Oliver Marnet in this paper focuses on the study of the effect of bias on the quality of boardroom decision-making. Effective boards are one of the main drivers of corporate governance (Walker, 2009; FRC, 2011). Bias in the boardroom is likely a major cause of the poor judgement of the members that ultimately leads to the destruction of the corporate value. Every human being is subject to some level of unintentional biases in one way or another.
Marnet describes that bias in the boardroom may succeed in weakening the functional independence of non-executive independent directors, with negative consequences for accountability and stewardship. (Marnet, 2011). In my opinion, I believe the non-executive independent directors are chosen for their knowledge, capability and experience. Although the experience might not be in the same field, but through their track record, it can be seen, they would be capable of making fast & correct decisions. Their role is to challenge management proposals and to ensure platform for independent challenge is present. As they would not be familiar, have the inside knowledge of the company, they greatly depend of the information provided to the board by the CEO & the executive directors. It is difficult for the external directors to make a correct decision as they rely on the information from management and advisors. (Armour, 2002; Thomas et al.,2009). The interest of management and advisors are not always aligned with the company’s interest: they might want to close the deal, they might be tempted by financial benefits, career and prestige reasons. If there is something that the CEO and the executive directors don’t want to share with board, don’t want the board to know, they do not disclose it or disclose it in very few details, so the non-executive directors are not in a positon to make a clear decision. If we take the financials accounts that could be made out of a few thousand pages, it is difficult and in most cases impossible for the non-executive independent directors to read, prepare and be able to make the right decisions. In the aftermath of the crisis, financial institutions were required by law to increase the percentage of independent directors on their boards. This also contradicts Marnet’s findings.
Marnet describes that it’s not a surprise that directors can make decisions without being affected by such factors as group loyalties, peer pressures, social ties, friendship, own preferences, and non-pecuniary self-interest or that they are capable of overcoming any resulting biases as long as they “watch out” for these (Coffee, 2001; Marnet, 2018). I completely disagree with Marnet, as if we take the CEO & the executive directors, who most of them work together on a daily basis, will tend to have the same opinion in making decision, “groupthink”. Some directors are forced to agree with CEO as a gratitude for being elected to the board, others to protect their jobs and remunerations, and others feel threatened by the power of CEO and don’t feel capable of challenging them. This ruins the danger of creating a place of passivity where critical and uncomfortable questions are not being asked. (Buffet, 1993; Collier, 2005; Marnet, 2011 1a,b). Boards of directors, are highly subject to groupthink (Janis, 1972) and polarization (McHoskey, 1995), with potentially negative effects on the quality of decision. It begins with overbroad notions of collegiality, of knowing “one’s place”, of not rocking the boat. Going back to non- executive directors, by increasing their numbers, this could reduce these biases. Research findings by Forbes and Watson (2010), who note that organizations characterised by “strong managers and weak owners” (Roe, 1994) expose themselves to ―destructive leadership’ risks (Padilla, et al., 2007) due to board loyalty biases, little mitigated by current corporate governance codes.
While bias in perception, judgement and opinion formation is inevitable, boards can improve their decision-making processes to minimize the impact of bias on decision making by changing the board members regularly and by increasing the number of non-executive directors.
It is suggested that bias in perception and judgement is an inescapable factor of human choice-behaviour (Bazerman and Malhotra, 2006). Flawed decisions can be made with the best intentions, and competent individuals believe they are making a correct decision. Due to some form of biases, social or psychological, this can influence the decision making contributing to the implementation of the negative impact for the company and the board. Recent high-profile corporate scandals and details emerging on the causes of the global financial crisis reinforce the impression that independent judgement, constructive debate and challenge in the boardroom remain the exception.
As most financial institutions were impacted by biases in the boardroom, negative decisions making that contributed to the Global financial crisis, as part of the assignment we are focusing on the collapse of the European Bank Fortis.
The Fortis Group was established in 1990 as the first cross-border financial merger, between Amev, a large Dutch insurer and AG Group, a large Belgian insurer. Fortis was the leading Benelux financial group, one of the top five financial institutions in the EU, with activities and business in over 50 countries and more than 85 thousand employees, with a record 4 billion Euro profit in 2006 – these are a few examples to show how big and powerful the company was. Fortis had adopted a body of principles and policies, the Fortis Principles of Business Conduct. The Group had a leading role in CSR policies in the Benelux. Fortis was also awarded the title of European Banker of the year in 2007, and received the price of the best CSR report in Belgium. All these measures on CSR, corporate governance and ethics made Fortis’s reputation. Fortis also adopted the “Equator principles, a framework promoting environmental and social responsibility by financial institutions in their project financing”. (Fassin & Gosselin)
The board of Fortis was described in the article as “a model of Corporate Governance”. The international Board consisted of directors with impressive curricula vitae & specific competences in various fields. The Chairman Maurice Lippens, who was the Chairman of Fortis for 28 years, had given his name to the Belgian Corporate Governance Code approved in 2004.
