academy of management executive, 2004, vol. 18, no. 2 ... · strategic leadership of ethical...

Strategic leadership of ethicalbehavior in business

Terry Thomas, John R. Schermerhorn, Jr., and John W. Dienhart

Executive OverviewThe strategic leadership of ethical behavior in business can no longer be ignored.

Executives must accept the fact that the moral impact of their leadership presence andbehaviors will rarely, if ever, be neutral. In the leadership capacity, executives havegreat power to shift the ethics mindfulness of organizational members in positive as wellas negative directions. Rather than being left to chance, this power to serve as ethicsleaders must be used to establish a social context within which positive self-regulation ofethical behavior becomes a clear and compelling organizational norm and in whichpeople act ethically as a matter of routine. This article frames the responsibility forstrategic leadership of ethical behavior on three premises: (1) It must be done—astakeholder analysis of the total costs of ethical failures confirms the urgency for ethicschange; (2) It can be done—exemplars show that a compelling majority of anorganization’s membership can be influenced to make ethical choices; (3) It issustainable—integrity programs help build and confirm corporate cultures in whichprincipled actions and ethics norms predominate.

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The once fashionable notion that business ethicscould be safely relegated toward the bottom of thecorporate “things to do” list exists no longer. Likethe roaring 1920’s, the roaring 1990’s ended with acrash, and amid the carnage we awoke to a bliz-zard of sensational headlines: WorldCom FacingCharges of Fraud; How Enron Bosses Created aCulture of Pushing Limits; Andersen’s WrongTurns Grew Obvious; A ‘Stellar Reputation’ Shat-tered, to recall just a few. Ethical failures becamefacts of the new century, not just textbook possibil-ities. The reports were as discouraging as theywere elucidating; they left us feeling cynical, pes-simistic, and even helpless regarding the state ofbusiness leadership in our society. Now we canlook back and say that it needn’t be so; a morepositive and promising perspective can be takenfrom this experience. Nancy Higgins, newly ap-pointed Executive Vice President and Chief EthicsOfficer for MCI, says:

Out of difficult times often spring innovationand resiliency. MCI will emerge from its re-cent troubled past as a beacon of ethical lead-ership, where employees at all levels under-stand and commit to the highest standards of

behavior. Our goal, which is fully realizable,is to create a culture where ethics permeatesthe company and forms a portion of everybusiness decision we make, at every level.1

The ethics message that begins at the top of a firmand cascades down and throughout its member-ship can be positive, neutral, or negative. Only theformer is acceptable. Consistent ethical behaviorin organizations cannot be left to chance;2 it cannotbe abandoned to external regulation. As BarbaraLey Toffler suggests, “The sad fact is that all theoversight in the world is not going to change whathappens behind company doors.”3 Like profits,shareholder value, return on investment, or anyother desired performance outcome, ethical behav-ior in business is something to be created. Execu-tives must accept their leadership responsibilitiesto define ethical behavior clearly into a firm’svalue system and to pursue it relentlessly as atop-priority goal.

There is too much at stake for this ethics leader-ship agenda to be denied. Recent experience witha troubled economy has taught citizens that busi-ness is an essential part of the social fabric. They

� Academy of Management Executive, 2004, Vol. 18, No. 2

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are also recognizing, perhaps belatedly, that whenbusiness fails ethically, we all fail. Rebuilding theethical character of our institutions and regainingpublic confidence in them are realizable aspira-tions. Real progress, however, can be made onlywhen the initiatives for ethics change come fromwithin the firm and from its leaders.

Writing in this journal in 1999, Michael Hitt andDuane Ireland defined strategic leadership as “aperson’s ability to anticipate, envision, maintainflexibility, think strategically, and work with oth-ers to initiate changes that will create a viablefuture for the organization.”4 We believe that forbusiness executives the strategic leadership re-sponsibility for “initiating changes” has to includethe goals of creating and sustaining ethical cli-mates within which employees act ethically as amatter of routine. We also recognize that in fulfill-ing this responsibility, executives face the sameleadership challenges as in any large-scale organ-izational change program. Borrowing from JohnKotter’s work on transformational change, we sug-gest that successful ethics change initiatives willrequire that leaders: (1) create a sense of urgencyto break any sense of complacency; (2) take actionto center momentum for change within the mem-bership; and, (3) anchor changes in the organiza-tion’s culture to make them sustainable.5

For business executives the strategicleadership responsibility for “initiatingchanges” has to include the goals ofcreating and sustaining ethical climateswithin which employees act ethically asa matter of routine.

Our purpose here is to discuss how executivescan utilize Kotter’s framework to confidently pur-sue change that leads organizations strategicallytoward sustainable ethical behavior. The articlefocuses on three key premises for the strategicleadership of ethical behavior in business: (1) Itmust be done—a sense of urgency for ethicschange can be confirmed and aroused by analysisof the total costs of ethical failures; (2) It can bedone—exemplars show that leadership acts caninfluence a substantial majority of an organiza-tion’s membership to make ethical choices; (3) It issustainable—through integrity programs execu-tives can help build and confirm corporate culturesin which principled actions and ethics norms pre-dominate.

