Adam Smith recognized the importance of corporate governance long back though he did not use the phrase.

According to him,

“The directors of the companies being the managers of the  peoples’(shareholders) money than their own ,it can not well be  expected that they should watch over it with the same anxious  vigilance with the partners in a private corporation frequently watch over their own. ”

 

Meaning & Definition

“A code is a set of rules, which are accepted as general  principles, or a set of written rules, which states how the  people of a particular organization should  behave”

Thus it is a set of standards agreed by a group of people who do a particular job. Regulation is an official rule that lays down how things should be done. 

Both codes and regulations are “set of rules” or “principles” or “standards”  that are intended to control, guide, or manage behavior or the conduct of individuals working in an organization, the basic difference is that codes are “self-imposed” or “self-regulated” sets of rules, while regulations are “official” i.e imposed by the State  (government).

International Capital Markets Group (1992) listed the following benefits of self-regulation.

1. In “self-regulation” it is possible to impose ethical standards, which goes beyond those, which can be imposed by statutory legislation.
2. ”Self-regulators are directly accountable to the members of their group”. Self-regulatory systems have built-in motivation to regulate for effectiveness and least interference.
3. Self-regulation operates in an environment where there is a willingness to accept regulations formulated from within the common good of the group.
4. The regulated have an opportunity to participate at all levels of the self-regulatory process. This makes it easier for them to appreciate and accept new regulations.
5. Self-regulators have a built-in system of checks and balances as the regulated see it as their duty to expose non-compliance.
6. Self-regulators can identify complex regulatory problems at an early stage (early stage identification) and  develop suitable solutions before these problems reach a stage that can disrupt  group operations
7. Self-regulations are more comprehensive than official regulations and are easier to operate and implement.

1.  The Code of Conduct: Structure and Contents

 The code of conduct can be considered a tool of corporate governance because it identifies corporate responsibilities towards stakeholders and obliges top managers to comply with certain guidelines when exercising their authority, both inside and outside the company.

We must distinguish between the code of conduct and the code of ethics: the former, which is ‘rules based’, aims to offer a solution to every possible situation and helps to outline corporate strategies, i.e. the behaviors to adopt when specific problems emerge;  the latter, which is ‘value based’, provides a set of ethical principles and corporate values. 

The code of conduct is therefore closely linked to the code of ethics because the behavior to adopt in specific situations depends on the strategic mission principles, and may even incorporate a code of ethics. Many codes place themselves between these two extremes because they are composed of an introduction that sets out the ethical principles and shared values, and a subsequent section that outlines the rules of conduct to be adopted in certain situations.

Moreover, the code of conduct and code of ethics is closely linked to the concepts of integrity and loyalty. 

In particular, the code of ethics addresses the moral integrity of the individuals in the company, as it identifies the values that employees must respect in their tasks: for example, honesty in their actions, tolerance of diversity, and courtesy of service to customers. 

On the other hand, behaviors dictated by the code of conduct simply require immediate execution by the members of the organization, without questioning whether or not it is opportune to do so. As a result, the code of conduct is designed to build strong loyalty to the company among employees. It contributes to creating: 

• cohesive and aligned behavior; 
• organizational efficiency; and 
• better coordination between decision-making and functional areas. 

At the same time, the code of conduct helps to contain internal conflicts by fostering favorable attitudes and consensus towards the company.

The code of conduct encompasses a wide variety of subjects because it addresses all the stakeholders who make up the operating scenario in which the corporate management evolves concerning its environment. Moreover, it is an expression of the corporate culture since it reveals how the rules of conduct towards the company’s interlocutors derive from cultural values and principles. 

The code is therefore structured in two sections: a preamble containing a code’s description and the corporate principles, and a section with the rules and the standards of behavior.

The first section provides a definition of the code of conduct illustrating the mission and the values underpinning it. It then lists the stakeholders with whom the company interacts and defines their expectations and corporate responsibilities, as well as the company’s fiduciary duties concerning them.

The second part outlines the rules of conduct; these are usually expressed by prohibitions, by recommendations to avoid incorrect behavior, or simply by listing the standards, i.e. rules and preventive procedures establishing which behavior must be adopted, and how the company and its collaborators can prevent opportunistic attitudes so that corporate conduct does not diverge from the established principles.

Research conducted by the OECD of a sample of 236 codes of companies operating in 23 countries has revealed that they regulate working conditions in 60% of cases, environmental stewardship in 59%, followed by consumer relations (47%), bribery (20%) and the transparency of information (18%).

