A number of interesting C Suite “characters” have been in the spotlight in recent years in the area of business corruption, fraud, and other acts of misconduct. These “bad actors” engaged in a multitude of bad actions and questionable behaviors, sometimes criminal activities, ranging from fraud, embezzlement, bribery, and money laundering, leading to serious reputation damage for the organizations they represent.
Some of these when egregious have resulted in high dollar settlements in U.S. Securities and Exchange Commission (SEC) violations, Foreign Corrupt Practices Act (FCPA), and even criminal charges and convictions.
New studies published in Harvard Business Review indicate that looking at the character of a candidate when hiring a CEO is a strong indicator of the integrity of that company’s business practices and provides a better way to limit unethical behavior than dependency on systematic fixes alone.
Most companies today conduct a very minimal background check on new executive hires which cannot detect many of the issues of concern at senior executive levels, thus missing key indicators that could easily prevent many of the risks and behavioral issues discussed in this article.
Character is term that has become difficult to define for many. Different from personality, it was at one time said people had good or bad character, strong or weak character, or even no character at all. It incorporated mental and behavior characteristics. Someone of “good character” was considered to be a person of an ethical and moral disposition, a meaning which still remains in some dictionaries.
Cultural historian Warren Susman in his book “Culture as History,” notes that “character was a keyword in the vocabulary of [English]and Americans,” during the 1800s. Then, at the start of the 20th century, Susman found that “the ideal of character began to be replaced by that of personality,” as society “shifted from producing to consuming” ideas of what “the self” constituted began to change. Mass production of consumer goods, a rise in psychology, and increase in leisure time offered people “new ways of forming their identity and presenting it to the world.” This replaced individuals defining themselves through the “cultivation of virtue,” as people began to express themselves more through modes of dress, hobbies, and material possessions. Susman goes on to say that the “transformation from a culture of character to a culture of personality was ultimately about a shift from ‘achievement to performance.’”
So, it’s not surprising to learn that materialism in CEOs was one of the key indicators of higher risk factors of fraudulent behaviors or lax controls within a company, as found by Harvard Business School Associate Professor Aiyesha Dey in her research on the connection between CEOs’ lifestyle behaviors and potential trouble for a business.
Two Red Flag Lifestyle Behaviors Study Finds
In her article for Harvard Business Review “When Hiring CEOs, Focus on Character,” Aiyesha Dey notes her findings showed a link between the behavioral traits of materialism and a proclivity for rule breaking in CEO’s and a “propensity for ethical lapse.”
Dey’s research found that “Firms led by CEOs with even minor traffic tickets or excessive spending habits are disproportionality prone to fraud, insider trading, and other risky business activities.”
Materialism, as defined by Dey for the study “involves the zealous pursuit of wealth and luxury regardless of the cost to others,” and not necessarily having many things or high-end items. Dey and her team came up with markers and found that 58% of CEOs they sampled had one or more of these defined markers and the remaining they classified as frugal. The studies found a link between materialistic CEOs and fraud, identifying an important “gradual weaking of control environments in firms led by executives whose personal spending was excessive.”
An example Dey gives is Tyco’s CEO Dennis Kozlowski who “spent $6,000 on a shower curtain and $15,000 on an umbrella stand,” and “was later convicted of 22 criminal charges and served six and a half years in prison.” This is not to say all CEO’s lavish habits are wrong, rather to show the link between such behaviors and leanings toward avoiding internal controls to prevent more serious issues.
According to Dey’s findings 18% of 1,000 of today’s CEOs “had been cited for infractions ranging from minor traffic offenses to driving under the influence, disturbing the peace, drug crimes, reckless behavior, domestic violence, and sexual assault,” and notes that “criminology researchers have found that people who flout even minor rules are subtly communicating that they don’t believe restrictions apply to them.” Looking more closely, it was found that fraudulent reporting was more likely if the CEO has a criminal record and (or CFO) and they, or the CFO, are “more likely to be personally implicated in the fraud.”
