Setting a company’s ethical compass

Crucial to get the balance right in an increasingly complex corporate environment.

In a packed room at the RACV Club in Melbourne in September, directors listened to an insightful discussion on one of the most important, complex governance issues today: ethics.

Although ethics has long been a staple of good governance, the fallout from the Financial Services Royal Commission and, last year, the Australian Prudential Regulation Authority’s (ARPA) review of the Commonwealth Bank has intensified focus on the board’s role in ethics.

Ethics is rarely straightforward for boards. It sometimes is simplistically pitched as a choice between good or bad, but many board decisions involve trade-offs. For example, the balance between short-term and long-term performance; the competing needs of diverse stakeholders; and the tension between what is required by law and what is the right thing to do.

An ability to balance these and other trade-offs is central to ethical governance and was a recurring theme among the events panellists during the discussions at the Australian Institute of Company Directors luncheon.

Panellists included: Dr Simon Longstaff AO, executive director of The Ethics Centre; Kathryn Fagg AO, Chair of Boral and a non-executive director of Incitec Pivot, Djerriwarrh Investments and CSIRO; Jacqueline Hay, Chair-elect of Bendigo and Adelaide Bank; and Sean Hughes, an Australian Securities & Investments Commissioner. Here are 12 key takeouts from the panel discussion about how boards can ensure their organisations have an ethical culture and navigate growing complexity around this issue.

1. Values, purpose and principles

Having a clear organisation “compass” around ethics was critical, said panellists. Good boards and executive teams established the organisation’s core values, purpose and principles, and “set the tone from the top”. They applied those values consistently through ethical decision-making. Although it sounded obvious, too many organisations lacked strongly defined and communicated values – and made board decisions without reference to them.

2. Short-term versus long-term performance

Panellists argued that short- and long-term organisation performance was not mutually exclusive. Listed companies had to deliver short-term performance to meet market expectations, but short-term outcomes must be in the context of the firm’s long-term strategy and values. Effective boards resisted being dictated to too much by a short-term time frame that was not in an organisation’s long-term interest, because it could lead to poor ethical choices.

3. Shareholder versus stakeholder primacy

There was a strong view among panellists that corporations had to act in the best interests of a diverse group of stakeholders. Boards were not only there to service the needs of shareholders. Doing the right thing by customers, employees, the community, regulators and other stakeholders was, by default, good for value creation and shareholders in the long run.

4. Balancing competing needs

Panellists said a key challenge was to understand who a board was governing for and the competing needs of different stakeholders. Then, to weigh up those needs in board decisions and deliver an outcome that directors were prepared to stand behind, even though some decisions inevitably created stakeholder winners and losers. Panellists acknowledged that juggling different stakeholder needs, across different time frames, and involving financial and non-financial returns, was complex. But it was central to ethical governance decision-making.

5. ‘Should do, not have to do’

An interesting observation in the discussion was the prevalence of boards and executive teams to fall back on “what does the law require the organisation to do?” rather than “what should we do?”. Panellists noted that ethical decision-making went far beyond compliance; it began with what was right, and was proactive, rather than reactive or forced by regulatory demands. Only doing what the regulator or law expected – or waiting for a regulator to insist on industry change before doing what was right – was a recipe for poor ethical decisions.

6. Simplification

Some panellists noted the link between increasing organisation simplification and ethics. Following the Financial Services Royal Commission, more financial institutions were simplifying their products and services, distribution channels, fees and processes. In doing so, they were reducing layers of complexity that created scope for unethical practices and improving the quality, transparency and timeliness of information provided to boards.

7. A new customer conversation

An important observation in the discussion was the push by business to reset the customer conversation. There was a view that too much trust had been lost between Corporate Australia and customers, creating the perception that too many large organisations engaged in unethical practices designed to boost earnings and reward shareholders. The key for boards was to better understand the needs and views of customers and ensure they were sufficiently represented in governance decisions – a practice more boards are focused on these days.

8. Employees and ethics

Panellists noted the growing desire among employees, particularly young people, to work for organisations that made consistently ethical decisions, had a long-term focus, gave back to the community and balanced the needs of diverse stakeholders. Panellists said organisations that had an ethical culture were better placed to attract, retain and develop top talent. Those that displayed questionable ethics risked losing good staff to rivals.

9. Multiple layers of ethics protection

The best defence against poor ethics was a strong organisation culture and multiple layers of ethics protection, noted panellists. The board, executive team or senior management could not hope to stop all ethical breaches in an increasingly complex environment. It began and ended with all staff understanding the organisation’s values, purpose and principles and being supported by management and the board to apply them consistently. An ethical culture at all levels of the organisations provided multiple check points to identify, communicate and mitigate bad behaviour.

10. Social media

Panellists noted the power of social media in exposing ethical breaches in organisations and how it had made life more challenging for directors. Boards needed to be much more alert about social media and what stakeholders were saying– and ensure there were strategies to understand how social-media audiences were commenting on the organisation’s ethics and respond to them. Boards and executives had to be willing to defend the organisation’s ethics.

11. Virtue Signalling

Some panellists were concerned about recent government comments about big business “virtue signalling” over non-financial issues such as climate change or their social licence to operate. Panellists argued that boards and executive teams were often responding publicly to what the organisation and its stakeholders believed – and that communicating those views could be beneficial. More employees expected their organisation to advocate on important social or environmental issues, show leadership and demonstrate ethics publicly.

12. Boards pushing back

Balancing the needs of different stakeholders over different time frames did not mean boards should be beholden to a particular stakeholder group, or always put long-term performance ahead of short-term results, said some panellists. Boards had to have the courage to push back on stakeholders who tried to dominate organisation trade-offs. Having clear values and ethics, and making decisions that consistently related to them, was the best form of defence against stakeholders who pushed a narrow agenda that might not be in the corporation’s best long-term interests. Ultimately, boards had to weigh up what was best for all stakeholders, on balance.