The codes address all individuals or groups that influence certain aspects of corporate strategic behavior, generating strengths or weaknesses. Although each stakeholder has specific expectations of proper behavior by the company, the standards concerning him refer to common and shared values such as honesty, justice, fairness, and transparency.

Primarily, the codes of conduct address employees, they are institutional stakeholders and active members of the company. Whit regards to employees, the codes set out the rules to be observed complying with principles of fairness and legality, to guarantee a safe working environment, and in particular to avoid sex, race, or religious discrimination and favoritism in hiring. 

Some studies show that the adoption of these codes can simplify and increase workers’ tolerance of diversity, a crucial issue in the multicultural environments in which global companies operate.

For stockholders, who, like employees, have an institutional vested interest but are non-active members of the company, behavior standards are designed to prevent improper behavior and false declarations. The standards that guarantee the external transparency of informative documents are, above all, in the financiers’ interest.

Codes of conduct also analyze relations with customers to establish a trusting relationship based on an assurance of the safety and characteristics of the product offered and the standards that regulate relations with suppliers. These focuses, in particular, on the ways the latter operate (for example, not using child labor, respecting the environment, etc.) and on the characteristics of their supply agreements, such as the punctuality of goods deliveries and respect of agreed quality.

The provisions regulating relations with competitors are all based on principles of fairness and respect of anti-trust laws, to avoid unfair conduct. And finally, about the state and the local community, codes of conduct express a company’s commitment to act efficiently and profitably, respecting principles of legality and contributing to the economic and social development of its country, by punctual and total payment of its tax liability.

2.  Codes of Conduct and Corporate Governance in Global Corporations

 Corporate governance can refer to the structures and practices by which a company manages the system of internal and external relations with its stakeholders. Two prevalent approaches can be identified: the first encompasses a ‘contractualistic’ vision of the company and highlights the need to protect the owners’ interests (i.e. of those who provide the capital); the second, defined as ‘institutionalization’, is based on recognition of several entities that influence corporate operations, and therefore considers corporate governance as a condition to guarantee the fair accomplishment of stakeholders’ legitimate expectations in the long term, to assure to the company the consensus and collaboration that it needs.

Two distinct systems of corporate governance also emerge from the different types of relations with the capital markets about links between ownership and control, i.e.: the ‘insider system’ and the ‘outsider system’. In the former, ownership and control are concentrated in the hands of a small number of majority stockholders who are often members of the same family. The financial market is not very efficient, partly because of the strong presence of and pressure from banks in the capital, and the percentage of capital in the hands of other investors is small. In the latter, which can be defined as ‘market oriented’ and is typical of the Anglo- Saxon world, ownership is extremely fragmented and it is the market itself that regulates any conflict that arises between owners and management. The company attributes particular attention to the outside to attract potential new participants in the corporate risk.

Based on relations that can be established between company units, it is also possible to identify two types of structure: one-tier system in which there is one governing board, the Board of Directors, whose role is both administrative and of management and control; and two-tier system in which the management and control functions are separate: the supervisory board will control the management board which only has executive powers.

However, rather than a model of governance, it seems more appropriate to refer to a process of governance because it regulates relations between the company and its stakeholders, and is, therefore, evolves dynamically based on environmental changes and the expectations of interlocutors. As a result, it will be difficult to establish standards to be included in models that are valid in all corporate situations, and each company will put in place a specific process of governance based on its objectives, the competitive context in which it develops, and the type of organizational structure.

In networking processes, in particular, corporate governance is modified based on two dimensions:

• an architectural dimension that separates the networks with strongly asymmetrical powers and a central guide, from those where the branches into the network have equal decision-making powers and operational and strategic decentralization is in force;
• a regulating dimension that distinguishes between networks created for economic reasons (contracts, price negotiation, etc.) and those for socio-political reasons (lobbying, conventions, etc.).

 Governance in networks always aims to reduce the structural complexity to guarantee the safety of trade by the definition of a network global strategy; the coordination of the relations between the players in the network; and the monitoring of network unity. However, the ways of concrete implementation vary from one situation to another. One effect of the geographical expansion of the market, typical of corporate networking, and particularly of the greater physical-spatial distance between the stakeholders and the company, is that the possibilities for control that corporate interlocutors can exert on the company system have decreased drastically. In parallel, the stakeholders’ need for information, which corporate communication should meet, has increased to the same extent. Corporate communication makes unitary comprehension of corporate phenomena possible, it influences the external evaluation of the company and constitutes a guide in employees’ training to meet the company’s needs16.

