsuits.

Board versus Shareholder Primacy

A narrow legalistic and compliance approach to corporate responsibility emphasizes a short-term orientation to risk-taking and a governance structure that emphasizes shareholder power and value. Meanwhile, a more expansive approach to legal and ethical responsibilities connects with a long-term orientation and to a governance structure that emphasizes director and board power rather than shareholder power. Only an empowered board can look past immediate short-term shareholder value to long-term corporate viability and gains for both shareholders and other stakeholders.

As evidence, consider the governance battle between DuPont and activist investor Samuel Peltz and Trian Management (Solomon 2015). Critics of short-termism, including board advisor and litigator Martin Lipton, applauded the temporary victory of DuPont CEO Ellen Kullman over activist investor Samuel Peltz and Trian Management (Nocera 2015; De la Merced 2015). Other critics of shareholder power and a short-term perspective would also likely applaud the outcome. Stephen Bainbridge, a prominent defender of the director-centric model, notes that shareholders are not committed to long-term viability and value, and are both largely apathetic and incompetent to serve those goals. Only a focused board of experts is equipped to make the right judgments (Bainbridge 2006a; Bainbridge 2006b). Lynne Stout (2012), also a strong critic of a short-term outlook and an even stronger supporter of stakeholder accountability, applauded the DuPont win over the model of short-term profit maximization, based on a perspective that embraces corporate social responsibility (Mordock 2015).

Legal Liability and Reputation Management

An expansive view of legal responsibilities and corporate accountability, along with a long-term perspective, not only favors director power over that of shareholders, but it also favors a broader view of legal compliance and ethics. It advances, in a pragmatic way, the power of the ethics and compliance function within the corporation. For that function to be effective, it must have access to a powerful board. In a shareholder-centric world, the ethics and compliance function would be less visible, would have no mechanism to connect to shareholders, and would possibly even be ignored.

Returning to the theme of risk management, an ethics and legal compliance function would serve to limit both legal and ethical risks. In a broader context, it would also serve to limit risk to the corporate reputation. Reputation risk management is now a major thrust of both corporate concern and of scholars, with a proliferation of both articles and journals focused on that concern. It is also based on the valid assumption that corporations jeopardize their reputations through both legal and ethical violations. Hence, a more expansive view of legal accountability and the rule of law, as well as of ethical duties, must energize and fuel the role of the ethics and compliance function within the corporation.

Succession Planning

Problems with executive leadership and dysfunctional CEOs have led to failed corporate performance and often to scandal. That is evident among companies that have suffered from massive accounting fraud and bribery scandals, as well as less dramatic failures. Corporate boards too often ignore or de-emphasize their critical role in executive succession. One study has found that even though board members acknowledge that succession planning “represents probably 80 percent of the value they deliver,” and is one of their most important roles, boards spend very little time on the issue (Charan 2005). Hewlett-Packard and Pfizer are two companies that have dealt with major problems in executive succession planning since the year 2000 (Tobak 2012; Ovide 2011; Stewart 2011; Bandler and Burke 2012; Pearlstein 2011; Larcker and Taya 2013; Elkind and Reingold 2011). Institutional investors have awakened to the importance of succession planning, realizing that executive failures and dysfunctional CEOs have cost them and other investors a lot of money.

Crisis Management

Another area of risk management of growing concern to many corporate boards is that of crisis management, both in terms of preventing crises and in terms of resolving them when they occur. Often media coverage of corporate crises will ignore the role of the board until some enterprising reporter asks, “Where was the board?” In the cases involving the BP Deepwater Horizon oil spill, the General Motors ignition switch failures, and the Lufthansa Germanwings suicidal copilot, the boards of each company lacked the expertise and/or knowledge to effectively monitor or prevent the disasters at each company (Koehn 2011; Firestein 2010; Nocera 2010; Uhlmann 2015; Vlasic 2014a; Vlasic 2014b; Ivory 2014; Bilefsky and Clark 2015; Kulish and Eddy 2015; Kulish and Ewing 2015; Kulish and Clark, 2015). The most serious corporate crisis of 2015, with notable board failures, was that involving Volkswagen (VW).