It Must Be Done

In December of 2001, three months after the attackon the World Trade Center, Enron declared bank-ruptcy, the largest in U.S. history. In July 2002, theWorldCom bankruptcy bettered Enron by 60 percent, coming in at $104 billion. Caught in Enron’sweb of catastrophe, Arthur Andersen, LLP, withbreathtaking speed, fell from being one of the larg-est certified public accounting firms in the world toextinction. This eventful period also witnessed 11other of the largest bankruptcies in U.S. history.6Although these cases certainly involved basicbusiness errors, the roots of the Enron, WorldCom,and many of the other bankruptcies were not con-fined to poor business models or misjudgmentsof markets. They involved substantial and well-documented failures of ethics.7 Notwithstandingefforts by employees like Sherron Watkins andMargaret Ceconi of Enron to expose wrongdoing,executives engaged in and supported unethicalpractices to the point that they became acceptablein organizational norms.8 Lynn Sharp Paine hasnoted the significance of this phenomenon, saying:“Unethical business practice involves the tacit, ifnot explicit, cooperation of others and reflects thevalues. . . and behavioral patterns that define anorganization’s operating culture.”9

Stakeholders and the Costs of Ethics Failures

Crucial to creating the sense of urgency regardingethical business behavior is an accurate appreci-ation of the full costs of ethical failures. Yet manyof these costs appear nowhere in an annual report,on the balance sheet, or in the income statement,even though they are real and, in extreme cases,are of such significance that they can literally de-stroy the company. In Figure 1 we describe thepotential business costs of ethics failures at threelevels. As shown in the figure, we contend thatsome of these costs, particularly those at higherlevels, are chronically undervalued in executivedecision-making, even to the point of often escap-ing management’s attention entirely. This ten-dency is explained in the work of scholars DavidMessick and Max Bazerman as due to lack ofknowledge and common reasoning errors.10 Specif-ically, they argue that a common human trait is toignore important stakeholders when making deci-sions and resolving problems. Even when stake-holders are considered, furthermore, it is commonto undervalue their potential impact.

Different ethical pressures emanate from pri-mary and secondary organizational stakehold-ers.11 Primary stakeholders are employees, manag-

2004 57Thomas, Schermerhorn, and Dienhart

ers, owners, suppliers, and customers; secondarystakeholders are individuals and groups that cre-ate or influence the environments in which busi-ness operates, like civil society organizations(NGOs), governments, and communities. All stake-holders can impose costs on an organization thathas experienced a major ethical failure. When oneconsiders how stakeholders affect organizations,secondary stakeholders may be viewed with moreurgency by executives than primary stakeholders.The government can shut down a business in amatter of hours; it takes much longer for disgrun-tled customers to have such a drastic effect.

When one considers how stakeholdersaffect organizations, secondarystakeholders may be viewed with moreurgency by executives than primarystakeholders. The government can shutdown a business in a matter of hours; ittakes much longer for disgruntledcustomers to have such a drastic effect.

The Level 1 costs of ethical failure are the easiestto calculate because they concern stakeholders ofwhich executives are keenly aware: themselves,their company, and the government. These are thecosts of fines and penalties attendant upon a civilsettlement or a conviction that arises out of anethics failure. In the Enron case, for example,Andersen’s ethical and legal wrongdoings were:failure in its audit duty to question certain Enron

transactions, conflict of interest in performing dualroles of auditor and management consultant, andacting through its employees to commit the crimeof obstruction of justice in an attempt to cover upits unethical acts. At its sentencing for obstruction,the firm received a fine of $500,000.12 This amountof money, on its own, would have had no materialeffect on Andersen’s financial health, which wasvalued at four billion dollars before the scandal.13

Compared with Andersen’s value and the tens ofmillions of dollars Andersen was making from itsEnron accounts, these Level 1 costs were entirelybearable. They were the least serious and mostsurvivable burdens of ethical failure suffered bythe firm.

The Level 2 costs are primarily administrative innature: the “clean-up” costs. These costs are some-times difficult to ascribe to any particular ethicsfailure. Consisting of such things as attorney andaudit fees, investigative costs, and the cost of re-medial actions, they are frequently buried withinthe general costs of doing business. We are un-aware of any standard accounting method thatsystematically ties these costs directly to specificethics failures with which they are associated. Assuch, we believe them to be significantly under-appreciated by management.

Andersen incurred heavy Level 2 costs. To de-fend itself against lawsuits filed by clients, inves-tors, and the government, Andersen had to retainthe services of expensive lawyers, auditors, andother professionals, all of whom are inevitablycalled in when any firm gets into serious trouble.These costs far exceeded Andersen’s Level 1 costs

FIGURE 1Executive Decisions and the Business Costs of Ethical Failures

58 MayAcademy of Management Executive

and doubtlessly ran into the multiple millions ofdollars. Although severe, these Level 2 costs ofethics failure were also likely survivable byAndersen.

Level 3 costs are the most difficult to quantifyand as such are most likely to be underappreciatedby executives. They include such things as cus-tomer defection, reputation loss, morale loss, em-ployee and government cynicism, and, ultimately,increased government regulation. The stakeholderbase for these costs are customers, employees, in-vestors, and the voting public, all of whom holdexpectations for business performance. The firstinstinct of a firm’s management may well be todiscount or deride the Level 3 costs associated withthe interests of these stakeholders when facingsignificant business problems. But, they do so attheir extreme peril.

