1 INTRODUCTION
There is no doubt that flawed corporate cultures can contribute to corporate failures or scandals. Research has shown that numerous corporate failures or scandals in corporates across the globe can be attributed in part to the relevant corporate having a flawed corporate culture[1]. This paper will explain how a flawed corporate culture can lead to such failures or scandals, reference examples of companies to which this occurred, explain the roles and responsibilities of the board in relation to creating and maintaining a good corporate culture, and discuss whether the Companies Act 2008[2] (‘the Act’) and the King IV Report on Corporate Governance for South Africa[3] (‘King IV’) provide sufficient regulation and structure in this regard or not.
2 HOW FLAWED CORPORATE CULTURES CAN CONTRIBUTE TO CORPORATE FAILURES OR SCANDALS
Corporate culture can be defined as ‘a combination of the values, attitudes and behaviours manifested by a company in its operations and relations with its stakeholders’[4]. King IV, which provides a model for good corporate governance in South Africa, defines culture in the context of an organisation as ‘the way in which members of an organisation relate to each other, their work and the outside world in comparison to other organisations’[5].
Achieving a good or ethical corporate culture should be one of the desired outcomes of the corporate governance strategy of a corporate[6]. This is because even if other corporate governance systems are in place, a flawed corporate culture can result in significant harm to the corporate, resulting in damage to its reputation, the imposition of heavy fines on it, and the irreparable devaluing of its shareholders’ value[7]. This was found to be the case in Wells Fargo in the United States of America, where a ‘warped corporate culture, a decentralized organisational structure, and poor leadership were to blame’[8] for its collapse, even though it had control and risk-management systems in place.
Research has shown that even with increased legislation and compliance systems in place to prevent white collar crime, fraud and other unethical conduct by a corporate or its employees, those occurrences continued to rise, because ‘the root cause of the problem…was weak leadership and flawed corporate culture’[9].
Two other examples of flawed corporate cultures contributing to corporate failures or scandals are these:
2.1 Steinhoff
The Steinhoff group of companies are a global retail group with a holding company that had listings on initially the South African and then the German based stock exchanges (‘Steinhoff’). Steinhoff’s public downfall began in 2107 with its chief executive officer suddenly stepping down and its board announcing Steinhoff had ‘suffered accounting irregularities requiring further investigation’[10]. The various investigations and law suits against Steinhoff and its management that followed have not yet been finalised.
While it was a listed company in South Africa Steinhoff was obliged by the relevant listings requirements to comply with many of the corporate governance recommendations of King IV[11], but this was not sufficient to prevent the crimes and unethical behaviour which occurred. It has been said that ‘it is largely the human element that has toppled this once-mighty company’[12], which the items listed here reflect:
- its tick box method of compliance with legislation and corporate governance requirements were not underpinned by ‘an ethical commitment to respect and abide by relevant rules and regulations’[13].
- the independence of its non-executive directors was initially non-existent and later questionable, and the lack of independence of its chairman was in fact celebrated[14].
- a group-think culture, under which people lose their willingness to critically examine the decisions taken individually and collectively, appears to have been present in the board[15].
- its chief executive officer seems to have been an immensely charismatic leader, surrounding himself with those loyal and submissive to him, with the result that Steinhoff’s board did not remaining alert to his unethical behaviour or criticise him[16].
2.2 Parmalat
Parmalat Finanziara, an Italian corporate, suffered a massive corporate scandal around 2016. This was due to a number of corporate governance failures including its use of numerous offshore companies to report non-existent assets to offset themselves, its falsified accounts[17], the lack of independence between the chairman and chief executive officer, the lack of independence of some non-executive board members, and its majority shareholder channelling company funds illegally to themselves at the expense of minority shareholders[18]. Its corporate governance systems failed to establish checking systems, which allowed the abuse of power and fraudulent activity to go undetected and to persist[19].
