Thwarting Unethical Behavior—Roles and Strategies
Hunters are attuned to the subtle, in order to detect their prey. Similarly, in promoting ethics, ethics champions must become aware of the small violations before they become major violations. This requires effort and skill since ethical violations are not always obvious. That effort is worthwhile since conducting oneself ethically is the best way to foster a long-term, profitable relationship. Ethics are the antecedent building block to establishing trust and loyalty. Comparing the “World’s Most Ethical Companies” survey to the S&P 500 over time suggests that ethical behavior is rewarded. The most ethical companies outperform other similar-sized companies by 7.1% over a 15-year period. Among the reasons for this is that there is considerable evidence that ethical behavior improves customer relationships” and ethics simplify management.
The idea that ethical guidelines are relevant to business success is not new. However, ethical understanding is one thing. Actual practice is another. It is important to understand your opposition and counter unethical behaviors with your strengths. This is how corporate top management can efficiently ensure compliance to ethics.
There are several benefits to adhering to a higher ethical standard. For one, it can mean higher revenues. This raises the question: “What is the ethical standard?” There are many articulations of ethical standards and the focus of ethics has varied over the years. However, some of the basic principles remain unchanged. We recommend using the list of standards published by Professor Henry More of Cambridge University, UK, a while back, which suggests in simple terms some nineteen ethical principles applicable to most businesses.
Professor More called the standards by the Latin term “Noema,” and we believe the failure to accord with Noema, essentially ethical failures, leads to business reverses. Five examples of principles, and corporate results, follow:
|Quality of Service
Ethical Principle: Live by promises.
Example: A leading systems developer rolled out a new billing system for telecom providers in the U.S. and Canada. However, the $65 million system did not function according to specifications. In Canada, the system was sold to Bell Canada Mobility. After attempts to fix the system failed, the developer abandoned the project. Bell Canada cancelled the contract and communicated the failure to all telecoms and other leading businesses in Canada. In the next year, the systems developer was forced to close all but one of its Canadian offices as its customer base collapsed based on the Bell Canada experience. In the U.S., however, sales continued for over two years.
Management actions: In the U.S., the developer had gotten away with the failures, as customers did not communicate with one another. Management failed to address the problem. As a result, there was a material revenue contraction in Canada.
Ideal Management Strategy: Work to stand behind promises and product. A good example is LEGO’s customer satisfaction policies, which contribute to its position as the world’s most valuable toy brand.
Benefit: Many markets reward high quality of service or product. If the developer had secured Bell Canada Mobility as a satisfied client, it would have locked in that client for another five years and gained at least three more Canadian telecoms as clients.
Risks: Risks of standing behind the product would include costs of further development, and complaints of delay, with perhaps adverse effects in the market.
Ethical Principle: Treat customers candidly. Be sincere. Share issues with them.
Example: A leading tax service provider found that a competitor was materially undercutting published prices and standard industry rates. The provider experienced a slow erosion of its most profitable clients who defected to obtain lower prices.
Rationale for behavior: Tax provider did not want to alert customers that there were price variations, for fear of provoking questions of its own pricing.
Ideal Management Strategy: Management contacted the competitor’s older best customers and let them know that other, new customers were obtaining a much lower price. This incensed the older customers who complained to the competitor.
Benefit: The competitor ceased undercutting prices immediately. While none of the angry customers defected, several extracted deep rebates. No further defections occurred.
Risks: There was some risk of a broader price war, but this did not happen as it was to neither provider’s benefit.
Ethical Principle: Do not bully, ambush, or lock in clients.
Example: During the 2000s, a leading internet service provider set its pricing to retain customers. There were penalties for cancellation outside a narrow time band, and alternating periods of limited and unlimited usage, which led users to incur excess usage charges.
Rationale for behavior: This pioneering internet service provider, a dial-up, was facing rapid share loss as broadband and lower-priced providers entered the market. Management compensation depended on retaining customers. Many subscribers were not adept at exiting.