As the Andersen case clearly demonstrates,Level 3 costs can be devastating. They effectivelyended the 100� year history of the firm. The Enronaftermath left the firm’s reputation in shreds, withits problems broadcast widely in every mediumfrom front-page news reports to late night televi-sion jokes to editorial cartoons. Morale among em-ployees, the vast majority of whom had done noth-ing wrong and had no responsibility for thedebacle, plunged. Many, fearing for their jobs, leftthe firm, causing a severe talent drain. As soon asthe company was indicted, the loss of reputationand fear of more problems caused dozens ofAndersen’s longstanding customers to defect. Ulti-mately, the cascading effect of Level 3 costscrushed the life out of a firm that, as we have seen,could have easily withstood both the Type 1 andType 2 costs. When Texas, on August 16, 2002, be-came the first state to revoke Andersen’s account-ing license, the company’s fate was sealed.

Limits of Government Regulation

Externalities pushed the negative impact ofAndersen’s ethics failures far beyond the firmalone. Others in the auditing industry incurredcosts as they scrambled to rethink and restructuretheir businesses to avoid similar fates. The caseprovoked government intervention in the attemptto substitute external regulations for the lack ofethics leadership at the firm and industry levels.President Bush signed the Sarbanes-Oxley Act intolaw on July 30, 2002. This act makes it easier forCEOs and CFOs to go to jail for financial miscon-duct. It creates a new standard (Section 404) forauditors to sign off on reporting processes withinthe companies they audit. It also creates a newregulatory body: The Public Company Accounting

Oversight Board. Its substantial budget will bedrawn from fees assessed against public compa-nies. In a final irony, the salary of the Board chair-person for one year will be greater than the Level 1costs Andersen faced for obstruction of justice.

Public choice theory suggests that governmentregulation of this nature is prompted as electedofficials respond to voter demand.14 When there isa crisis, voters demand a solution and look toelected officials to provide one. If the officials failto do so, they suffer in the next election. There aremany historical examples of governmental reac-tion to ethical disasters through the blunt expedi-ent of increased regulation. The creation of theSEC and other legislation followed the Crash of1929. Creation of the EPA followed environmentaldisasters in the 1960s. The Foreign Corrupt Prac-tices Act of 1977 followed Lockheed’s bribes of gov-ernment officials. True to form, in the wake of theEnron, WorldCom, and Andersen debacles, Con-gress passed the Sarbanes-Oxley Act.

Ultimately, the costs of increased governmentaloversight and regulation are passed along to soci-ety in the form of higher prices and taxes. At thelevel of the firm, government regulation of busi-ness generally creates Level 1 costs. No matterhow great they are, these costs are absorbed bymost businesses, typically by passing them on toconsumers in the form of higher prices for goodsand services. The unfortunate result is that evenwell-intended external ethics interventions by gov-ernment regulation fail to create significant ur-gency for comprehensive ethics change.15 The at-tempt to substitute regulatory interventions forethics leadership, can, paradoxically, mask the ab-sence of leadership.

Ultimately, the costs of increasedgovernmental oversight and regulationare passed along to society in the form ofhigher prices and taxes.

Change Urgency and the Costs of Ethical Failure

Not all firms suffering ethical failures will collapsein the spectacular fashion of Andersen. Most willabsorb their punishment and move on, inherentlyweaker perhaps, but still functioning. Becausethese firms will generally survive, the full costs ofethics failure are likely to remain undetectedand/or underestimated as decision-makers makethe choices that determine future business behav-ior. It is crucial to understand, however, that giventoday’s historically high level of public and gov-


ernment oversight of every aspect of corporate gov-ernance, every ethics failure at any firm now car-ries with it significant risk that the firm willexperience a debilitating combination of Level 1,Level 2, and Level 3 costs. Granted, as we move upin levels (from Level 1 to Level 3), the costs becomemore insidious and easier to overlook because bytheir nature they defy ready quantification. Whilethe Level 1 and Level 2 costs that accompany thespecter of top executives being led away in hand-cuffs cannot be ignored, how, for example, doesone quantify the Level 3 costs of lost productivityattributable to employee cynicism or lowered mo-rale in those left behind? What is the loss in mar-ket value that results from such a blot on a firm’sreputation?

Although executives may not possess the tools toquantify all these costs, gaining a better appreci-ation of their existence and importance estab-lishes a compelling urgency for sincere ethicschange. Respondents in a Cone-Roper poll, forexample, show that the public today is increas-ingly willing to raise Level 3 costs to punish un-ethical firms in these ways:16

• 91% would consider switching to another com-pany’s products or services.

• 85% would speak out against that companyamong family and friends.

• 83% would refuse to invest in that company’sstock

• 80% would refuse to work at that company.• 76% would boycott that company’s products or

services.• 68% would be less loyal to a job at that company.

Only with awareness of all relevant stakeholdersand full realization of the special devastation thatall levels of costs can wreak will business leadersfeel the urgency to take ethics seriously. Onlywhen they take ethics seriously, moreover, can weexpect them to commit to strategic leadership thatestablishes and maintains ethical climates in theirfirms. Skeptics may say that all this is well andgood in theory, but it won’t work in practice. In thebroader business experience, however, there areready examples that help to counter this claim.