The code of conduct is one of the tools by which companies can demonstrate their commitment to responsible, sustainable behavior by disseminating information about their corporate governance and meeting the stakeholders’ growing need for information at least in part. The code of conduct clarifies to stakeholders inside and outside the company the criteria that guide decisions, both strategic and operational, and as well as being a governance tool, it represents the company’s constitutional charter, defining the responsibilities of each member of the organization.

3.  Analysis of the Spread of Codes of Conduct in the Global Markets

The first one hundred companies from the United States, as classified by Fortune magazine, were analyzed to verify the importance that companies attribute to the communication of their corporate governance.

A first examination revealed the presence of communications that we’re able to qualify how companies establish their relations with the external environment. In detail, the links included in the cases examined break down as follows:

1. in 65% of the websites analyzed there is an ‘about corporate’ link,
2.  in 12% an ‘investor relations’ link,
3. in 7% a ‘corporate social responsibility’ link,
4. in 9% a ‘citizenship’ link,
5. in 9% a ‘corporate governance’ link,
6. in 6% an ‘environment’ link,
7. in 9% some other link (‘host community’, ‘sustainability’, ‘our values’, etc.).

 The link most often present, after the ‘about corporate’ link, provides information for investors, demonstrating the importance that this group of corporate interlocutors has for company development.

Where the corporate governance communications tools used by the companies analyzed are concerned, in no fewer than 58% of cases a code exists (of conduct or ethics), which is usually incorporated into the corporate governance structure, considered a regulation dictated by the governing board that everyone must respect.

It is followed by the ‘corporate social report’ (15%), the ‘corporate citizenship report’ (14%), the ‘sustainability report’ (9%), and the ‘environmental report’ (3%). The percentage for ‘other’ (45%) is high because this comprises numerous tools, which are neither reports nor codes, but generally tend to describe the activities performed by the company. It also includes a 13% percentage referred to cases where a charitable foundation, usually created to finance scientific research or to protect Third World children. We can underline that, in the chosen channels of communication and the tools used, little space has been dedicated to the environment and sustainable development, while a significant amount of space is dedicated to contributions to society and the surrounding community. This can be explained by the profound consumer culture that exists in the United States, where purchasers, supported by consumer associations, pay considerable attention to the behavior of companies and are ready to punish any improper conduct. The only companies interested in the environment and sustainability are, not surprisingly, those with the greatest environmental impact, like the oil company Conoco Philips, and International Paper, a leader of the paper and packaging products sector.  

It is interesting to note that often, in the cases analyzed, there is no single communication tool but several, usually the code together with a report. This could indicate that most companies prefer to concentrate on a specific tool that provides information about the company’s most deep-felt responsibilities; to this, the firm adds others that communicate different responsibilities, which are deliberately not described in the same document, to keep the issues separate and avoid confusing stakeholders.

Regardless of the type of social commitment or the tool adopted to inform stakeholders, we can note that all the companies taken into consideration communicate information about their relations with the outside environment. However, stakeholders would like more specific information about how corporate governance is implemented, and this need is generally not satisfied. The reasons can be found in several factors:

1. Companies tend to communicate through their websites, thus excluding a fair number of interested people who do not have access to the Internet.
2. The confusion on websites that do not have a section dedicated specifically to corporate communication or corporate governance might prevent interested stakeholders from finding all the information they require and might make them assume that these issues are not a priority for the company.
3. The generic and partial nature of information addressing stakeholders, dictated by precise strategic motivations, could be perceived by the latter as behavior that is not very transparent and therefore ‘punishable’ by a display of dissent. 

4.  Formulation and Dissemination of the Code of Conduct

The code is introduced in the company at the express request of top management and only subsequently does the elaboration of the document begin, entailing negotiations that involve most of the interested parties. For it to be a useful tool of communication and awareness, the code must be drafted with the essential contribution of those it addresses, first and foremost the senior executives.

Although no single procedure exists to draft the code, we can identify several steps that are common to all companies. First of all, the definition of the corporate mission, in which the company defines the market that it intends to address, the goals to be reached, the responsibilities it takes on about the stakeholders, and the criteria to balance their interests.