Infortal’s experience over the last 37 years of conducting executive due diligence investigations also show similar statistics, finding that 20% of executives have serious issues in their background. Most of this information cannot be found in simple background checks. We would expand Dey’s list further to include litigious behaviors, breach of contract, and conflicts of interest in addition to a broader series of criminal conviction histories.
Hiring Practices, Mitigating Risk and Due Diligence
Boeing Chairman and CEO Philip M. Condit left the company in 2003 amid a Pentagon-led investigation into allegations that Michael Sears, Boeing’s then-chief financial officer (CFO) had begun recruiting a top Defense Department (DD) financial officer, Darleen Druyun, while simultaneously bidding on an $18-million contract for aerial refueling tankers. Sears and Druyun were both fired amid allegations of corruption and later found guilty, fined, sentenced to prison time, and community service. During the same period, The Los Angeles Times reported, “a Pentagon inquiry found two Boeing employees had illicitly obtained proprietary documents from its rival, Lockheed Martin Corp., to win a lucrative rocket-launching contract.”
According to CorpWatch, it was the CEO Philip Condit who had “created a culture where this type of activity was routine,” said Steve Ellis, vice president of programs for Taxpayers for Common Sense, a watchdog group that has been critical of Boeing’s tanker deal. Later a Bloomberg article by Stanley Holmes cited “flawed strategy, lax controls, a weak board,” and “personal shortcomings,” for the Boeing scandal. The Bloomberg article highlights some of the same “personal shortcomings” or behavioral traits that Dey noted as red flag characteristics in her studies. They report that Condit “developed a reputation as a womanizer, often with Boeing employees, and an appetite for the high life,” or materialism. “In the early ’90s, he built a massive…mansion outside Seattle, replete with a custom miniature train that chugged from room to room, delivering drinks to guests. Condit hosted elaborate parties,” and this “extravagance…began filtering into a company culture that had been based on modesty, fiscal restraint, and the single-minded pursuit of building big airplanes.” This was a stark contrast to the prior CEO; Bill Allen and T. Wilson had both “eschewed the trappings of corporate privilege.
Condit was also not the last CEO that caused trouble for Boeing. Following in Condit’s footsteps, Boeing CEO Harry Stonecipher lasted only 18 months, when leaked emails between him and a female colleague forced his resignation.
In 2021 Boeing was further involved in one of the top corporate scandals over the past few years regarding the Boeing 737 MAX airline. Thomas Fox notes “This scandal engulfed the company and showed at the time, Boeing to be one of the most morally bankrupt companies in the US”. Then Chief Executive Officer (CEO) of Boeing called President Trump and asked him to intercede to prevent the US from banning the 737 MAX from the air. Once again, all the while knowing about the defects in the 737 MAX. Clearly the safety of the US flying public was not on the forefront of Boeing at that time. The flaws in Boeing’s 737 MAX led to two plane crashes involving Lion Air Flight 610 and Ethiopian Airlines Flight 302 and causing the deaths of some 346 people. Boeing initially blamed both disasters on ‘pilot error’. Boeing entered into a settlement by the Department of Justice (DOJ) with The Boeing Company (Boeing) around its fraud in the certification of its 737 MAX aircraft. The resolution was via a Deferred Prosecution Agreement (DPA). Under the DPA, Boeing agreed to pay a total amount of $2.5 billion. Boeing also made significant changes to its top leadership since the fraud including ousting the former Chief Executive Officer (CEO) Dennis Muilenburg.
Acting Assistant Attorney General David P. Burns of the Justice Department’s Criminal Division said, “The tragic crashes of Lion Air Flight 610 and Ethiopian Airlines Flight 302 exposed fraudulent and deceptive conduct by employees of one of the world’s leading commercial airplane manufacturers. “Boeing’s employees chose the path of profit over candor by concealing material information from the FAA concerning the operation of its 737 Max airplane and engaging in an effort to cover up their deception. This resolution holds Boeing accountable for its employees’ criminal misconduct, addresses the financial impact to Boeing’s airline customers, and hopefully provides some measure of compensation to the crash-victims’ families and beneficiaries.”
If Boeing had only looked into the defining character of Condit, Stonecipher, and Muilenburg along with other high-level executives, it might have not suffered the scandal or losses it did.