It Can Be Done

After becoming CEO and chairperson of Alcoa in1987, Paul O’Neill said: “I went to Alcoa with aburning fire. . . to demonstrate that it is possible fora truly great organization to be values based with-out any reservations.”17 One ethical value thatO’Neill championed was workplace safety. Whenit came to human dignity, he believed that all

Alcoa employees had rights to a safe workplace. Atthe time of his arrival, the annual lost workday ratewas 1.87, well below the industry average. Thefirm’s managers were proud to inform their newCEO of this number. To their chagrin, O’Neill toldthem it was not good enough. Behind the numberswere people with names and faces who were killedor injured; behind the names and faces were fam-ilies and friends who were also suffering. UnderO’Neill’s leadership, workplace safety was not anissue mandated by law or regulation. It was anethical obligation. The goal was zero in lost work-days.

Only with awareness of all relevantstakeholders and full realization of thespecial devastation that all levels ofcosts can wreak will business leadersfeel the urgency to take ethics seriously.

O’Neill pursued this goal using some old-fash-ioned and very effective leadership techniques. Hegathered together the members of his executiveteam and clearly communicated the goal. He toldthem that workplace safety was about values, notabout saving money. He even went so far as to saythat if anyone calculated how much money safetywould save the company, that person would befired. He visited Alcoa plants, speaking with man-agers and employees to communicate his messageabout workplace safety. He told them that when-ever anyone faced a safety issue it should be fixed,no matter what the expense. And he tied promo-tions, evaluations, and firing to workplace safety.The result was impressive. When O’Neill left in1999, Alcoa’s lost workday rate was .014.

Ethics Mindfulness

Writing about high-reliability organizations suchas nuclear power stations and air traffic controlcenters, Karl E. Weick, Kathleen M. Sutcliff, andDavid Obstfeld discuss the concept of “mindful-ness.”18 They consider it a form of “enriched aware-ness” among organizational members regardingthe potential for catastrophe and resulting in anever-present conscious engagement of personal re-sponsibility to prevent its occurrence. In the con-text of O’Neill’s campaign for improved workplacesafety at Alcoa, executives would do well to con-sider that ethical leadership can and should bedirected toward raising ethics mindfulness amongorganizational memberships.

This discussion reminds us of John Dewey’s no-


tion that ethics is a matter of “reflective conduct” inwhich ethical thinking becomes a foundation forethical action.19 It also suggests that ethics mind-fulness is part of what psychologists refer to asindividual self-identity, a moral self-identity thatis an enduring and an ever-present positive influ-ence on behavior.20 Ethics mindfulness becomes aform of self-regulation that causes one to behavewith an ethical consciousness from one decision orbehavioral event to another.21 The leadership im-plications here are quite profound. Albert Bandu-ra’s classic work with social learning theory showsthat self-regulation is highly responsive to learn-ing from one’s social context.22 When people areexposed to role models who display self-regulatorybehaviors, they also learn and subsequently dis-play such behaviors. Following this reasoning,ethics leadership must be leadership that helpsactivate ethics mindfulness in others. This process,however, begins only when leaders develop anddisplay personal ethics mindfulness, thus becom-ing models for positive learning by others.

Ethics mindfulness becomes a form ofself-regulation that causes one to behavewith an ethical consciousness from onedecision or behavioral event to another.

As with self-regulatory behavior in general, eth-ics mindfulness in the organizational membershipis responsive to and even largely dependent onleadership activation and support. People benefitfrom assistance in meeting self-regulatory chal-lenges such as resisting temptation, delaying grat-ification, maintaining attention, and, in general,maintaining sufficient willpower and determina-tion to do what is required.23 Providing this assis-tance to activate and maintain positive self-regu-lation toward ethical behavior is a leadershipresponsibility. The goal is not to separately influ-ence each decision; the goal is to activate self-regulation that influences each decision.

We believe that O’Neill’s success with work-place safety at Alcoa came about in substantialpart because his leadership changed the ethicalculture of the firm in a way that made everyonemore mindful about workplace safety. The newculture encouraged employees and managers totake ethical action without extensive delay, sup-porting positive self-regulation. When faced withsafety issues, the mindful employee response atAlcoa became “fix it,” without someone tellingthem explicitly to do so. Instilling such ethicsmindfulness in the organization’s culture should

be a strategic leadership goal. We are confidentthat it is an achievable goal.

Leadership and the Social Context for EthicalBehavior

The executive task we are describing is to leadwith a commitment to ethics mindfulness—tomodel positive self-regulation that values howbusiness goals are accomplished as much as thegoals themselves. Such leadership helps build aninternal culture rich in the activation of similarpositive self-regulation and ethics mindfulness byothers. Consider this example.

Costco, a major player in the retail market,was expanding overseas. While investigatinga move into the United Kingdom, its bankersrecommended a way of structuring a borrow-ing transaction so that both principal and in-terest on the loan were tax deductible, asopposed to interest only, as is generally thecase. The transaction would provide both sig-nificant tax savings and a lower effective rateof interest. When Costco executives lookedmore deeply at this issue, it became clear thatthe tax saving was an unintended conse-quence of the tax code.

Mindful ethics response. The company’s topmanagement decided that although the trans-action would follow the letter of the law, itwould not fall within the “spirit” of the law.24

The leadership chose to forego the tax bene-fits. As Richard Galanti, Costco’s CFO, says:“It did not pass the smell test.”25

We believe this case illustrates how mindfulnesscan trigger further inquiry that leads to a fullyinformed decision,26 one consistent with a compa-ny’s strategic emphasis on ethics. It also suggestshow significant leadership acts reinforce ethicsmindfulness by strengthening and communicatingethics values throughout an organization. AtCostco this and other similar incidents have be-come part of the cultural lore, and these stories areoften retold.