In this regard, the seriousness and motivation that prompt the company to disseminate information through the code of conduct are important because this information underpins the document’s credibility inside and outside the company and the thrust of the actions taken by all the stakeholders to comply. If the stimulus is insufficient or non-existent, employees are not motivated to behave correctly, since the code of conduct on its own is not sufficient to guarantee fair behavior. It is a collection of pronouncements and standards which, to be effective, must be inserted in a vaster project of responsible corporate management. So if the top management is not sufficiently convinced of its utility, adoption of the code of conduct becomes a cosmetic exercise and employees tend to see it as expedient in the face of public opinion to defend the company from possible illegal behavior. On the other hand, if the company considers its social responsibility as a factor on which it bases its relationship with the environment, the code of conduct becomes a way in which this sense of responsibility can be formalized and communicated to stakeholders.

After the initiative has been approved by top management, a work team is set up, made up of a coordinator and exponents of the various functional areas who enjoy a direct trusting relationship with top management to guarantee the pursuit of the commitments the latter has entered into. The team has to follow the procedure to elaborate and disseminate the code. Sometimes, because of the complexity of its role, the workgroup is assisted by external professionals with expertise in the field of business ethics, who are excluded from the process of identifying the values on which the company is founded, but are asked to solve the problems that require specific skills.

This will be followed by a process to map the stakeholders to identify the key relationships for the success of the company. The representatives of every stakeholder group, both internal and external, will be consulted through detailed interviews and questionnaires designed to examine the issues of the company’s mission, ethical vision, ethical principles, rights, and duties. As regards the critical areas identified, rules and standards of conduct are defined and elaboration of the code will then begin with: an analysis of existing documents, taken as a reference; an examination of rules and regulations, corporate policy, Board of Directors minutes; and any other formal or informal texts that can reveal the company’s corporate mission and its future orientation.

The formulation of the code is followed by its dissemination and the method employed is extremely significant because it reflects the importance that the company attributes to the code and influences the value judgment attributed to it by employees. If this operation is kept low key the code will probably be perceived as without influence and of little value; to assign the correct importance, it needs to be communicated formally at a specially called meeting, or accompanied by a presentation letter signed by the Chairman or Managing Director, underlining its importance for the company.

The code can be disseminated by a ‘top-down’ or ‘bottom-up’ method. Usually, a top-down or ‘cascade’ process is chosen: dissemination of the document starts from top management and descends to all hierarchical levels, the top manager delivers a copy of the code to his staff, who in turn communicate it to their subalterns and so on. The second method involves more company levels and functions and envisages a greater degree of involvement of personnel, encouraging discussion of the principles and values on which the company is founded. Both methods have positive and negative aspects: if the company has a strong corporate culture, the code can be introduced with a top-down process to strengthen and preserve this culture thus ensuring the lasting development of the company. If in this situation the dissemination were to adopt a bottom-up process, it would be uselessly laborious and could trigger sterile discussions. On the other hand, if the corporate culture is still evolving, a top-down approach could be perceived as an imposition by management, creating resistance among employees. In this case, the second system is more advisable because the code is the tool that favors reflection and the evaluation of corporate values and their acceptance throughout the organization.

It is very important to disseminate the code of conduct to the other corporate key stakeholders and, in particular, to its commercial partners and suppliers, so that they can undertake to adopt the conduct demanded by the company.

For example, IKEA undertakes not to use child labour in its manufacturing stages and to ensure that its suppliers and sub-suppliers do not either. The latter have to sign up to ‘The IKEA way on purchasing home furnishing products’ which sets minimum requirements that must be respected. 

5.  Managing the Code of Conduct: Checks, Sanctions, Reviews, and Updates

 After the code has been disseminated, the next problem is to manage it, i.e. checking that the principles it establishes are respected, identifying any incorrect behavior, imposing any sanctions, and reviewing it.

To safeguard the impartiality of the judgments and to give a mark of correctness, management of the code can be entrusted to impartial external professionals, supported by internal employees. However, this does pose the problem of making the most delicate and complex aspects of company activities known to third parties who are not involved in the life of the company. To prevent any conflict from arising between internal and external parties, many companies, therefore, entrust the management of the code to employees alone.