Ideal Management Strategy: Management should have addressed the problem, particularly in the face of overwhelming subscriber hostility. It should have updated its technology rapidly to retain older subscribers.
Benefit: As a result of a focus on retaining its existing client base through penalties and other ambush tactics, the provider failed to develop alternatives under consideration, such as nationwide wireless service (“WiMAX”) which might have given it renewed leadership and revenue gains.
Risks: Sometimes pursuing a “harvest” strategy can produce the most profits for a company (for example, mainframe computing and print photography), and simply riding the existing technology and customer base might have been the best shareholder (if not management) option.
Ethical Principle: Integrity brings benefit.
Example: In 2007, Coca Cola Company received an envelope from an employee at a competitor containing information regarding the competitor’s product development programs and market focus. Coca Cola immediately sealed the envelope and sent it back to the competitor’s management and included the name of the employee who had sent it.
Rationale for behavior: Coca Cola did this as a reflection of its ethical culture. It also was confident it could succeed in the market without using a competitor’s confidential information.
Ideal Management Strategy: Coca Cola did exactly the right thing.
Benefit: This action reinforced its world class reputation and set an example for employees.
Risks: Sometimes success depends on learning the other side’s secrets.
|Discrimination not reflecting costs
Ethical Principle: Show fairness and social equity to all.
Example: In some cases, buyer perception of the seller’s brand is linked to a broader, perhaps controversial, conflict, such as gender, race, age, politics, nationalism, or rights such as abortion or gun possession. For instance, auto insurance pricing for males runs about 14% higher than the same insurance for similarly-situated females. Of course, it should be higher based on accident rate differentials which cost insurers more. However, suppose costs for female services and products are higher? Indeed, many services and products bear a “pink tax” and are priced higher for women than for men. Average prices of haircuts and laundry services, for example, are higher, although these may reflect higher costs or women’s preferences for higher quality.
Benefit: Either costs or differential positions of customers may prompt differences in price, but sometimes management may underestimate the long-lasting harm from price discrimination.
Risks: Some fear that failure to reflect cost differentials may harm profitability. Note that often, costs were not properly examined. For example, Colonial Penn found that elderly drivers were lower cost because they drove fewer miles and so used price to become the leader in the senior automobile owner market.
The last principle suggests a basic contemporary management truism. There is often no reason to base differential pricing on race or gender—they are crude screens. Generally, there are more sophisticated behavior criteria. For instance, rather than differentiate car repair prices based on gender, it is much more effective to base them on the history of car ownership and prior repairs. This will distinguish the price-insensitive from the knowledgeable who may not be able to evaluate costs. Doing this by gender—especially in an age of social media—may generate anger and backlash.
If only one identifiable group has been subject to a unique set of factors, it can be easy for marketing managers to reach confident conclusions regarding potential actions. But this is almost never the case. For instance, confronted with low Net Promoter Scores, many line managers simply undertake the program they wanted to execute anyhow and say—usually incorrectly—that it will cure the low score in the market.
How to implement an ethical pricing program? A key question is who will be the champion of such a program? It may take effort to convince some managers that ethics increases profitability. Some market-facing managers who have obtained short-term revenue hikes from unethical actions may be uninterested in the longer-term consequences. In other cases, there may be unethical actions which, while highly annoying to customers, are important to a small budget. For instance, a shift from billing via USPS to online-only has a 2% to 20%+ impact on billing operations, or less than 1% to 5% of total costs, but this may alienate buyers who are not computer facile. Thus, in the short term, there is some money to be saved. But over the longer term such savings may be overwhelmed by customer defections.
Trials are a common means for testing market response to changes in policy/customer offers. Ethics-based initiatives differ from general marketing initiatives in that there should be no trials regarding ethical value. Trials suggest that the company has some doubt about whether an ethical practice is the right path. The use of a trial leaves open the possibility that the company could, in effect, say: “Oops! I guess we won’t be ethical in that way!” Trials are acceptable as long as they are clearly operational trials, such as testing out a new supervisory approach.
