Governance in Asia: The Benefits of Trust

When doing business with Asian partners, Western companies are often hindered as they negotiate an unfamiliar landscape. Companies and business units in Asia are often run by the founders and their relatives. Supply contracts tend to go to trusted friends, while knowing the right person in the right place could mean a difference of months, if not longer, in securing a licence or a key meeting.

 

Jean-Luc Chéreau was already an old hand in Asia before moving to China in 1999 to run French retailer Carrefour’s operations there, but he still faced surprises. When he arrived in Shanghai, the company had five contracts in hand for new stores in the country, but he noticed progress with one local partner was slow.

 

In an interview with McKinsey Quarterly in 2006, he explained: “Finally my assistant told me: ‘Just because he signed a 20 year contract two years ago with your former boss – a person who is not you – does not mean he will respect the contract.’ That was a big shock to me: the contract was notarised and everything. But we started to renegotiate article by article.”

 

Family ties

 

The reasons that relationships can still mean more than legal contracts are rooted in cultures that put high value on family ties and the bonds of friendship. Also, until recently in some Asian countries, a political and legal climate in which governments and bureaucracies were seen as unfair reinforced these bonds by making trust a valuable commodity.

 

Asian markets remained immune to the obsession with shareholder value that swept Western markets in the 1980s and peaked in the 1990s, while few family-owned businesses in the region succumbed to the flood of hostile takeover bids that had overwhelmed their Western equivalents. A 2003 white paper on corporate governance in Asia by the Organisation for Economic Co-operation and Development (OECD) observed that about two-thirds of businesses in Asia were family-controlled in 2003 (defining control as at least a 20% stake).

 

In addition, national governments still own significant stakes in a wide range of Asian businesses, including many publicly traded companies. This has imposed another web of key relationships.

 

These factors have combined to reinforce the importance of relationships among Asian companies, including those in Japan, the most developed economy in the region. In his book Keeping Better Company, Jonathan Charkham lists three key concepts that govern Japanese culture: a sense of obligation based on relationships, the importance of family (including the corporate family), and the need for consensus.

 

“When a Chinese company, whether a state-owned enterprise or a private company, makes a decision it always comes into so many issues, and the final outcome will be determined by measuring the impact on people,” says Ellena Au, FCMA, Chief Executive of KanTec Business Consulting in Beijing.

 

“Sometimes we say that Chinese companies are not scientific or fact-based, because they’re always considering so many people issues. These considerations make it more difficult than it is in the West to be sure where you look at data, sales growth, profit growth etc.”

 

By placing so much emphasis on individual relationships and trust, Asian firms find it harder to implement procedures that are considered best practice in the West, particularly those that increase transparency – e.g., performance-based evaluations. Their employees can view even basic control tools as a lack of trust in them.

 

One of the most prevalent problems is a reluctance to question decisions made by a superior. Obedience to father figures is easily transferred to obedience to anyone in authority. This is exacerbated in some companies where the chairman is the founding patriarch.

 

In his 2008 book Outliers, Malcolm Gladwell cited an example in which such deference to authority had fatal consequences. In the 1980s and 1990s national flag carrier Korean Air had one of the world’s worst safety records and its aircraft suffered a series of fatal crashes. Gladwell attributes the problem, in part, to the inability of junior flight officers to challenge a captain’s actions, even when disaster was imminent.

 

“Among Korean Air flight crews, the expectations on layovers used to be that the junior officers would attend to the captain to the point of making him dinner or purchasing him gifts,” Gladwell wrote. “As one former Korean Air pilot puts it, the sensibility in many of the airline’s cockpits was that ‘the captain is in charge and does what he wants, when he likes, how he likes and everyone else sits quietly and does nothing.”rsquo;

 

While Korean Air was able to change this mentality, partly by switching to English as its working language, a similar culture is still prevalent in many Asian companies.

 

Asian society’s lack of transparency creates a fertile ground for corruption, too. Without open tenders or other checks and balances, for example, the temptation to offer incentives such as kickbacks to seal a deal can be overwhelming. The same is true for employees whose success rests on their relationship with their superiors.