One of the biggest mistake Fortis made was the acquisition of the Dutch bank ABN AMRO in conjunction with Royal Bank of Scotland (RBS) and the Spanish Bank Santander, which offered a higher bid that the rival Barclays. This was a long term commitment, funded by short term means. This is a clear description of the “peer pressure” bias. This was a decision that the board had to make, in conjunction with 2 powerful financial institutions RBS & Santander to complete the very aggressive acquisitions of the ABN AMRO, having to compete with Barclays Bank. This was an international pressure as Fortis board wanted to acquire the ABN AMRO at any price. This is seeing as the deal that the board were ready to make at any costs, this was an ambition by the Chairman and CEO to place the bank as one of the top financial institutions alongside RBS & Santander.
Another mistake Fortis made was the time it took to take over ABN AMRO after the deal has been done and the raising of insufficient capital. There was signs showing the deal is a bad deal for the company & even if it wasn’t too late to renounce to the deal, it was for the for reason of proud or vanity not to renounce to the deal. (Debels, 2009). The timing was one of the external factor that contributed to it.
Fortis, as other financial institutions were trading in CDO (collateralised debt obligations). By dealing in these instruments who were sold many times over again, it resulted in an off balance sheet that it didn’t give a clear picture of the financial accounts and the capital needed. On the other hand, it was the AAA –rating awarded to CDOs, that encouraged the management to deal in these instruments.
Board has failed to notice the problems in the sub-prime market appearing in the USA. Also in order to finance the deal, Fortis had to increase its capital enormously. A private placement of new shares without priority rights for the existing shareholders was one of the decisions made by the Board that upset the shareholders. Also the cancellation of the interim dividend, this was in breach of promises by the Chairman. Although this wasn’t against the law, but shows that the ethical principles of honour and good faith were not adhered to by the board in relation to very supportive, passive shareholders, who put all their trust in the Chairman, CEO and the Board. The Board and executives failed in their moral obligations to shareholders to keep their promises (Williams and Ryan, 2007; Marcoux, 2003). Investors were obviously very badly affected, but one might argue that investors didn’t do their homework in terms of researching & getting all the information necessary from the board. On the other hand the company had strong reputations through the previous acquisitions when it made a lot of money for the investors and the investors didn’t bother checking it until it was too late. The shareholders were very loyal and trusted the board, CEO and especially the Chairman. They allowed and gave a lot of power to the board in managing and requiring new additions to the company. This shows again in the overwhelmingly support offered in relation to the acquisition of the ABN AMRO, where they supported by 95% of votes in Brussels & Utrecht. The trust was shown again in 2008 when the mandates of Chairman Lippens & CEO Votron were extended.
The Chairman Lippens was a very powerful person, who managed the board for 28 years. Most of the members were chosen by him and it’s impossible not to think of this as a form of biased loyalty to him by the members. This would have affected their judgement in making the decisions and in most cases there were no questions asked in relation to any decisions and propositions brought to the board by the Chairman. Also, most of the board members would have found it difficult to challenge the Chairman, due to the wide experience, the length of time in the role and the successful acquisitions and expansion during the years.
When the crisis erupted and were known to the CEO and the board, the ethical dilemma is being asked, is the CEO allowed to lie if the lie can save the company (Seglin, 1998a; Wetlaufer, 1989). Can the lie be motivated to avoid greater harm (Fassin & Gosselin)? The question is what other lies they told the shareholders, the public, the international community and for how long?
The share price had dropped from 35 Euro to under 1 Euro & due to a sudden increase in large cash withdrawals of deposits, it forced Belgian, Luxemburg & Dutch governments to take actions which involved partial nationalization and 11.2 billion Euro investment in Fortis. Dutch government bought all Fortis’s activities in the Netherlands, including ABN AMRO & sold it to BNP Paribas.
I completely agree with Fassin & Gasselin that the collapse of Fortis Group didn’t’ result only due to biases in the boardroom, but also influenced as a result of the financial markets, disappearance of the trust in this sector – the influence of the external factors. (Fassin & Gasselin.2011)
Question 2. “How employees respond to ethical dilemmas in organisations is influenced significantly by the culture of the organisation in which they work. While an important role of the board of directors is to create an ethical culture throughout the organisation, this is often challenging for boards”.
Critically evaluate this statement in the context of the financial services sector, in the context of all that you have learned and read during this module. Your analysis should address why creating an ethical culture can be challenging for boards of directors and explore the methods boards of directors can employ (formally and informally) to embed an ethical culture in their organisation.