3 THE ROLE AND RESPONSIBILITIES OF THE BOARD IN CREATING A GOOD CORPORATE CULTURE
The board, as the governing body of a company, is the ‘focal point and custodian’[20] of the company’s corporate governance, which is reflected in Principle 6 of King IV[21]. As mentioned, a good corporate culture is a desired outcome of good corporate governance, and as such its achievement is a board responsibility. A good corporate culture can assist in delivering sustainable good performance of the company, and has become an important tool ‘in delivering long-term business and economic success’[22]. An ideal culture will encourage employees to act ethically and legally, which will result in reducing the chance of corporate failures and scandals erupting, and also allow the company a better chance of recovery if any do arise[23].
To achieve a good corporate culture the board must shape, oversee and monitor culture[24]. It does this by setting values and behaviours that will achieve the company’s planned value creation, and incentivising appropriately to achieve that[25]. In addition, the board must hold executives to account where they act out of line with the company’s purpose and values[26].
Other methods the board could utilise are as follows:
3.1 ensure all employees understand that crime is costly to the company and will be costly to many of their careers, so everyone should stand against it[27]. The numerous global examples of corporate failures and scandals can be shown to the employees to illustrate this;
3.2 treat any concerns seriously that are raised about ‘possible wrongdoing and performance pressure’[28]. This will prevent people with good ethics feeling ‘compelled to behave badly or to tolerate transgressions’[29];
3.3 give whistle-blowers protection, and possibly substantial incentives[30];
3.4 ensure there is clear communication to employees regarding behaviour that will not be tolerated, and act decisively and consistently against crimes employees may perpetrate[31];
3.5 recruit directors and management with reputations of honesty[32];
3.6 require employees to make group decisions on certain matters to avoid individuals accepting bribes[33];
3.7 support transparency, using various methods such as publicly disclosing illegal actions taken by the company’[34] or ‘[s]upporting institutions that investigate and report on corruption’;
3.8 ensure there is a clear purpose for the company, so it is easier to see how decisions made ‘impact on the company’s culture and deliver its purpose’[35];
3.9 define the company’s values and set out the desired culture and behaviours, so behaviour can then be measured against those, and design tools to assess culture and behaviour[36];
3.10 define a broader purpose which is not solely related to profit but will benefit society as a whole[37]. This will ‘help create shared goals, motivate employees’[38] and bind the company together.
4 ARE THE COMPANIES ACT AND KING IV PROVISIONS OF REGULATION AND STRUCTURE SUFFICIENT TO CREATE GOOD CORPORATE CULTURES?
The Act and King IV provide sufficient regulation and structure to require and support the creation of good corporate cultures in South African companies. This is done through the various legal requirements (in the Act) and recommendations (in King IV) that relate to the board and its composition, strategies, disclosures and operation. King IV’s recommendations are however substantially more numerous and relevant than those in the Act, and would steer a company more towards having a good corporate culture than compliance with the Act would. There are improvements which could be made in the Act this regard.
As the creation of a good corporate culture is the responsibility of the board, almost all of the Act’s legal requirements and indeed almost all of King IV’s recommendations relating to the board will be relevant to achieving that outcome. For example, the board’s composition, duties, reporting structures, disclosure obligations, interactions with stakeholders, and many more aspects are all relevant. A company that is on the whole implementing a good corporate governance framework is more likely to have generated a good corporate culture. This paper therefore only mentions a few of the Act’s sections and King IV’s recommendations that are most relevant to supporting the creation of a good corporate culture.
4.1 The Act
The Act binds companies of all types and sizes. As such, when placing obligations on companies, it often distinguishes between the obligations placed on private versus public companies, and on smaller versus larger private companies. This is mostly welcomed as it prevents private and certainly smaller private companies from being overburdened with costs and administration. However, looking through the lens of how the Act ‘s obligations support good corporate governance outcomes, it does mean that in most cases only the large private companies and public companies are subject to the relevant obligations, such as being obliged to disclose directors‘ remuneration in the financial statements[39], or to have a social and ethics committee[40].
