The sixth sense

Out Of The Box

Employees don't earn according to their standing in the corporate hierarchy, but according to the value they add to the bottom line

John Whitney, a professor at the Columbia Business School, often finds himself in the heat of battle. In April, he turned up in the palatial home of Iraq's then Deputy Prime Minister Tariq Aziz, in a manner of speaking.

Two weeks before Aziz surrendered to the US Army, the Times of London reported that on his desk lay a copy of Power Plays: Shakespeare's Lessons in Leadership and Management "" a book that Whitney had co-authored (with Tina Packer) in 2000. Since the book chronicles, according to a wry Whitney, "almost every mistake in governance that a leader can make," it was ironic that Iraq's infamous 'Eight of Spades' had it on his reading list.

Fitting too, because Whitney has been the first to argue that corporate governance has become so important that it is a sixth factor of production. The first three are land, labour and capital, as Adam Smith argued. The fourth, which Jean-Baptiste Say suggested in the 18th century, is entrepreneurship. The fifth is innovation, which Stanford's Nathan Rosenberg mooted in 1987 in How the West Grew Rich.

Whitney's logic is not hard to follow. Just as differences in the quality and quantity of the factors of production accounted for differences in the economic health of nations, corporate governance has emerged as one of the factors that separate good companies from bad.

Indeed, Whitney's approach embodies a shift in the way people are viewing governance issues. After more than two years of unabated discovery of corporate malfeasance in the US and Europe, there is a growing realisation that legislation and guidelines may not be enough.

Since malcontents will always be able to find loopholes, good governance has boiled down to fundamental principles that define national fabric as much as they do corporate character.

Do the roots of a more effective governance model then lie in good government rather than good corporate citizenship? I was struck last week by an e-mail from one of this column's readers. A manager at one of India's big business houses, he is, developing a corporate governance model for the organisation.

Interestingly, he said that he planned to study, among other things, the practices of India's ancient rulers. That is pretty close to what Whitney does. His course on the market economy explores the similarities between governing a political organisation and a business organisation.

The readings he prescribes for MBAs: the Magna Carta, John Locke's Two Treatises of Government, and the American Constitution and Bill of Rights. "Executives must understand the concept of governance and the importance of ethical behaviour in its entirety," he explains.

For those who believe that such an approach to corporate governance is untenable, consider the Wichita-based Koch Industries. With sales of more than $ 30 billion in 2002, it is the second-largest privately owned company in the US with interests in trading, manufacturing, and finance. Koch Industries runs on the principles of a free market economy, according to a management system that its chairperson, Charles Koch, designed.

Heavily influenced by economist F. A. Hayek's belief that central control is anathema to an economy's well-being, Koch has spent the last 30 years fighting a command-and-control structure. Instead, his employees enjoy decision rights "" the right to make key decisions.

However, they have to earn the right to make those decisions by first adding value to the company. Since Koch believes that executives put resources and innovation to the best use when there is free flow of information, knowledge processes and signals manage internal markets in the company, and influence the allocation of resources.

Employees don't earn according to their standing in the corporate hierarchy, but according to the value they add to the bottom line. Koch doesn't think these ideas up; his people do.

Koch provides a principled framework under which Koch Industries operates: every employee is an owner in the process of generating value at each company and consequently, 'every employee is held accountable for living by clearly defined principles, foremost of which is conducting all business affairs with integrity.' "When you have too much central control and destroy the innovativeness of people in the organisation, you will have a bad system that is not going to progress," says Whitney. "On the other hand, you need some kind of control so that there is a balance between individual initiative and agreement on a central mission."

Thus, rebuilding corporate governance will require the mindset that founding fathers bring to drafting constitutions. Just as great nations are built less by draconian laws and more by encouraging freedom, great companies will rely less on punitive controls and more on core ethics and values that are fundamental to their culture.

"Companies that are tightly controlled do not succeed," says Whitney. It is counter-intuitive to make a case for less control at a time when corporate misdeeds are hogging the headlines but, as Tariq Aziz will attest, character will always outperform command.

manjariraman@yahoo.com

(The columnist is a Boston-based management writer)