Beware the risks from corruption

Published December 27, 2017

Note: Over the years, I have written many times on the subject of bribery and corruption risks for Singapore companies doing business overseas. In light of the recent US$422 million fine imposed on Keppel O&M, I have decided to post some of my older articles on this subject here.

First published in the Business Times on September 4, 2009

By Mak Yuen Teen

Over the last few years, governments and businesses around the world have been busy coping with one major risk event after another – financial crises, Sars, tsunami, terrorism, and pandemic flu. Although often ill-prepared for them, the response is usually swift. But perhaps the most insidious risk we continue to face – a kind of background risk – is corruption risk.

As the chairman of Transparency International puts it:

“In the poorest countries, corruption levels can mean the difference between life and death, when money for hospitals or clean water is in play. The continuing high levels of corruption and poverty plaguing many of the world’s societies amount to an ongoing humanitarian disaster and cannot be tolerated. But even in more privileged countries, with enforcement disturbingly uneven, a tougher approach to tackling corruption is needed.”

We are much more likely to under-react to corruption risk than to a global financial crisis or a terrorist act. However, “slow-burning” risks such as corruption and climate risks are just as dangerous, and perhaps even more so. The “boiling frog” story provides a good analogy. If a frog is placed in boiling water, it will jump out. However, if it is placed in cold water which is slowly heated, it will not sense the danger and will be cooked to death. Similarly, we will usually react quickly to a financial crisis or a terrorist attack, but we may be slowly boiled to death by corruption risk.

Corporations which have been caught in major corruption scandals would undoubtedly find that illegal behaviour had been occurring over a period of time, without them realising it or appreciating its severity. They may have ticked all the boxes in the Sarbanes-Oxley Act, and other rules and codes, without realising or addressing unethical or illegal behaviour taking place within their organisations.

When I taught an executive MBA course in corporate governance and ethics a few years ago, a senior executive working in a multinational firm shared with me that while his company had a code of ethics which it told its employees to uphold, it also set extremely short-term goals for country management to gain market share and achieve profitability, even in markets where illegal payments were the norm. Given the choice of losing a job or bonus in the short term versus the possibility of being found out for making illegal payments to secure contracts, it is very easy for managers in the field to put profits before ethics. I have heard such stories many times.

According to Transparency International’s Corruption Perceptions Index (CPI) 2008, Singapore is ranked No. 4 amongst 180 countries, only behind Denmark, New Zealand and Sweden as having the lowest levels of public sector corruption. However, Singapore does not perform quite so well on another of Transparency International’s indices – the Bribe Payers Index (BPI). This index ranks 22 major exporting economies on the propensity of their firms to bribe abroad and for this index, we are ranked only ninth.

Together, the CPI and BPI suggest that while our public sector is largely corruption-free, some of our companies doing business abroad may not be quite so. It is morally wrong to pay bribes. It has serious humanitarian consequences. And increasingly, it is suicidal to do business this way.

Lower ethical expectations

There are signs that we may have lowered our ethical expectations and standards over time. Just consider the unethical business practices of some businesses here – for example, timeshare and those selling electronic products in certain shopping centres in Singapore – which rely on misrepresentation and often harassment to make sales.

I do not recall that it was ever this bad. Since some of our businesses behave this way unchecked here, it seems reasonable to assume that some will behave in similar or worse ways overseas, and that their behaviour will be subject to even less scrutiny.

Ironically, we may be backsliding on ethics at a time when our hard-earned reputation for high ethical standards should pay the most dividends. Globalisation has opened up many opportunities, but has also made risk management more challenging for many companies.

In September last year, New Zealand’s largest company, Fonterra, reported that it had to write off NZ$139 million (S$135 million) of its investment in its 43 per cent-owned joint venture, San Lu, for the cost of product recall and loss of San Lu’s brand value over the melamine milk powder scandal. In December last year, it was reported that Siemens AG, the German global juggernaut, agreed to pay more than US$1 billion in fines in Germany and the US to settle corruption charges relating to dubious payments to secure business across the company and in several countries.

Recently, Telenor, the Norwegian telecommunications giant, was accused of breaching its ethical procedures because one of the sub-contractors of its subsidiary in Bangladesh was alleged to be using child labour. This may seem a bit like when my third cousin misbehaves, my father gets scolded. There are many examples of multinational companies being caught out by ethical or legal violations, both within their own organisations, or along their supply chains, which nevertheless hurt them.

Whether we like it or not, when it comes to business practices, the “accountability tree” may have more branches than one’s family tree, and accountability may extend far wider than one can imagine.

Today, the risks faced by an organisation often reside outside the organisation – with its suppliers, business partners and customers. This, together with regulations such as the Sarbanes-Oxley Act and Foreign Corrupt Practices Act in the US, mean that international companies are changing the way that they manage risks. Indeed, one might even ask if enterprise-wide risk management is wide enough.

It is now increasingly common for multinationals to be concerned about the standard of ethics and compliance of their suppliers and business partners. More have developed supplier ethics policies and incorporated ethical considerations into their supplier qualification systems. Multinationals often impose their codes of conduct on other partners across the supply chain.

Raising standards

This trend can only accelerate. Such developments mean that even unlisted small to medium enterprises which do business with multinationals will need to raise their standards of ethics, governance and compliance.

There are even changes in the way that organisations manage risks with their customers. Of course, most companies would already have procedures to assess the creditworthiness of their clients, but more are adopting more comprehensive risk assessment of their clients, as part of their client acceptance process. Reputable service providers now realise that they have to “choose their customers” because customers also bring risks, beyond credit risk. These risks are perhaps most evident in the case of regulated services such as an independent audit, where audit failures can impose huge financial and reputational damage on the auditor, as in the case of Arthur Andersen in the Enron case.

Consider how one major accounting firm assesses the risk of its clients as part of its client acceptance process. A key factor that is considered in its risk assessment process is the characteristics and integrity of the management of the prospective client. The firm obtains background information on a prospective client for the purposes of determining whether the personal and business reputations of the prospective client and their principal owners and officers are such whom the firm is willing to become associated with.

Where there is a change in principal owners and management of an existing client, such background information is also required to assess whether to continue to accept or retain the client.

Some of the factors which are considered to increase the risk associated with a prospective or existing client include management’s involvement with illegal or questionable activities; frequent changes in banks, lawyers, or auditors; significant personal difficulties in the lives of management; management’s willingness to accept unusually high levels of risk; recent significant or unexpected changes in management; and inexperienced management.

The nature of the prospective client’s business, its organisation and management structure and the business environment in which it operates are some of the other factors considered as part of its risk assessment.

Another professional services firm – not an accounting firm – now requires its consultants to assess the integrity of its clients (in addition to creditworthiness) before deciding whether to take on the client. As part of its client acceptance policy, it requires consultants to assess whether taking on the client could be expected to have a negative impact on the firm’s reputation or brand, and also whether the consultant is aware of any investigation or legal action against the client or its management that could have a negative on the firm’s reputation or brand.

Risks associated with poor ethics, governance and compliance will threaten the survival of our companies if they do not learn to accept them as part of the new business reality and put in place measures to address them. It’s a wave heading towards us and will impact even our small to medium sized companies which do business globally. They either catch this wave and ride over it, or it will sweep them away.

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