4.1.1 Positives of the Act
Some ways in which the Act requires and supports the creation of a good corporate culture (by requiring certain good corporate governance actions are implemented) is as follows:
4.1.1.1 requiring public (and state owned) companies to constitute an audit committee[41];
4.1.1.2 requiring public companies and private companies of a certain size (judged in terms of turnover, ‘workforce size and nature and extent of activities’[42]) to appoint a social and ethics committee, and mandating certain of its functions[43];
4.1.1.3 requiring directors of all companies to declare any personal financial interest they may have (directly or indirectly) in any matter before the board, and recuse themselves from voting on such matter[44];
4.1.1.4 prescribing certain standards of directors’ conduct, which include not using the position as a director for personal gain or to knowingly cause harm to the company, and exercising directorship powers in good faith, for a proper purpose and in the best interests of the company[45]. In addition and importantly, directors are also obliged to communicate to the board as early as possible any information they learn about that may be material to the company, as long as they aren’t legally or ethically obliged not to disclose it[46];
4.1.1.5 giving directors access to all information regarding the company. This power is implied from the board’s authority to exercise all of the powers and perform any of the functions of the company (unless otherwise restricted in the company’s constitutional document or elsewhere in the Act) and from certain of the directors’ duties recorded in section 76 of the Act which would require such access[47]. This unfettered access to information is imperative for the fulfilment of numerous of their duties, including to ‘take reasonably diligent steps to become informed'[48], to monitor performance of the board (including its achievement of the desired culture) and of employees, and be able to hold people to account[49];
4.1.1.6 placing personal liability on directors, board committee members and prescribed officers (being persons exercising executive control over and management of a significant portion of the company, or regularly participating in same[50]) for any loss, damages or costs sustained by the company as a consequence of their breach of any of their duties, or breach of the Act or the company’s constitutional document. In addition, ‘directors may also be subject to criminal penalties, particularly in instances involving fraud or dishonesty’[52]; and
4.1.1.7 protecting certain categories of whistle-blowers who make good faith disclosures in respect of the company or its board.
4.1.2 Negatives of the Act
Two ways the Act does not support the creation of a good corporate culture (or good corporate governance) are:
4.1.2.1 by allowing directors to serve for an indefinite term, unless the company’s constitutional document records otherwise. This applies even to public or large private companies in which a rotation of directors is desirable for good corporate governance. King IV in contrast recommends a periodic rotation be put in place[55];
4.1.2.2 by having no minimum requirements regarding qualification or business experience of directors, or regarding the diversity of directors on a board. King IV however does make recommendations in that regard[56].
4.2 King IV
King IV is a voluntary model which organisations can utilise to guide them towards the implementation of good corporate governance. It is not obligatory for any company to adhere to it, although as mentioned, listed companies in South Africa must adhere to some of it in terms of the listing requirements. King IV’s voluntary nature means that the choice sits with directors to voluntarily apply the principles and practices contained within it. That can be problematic in a society like South Africa’s suffering from high levels of corruption, crime and corporate greed. However there would be problems with making it mandatory, including distinguishing which size companies can afford the costs and administrative burden of implementing it versus those that cannot, and between the different industries companies operate in, monitoring compliance with it and holding those in breach accountable. King IV explains that the rationale for it being a voluntary code includes avoiding making compliance with it a mindless tick box event[57]. The preference is for governing bodies to apply their mind when implementing good corporate governance practices.
King IV is an internationally recognised code for good corporate governance, and within the constraints of being voluntary, offers excellent structure to companies wishing to achieve good corporate governance, including the outcome of a good corporate culture.
Some of the most relevant principles and recommended practices in King IV that support the creation of a good corporate culture, and confirm the responsibility to do so sits with the board are:
4.2.1 Principle 1, which says ‘[t]he governing body should lead ethically and effectively’[58], and includes recommendations referring to their integrity, competence, responsibility and accountability, fairness and transparency;
4.2.2 Principle 2 which says ‘[t]he governing body should govern the ethics of the organisation in a way that supports the establishment of an ethical culture’[59]. Its recommended practices include approving codes of conduct and ethics policies which can be used to steer the company to achieving an ethical culture, ensuring the employees are familiar with those codes and policies, and exercise ongoing oversight regarding achievement of that outcome.
