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Why business ethics are under the spotlight

The ethics of businesses and their top executives are under greater scrutiny than ever – and from many different directions. How well do they treat their staff and their customers? Do they take care to ensure their company meets its responsibilities on safeguarding the environment? Do they make a fair contribution to the communities where they operate, for example in terms of the amount of tax they pay?

The questioning of business leaders on subjects such as these has become much sharper over the past few years for several reasons. They need to be aware of the increasing scrutiny they are under from all quarters and to make sure they can articulate a vision for their company that will meet the expectations of their different stakeholders and – more importantly – that they can live up to and deliver that vision.

So why has the questioning of business ethics become so much sharper?

First, the amount of information available to the public on particular businesses has grown enormously. There is far greater knowledge in the public arena about what companies do and how they operate than was the case a decade ago, let alone 20 or 30 years. Many more people can now share their opinions on a firm and its behaviour with millions of others. This changes the situation radically for the people in charge of running these companies.

The second big change is that business leaders are now much more public figures than they used to be. Corporate heads are part of celebrity culture alongside musicians, actors and sports stars. So we do the same things to business leaders that we do to celebrities – we set them up and then we knock them down.

Third, there has been a big change, particularly over the past 40 years, in the mix of investors that own shares in companies and in the kinds of return that they expect those companies to generate for them. This shift has had a big impact on the way that businesses are run and therefore on how they behave.

Over the past few decades there has been a change in the ownership of private sector companies. This has moved steadily away from direct shareholdings by private individuals and towards investments controlled by financial intermediaries. While pension funds and insurance companies have been long-term institutional players, they have been joined over the past 30 years by fund managers, hedge funds and others for whom the short-term is more important.

The traditional direct shareholder owned their shares for the long term and wanted to collect a regular income from them in the form of dividends – that was the classic definition of a blue-chip stock. Now, that is not necessarily the case.

The people running these huge investment funds are paid according to the value of the funds they are managing – the more they have under their control, the higher their fees will be. So their rewards are clearly linked to capital value rather than delivering a particular level of income.

Once you have shareholders who are primarily interested in seeing the capital value of their holdings increase, businesses will tailor their behaviour in order to deliver that growth. This is where things can start to go wrong.

If company leaders feel pressurised to increase their share price to meet the short-term demands of fund managers, then there’s an immediate question over how far the company will go to safeguard the interests of other stakeholders, including customers and the wider community, by fulfilling the full range of its obligations.

Once a company starts to concentrate on achieving the “right” share price performance over relatively short time horizons, then they can often start to lose sight of how to treat their customers. There have been recent examples of this in revelations about incentive schemes certain institutions put in place for their sales staff. They faced possible salary cuts if they failed to meet their quarterly targets, so naturally they did everything possible to make sure they met those targets, with the result that thousands of people were persuaded to buy products not suitable for them.

A management decision to implement a very aggressive sales incentive scheme had ended up putting a serious question mark over the ethics of the staff and management at these companies.

Practices like that have led to a huge increase in the public distrust of a number of financial institutions and compensation payments to customers who were mistreated have more than wiped out any profits they might have made.

Over the past two decades, the advisory business has mushroomed and there are now thousands of consultants giving companies advice on how to maximise their profit performance, which in turn helps to increase their share price and so deliver the capital gains that many large investors are seeking.

This has led to increased awareness that improved profitability can come from financial engineering as much as from selling more of your product or acquiring other businesses in order to expand.

One way of engineering the business financially is to find new ways to minimise the amount of tax that the company has to pay, as we have seen recently in a number of high-profile cases.

But company leaders have to be very careful about how they take these decisions because ultimately a short-term tax gain can easily start to backfire in consumers’ minds if they decide that large companies are trying to avoid paying their fair share of tax and so are not doing enough to support the country or community in which they operate.

Balancing competing pressures from different stakeholders is a critical part of what today’s business leaders have to do. They have to ensure that the challenges that come from wider stakeholders are seen as being just as important as those from the small group of fund managers that control a significant proportion of the shares in the business.

The point is that, as consumers, we all have a choice and nowadays we can clearly see people exercising their choice in response to how companies express and live up to their values.

What does good ethical practice look like?

There is a range of qualities that we want to see from businesses in order for us to have confidence in their ethics.

First, they need to articulate clearly what their purpose is – in the case of John Lewis it is to be “never knowingly undersold” for high-quality goods and services.

Second, we want consistency. John Lewis has followed that same vision for decades so we have a strong idea of how the business intends to behave now and in the future.

Third, we want companies to provide products and services that achieve high standards and deliver good value, while also following good employment practices and considering the impact they have on the environment.

Fourth, we want to see companies that invest in the future of their business, and fifth, we want companies that work in the best interests of the wider community and pay their fair share of tax.

If a business faces a challenge over its ethics, there are three main elements to an effective strategy for meeting that challenge. The company needs to start by articulating clearly the values it seeks to follow. It needs to give an honest assessment of whether it has kept to those values and it should explain what it intends to do differently in future to put right anything which has gone wrong.

Being transparent and direct in responding to ethical challenges is by far the best approach for business leaders to take.

Authored and Contributed by: Professor Chris Bones (Chairman of Good Growth)

Watch video >> Prof Chris Bones discusses business ethics

Chris Bones is a professor of creativity and leadership at Manchester Business School