Are corporations safe?

Are corporations safe?

April 6, 2009

Green Light, Manila Standard Today

Analysts estimate that 40% of the world’s wealth has been destroyed since the start of the financial crisis. Millions of jobs have been lost, with terrible consequences for families and communities everywhere. Suicides due to financial distress have reached record levels. The end to all the misery is hardly in sight.

How could it come to this? The culprits named have included governments with their lax controls, imbalances in the economic relationships of countries and the incompetence and greed of managers in large financial institutions. With respect to the latter, it’s difficult for most people to comprehend that the global economy and the lives of billions of people can be turned upside down by the decisions of a few managers, no matter how greedy and incompetent these individuals may be. But the simple truth is that in the increasingly global and financially liberalized economies most of us live in, the tool for a few to unleash unthinkable harm on the very many has been around for a while – it’s called the corporation.

The corporation is, without doubt, the most powerful invention of mankind. In its potential to affect people, it surpasses other notable inventions such as the nuclear plant, commercial air travel, and pharmaceutical medicine. The reason is plain enough – the corporation can control all of these other man-made innovations, whether for good or for bad.

The question is: who controls the corporation? This is the root of the problem. Amidst all the advances in financial engineering and capital markets in the last 50 years, the controls on corporations have remained crude and weak compared to their power. With the advent of the deadly combination of liberalized markets and networked information technology, a misguided corporation can sow damage not only in local communities but also in countries far and wide with blinding speed. With all that has been said about corporate governance reform in the past thirty years, the main control on the misbehavior of corporations is still in the hands of part-time, often overworked, occasionally overpaid, individuals in corporate boards. This situation is untenable. An entity that can spread global damage should not be under the principal control of only a small group of people, no matter how upright, honest or well-meaning these people may be.

There is a strong psychological reason why corporations cannot be well controlled under the present governance setup of part-time boards overseeing full-time managers. This is the strong tendency for decision-making groups to develop a negative condition called “groupthink”. A board afflicted by groupthink shows the following symptoms: excessive optimism leading to taking extreme risks, majority views assumed to be unanimous, members’ belief in their inherent rightness and members protecting the group from problematic or contradictory information to preserve cohesiveness. Social psychologists have noticed that groups experiencing groupthink become almost collectively blind, making really bad decisions that a reasonable individual would not make.

After the collapse of Enron, clear signs of groupthink became apparent when members of its board explained how they missed the signs of bad management happening under their noses. Dr. Robert Jaedicke, Dean Emeritus of the Stanford Business School and Enron director, explained in a Senate investigation hearing that: “we reasonably relied upon the honesty and integrity of management, their subordinates and advisers, and on the integrity of the information we were receiving. At the time, we had no reason to doubt the integrity of either the management or our advisors. … Sadly, despite all that we tried to do, in the face of all the assurances we received, we had no cause for suspicion until it was too late.” This moment of collective stupidity on the part of the Enron board is even more fantastic since it is the same board that exempted the CFO from the ethics code so that he can raise funds for a private equity firm where Enron can hide its debts. If the dean of a world renowned business school can be so blind in a board filled with a dozen other experienced business leaders, how can we expect boards to keep the public safe from misbehaving corporations? We clearly cannot.

The hope that a powerful corporation can be kept safe by a small group of well-meaning individuals is fanciful at best and reckless at worst. If a father gets a guard dog to keep his home and family safe, it may be prudent for him to keep the dog on a strong leash. The present governance structure for large, publicly-listed corporations is like putting a flimsy leash made of thread on a Doberman. Under such a system, no one should be surprised of the damage caused by corporate misbehavior. Corporations, like guard dogs, can do much good. But they have become excessively powerful in a globalized, inter-connected world and weak governance systems have allowed them to become economic weapons of mass destruction. Reforms are urgently needed.

Dr. Ben Teehankee is the Sen. Benigno Aquino, Jr. associate professor of business and governance at the Ramon V. del Rosario, Sr. Graduate School of Business at De La Salle University. He may be emailed at teehankeeb@dlsu.edu.ph.