Ethics is defined in the Oxford dictionary as “moral principles that govern a persona behaviour or the conducting of an activity”.
Ethics is more than just common or normative standards of behaviour. Ethics underpins good corporate governance. Developing an ethical corporate culture is an important objective for boards. Ethical behaviour, as witnessed by numerous corporate scandals, will not manage itself and directors and managers need clear guidance when dealing with ethical dilemmas. Decisions taken within an organisation may be made by individuals or groups, but whoever makes them will be influenced by the corporate culture.
So the tone at the top is critical to creating the ethical culture of the workplace. Having a code of ethics is a good start, but words on paper are not enough. Therefore, boards need to understand that they have a key role in setting the tone and developing strategies and policies to embed ethical behaviour in their organisations. Boards need to understand the need for ethics management and then develop the appropriate governance and management frameworks for their organisation. Ethics goes beyond simple compliance and respecting the law; it is about written and unwritten codes of principles, values and behaviours, based on the organisation’s culture, that govern decisions and actions within an organisation. It is how you make decisions and conduct business.
Part of the financial crisis in Ireland and the worlds can be attributed to ethical lapses. We’ll focus at some dilemmas, when the companies are making money, the company is turning a blind eye, as long as they are making a profit until something goes wrong, then it falls on the staff & not the management. In most cases, the staff were just doing their job. Companies disregard the fact that even though an action may not be illegal, is still may not be moral. Sometimes when we presented with a dilemma we have to ask ourselves “What would my mother think if this decision if we're about to make finds itself on the front page of the local newspaper or on the 6 o'clock news?"
-Wells Fargo bank, where 1.5 mln accounts & 565 thousand Credit Card were issued without customer’s consent, staff set up fake e-mail accounts to sing up customers for online banking. The question we are asking, the management had to know what was happening, but didn’t take actions. 5300 employees lost their job and none of the top management were fired. What was the culture of the bank, why were those practices allowed to happen?
-Germany’s biggest bank admitted to miss selling mortgage-backed securities, having knowingly made false and misleading declarations to clients.
-Goldman Sachs mislead clients such as Germany’s IKB and Royal Bank of Scotland about its Abacus CDO
-In the UK, the king of miss-selling scandals emerged in the payment protection insurance business.
In Ireland significant lending to a small number of property developers -100 % Loan to Value lending -Tracker Mortgages
-The 7 bln market deception scheme, that took place between Anglo Irish Bank and the Irish Life and Permanent. The aim of the transfer was to increase the Anglo Irish Bank balance sheet, to deceive customers and the investors.
It was evident that there were a number of the imprudent practices and unacceptable risk exposure in banks. Culture played a big role in all of the Financial organisations - do everything you have to do to get the business. Also culture of self-governance – deviations from the Core Principles of Banking to increase profits.
While an important role of the board of directors is to create an ethical culture throughout the organisation, this is often challenging for boards:
- Senior management is being isolated from those at operational levels where information flows through a narrow channel that doesn’t allow the adverse information get to the senior management. The middle managers have to be able to listen to their staff and pass the message back to the board if there are any issues. This doesn’t seem to happen in most organisations, due to middle managers do not want to rock the boat or to come across negative, don’t feel they want to be challenged by the board of managements and the CEO. In this way the message doesn’t filter both ways in the organization.
- Pursuing their own goals that are contrary to the company’s goals, example would be Kervel, a trader in the Societe Generale made loses of 4.9 billion Euro to the bank.
- Corporate culture of intimidations, discouraging open expressions of doubt or scepticism, resulting in reluctance to challenge senior managers.
- Deliberate concealment of information by staff and reporting to the boss what the boss wants to hear.
Ethics in Financial Service
The financial crisis in Ireland and around the world highlighted again the weaknesses in the internal governance, risk management and controls of the financial institutions. In the aftermath of the crisis, a number of regulatory and prudential reforms were implemented to start to rebuild the trust and confidence in the industry. Also a huge focus was put on transforming the culture of banks.
Organizational culture refers to an organization’s beliefs, values, attitudes, practices, customs and language. culture.
The board of management set the Risks the banks is to take, the targets were also set by the CEO & the board and on the other hand staff and management have to try & get those targets, sometimes by using unethical ways or methods.
What goes on in the board rooms remains one of the best kept secrets. We’ve learned that from the investigations that took place after the Government had to step in and provide guarantee to the Irish banks, to protect them from collapse. More transparency is needed. Also Ethics considerations is not given space or time in a meeting. Boards have to create space in a meeting, step back with silence. This is a very powerful weapon in a busy meeting.