Ethics mindfulness can also result in an ethicaljudgment and action that is virtually simultaneouswith confronting an issue. Consider this example.

A mid-level manager at Fran-Tech, a Seattlesoftware company, received a CD-ROM setcontaining the source code for a competitor’ssoftware product. The competitor was themarket leader in the software niche in which


both companies competed; it was crushingFran-Tech in the marketplace. An anonymousnote accompanying the package stated thatthe package was sent by a disgruntled em-ployee of the competitor and urged the recip-ient to use the data “as you see fit.” The man-ager receiving the data was considered to bea “star” performer by her boss and her peers.

Mindful ethics response. Once the managerrealized the contents of the CD-ROM, shepicked up the telephone and called her coun-terpart at the competitor. “I think I have some-thing that belongs to you,” she said. She re-turned the CD-ROM to the competitor.27

The manager’s decision in this case was madeintuitively once she realized that the software wasstolen.28 There was no need for consultation withothers and no thought of copying the informationbefore returning it. The manager was at onceexpressing her ethics mindfulness, most likelyconfirming its valuation in the context of the pre-vailing organizational culture, and through self-regulation providing a positive example of ethicsmindfulness for others in the organization.

Research strongly suggests that most peoplelook to their culture to determine what is ethicallyright and wrong.29 This means that, just as O’Neilldid at Alcoa, executive attention to the ethical cli-mate of a business can have a positive impact onthe decisions and behaviors of people within it.Rather than focusing directly on individuals, lead-ers can find significant momentum for ethicschange in the social context.

It Is Sustainable

Looking back to the Costco and Fran-Tech cases,chances are that we would be describing differentoutcomes if unethical behavior was tacitly accept-able within the governing corporate cultures. Inthe absence of self-regulatory forces to the con-trary, it would have been easy for the Costco ex-ecutives to seize upon the tax loophole and easyfor the manager at Fran-Tech to copy the sourcecode. Executives shouldn’t be surprised to findsuch behaviors in organizational cultures that donot place high value on ethics. And they shouldn’tbe surprised to find them even in settings wherecorporate documents and executive speeches es-pouse ethical themes, but active leadership mod-eling of ethical mindfulness and positive self-regulation is weak or nonexistent.

While nearly all companies have platitudes andslogans extolling the virtues of high ethics stan-

dards—Enron had an inspirational ethical code—the standards will only have substantial influenceon others when leadership behavior matches thecorporate message. People in organizations arekeen observers of leadership behavior. Theyquickly note any disparities between what leaderssay and what leaders do. Some will look away buttry to sustain their values by acting in ways thatconfirm individual ethics standards. Some willleave, seeking alternative employment where thegoverning ethics and values are more compatiblewith their own. Others will adjust their behavior bylowering personal ethical standards to fit the per-ceived culture.

Enron had an inspirational ethical code.

Moving the Ethics Center of Gravity

In his article “In Search of the Moral Manager,”Archie B. Carroll describes the majority of middlemanagers as well-intentioned persons who simplyfail to take ethical considerations into accountwhen taking action and making decisions.30 Theyare prone to act “amorally”—not thinking aboutthe ethics of business behavior, but not necessarilyacting “immorally” by choosing to be unethical.We believe this logic can be applied to the generalpopulation of organizations. As Carroll suggests,the vast majority may be well intentioned butamoral; their ethical tendencies may well dependmore on what the group believes than on what theypersonally believe. Influenced largely by socialcontext, they tend to respond to the ethical cultureof the organization, ethics models set by supervi-sors, and ethical expectations of peers.

Importantly, we believe that Carroll’s majorityrepresents a significant leadership opportunity.Like a mound of Jell-O�, one can consider the cen-ter of gravity of ethical tendencies in organizationsto be inherently unstable. With only the slightestshove, corporate leaders can cause it to list eitherto the left or to the right. Leaders who both professand consistently display morally positive valueswill, for the most part, be able to move the center ofgravity in a “virtuous shift” toward ethics mindful-ness and keep it there. As described in Figure 2,this occurred with Paul O’Neill’s leadership ofworkplace safety at Alcoa. But leaders who setand/or allow a tone of ethical laxity or corruptionwill also influence this center of gravity, albeitunfortunately, causing a negative shift.

Leaders can and do move the ethics centers ofgravity in organizations. But they must accept thatin their behavior and example rests the capacity to


do this with great good or great harm. This isintended as an encouraging message but one thatrequires great personal and organizational com-mitment and discipline to fully enact. Corporateleaders who focus on ethics mindfulness shouldgain change momentum; they should find that thevirtuous shift in ethical tendencies is not just aconcept but an achievable goal. But those whomistakenly believe that their ethics leadership iscomplete just because the firm avoids substantialpenalties for failures to comply with legal require-ments, routinely punishes those who run afoul ofthe rules, and conducts ethics training programsfor those who engage in questionable practiceswill be disappointed. While these efforts may lookand feel good, they do not represent a true commit-ment to ethics leadership. It takes a lot more totruly move the critical mass of the organizationalmembership toward ethics mindfulness.