An ethical pricing trial cannot be a consensus-based process. There must be complete confidence in the ethics. The vast majority of employees look for strong leadership from top management in dealing with ethical issues.
For many companies, the notion that ethics may be a powerful driver of annual revenues is a novel concept. For some, this is a foundation for longer term growth. In fact, all may benefit from applying ethical rules broadly.
Mergers and Acquisitions
Mergers and acquisitions (M&A) can serve as the ultimate test of a company’s management ethics. While M&As are consistently found to not boost long term shareholder value, M&As do benefit a narrow group of participants, particularly advisors, investment bankers, accountants, and top management. Often, the board of directors and, in particular the CEO, end up with a huge gain. This is sometimes based on adjusting the CEO’s compensation because the new entity is bigger. Advisors enthusiastically support these deals because there is a lot of money at stake. For example, when AB InBev merged with SABMiller, advisors collected fees of $1.5 billion. The merger was later described as having “unimpressive” results.
With an army of lawyers, the legality of these transactions is not typically questioned. But are these transactions ethical? Are they moral?
There are arguments on both sides. As the Financial Times noted, after a merger, life is often easier for top management. They pick up a lot of money, usually a troublesome competitor is eliminated, and stockholder returns improve. This part of the outcome accords with Professor More’s first Noema in that it makes their lives “more pleasant and agreeable.”
But there are a number of Noema which do not accord with M&As depending on whether the longer-term outcomes are positive or negative for consumers. The two guidelines which speak most eloquently against such activity are 1) the stricture against “excess wealth,” and 2) the stricture against “cupidity.” These two characteristics are inarguably linked to most M&A activity and so condemn it. Few people would argue that large incomes and greed are not part and parcel of M&As.
Institutionally, it is worth distinguishing management roles. As the chief financial officer (CFO) of one bank observed, some “C” titles are inclined to defend the institution (CFO or Chief Counsel, for example) while others are more focused on short term revenue (CEO, head of sales, product management). In general, the more institutionally-oriented management will be more willing to make a short versus long term trade-off in migrating to more ethical practices and so may be the better initial champions of these efforts. Later, after the practices are successfully established, the leadership efforts might be taken up by revenue-oriented titles.
Often employees/managers may also resort to questionable ethics/greedy actions not in direct response to explicit CEO requests but based on how they interpret a CEO’s unspoken wishes or “wink and nod.” In bigger companies, CEO wishes/preferences are handed down through multiple management layers and often lose context in translation. A company’s general counsel will advise the CEO on what actions could be viewed as illegal, but what is greedy or ethically questionable is not generally within the counsel’s scope of advice. It would be highly unlikely for employees to tell a CEO that his suggestions were greedy/unethical.
What to Do?
- Have advanced tools and measures (shown as a cloud, in 12-1 below) to show the harm in some greedy tactics. This way, management will know the sequence of the harm:
Assessment of Greedy Actions
Few companies or marketers have reliable links among the steps. Few have really quantified the value of the ancillary service quality. How long does it take customers to respond when, for example, 5% of the market value of a good or service is removed, but the price remains the same? What channel events happen after the change in price/value? What is the lifetime Net Present Value (NPV) of such a move? Without provable benchmarks, the decision will be up to whoever is in power within the firm. Unfairly, without support in financials, the more ethical players may not always win.
- Make incentives include long-term results. There are many ways a smart manager with the wrong motivation can succeed in the short-term but leave chaos in later years. Fortunately, there are early warning signs of greed, such as lack of candor about proposed actions.
- Monitor competitors more closely. In many competitive industries, the competitors may be the ones who will notice short-term impacts first. Their actions, if called out, may be a good early-warning signal if the market frowns. The market will often punish poor behavior. For example, creating extra customer accounts hurt Wells Fargo, and violating privacy at Facebook has led to user hesitancy.
- Pre-emptive ethics and transparency. This has worked well, both for signals to the market and signals internally. See the Embedding Behaviors example above.
