Corporate Law News

INSIGHT: Board Oversight of the Corporate Code of Conduct

Aug. 9, 2018, 2:44 PM

The continuing series of high-profile executive departures due to violations of the company’s ethics code—and the impact of those departures—spotlights the board’s increasing responsibility for administering these codes in the best interests of the organization.

Codes of ethics and conduct are important means by which a company maintains a supportive workforce culture, retains valuable employees, protects the corporate reputation, and demonstrates a commitment to “tone at the top.” Over the last 18 months, these codes of conduct have provided a platform from which many companies have addressed allegations of improper personal behavior by executives and board members.

These allegations have arisen in part from the power of the #MeToo movement, as well as from a greater recognition of the organizational damage that can arise from other forms of inappropriate personal conduct. Behavioral-based code violations have resulted in the termination or resignation of many senior executives across industry sectors, including three senior chip industry executives this summer. For example, the CEO of one prominent chip-based tech company resigned after spending less than two months in that role, for what the company identified as code-of-conduct violations.

The corporate code of ethics has thus become an exceptionally powerful internal compliance platform with the power to reshape executive conduct. The board bears the ultimate responsibility for the effective administration of the code. This is grounded in the board’s basic duties to exercise oversight of workforce culture (and compliance with the law) and to preserve the organizational reputation. Given the ability of the code of ethics to directly affect an employee’s workforce experience, livelihood, and personal reputation, it is a responsibility that requires serious board engagement.

From a fiduciary perspective, the board is expected to apply these codes in an informed, disinterested, and good faith manner. Application of this duty should be grounded in board familiarity with the full scope of the code and the history of its application. However, these codes are not always written with controversy in mind, and the board should seek the advice of the general counsel when attempting to apply the code to particular allegations, and when considering the appropriate discipline for deemed violations. What level of detail is necessary to assure fairness?

In this regard, the board may wish to take steps to assure the application of “due process” when evaluating specific allegations, e.g., assuring the confidentiality of allegations and that the investigation is conducted promptly, thoroughly, and objectively. It will also want to assure that all levels of employees and management are properly educated on the meaning and intent of the code and have internal sources who can provide guidance on its interpretation.

These and other procedural measures will help support the internal and external credibility of the evaluation and disciplinary process. It may also help to reduce exposure to future legal claims by the subject executive or director, whether grounded in breach of contract, defamation, or civil rights violations (claims regarding race, gender, age discrimination, etc.).

In these circumstances, it is important for the board to consider the potential for collateral consequences arising from discipline for identified code violations. An example is the recent resignation of highly regarded Intel CEO Brian Kranznich (for violations of the company’s anti-fraternization policy). It was followed by a 2 percent drop in the company’s stock price and precipitated concerns regarding the ability to find a qualified successor, to facilitate an effective transition, and to address longer-term corporate challenges.

Boards are certainly facing enormous pressure from internal and external corporate constituencies on matters of workforce culture. There is a broad recognition of the board’s need to protect the corporate reputation by assiduous supervision of code of conduct violations. Yet such active supervision should be supported by a careful, balanced approach, the perspectives of the various constituencies (and the force with which they are advocated) notwithstanding. Is “zero tolerance” always the appropriate remedy?

How much weight should be given to the concerns of the workforce? To the impact on finances, on executive recruitment/retention, and on organizational reputation? What truly constitutes “the best interests of the organization”? These are difficult questions that the board should be prepared to address. It is certainly not meant to diminish the legitimacy of behavioral allegations, nor to condone leniency for the actions of the powerful or protected. Rather, it is meant to suggest that reliance on a strict liability, “one size fits all” approach to discipline may not always be appropriate.

Dealing with alleged violations of the corporate code of ethics is increasingly becoming a high-profile responsibility of the board. Advance preparation, due process, and informed and disinterested decision-making are key to the proper exercise of board responsibilities. These steps won’t prevent criticism of whatever action the board may take, but they will serve to demonstrate its good faith efforts.

Michael W. Peregrine, a partner at the law firm of McDermott Will & Emery, advises corporations, officers, and directors on matters relating to corporate governance, fiduciary duties, and officer and director liability issues. His views do not necessarily reflect the views of the firm or its clients

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