But, as Dey found, there was a surprising lack of due diligence when hiring C-suite executives: “Although they might order background checks on external candidates (which sometimes include a search of legal records), [companies] rarely take that step for internal candidates seeking a promotion to a C-suite role. As one person I spoke with put it, “We don’t even look at these issues. We don’t care what they’re doing off the job, and we probably should.”
Mitigating Risk and Due Diligence
Dey recalls that in response to the corporate scandals of the early 2000s, the government “responded by passing the Sarbanes-Oxley Act, which increased oversight of corporations by regulators and boards, yet not long after new scandals arose, going on to say “when boards, regulators, and investors consider ways to limit unethical behavior, the emphasis tends to be on systemic fixes, such as laws and regulations, large and well-funded compliance departments and heightened oversight, and reporting mechanisms such as whistleblower hotlines.”
With the rise in regulatory violations and the current list of CEO scandals, (for example, Elizabeth Holmes ex-CEO of Theranos convicted of four counts of fraud earlier this year and her onetime romantic partner and former Theranos President and COO Ramesh “Sunny” Balwani, who was convicted on 12 counts of fraud more recently), these types of fixes have limited success.
As Dey goes on to say “That standard approach conforms with economic theory, which treats individuals as rational beings who will respond similarly to incentives and rules.” But they don’t.
Corporate culture starts at the top. Dey believes that looking at the character of a CEO is critical in choosing who to hire. She isn’t saying that boards should reject a CEO candidate out of hand, “simply because of a speeding ticket or an excessively valuable home,” but asserts that these should be considered as “warning signs.”
Candice Tal, CEO of Infortal Worldwide goes further to state that without conducting comprehensive due diligence on executive hires, corporate boards may not be able to identify or mitigate risks until it’s too late and serious reputation damage is the outcome.
Tom Fox, author of the FCPA Compliance and Ethics blog, in his article Death of dos Santos and Leadership at the top writes, “All this information should be digested by corporate compliance functions and Boards of Directors. Even in the Foreign Corrupt Practices Act (FCPA) world, nearly every major corporate scandal starts with a lax attitude at the top of the organization.”
This is something that experts in investigative firms specializing in due diligence already know. Fox goes on to quote Candice Tal CEO of Infortal Worldwide whose firm conducts such investigations:
“Behavioral issues can be picked up during in-depth reference interviews by trained investigators, and can also be detected through patterns observed with type and frequency of civil lawsuits, such as sexual harassment, class action lawsuits, fraud, and breach of contract matters. Themes around egregious behavioral issues can also be found when conducting deep web investigations on executives. This goes far beyond Google searches incorporating OSINT Open Source Intelligence…. Patterns and themes in behavioral traits should never be ignored. Executive due diligence backgrounds should be conducted by corporations on new executive hires and new board members. Executives will be in the highest positions of trust, a simple background check will not reveal these types of issues, however, effective due diligence investigations enable this information to be discovered thus protecting the board and shareholders from unnecessary risk exposure.”
In her practice, Tal found that over 20% of executives have serious issues. As Thomas Fox notes “Never forget that corruption is a subset of fraud”.
Character and Companies
Warren Buffet had said: “In looking for people to hire, look for three qualities: integrity, intelligence, and energy. And if they don’t have the first, the other two will kill you.”
Or if it doesn’t kill you, it can lead to serious reputational and financial harm to both you and your business.
Somehow the importance of hiring for character has been left behind. It is not a new idea, but perhaps the rediscovery of old wisdom or, more likely, simple common sense. Former CEO of IBM Thomas Watson, who held the position from 1914 to 1956 held the belief that “Nothing so conclusively proves a man’s ability to lead others as what he does from day to day to lead himself.” This applies to everyone.
Perhaps current culture, and its more materialistic mindset, doesn’t recognize the value of character, but companies need to prioritize that very trait in hiring CEOs and other executives to safeguard their company by creating a culture of integrity.
Dey’s research highlights the lack of deep due diligence investigations in the hiring of CEOs. Boards of Directors need to incorporate due diligence investigations as the go-to when hiring executives. It should be part of every compliance program.