4.2.3 Principle 6 which says ‘[t]he governing body should serve as the focal point and custodian of corporate governance in the organisation’[60]. One of its recommended practices is that the governing body:
‘approve protocol to be followed in the event that it or any of its members or committees need to obtain independent, external professional advice at the cost of the organisation on matters within the scope of their duties’[61].
This is especially important to support the powers of non-executive directors if they have disagreements with executive directors, and will allow expert enquiry into the matter and potentially expose illegal action[62].
4.2.4 Principle 7 which says ‘[t]he governing body should comprise the appropriate balance of knowledge, skills, experience, diversity and independence for it to discharge its governance role and responsibilities objectively and effectively’[63]. It recommends that the chair of the board be an independent non-executive member[64], which supports strict oversight over the non-executive directors, and should allow all views to be heard and proper debate at the board[65]. Principle 7 also recommends appointing an independent non-executive director as the lead independent director[66], which will assist preventing directors from acting in their own interests[67]. In addition, it recommends the chief executive officer should not be the same person as the chair[68]; and
4.2.5 Principle 9 relates to evaluating the performance of the board, and proposes certain practices in that regard[69]. The recommended evaluations will test whether the board has achieved its desired outcomes, including in respect of the desired corporate culture.
5 CONCLUSION
Flawed corporate culture can contribute to a corporate’s failure or scandal, and it is the role and responsibility of the board of a company to create a good corporate culture through its implementation of good corporate governance.
Overall, the Act and King IV together provide sufficient regulation and structure to require and support the creation of good corporate cultures in South African companies. However, with King IV being only a voluntary code as far as unlisted companies are concerned, we rely on those companies’ directors to voluntarily and properly apply its recommendations, without which a good corporate culture is unlikely to be achieved.
FOOTNOTES
[1] See ‘Healy P & Serafein G, How to Scandal-Proof Your Company, Harvard Business Review July – August 2019 and Harvard Law School Forum on Corporate Governance ‘Corporate Culture and the Role of Boards’, United Kingdom’s Financial Reporting Council, published on 13 August 2016.
[2] Companies Act 71 of 2008.
[3] Institute of Directors, South Africa ‘King IV: Report on Corporate Governance for South Africa 2016’, 2016.
[4] Harvard Law School Forum on Corporate Governance ‘Corporate Culture and the Role of Boards’, United Kingdom’s Financial Reporting Council, published on 13 August 2016 at 2.
[5] Institute of Directors, South Africa op cit note 3 at 11.
[6] An ethical culture is one of the desired outcomes of good corporate governance under King IV. See page 1 of King IV.
[7] Healy P & Serafein G, How to Scandal-Proof Your Company, Harvard Business Review July – August 2019 at 42 and 43.
[8] ibid.
[9] ibid at 44.
[10] Naudé P, Hamilton B, Ungerer M, Malan D & de Klerk M ‘Business Perspectives on the Steinhoff Saga’, USB Management Review, University of Stellenbosch Business School, available at ww.usb.ac.za/managementreview, downloaded on 18 April 2023 at 9.
[11] Davids E & Kitcat R South Africa chapter 18 in The Corporate Governance Review, 12 ed, 2022 The Law Reviews at 232.
[12] Davids E & Kitcat R op cit note 11 at 35.
[13] ibid at 16.
[14] ibid at 18.
[15] ibid at 19.
[16] ibid at 26.
[17] Dibra, R Corporate Governance Failure: The Case Of Enron And Parmalat European Scientific Journal June 2016 ed, vol 12 at 283.
[18] ibid.
[19] ibid at 288.
[20] Institute of Directors, South Africa op cit note 3 Principle 6 at 49.
