To more aggressively fight white-collar crime, the Justice Department recently announced new enforcement measures and unveiled incentives for firms to disclose any malfeasance as soon as they become aware of it.
Encouraging firms to divulge known corporate crimes, and punishing them more harshly when they don’t, may be effective. Another approach – encouraging firms to place more women, outsiders, and financial experts on their boards – could cut down on white-collar crime to begin with.
Wrongdoings like accounting fraud, insider trading, and kickback conspiracies can happen when executives face unrelenting performance pressures (which are worsened by some incentive plans) or when executives feel they can rationalize their unethical action — they believe everyone else is doing it too.
Corporate crimes can also occur when boards don’t pay attention or have incomplete information, giving executives opportunities to cut corners or misrepresent their activities. Theranos, the health tech company whose CEO, Elizabeth Holmes, claimed to have developed innovative and accurate blood test devices, may well be the prime example a lax board oversight. At least one Theranos director testified that he relied entirely on Holmes’ verbal claims about the company’s technology. (In January, a jury found Holmes guilty of defrauding investors and lying about the devices.)
How to Ward Off White-Collar Crime
Some board configurations seem to limit opportunities for executives to commit corporate crimes. Here are a few board changes to consider, that may help avoid misconduct:
Add More Women to Corporate Boards. When firms stack their boards with men, misconduct tends to increase; when they add women to their boards, misconduct drops off, according to several recent studies, including one, by a team of European researchers that analyzed bank misconduct fines. One explanation for this may be executives’ overconfidence, a predictor of white-collar crime. Relative to women, men in powerful corporate jobs tend to be more overconfident, if one measures it by how much they overestimate their firms’ returns. That is exactly what a team of researchers from National University of Singapore and Boston College showed.
Executive roles are steppingstones for corporate board positions. When men serve as directors, they may bring their overconfidence to the boardroom. Firms with more men on their boards may not be as vigilant in identifying risks. They may anticipate a narrower range and lower probabilities of negative outcomes from questionable corporate strategies. They may also fail to appreciate all the ramifications from potential problems they spot. With more women directors, boards may develop more comprehensive perspectives.
Firms that include more women on their boards commit fewer white-collar crimes and less serious ones, statistically speaking, possibly because women help calibrate the board’s confidence and risk taking. These are the conclusions from a study by researchers from York University, Open University of Hong Kong, and China Europe International Business School. They agree with other published studies (including one of mine) that show how adding more women to boards can speed up product recalls and reduce corporate discrimination lawsuits.
Avoid Conflicts of Interests.
A board of directors is supposed to watch over and advise the CEO on behalf of the company’s owners or shareholders. But directors who have strong ties to the firm – like executive directors – may have self-interested reasons for not challenging the CEO. That’s why some regulators, including the New York Stock Exchange and Nasdaq, require large public companies to appoint a majority of independent directors who “have no material relationship” with the company.
These requirements don’t necessarily apply to private firms, where barely a third of directors are independent, according to a Crunchbase and HimforHer’s study. Nor do they apply in all countries.
Having an independent audit committee is better insurance against misconduct than independence on the board at-large. With colleagues from McMaster, Georgia State and Lehigh universities, we came to this determination after reviewing and analyzing the data from 135 different studies of various corporate misdeeds – including financial fraud, insider trading, tax evasion, insurance fraud and price discrimination.
Having an entirely independent audit committee is also more effective against fraud than having someone other than the CEO serve as board chair, a tactic that is growing in acceptance according to the Conference Board. For firms listed on exchanges like the NYSE and Nasdaq, the board’s audit committee must be entirely independent. Firms without such requirements would be well served to ensure that their audit committee is as independent as possible.
Ensure Directors Have the Right Expertise and Discourage Chumminess With the CEO.
Boards are better equipped to detect fraud when directors have financial expertise. When financially savvy directors are also materially detached from the firm and sit on boards’ audit committees, boards seem to be especially effective at reining in white-collar crimes, according to University of Alabama and HSBC study.
When directors are familiar with the companies they advise, executives have fewer opportunities to commit corporate crimes. In the Theranos case, directors may have not had sufficient relevant knowledge for evaluating the CEOs claims. For independent directors, gaining knowledge of the inner workings of a firm can be especially difficult. It may require years of serving on a firm’s board. But spending many years on the same board creates a different kind of risk: becoming too friendly with the CEO. When a board is comprised of a CEO’s friends, its directors may not question management’s decisions or call out problems as much.
Adding women to boards, staffing the audit committee exclusively with independent directors, and balancing directors’ knowledge of the firm with an arm’s length relationship to the CEO are important adjustments that have the potential to curtail corporate crime.
If more companies made these adjustments to their boards, the Department of Justice may find there are fewer companies to prosecute with the tougher measures they announced.
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How Diversity, Oversight And Healthy Boundaries Can Stop White-Collar Crime - Forbes
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