Volkswagen

The defeat device, or cheating software, intentionally installed in 11 million VW vehicles in order to evade emissions regulations from 2009 to 2015, has produced the worst crisis in the company's history. According to environmental models, the extra pollution created has caused between 40 and 106 deaths (Sanger-Katz and Schwartz 2015). It has also generated large-scale exposure to legal liability, including an $18 billion penalty by the U.S. Environmental Protection Agency, actions by the German Transport Agency and other state and national authorities, likely criminal investigations, and billions of dollars worth of investor and consumer lawsuits (Henning 2015a). VW has also set aside $9.6 billion to make its autos compliant with pollution regulations (Ewing and Mouawad 2015a). Further, the judgment by the market has been harsh, with declining sales volume and VW's share value falling by over 40 percent, and it is likely the company will lag the market for years to come (Hulbert 2015).

It has also revealed major flaws in VW's corporate governance, culture, and compliance program. Corporate governance expert Charles Elson said, “The governance of Volkswagen was a breeding ground for scandal,” and Professor Markus Roth said, “VW stands apart. It's been a soap opera ever since it started” (Stewart 2015). Financial author James Stewart notes the pattern of governance “through an unusual hybrid of family control, government ownership, and labor influence” (Stewart 2015). Due to the German governance system of co-determination, union officials hold half the supervisory board seats, while the government of Lower Saxony, which owns 20 percent of voting shares, appoints two of the remaining directors, and members of the Piech and Porsche families hold three other seats. As Charles Elson concludes, “It's an echo chamber” (Stewart 2015). Ferdinand Dudenhoffer, professor at the University of Duisburg-Essen observes, “Volkswagen has no corporate governance. There is no clear border between oversight and management. It has to be made into a normal company” (Ewing and Vlasic 2015).

Regarding its culture, an anonymous former senior VW official comments on the autocratic leadership of the company, its clannish board, and deep-seated hostility to environmental regulations among its engineers (Stewart 2015). Its aggressive culture and desire to triple its growth in the U.S. market and become the number one global automaker put a strain on management (Hakim, Kessler, and Ewing 2015). Just as at GM, there was also a tendency for managers to turn a blind eye and for negative information not to travel upward. Three directors said they learned about the cheating scandal from the news media two weeks after managers had reported it to the EPA (Ewing and Mouawad 2015b). In order to surface the details of what occurred internally, VW launched an amnesty program for any employee who blew the whistle. In one respect, that is laudable, but in another respect, it indicated that the company's internal controls might have earlier failed (Henning 2015b; Ewing 2015). When it came to appointing a successor to CEO Winterborn, the board also appointed a long-time insider, Matthias Muller, rather than turn to an outsider who might have provided a check on the internal culture (Hakim and Ewing 2015).

Ethics and Legal Compliance Committees

By examining the length and content of committee charters, as well as the frequency of committee meetings, one can discern the jurisdiction and importance of such committees. Based on all three factors (frequency of committee meetings, length of committee charters, and content of audit committee and legal/compliance committee charters), of the top 200 S&P corporations, there are only five with ethics and legal compliance committees with jurisdiction over crucial internal issues. Four of the five companies are from the pharmaceutical industry—Abbott Laboratories, Johnson & Johnson, Pfizer, and Amgen. The other company, AIG, is in the financial sector (Holcomb and Schlieman 2014). Four of the five committees have the words regulatory compliance in their titles. Only Abbott Labs has a committee with the title of public policy that has internal compliance duties, which is unusual, given that most board committees with that title focus chiefly on external responsibilities (Holcomb and Schlieman 2014).

There are seven other companies with nontraditional board committees that share some of the compliance oversight responsibilities with the board audit committees. Three of those companies are in the financial sector, while four are in the energy sector. Morgan Stanley's risk committee falls into that category, as does the finance, investment, and risk management committee at Hartford Financial Services, and the risk committee of Travelers Companies. The nontraditional board committees that share compliance responsibilities in the energy sector are the regulatory policy and operations committee at Duke Energy, the finance and risk committee at Exelon, and the health, safety, and environmental committee at Baker Hughes.