[21] ibid at 49.
[22] Harvard Law School Forum on Corporate Governance op cit note 4 at 1.
[23] Healy P & Serafein G op cit note 7 at 50.
[24] Harvard Law School Forum on Corporate Governance op cit note 4 at 5.
[25] ibid.
[26] ibid.
[27] Healy P & Serafein G op cit note 7 at 46.
[28] ibid.
[29] ibid.
[30] ibid.
[31] ibid at 46 and 47.
[32] ibid at 48.
[33] ibid.
[34] ibid at 50.
[35] Harvard Law School Forum on Corporate Governance op cit note 4 at 4.
[36] ibid at 5.
[37] ibid a 4.
[38] ibid.
[39] Companies Act supra note 2 at Section 30.
[40] ibid at Section 72(4) and (5), and Regulation 43.
[41] ibid at Section 34.
[42] Institute of Directors, South Africa op cit note 3 at 233.
[43] Companies Act supra note 2 at Section 72(4) and (5), and Regulation 43.
[44] ibid at Section 75.
[45] ibid at Section 76.
[46] ibid at Section 76(2)(b) and see Wixley T, Everingham G & Louw K, Corporate Governance: The Director’s Guide 5 ed (2019) Siber Ink CC at 96.
[47] Companies Act supra note 2 at Section 66.
[48] ibid at Section 76(4)(a)(i)).
[49] Wixley T, Everingham G & Louw K, Corporate Governance: The Director’s Guide 5 ed (2019) Siber Ink CC at 97.
[50] Companies Act supra note 2 at Regulation 38.
[51] ibid at Section 77.
[52] Davids E & Kitcat R op cit note 11 at 236.
[53] Companies Act supra note 2 at Section 159.
[54] ibid at Section 68(1).
[55] Institute of Directors, South Africa op cit note 3 at Principle 7 item 12, p 50.
[56] ibid at Principle 7 item 7, p 50.
[57] ibid at 35.
[58] ibid at Principle 1, p 43.
[59] ibid at Principle 2, p 44.
[60] ibid at Principle 6, p 49.
[61] ibid at Principle 6, item 3, p 49.
[62] Wixley T, Everingham G & Louw K op cit note 49 at 101.
[63] Institute of Directors, South Africa op cit note 3 at Principle 7 p 50.
[64] ibid at Principle 7, item 31, p 53.
[65] Wixley T, Everingham G & Louw K op cit note 49 at 104.
[66] Institute of Directors, South Africa op cit note 3 at Principle 7, item 32, p 53.
[67] Wixley T, Everingham G & Louw K op cit note 49 at 104.
[68] Institute of Directors, South Africa op cit note 3 at Principle 7, item 34 , p 53.
[69] ibid at Principle 9, p 58.
BIBLIOGRAPHY
Primary Sources
Statutes:
Companies Act 71 of 2008.
Secondary Sources
Books & Journals
Dibra, R Corporate Governance Failure: The Case Of Enron And Parmalat European Scientific Journal June 2016 ed, vol 12.
Davids E & Kitcat R South Africa chapter 18 in The Corporate Governance Review, 12 ed, 2022 The Law Reviews.
Healy P & Serafein G, How to Scandal-Proof Your Company, Harvard Business Review July – August 2019.
Wixley T, Everingham G & Louw K, Corporate Governance: The Director’s Guide 5 ed (2019) Siber Ink CC.
Other
Harvard Law School Forum on Corporate Governance ‘Corporate Culture and the Role of Boards’, United Kingdom’s Financial Reporting Council, published on 13 August 2016.
Institute of Directors, South Africa ‘King IV: Report on Corporate Governance for South Africa 2016’, 2016.
Naudé P, Hamilton B, Ungerer M, Malan D & de Klerk M ‘Business Perspectives on the Steinhoff Saga’, USB Management Review, University of Stellenbosch Business School, available at ww.usb.ac.za/managementreview, downloaded on 18 April 2023.