Perhaps the best way to encourage ethical behavior is to build an ethical culture. With the right culture, it is more likely that employees will notice unethical actions and act accordingly. But for that to happen, most or all employees need to be part of the ethical culture, and that can take 18 months or more.
The alternative to relying on building a culture is to rely on rules. However, relying on rules is often inadequate because there are too many types of marketing and pricing initiatives and because these rules work only under certain circumstances or contexts. If the task of ferreting out violations of rules is left to top management and the legal department, the number of violations will not be curtailed.
On the other hand, if management knows precisely what the ethical threats are, it can counter them effectively. This is why our outline of greedy tactics/strategies is helpful. This enables top management to ask the right questions, to make sure the right screens are in place, and to have a strategy for stopping unethical actions before they start. This is the most strategic ethical approach.
Approaches A and B may work, but are less effective and efficient than C.
A Case Example
An example of the evolution of management behavior can be found by examining a leading manufacturer of Aerial Work Platforms (AWPs), also known as “cherry pickers.” The salesforce had become proficient in switching allowable discount amounts from one account to another. In this fashion, a salesperson could exceed the allowed account discount set by finance. This was a violation of their condition of employment, and so, in the absence of any overarching contrary principles, was unethical.
In addition to excessive discounting, this practice also made it difficult to penetrate new market segments via discounting since intended discounts were transferred to accounts that the salesforce felt comfortable with. When the huge differential in discounts across accounts became public knowledge, customers were angered and went elsewhere.
Management was aware of this practice, but had no idea of its extent. Because management believed the practice was infrequent, it did not want to punish random sales people. Management was reluctant to spend great effort to correct the behavior. The abuse ended only after the AWP manufacturer installed a new accounting system which tracked cash discounting. The shell game ended abruptly.
The benefits were apparent. There was a 5-7% increase in revenues. Customers were no longer outraged to discover discounts of much as 40% to others and not them. And sales people were educated on more scientific bases for discounting. This process took about 18 months.
A Chief Ethics Officer
One approach used by a number of companies such as Target, Salesforce.com, Boeing, and others is to appoint a Chief Ethics Officer (also called a Chief Trust Officer). They operate on different charter, including one which is “To develop a strategic framework for the ethical and humane use of technology.” The Chief Ethics Officer has a variety of reporting relationships, often to the CEO or CFO. To be effective, they must also work closely with the company General Counsel and legal staff.
The key decision in designing the function is what ethical issues to target. Are they the large collection of line practices, some identified in this article? Or are they matters which have reached the board? In part, this shapes what the ideal manager’s credentials will include. We believe that some connection with ethical theory, moral practices, and legal rules is important. But there is the need to have an officer who can understand the increasingly complex unethical practices at a line level. Many will not detect—or know how to prevent—the unethical strategies mentioned in this article. This means that their company will not address some ethical issues until they blow up, because they are not recognized. These include pricing and information technology, which are often not familiar to top managers. This is likely to grow into a larger problem as pricing and information technology, e.g. Artificial Intelligence (AI), grow in sophistication and use.
Often, a robust financial analysis is important to fight unethical decisions. In 1970, an internal memo was said to have circulated to top Ford management members. It was reported that the memo estimated that there would be 180 burn deaths and 180 serious burn injuries in Pintos without fuel tank modifications. It estimated that this would cost Ford $200,000 per death, and in total would cost $50 million.
In fact, the NHTSA found that nearly 9,000 people burned to death, and tens of thousands suffered severe burns. A 50x mistaken estimate. The cost per death was also underestimated, and other damages (e.g., to company reputation) were omitted. A good ethics officer would have challenged the initial estimates and used better financial and outcome estimates to persuade the board to correct the problem. As usual, only poor financial skills and poor judgement reinforced a drive to the unethical approach. If done properly, an ethics officer would have been able to stop the unethical process from the beginning.
What is clear is that the ability to spot and prevent greed and unethical behavior from the top is usually difficult. Top management must exercise effort to ensure policies are ethical and that an ethical culture is enforced.