 

Even so, John Hooker, Professor of business ethics and social responsibility at the Tepper School of Business, believes that what Westerners like to attack as corruption might not be a black-and-white issue. It may actually be good business, given the Asian context, he argues.

 

“We typically identify corruption with side-payments, cronyism and nepotism, but all those activities can be entirely legitimate when practised responsibly in the right cultural context,” he wrote.

 

“A purchasing agent in Taiwan may award a contract to an old friend rather than the lowest bidder because the friend can be trusted to deliver a good product. That kind of responsible cronyism (known as guanxi) has been a foundation of business in Taiwan [and indeed in East Asia as a whole] for centuries. It becomes corrupt only when the agent favours friends simply because they are friends, rather than because they can be trusted to do the job right.”

  

Case study

 

Satyam Computer Services is an example of what was once one of India’s most respected outsourcing firms going out of business, after a scandal that may have been prevented had there been more transparency or questioning within the company.

 

At the end of 2008 Satyam Computer Services was India’s fourth-largest IT services company, with annual revenues of well over US$1 billion. Its clients were spread across the globe and included a healthy swathe of Fortune 500 companies. The firm was winner of the World Council for Corporate Governance’s Golden Peacock Award. A few years earlier Ernst & Young had named Satyam’s founder and chairman, B Ramalinga Raju, Entrepreneur of the Year.

 

That all changed on 7 January 2009, when Raju resigned, confessing to hiding about US$1 billion in cash shortfalls. In a letter made public, Raju admitted that he had been fixing the books for seven years. When a deal to buy his sons’ development companies fell through, the effort was no longer tenable. He wrote: “It was like riding a tiger, not knowing how to get off without being eaten.”

 

In the immediate aftermath, Raju, his brother and the company’s chief financial officer were jailed on charges related to the fraud. The company was sold to Tech Mahindra in a public tender and its name changed to Mahindra Satyam. Satyam Computer Services was no more.

 

A year after news of the scandal broke, Arun Duggal, former CEO of Bank of America in India, wrote that there had been “a steady improvement in the functioning of boards” in India and independent directors had become more involved in overseeing the affairs of their companies and protecting minority rights.

 

Duggal also praised the government’s effort to create voluntary guidelines. “The Satyam fiasco, although very painful, has resulted in actions to improve the corporate governance in India, but there remains much more to be done,” he wrote.

 

The scandal exposed “a patriarch willing to go to any length to keep control, a web of cosy relationships among members of a seemingly untouchable elite and a governance system that failed to keep either in check”, according to a report in the New York Times.

 

The article quoted Ajay Gandhi, an accountant in Satyam’s home base of Hyderabad, as saying that even outside accountants were unwilling to question the company’s chairman, whom they considered to be their client. “Raju would have been the owner, so what he wanted here would have been done,” Gandhi said.

 

Conclusion

 

The Satyam scandal shows that the Eastern way can also lead to ruin. But criticism of the Eastern corporate governance model has been blunted by the simple fact that Asian companies, even those in the financial services industry, have generally weathered the global financial crisis better than those in the West. The most significant impact they have felt came not from risky lending, but from declining demand from consumers in North America and Europe.

 

There was no Asian Lehman Brothers splashed across the headlines, with revelations about the exploitation of Repo 105 accounting procedures to shift $50bn off the balance sheet. Instead, China’s biggest banks – Industrial and Commercial Bank of China, China Construction Bank and Bank of China – are now the world’s first-, second- and third-largest banks respectively by market capitalisation.

 

About the Author

 

Robert Jelly is CIMA Executive Director, Education. CIMA’s report, ‘Global Perspectives on governance – lessons from East and West’ will be launched at the World Congress of Accountants 2010 in Kuala Lumpur (November 8-11). CIMA is the proud Gold Sponsor of WCOA 2010. For more information, please visit www.cimaglobal.com/wcoa.

 

This sponsored article is the second in a four-part series.

 

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