Leaders can and do move the ethicscenters of gravity in organizations. Butthey must accept that in their behaviorand example rests the capacity to do thiswith great good or great harm.

Integrity Programs vs. Compliance Programs

Two broad choices are available to executivescommitted to ethics leadership: integrity programsand compliance programs. Only the former offersustainability. Lynn Sharp Paine contrasts integ-

rity and compliance programs as follows.31 Integ-rity programs focus on excellence. The goal is self-governance according to self-chosen standards.Compliance programs focus on laws, regulations,and rules of the organization. The goal is confor-mity to externally imposed standards. Integrityprograms are designed to encourage sharedcommitment by employees to responsible self-managed conduct. Compliance programs are de-signed to prevent criminal, externally policed mis-conduct. The leadership of integrity programs ismanagement driven. The leadership of complianceprograms is lawyer driven.

Looking back to the Alcoa and Costco examples,we find people’s actions being driven by values,not by law. These firms exhibited integrity pro-grams before we even had a name for them. Con-sider, by contrast, what a compliance programwould have looked like at Alcoa. Training wouldhave started with OSHA rules and regulations,standards forced on the company by outside regu-lators. Penalties would have been imposed onthose who broke the rules. The lost workday ratecould have been very high, as long as OSHA ruleswere being followed. A letter once sent by OSHA tocompanies who had very high rates of lost work-days said: “We recognize that an elevated lostwork day injury and illness rate does not necessar-ily indicate a lack of interest in safety and healthon the part of your business.”32 This is not the kindof letter that reduces the lost workday rate to Al-coa’s .014.

The implications of shifting ethics leadership

FIGURE 2Leadership Impact on the Ethics Center of Gravity


away from a compliance orientation and toward acommitment to integrity can be expressed in theanalogy of the water tank. The floor of the tankrepresents the legal minimum, establishing a com-pliance baseline below which the individual orfirm cannot act. The level of water above the floorrepresents the level of ethics the firm has decidedto adopt. This level is optional. As long as it re-mains above the legal minimum, this level can beas high or as low as the individual or firm wishes.How high the water gets above the minimumshows the extent to which people are willing tomake discretionary ethical choices—ones drivennot by compulsion of laws and rules but by theindividual and organizational values they havedecided to adopt.

The manager in the Fran-Tech case did not con-sider where the bottom of the water tank might be;she acted mindfully at a high ethics level. AtCostco, due diligence required the managers, andpresumably their attorneys and accountants, to de-termine where the bottom was with respect to theproposed transaction. Having found the answer,the senior managers were uncomfortable loweringthe company’s collective water level as far aswould have been necessary to realize the full ben-efits of the deal. They acted at a higher ethicslevel. For Alcoa, OSHA rules set the compliancefloor. At the time of O’Neill’s arrival, the firm wasdoing better than the industry average; there wasa fair amount of water already in Alcoa’s tank. Butthat was not good enough for O’Neill, who pushedthe firm to a higher ethics level.

Considerable evidence exists to show that integ-rity programs not only work well in sustainingethics mindfulness but that they work better thancompliance programs. A study of some 10,000 em-ployees at all levels in six U.S. companies in avariety of industries found strong evidence thatintegrity programs outperform compliance pro-grams on several dimensions of ethics.33 Employ-ees of companies with integrity programs report:

• Lower incidence of unethical/illegal behavior.• Greater awareness of ethical/legal issues at

work.• Greater search for ethical/compliance advice.• More willingness to deliver bad news to man-

agement.• More reporting of ethics/compliance violations.• More embedding of ethics/compliance in every-

day decision-making.• Greater employee commitment to the firm.

Two further studies of ethical climates and em-ployee behavior—one a national multi-companystudy and the other a single-company study—

showed that employees are more concerned withthe integrity of the workplace than with rules andsanctions. In the national multi-company study,employees were twice as likely to follow rules vol-untarily as they were under threat of punishment.In the single-company study, the power of integrityto promote voluntary rule-following was evengreater.

Considerable evidence exists to showthat integrity programs not only workwell in sustaining ethics mindfulness butthat they work better than complianceprograms.

Even as ethics leadership focuses on integrity, itshould not ignore the importance of compliance.Instead, compliance should be viewed as a neces-sary foundation of an ethical culture, much as thewater tank needs a strong bottom to support highwater levels. Punishing those who fall below thecompliance line sends the message that manage-ment takes its integrity program seriously.35

Strategic Leadership and the Ethics Bottom Line

A contextual message in our work, equally appli-cable to ethics in business as well as in life, is this:Long-term, sustainable success can be achievedonly through solid ethical behavior. The “ethicsbottom line” in this sense derives first and fore-most from the leader’s behavior. Business execu-tives must serve as public and vocal ethics rolemodels; this is the basic building block of anypositive leadership impact on ethical behavior byothers. Moreover, in respect to ethical behavior,executives should act ethically not out of fear ofbeing caught when doing wrong. Rather, theyshould embrace ethical behavior in business be-cause of the freedom, self-confirmation, and suc-cess that it brings.

We began this article by quoting a definition ofstrategic leadership which states in part that theexecutive’s strategic leadership responsibility in-cludes working “with others to initiate changesthat will create a viable future for the organiza-tion.” Our premise here is that a viable, sustain-able long-term future is inevitably linked with eth-ical business behavior. Acceptance of this fact andcommitment to act within its guidance are essen-tial hallmarks of real strategic leadership. Wewould hold executives accountable for includingthis ethics bottom line in their personal perfor-


mance commitments as well as in those of theirorganizations.