Bank of Ireland, with the appointment of the new CEO Francesca McDonagh, put a focus on reshaping the culture.
The key values are:
- Customer Focused
- One Group, One Team
The organization need to develop at ethical corporate culture, where employees do the right thing, not because they have to, but because they want to.
These are some of the methods that boards of directors can employ to embed an ethical culture in their organisations.
-Executive Leadership- Ethical Leadership is Key
. Ethics must begin at the top of an organisation. It is a leadership issue and the chief executive must set the example (Butts,n.d). When the belief of the organization come from the chief executive or the board of directors, managers and employees need to be loyal and committed to the organization’s goal for a culture to be shaped. The CEO needs to know what’s happening on the ground, need to know if the staff are actually embracing the values and the culture.
-Autonomous Reporting Channels.
The board should create a culture in which the employees should feel free to speak to the management. As we all know there aren’t a huge number of whistle-blowers that speak up when they feel they should. The reason could be that they don’t believe the management will take actions or they feel there will be negative consequences to them if they do. The organization needs to provide formal mechanisms so that employees can discuss ethical dilemmas and report unethical behaviour without fear of reprimand. Although most of the companies, including the company I work for have a speak up policy, there is a yearly mandatory training in relation to it, this seems to be a tick box exercise, but staff do not believe that this will make a difference if they report a misconduct. This tends to create an unhealthy work environment.
-Performance Management and pay.
Salary should reflect the type of job you are doing. If you take the position of the CEO is a short time job, risky, so the person will look at getting as much pay and bonuses as they can. In Ireland the bonus to CEO is capped at 100% of their salary, it can be increased to 200% with the approval of the Board. If a company is paying bonuses for selling a product or achieving the target, staff will tend to ignore the moral duty and also disregard the need of a client and assume that the company supports this.
How do you incentivise people that do something good, proper behaviour? We are all humans; we do all have a self-interest with a desire to accumulate wealth. Self-interest sometimes extends into greed and selfishness. Bonuses to staff is good as long as staff know that the bonus is based on performance, but staff start to think of it as part of their compensation, as norm and when the bonus is not paid they seem to revolt. John Cryan, Deutsche Bank’s co-chief executive, seems to believe that cash bonuses don’t work. He would “not work any harder or any less in any year, in any day because someone is going to pay me more or less” (Hill, 2016). Another chief executive of a global bank says privately he wants to explore other ways to motivate staff, based on improving their wellbeing and self-motivation (Hill, 2016).
Robbins and Judge (2009) suggest a combination of practices that the management can do to create a more ethical organizational culture.
Be a role model and be visible
as the employees look to the behaviour of top management as a model of what’s acceptable behaviour in the workplace.
- Offer ethics training to reinforce the organization’s standards of conduct, to clarify what practices are and are not permissible, and to address possible ethical dilemmas.
- Visibly reward ethical acts and punish unethical ones.
- Provide protective mechanisms.
Directors should follow the Dutch bankers to take a banker’s oath, adopt a conflict of interest policy and code of business conduct, setting out the organisations requirements and processed, also set out sanctions in instances where these rules are broken.
Dutch bankers swear an oath – promising they will perform their duties with integrity and that they will “endeavour to maintain confidence in the financial sector”. It is in operation since 2014 and 90,000 bankers have pledge the Oath. The expectation is that doing so helps restore confidence in financial system. The approach in the Netherlands taking is a good start, but if the industry is serious about restoring confidence in financial services, the focus must go beyond the individual to the culture of financial institutions and the industry”. (Business Ethics 2015)
The introduction of the Fitness and Probity Regime by Central Bank of Ireland under the Central Bank Reform Act 2010 where the minimum standard required by persons in senior positions are “competent and capable, honest, ethical, and of integrity and also financially sound”
Central Bank of Ireland, through its Consumer Code 2012, focused on implementing a culture that is acting “honestly, fairly and professionally with due skill, care and diligence in the best interest of its customers”. (The Irish Times 2017)
Having an organizational culture that focuses on ethical behaviour can reduce the misbehaviour of organisation. “Leaders with a moral compass set the tone when it comes to ethical dilemmas” (Truhillo, Bauer, & Erdogan.2016)
A business that lack integrity or operates in an unethical manner soon loses the support of customer as well as employees.
Unethical behaviour presents a clear risk to the image and reputation of the organisation, as well as its sustainability. Equally, there are benefits for having an ethical culture: good company reputation, reduced risk of scandals, trust from the shareholders and investors, customer trust and satisfaction, reduced fraud and corruption, less time spend by management on solving ethical issues.
At the same time, companies with an ethical culture will be able to attract and retain ethical employees and top human talent who wish to be associated with an ethical organisation.