Beyond the total of 12 companies mentioned, there are two more from the financial sector where two committees share regulatory compliance responsibility, and a third committee focuses on external public responsibilities. In the financial sector, perhaps the most impressive example of shared responsibilities for regulatory oversight among multiple board committees is that of Wells Fargo. That company's board has an audit committee, risk management and finance committee, and a corporate responsibility committee. In a similar vein, the board of JP Morgan Chase has an audit committee, a risk policy committee, and a public responsibility committee.

All in all, the 14 companies are found almost equally distributed among three industries, with four each in the pharmaceutical and energy sectors, and six in the financial sector. The labels of the various committees vary, according to the following list:

Public Responsibility Committees

While 14 of the top 200 companies have a board committee with some ethics and compliance oversight responsibilities, 89 of the top 200 companies each have a board committee on public responsibility, with 46 of the top 100 having such a committee and 43 of the next 100 having such a committee. Hence, those committees are much more common, but in reading their charters, it is clear they lack jurisdiction over the more legally crucial compliance issues. Even in cases where the committee title includes the words “compliance,” “risk,” or “regulatory,” the charters indicate that the primary responsibility for ethics and legal compliance in those companies rests with the audit committee.

Still, public responsibility committees are not exactly token or inactive committees; their charters simply indicate they focus on external issues, but they nonetheless play important roles. That is certainly true of the public policy committee of the General Motors board, the sustainability committee at Ford Motor Company, the public policy strategies committee at United Health Care, the governance and corporate responsibility committee at MetLife, and regulatory and public policy committee at Microsoft, and the ethics and sustainability committee at Lockheed Martin.

Based on their charters and frequency of meeting, public responsibility committees are important but less crucial than ethics and compliance committees. Meanwhile, ethics and compliance committees handle crucial duties that are otherwise handled in other companies by audit committees.

Shareholder Resolutions on Political Activity

The Center for Political Accountability (CPA) and Zicklin Center for Business Ethics at the Wharton School of the University of Pennsylvania became a catalyst for pressures from institutional investors by creating a model shareholder resolution. Resolutions on corporate political disclosure were as popular as environmental resolutions in 2015 and were the leading topic of shareholder proposals from 2012 to 2014. Not only have the number of resolutions on corporate political activity been impressive, so have the votes in favor of their passage. According to the CPA, the average vote in support of such resolutions has exceeded 30 percent, which is very high compared to votes on other shareholder resolutions. Only resolutions calling for shareholder nomination of directors typically receive votes in the range of 50 to 60 percent.

Most corporations targeted by disclosure resolutions on corporate political activities have urged votes against the resolutions, and then emphasize that the 30 percent support level falls far short of a majority. Often in rejecting such shareholder proposals, a corporation will also note that it engages in such political activities to serve its fiduciary duty to shareholders, and that is hardly a waste of money.

Whatever the role and effectiveness of disclosure as a way to blunt the impact of more political spending and contributions, the premise underlying the political concern over more corporate influence in elections and underlying the CPA rankings is that corporations would be giving money in large amounts to super PACs and c-4 committees. Super PACs developed in the wake of the Citizens United v. FEC Supreme Court decision of 2010. While traditional PACs can contribute directly to candidates in amounts up to $5,000, super PACs cannot. Super PACs can, however, spend in support of or opposition to candidates, and can do so with unlimited funds. C-4 committees can spend only a portion of their budgets on political races, and contributors to c-4 committees need not be disclosed. The data so far, however, indicate that the concern over corporate spending through super PACs and c-4 committees is misdirected and the premise is invalid.

Super PACs are indeed growing in numbers, financial resources, and impact. The super PAC sponsored by the Koch Brothers played a larger role in the 2012 elections than either political party, so the threat of their power is real (Bump 2014). The data, however, indicate that corporations are shunning the use of super PACs (Beckel 2013; Tau 2013). Corporations avoid the use of super PACs and other so-called independent entities due to fear of reputational damage. Most companies prefer not to contribute high amounts through super PACs but to instead use affiliated political action committees (PACs), which are legally regulated and subject to limits.