No one should fear or retreat from the responsi-bility we have been describing. Executives with anethics vision can move themselves and their or-ganizations forward, step by important step. Thebasic building blocks for success in the strategicleadership of ethical behavior in business havebeen set forth in this discussion: (1) Create andsustain change urgency through complete analy-sis of all costs of ethical failures; (2) Act to reinforceethics mindfulness in one’s self and others and tosupport the virtuous shift in an organization’s eth-ics center of gravity; and (3) Anchor changes in theorganization’s culture by engaging in integrity pro-grams that move people beyond mere complianceand toward ethics mindfulness.

Executives with an ethics vision canmove themselves and their organizationsforward, step by important step.

Business executives can and must realize thatthe bottom line of business success always in-cludes an ethics component. They must be willingto do even the small things every day that help toadvance its accomplishment. Executives must vo-calize a clear and consistent positive ethics mes-sage from the top. Commitment to ethics mindful-ness must be stated often and clearly; ethicsmessages must be supported by positive examplesof senior executives making tough choices that aredriven by company values. Executives must createand embrace opportunities for everyone in the or-ganization to communicate positive ethics valuesand practices. Everyone must experience a “voice”in the ethics culture, being encouraged to expressconcerns and preferences; they must have easyand secure access to mechanisms for doing so,including advice lines and tip lines for reportingviolations; all questions and concerns must be fol-lowed to closure; all systemic sources of recurringproblems must be traced and rectified. Executivesmust ensure consequences for ethical and unethi-cal conduct. Ethical performance should be recog-nized and rewarded, visibly and regularly; uneth-ical behavior should be met with sanctions up toand including termination, with no exclusions forsenior executives.

The strategic leadership of ethical behavior inbusiness is not an abstract concept. It is an achiev-able goal. When inspirational values are backedby personal example and a solid groundwork ofcompliance, it is possible to achieve ethics goals

such as the one Nancy Higgins has expressed forMCI: “A culture where ethics permeates the com-pany and forms a portion of every business deci-sion we make, at every level.”35

Acknowledgments

The views expressed in this paper are solely those of the au-thors. They do not represent the views of any company orinstitution. The authors thank Jack Veiga, Robert Ford, and twoanonymous reviewers for their fine criticisms and suggestionsin the development of this paper. John Schermerhorn alsothanks Chubu University, Japan, for support during his appoint-ment as Kohei Miura Visiting Professor of Management.

Endnotes1 Quote from discussion with Nancy Higgins of MCI Corpo-

ration by Terry Thomas.2 See Cherrington, D. J., & Cherrington, J. O. 1997. Principles of

moral leadership. CHC Forecast, Inc. Retrieved from www.chc-forecast.com/PrinciplesofMoralLeadership.html, 15 November2003.

3 Toffler, B. M. 2003. Five ways to jump-start your company’sethics. Fast Company, 75 (October): 36.

4 Hitt, M., & Ireland, R. D. 1999. Achieving and maintainingstrategic competitiveness in the 21st century: the role of strate-gic leadership. The Academy of Management Executive, 13 (1):43–57.

5 Kotter, J. 1996. Leading change. Cambridge, MA: HarvardBusiness School Press; Kotter, J. 1995. Leading change: Whytransformation efforts fail. Harvard Business Review, 73 (March–April): 59–67. Historical roots for Kotter’s contemporary modeltrace to the pioneering work on planned change by Lewin, K.,1947. Frontiers in group dynamics. Human Relations, 1: 5–41.

6 The largest bankruptcies 1980–present. Retrieved fromwww.bankruptcy.com, 22 November 2003.

7 These failures are described in Jeeter, L. W. 2003. Discon-nected: Deceit and betrayal at WorldCom. New York: John Wiley& Sons; McClean, B., & Elkind, P. 2003. Smartest guys in theroom: Amazing rise and scandalous fall of Enron. New York:Portfolio; Toffler, B. L. 2003. Final accounting: Ambition, greedand the fall of Arthur Andersen. New York: Broadway Books;Watkins, S., & Swartz, M. 2003. Power failure: The inside story ofthe collapse of Enron. New York: Doubleday.

8 Reingold, J. 2003. The women of Enron. Fast Company, 74(September): 76ff.

9 Paine, L. S. 1994. Managing for organizational integrity.Harvard Business Review, 72 (March–April): 106–117.

10 Messick, D., & Bazerman, M. 1996. Ethical leadership andthe psychology of decision making. Sloan Management Review,37 (2): 9–22. This article is also reprinted in Dienhart, J. 2000.Business, institutions, and ethics: 39–56. New York: Oxford Uni-versity Press.

11 Waddock, S. A., Bodwell, C., & Graves, S. B. 2002. Respon-sibility: The new business imperative. The Academy of Man-agement Executive, 16 (May): 132–147.

12 Farrell, G. Andersen gets $500,000 fine, 5 years probation.USA Today Money, 16 October 2002.

13 Andersen gets $500,000 fine and 5-year probation. SRiMe-dia, 17 October 2002.

14 Public choice theory is an economic analysis of votingbehavior in which voters demand political goods that theirelected representatives try to supply. See Chapter 5, Dienhart,op. cit. for more detail and references to seminal work.


