The Phenomenology of Business Scandals

When a business scandal hits a major company, public opinion points the finger at models of corporate governance and calls for new legislation to strengthen ex ante controls and ex post sanctions. However, it takes only few years for other companies to become enmeshed in financial crisis. Illicit behavior seems to be able to escape all controls by becoming ever more sophisticated. Also, if corporate controls are pushed too far, they will end up stifling the animal spirits that propel companies toward growth.
Is it then impossible to prevent mismanagement and fraud? No, it's not. But the analysis of corporate scandals exhibits certain typical traits, whose presence should ring the bell for supervisory bodies.
Firstly, rapid corporate growth by means of acquisitions. M&As are often disastrous for company accounts, but it takes years for their effect to become evident to investors. Also the blind pursuit of size can distract managers from current operations and the core business. Finally, acquisitions make a company's balance sheet murkier and harder to compare with the past. Secondly, the heavy recourse to financial markets. Iffy companies often use financial leverage to feed corporate growth and achieve astounding short-term results on their stock. The enthusiasm of business analysts and the halo of success hovering over management push investors to buy stocks without asking too many questions and loosen the supervision of corporate governance. Thirdly, the excessive power of top management. Such companies are usually run by professional managers or major stockholders who dominate the decision-making process. They usually identify the company's fortunes with their own personal success, personalize relations with stakeholders and are richly compensated in exchange. They care about reputation, but only because financial markets are skittish about it. Only aterwards do the nefarious effects of their excessive ambition become evident. Fourthly, lack of independence and competence among the supervisory board. Listed companies are subject to a multiplicity of controls that should stave off gross misbehavior. But the many cases of companies going bust because of financial wrongdoing show that this is not the case, because conflicts of interest prevent supervisors from working effectively. Supervisory boards require mutual collaboration and trust with respect to management. Excessive deference vis-à-vis top management can determine a breakdown of the whole system of controls. Fifthly, a company culture based on greed and strong emphasis on financial speculation. Not all scandals and wrongdoings amount to corporate crimes. Often risky moves are made in the hope that a difficult business predicament can improve in the near future. But once the bounds of legality are crossed, it's hard to go back. The last telling factor is the overemphasis on short-term value and earnings, and the pressure on managers to achieve them quickly. Under such circumstances, corporate executives can be tempted to cut corners and pursue illicit solutions, in order to maintain performance and reputation. However, the prolonged fall of markets and stagnation of the economy makes all too evident the reckless moves made to prevent a corporate crisis from becoming apparent. In the end it's the financial markets themselves, which, after facilitating its meteoric rise, hasten the downfall of corporate hubris, with devastating effects on all stakeholders.