CPA Rankings of Corporate Political Accountability

In examining the criteria applied by the CPA, there are three potential criticisms of those criteria. First, the criteria are underinclusive in addressing elements of corruption. The 24 questions and criteria ignore important political activities that are more corrupting than several others addressed by the CPA criteria.

Second, the 24 questions and criteria applied by the CPA create the danger of establishing a check-the-box mentality for corporate political responsibility. Meeting the checklist of the CPA may not reflect a culture of political integrity, and some items might apply to some corporations and not to others. There are some companies that rely more heavily on government subsidies or are more heavily regulated than other companies. In those cases, it might be more important for investors to know the extent of the company's lobbying activities and the extent and targets of its campaign contributions. To assume that the 24 criteria equally apply to all corporations is to engage in the same fallacy as other rating systems do. Critics of corporate governance ratings by Institutional Shareholder Services (ISS), for instance, maintain that what constitutes good corporate governance practices for one firm may not be appropriate for another firm, whether that be annual elections of all directors or separation of the CEO and board chair positions.

Third and finally, the CPA now has a monopoly as the standard setter in ranking the political responsibility of firms. That is particularly dangerous if the criteria applied have any notable weaknesses. It both invests more power in the ranking than it deserves and may be very misleading and deceptive as an indicator of corporate political accountability. Of the three criticisms just mentioned, the first is most important, that the criteria ignore important elements of corruption.

Elements of Corruption Ignored

Within the 24 questions and criteria imposed by the CPA, and corporate practices to be disclosed, several key items of corruption or potential corruption are ignored. In fact, the following five items could be considered more serious and more corrupting than the political spending items that the CPA wants disclosed.

1. First, while the CPA criteria include several aspects of contributions or expenditures on electoral campaigns, such as donations to c-4 committees or business associations, they do not include any questions related to direct lobbying. That is curious because the CPA does not offer any rationale for that omission; while corporations spend more than 10 times as much on direct lobbying as they do on campaign spending (Firestone 2014).
2. Second, the CPA questions include none on corporate contributions to political party conventions.
3. Third, while the CPA criteria focus on contributions to political committees established to directly aid a candidate's election campaign, they exclude contributions to nonprofit organizations and foundations connected to political candidates, where the candidates might highly appreciate any contributions, especially since sizable contributions are subject to no legal limits (Lipton 2014b). The controversy surrounding gifts from corporations and even foreign governments to the Clinton Foundation, and the access they have provided to presidential candidate Hillary Clinton, is the most dramatic example to date (Schweizer 2015).
4. Fourth, the CPA criteria request no disclosure of contributions to state judicial candidates. There are 39 states with elected judges, where corporations and law firms can make political contributions. Given that judicial independence and integrity are hallmarks of the system, political contributions to judicial races are the most problematic and potentially corrupting of all types of contributions (Abramovsky 2012; Brandenburg and Schotland 2008; Shugerman 2012; Samuels 2014). There are also several political organizations that influence judicial elections, to which many corporations and law firms have contributed money (Wilson 2014; Eckholm 2014; Corriher and Paiva 2014; Blinder 2014). Beyond the ethically problematic nature of contributions to state judicial races, contributions to candidates for state attorney general positions raise similar questions. Scandals have touched the conduct of several attorneys general, based on their decisions in favor of well-connected contributors (Edmonds 2014; Lipton 2014a; Katz 2015).
5. Fifth, the CPA also ignores the issue of bundling of campaign contributions in its criteria and questions. Once again, it ignores an issue that may be one of the most corrupting aspects of political contributions and spending. Bundling is the act of aggregating many individual contributions up to the legal maximum of $2,700 and then channeling them to political candidates. Hence, a bundler could combine 100 contributions of $2,700 each and thus channel $270,000 to a single candidate.