15 For a discussion of regulatory influences on business be-havior, see Stone, C. D. 1991. Where the law ends: The socialcontrol of corporate behavior. Prospect Heights, IL: WavelandPress, Inc.

16 Data from a survey reported in Cone Corporate CitizenshipStudy. 2002. National survey finds Americans intend to punishcorporate “bad guys,” reward good ones. Retrieved from www.coneinc.com/Pages/pr_13.html, May 2003.

17 O’Neill, P. Values into action. Retrieved from www.hbsworkingknowledge.hbs.edu/item.jhtml?id�3159&t�corporate_governance, May 2003.

18 Weick, K. E., Sutcliffe, K. M., & Obstfeld, D. 1999. Organizingfor high reliability: Processes of collective mindfulness. In Staw,B., & Sutton, R. (eds), Research in Organizational Behavior, Vol.21: 81–123. Greenwich, CN: JAI Press.

19 See Gini, A. 1997. Moral leadership and business ethics.Journal of Leadership and Organization Studies, 4 (4): 64–81.

20 Aquino, K., & Reed, A., II. 2002. The self-importance of moralidentity. Journal of Personality and Social Psychology, 83 (6):1423–1440.

21 See the overview of self-regulation by Mischel, W., Cantor,N., & Feldman, S. 1996. Principles of self-regulation: The natureof willpower and self-control. In Higgins, E. T., & Kruglanski,A. W. Social psychology: Handbook of basic principles: 329–360.New York: Guilford Books.

22 Bandura, A. 1977. Social learning theory. Englewood Cliffs,N.J.: Prentice-Hall.

23 Ibid.24 Two years after these events, British authorities closed the

tax loophole.25 This example is from an interview with Richard Galanti,

CFO of Costco, Inc., and conducted by John Dienhart.26 Rest, J. 1986. Moral development: Advances in research and

theory. New York: Praeger.; Trevino, L. 1986 Ethical decision-making in organizations: A person-situation interactionistmodel. Academy of Management Review, 11 (3): 601–617; Haidt,J. 2001. The emotional dog and its rational tail: A social intu-itivist approach to moral judgment. Psychological Review, 108(4): 814–834. Rest and Trevino argue for what Haidt calls theSocial Rational Model, which has set a standard for analyzingethical decision-making and behavior for over 20 years. Thismodel postulates a fixed order for ethical decision: awarenessthat there is an ethical issue, analysis of the issue, judgmentabout the correct behavior, ending with behavior. It is a rationalmodel because rational analysis drives behavior. It is social

because the values used to make the decision are embedded ina social context.

27 Case obtained by one of the authors in a personal inter-view with the featured individual; names and location changedto respect confidentiality.

28 See Haidt, J., op. cit. Haidt argues for the Social IntuitionistModel of decision-making. This model places more emphasison social context than the social rational model does. It assertsthat our awareness of an ethical issue and a judgment aboutwhat we should do are nearly simultaneous. Our intuitions areculturally informed by training and past experience.

29 See the discussion in Trevino, L., & Nelson, K. 1995. Man-aging business ethics, John Wiley & Sons, Inc.: 89.

30 Carroll, A. B. 2001. In search of the moral manager. Busi-ness Horizons (March/April): 7–15.

31 Paine.32 The 683 most dangerous workplaces in New York State.

Retrieved from www.nycosh.org/SIC-high_2000.html, May 2003.33 Trevino, L. K., et al. 1999. Managing ethics and legal com-

pliance: What works and what hurts. California ManagementReview, 2 (Winter): 131–151.

34 Tyler, T. R. 2003. Creating an ethical climate in work orga-nizations. Paper presented to the Northwest Ethics Network,Seattle. Tyler, T. R., & Blader, S. 2003. Rule following in worksettings. Paper presented at the Shrontz Lecture on BusinessEthics at Seattle University.

35 Trevino, et al.36 Quote from discussion with Nancy Higgins of MCI Corpo-

ration by Terry Thomas.

John W. Dienhart is the FrankShrontz Chair for Business Eth-ics at Seattle University and di-rector of the Northwest EthicsNetwork, an independent groupof ethics and compliance offic-ers. He consults with and doesethics training for Microsoft,Washington Mutual, and Costco.He has published several booksand articles on business ethics.His comments have appeared inthe New York Times, The Wash-ington Post, and the LA Times.Contact: [email protected].

John R. Schermerhorn, Jr., is theCharles G. O’Bleness Professorof Management at Ohio Univer-sity and adjunct professor ofmanagement at the NationalUniversity of Ireland at Galway.His Ph.D. in organizational be-havior is from Northwestern Uni-versity, and he holds an honor-ary doctorate from the Universityof Pecs, Hungary. His researchand executive education inter-ests include cross-culturalmanagement and principledhigh-performance leadership.Contact: [email protected].

Terry Thomas has had a 21-yearcareer spanning law, business,teaching, and ethics. From 2002until late 2003, he was the exec-utive director of the Seattle Eth-ics and Elections Commission.He is currently the vice presi-dent of ethics operations for amajor corporation. He holds a BAfrom the University of Maryland,a JD from Washington Universityin St. Louis, and an MBA from theUniversity of Washington. Con-tact: [email protected].


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