Wal-Mart Bribery Case Raises Fundamental Governance Issues Posted by Benjamin W. Heineman, Jr.

, Harvard Law School Program on Corporate Governance and Harvard Kennedy School of Government, on Saturday April 28, 2012 at 8:30 am Wal-Mart appeared to commit virtually every governance sin in its handling of the Mexican bribery case, if the long, carefully reported New York Times story is true. The current Wal-Mart board of directors must get to the bottom of the bribery scheme in Mexico and the possible suppression by senior Wal-Mart leaders in Bentonville, Arkansas (the companys global headquarters) of a full investigation. In addition, the board must also review and fix as necessary the numerous company internal governing systems, processes and procedures that appear to have been non-existent or to have failed. And, most importantly, it must define the CEOs core role as one which truly fuses high performance with high integrity, and does not exalt performance at the expense of integrity and possibly discipline or remove the past CEO (still on the board) or the current CEO. The essential allegations in the Times story are as follows: For a substantial period before 2005, the CEO of Wal-Mart in Mexico and his chief lieutenants, including the Mexican general counsel and chief auditor, knowingly orchestrated bribes of Mexican officials to obtain building permits, zoning variances and environmental clearances, and also falsified records to hide these payments. When the lawyer in Mexico directly responsible for bribery payments had a change of heart and reported the scheme to Wal-Mart lawyers in the

United States, those lawyers hired an independent firm which, after an initial look, recommended a major inquiry. This was rejected by senior Wal-Mart management, which instead told an internal Wal-Mart investigative unit to look into it. That unit, too, said, in early 2006, that a substantial inquiry was warranted. But top Wal-Mart leaders in the U.S., including the companys general counsel, referred the matter back to the Wal-Mart general counsel in Mexico the very lawyer who was allegedly at the center of the bribery scheme. Unsurprisingly, the Mexican general counsel promptly closed the matter, finding no problems and suggesting no disciplinary measures for senior Wal-Mart leaders in Mexico. He remained in his position until relieved of his duties last week, just before the Times story appeared. Below are some of the most concerning governance issues using governance to refer not just to relations between board and management but, importantly, to how the CEO governs the company from top to bottom. I will not use the word alleged in every sentence, but one should assume that I do because none of these facts have been established by law enforcement authorities and are, at this point, allegations contained in a piece of investigative journalism.

Culture of Silence. Most corporate scandals are perpetuated by a culture of silence. Here there appears to have been no integrity hotline or whistleblower system that worked, because the alleged bribery scheme went on for years without anyone reporting it to an independent company ombudsperson (and some employees were clearly aware of it). Moreover, the Mexican business leaders hid the bribery scheme from the global Wal-Mart leadership in the U.S.

And, as far as one can tell based on the allegations so far, the Wal-Mart leaders in the U.S., when they learned of the allegations in some detail, hid the matter from the Wal-Mart board of directors. Wal-Mart appears to have operated like a compartmentalized criminal enterprise rather than a lawful global company.

General Counsel and Key Finance Officials as Partners, Not Guardians. The general counsel and chief auditor in Mexico appear to have knuckled under to the demands of an ambitious country CEO with no legal and moral compass by helping to direct and hide the bribery scheme. Similarly, when the investigation was returned to Mexico by top Wal-Mart leaders in the U.S., the Mexican general counsel appears to have killed it with a false report after no further inquiry. Likewise, in the U.S., the Wal-Mart general counsel did not support the Wal-Mart international counsel the heroine of the piece who received the whistleblowers initial report and sought to have an independent, thorough investigation. The companys general counsel instead succumb to the demands of top management in Bentonville who wanted to sweep the problem under the rug. The companys general counsel sent the investigative files back to the Mexican general counsel who had clearly been named as a central figure in the bribery scheme. I have written many times that the hardest part of the GC and CFO jobs (and of inside legal and finance staffs) is to reconcile the tension between being partner to the business leaders and guardians of the corporation. This appears to be one of the most striking cases where top legal and finance officials were oblivious to

their fundamental integrity role and partnered with business leaders who were complicit at worse and totally obtuse at best.

CEO Failure to Fuse Performance with Integrity. At the time of the bribery scheme, Lee Scott was CEO of Wal-Mart. His apparent governance failures have three dimensions. He did not lead from the top and establish robust systems and processes for preventing, detecting and responding to possible wrongdoing. His crisis management style was to exclude people with relevant expertise and suppress rather than uncover and deal with a serious problem. His view of Wal-Marts obligation to follow the law was stunted because, when confronted with detailed reports of rot in Mexico, he did not determine culpability nor did he report to the board or to law enforcement authorities, but choose instead to suppress the matter by deep-sixing it back to Mexico where it died a quick death. Scott still sits on the Wal-Mart board. The current CEO, Mike Duke, was at the time the new head of WalMart International with, apparently, all subsidiaries, including Mexico, reporting to him. The investigative story states that he was briefed in detail about the matter (presumably, though the story doesnt say this) by the international counsel who pushed for a full investigation the counsel who resigned at the time the top company leaders failed to pursue a major investigation. What Duke did with his knowledge at the time is not clear, but it is certainly a major question whether he acquiesced in the decision to suppress the investigation.

Where Was the Board And Where Will It Be? According to other news stories, the current board has hired outside law firms and outside forensic experts to fully investigate both the alleged

Mexican bribery scheme and the possible cover-up at Wal-Mart corporate headquarters. There will have to be a fundamental decision about how far the investigation should extend clearly the questions in Mexico raise questions in other nations outside the U.S. where Wal-Mart has expanded. Companies like Siemens and Avon, when faced with a problem in a particular nation, have expanded their independent investigations to other nations. But, in addition to dealing with the dangerous legal issues facing Wal-Mart, the current board must ask and answer a number of hard questions about how the company was governed and managed. What was the failure of the then board in not overseeing whether the company had adequate compliance systems and processes in such a fundamental area as compliance with the Foreign Corrupt Practices Act? Did the board know anything about the matter then and did it fail to act properly (as note above, there is no information yet that the board was informed)? What were the fundamental system and process failures, have they been fixed, and what needs to be done to fix them in the future? What kind of discipline and cancellation of benefits is appropriate for those who were involved at the time and still remain at the company a list which includes the then CEO of Mexico (now a Wal-Mart consultant until July), the current and immediate past CEOs of the company, and senior legal and finance staff? And for those Wal-Mart officers or employees implicated in the matter but no longer with the company, what kinds of legal actions by the company are appropriate if they were involved in violations of law, company codes or general fiduciary duties?

Obviously, how the board communicates about all these matters will have much to do with its reputation in dealing with this multifaceted problem. Most of the public will be watching to see whether Wal-Mart is legally liable and pays significant damages. But, for those deeply concerned about corporations ability to govern themselves, and about the fusion of high performance with high integrity as the core mission of capitalism, the future details on problems and remedies relating to Wal-Marts governance, leadership and management hold equal fascination.