Although no single person or unit is made responsible for checking the effectiveness of the code, responsibility for preventing improper behavior is often entrusted to the legal office and/or administrative personnel and/or the internal auditors, who are in a position to check that the directives are respected, and can, in certain cases, intervene with top management, the ethics officer when one exists, or the Ethics Committee. This organ, usually part of the staff of the Board of Directors, guarantees an objective viewpoint because its members are chosen from both inside and outside the company. Its duties include collecting the information provided by the auditors, the possibility of judging the offenses committed, and expressing an opinion to the Board of Directors. To prevent improper behavior and to check that the principles are respected, the code of conduct must be communicated inside and outside the company. Only if it is disseminated will the document be able to influence company decisions and behavior, thus becoming part of the corporate culture. To this end, it is necessary to inform and train all the workforce (executives, managers, white-collars, and new employees) with periodical training sessions and workshops26 that can first introduce the code and its contents and then teach people how to apply it. Internal personnel needs to learn about it to activate the mechanisms to signal any deviance from the standards of behavior, and it must also be communicated to the other significant stakeholders so that they can judge the company’s behavior on this basis and also demand that it complies. The collaboration of the workforce is essential at the control stage because the company operates through numerous manifestations and the code of conduct makes it possible to establish a self-regulating system of governance. The code is the only one to govern the behavior of all members of the global company even with different nationalities, cultures, and religions. If the principles and conduct to adopt in specific situations in the life of the company are enunciated, it will be easier for each worker to understand how to behave and to recognize any deviance from a standard of behavior, regardless of his race, context or background. Since every individual can report any real or apparent illegal acts that he notes to the competent bodies, it is necessary to act prudently on the allegations of these whistle-blowers27 because they may contain false information. To avoid this problem, some companies have created the figure of the ombudsman28, a person of unquestioned moral rectitude whose role it is to check the truthfulness of the allegations and only then to communicate the offense to the competent bodies.

The principles and general standards of behavior are therefore essential to evaluate in advance the decisions to take and to judge the behavior adopted after the event.

Management of the code of conduct also envisages the determination and imposition of sanctions on those responsible for an offense. Usually, it is up to the immediate superior of the guilty party to establish the entity, and in more serious cases it may be necessary for the company’s Managing Director, Chairman, Board of Directors, or Ethics Committee to intervene.

Sanctions vary according to the type of violation; the simplest is disapproval or warning letters, but they may go as far as an employee’s transfer or even dismissal.

During the implementation and verification stages, it may prove necessary to make changes due to shortcomings or incongruences in the original presentation of the contents. In fact, by its very nature, the code must adhere constantly to the situation that it applies to and this implies a constant and continuous revision of the document, even with simple adjustments. On the other hand, a review becomes necessary in response to important variations in the corporate structure, for example in the case of mergers, incorporations, acquisitions, or changes to the stock structure, all operations that entail verification of the consistency of the values on which the company is founded, with its new organizational set-up and approval of the same by the new top management. What is more, it is necessary to monitor whether there have been any changes in the categories of significant stakeholders and this case, to redefine the expectations and duties about them. The real significance of the code, therefore, lies in the reason for which it exists and in the way in which it is used; it must not be considered unchangeable and static but as a document in progress that is used by management to verify its ideas and values and to discuss the corporate identity.

6.  The Effectiveness of the Code of Conduct in Global Corporations

Where the effectiveness of the code of conduct is concerned, it is interesting to consider whether there is a relationship of complementarity between this document and the rules of the legal system. However, to answer this question, we must distinguish between Common Law Countries, where the legal system is not founded on written rules but legal precedent and therefore, where the code of conduct is an important document, and Civil Law Countries, like Italy, where the legal system is based on written standards and the significance of the code of conduct is less obvious immediately29. In fact, in every situation, the codes sustain the law and encourage the understanding and applicability of the rules that apply inside the company and are not always immediately familiar to employees. It is through their formulation that corporate values can be interiorized in a formal and even more concrete dimension. The code may appear to be the company’s response to a demand for supra-national legislation that balances the gaps and the disparities that can arise from the fragmentation of the national legal systems of the various countries in which a global company operates. By implementing it, the company undertakes to impose the standards of conduct wherever it operates.

For this reason, the concepts present in the code are occasionally expressed in

generic terms, with few references to concrete cases, so that they are adaptable to the many contingencies; whereas, at other times, they are expressed specifically and in great detail. Both methods present positive and negative aspects: an excess of detail is inflexible and any behavior not mentioned is therefore considered admissible; on the other hand, a lack of precision may imply a lack of clarity and cause hesitation in delicate situations.

The code of conduct is accompanied by a series of conditions influencing its success. First of all is the fact that the code must be a sincere expression of the will of top management and must entail the participation of top executives and the Board of Directors as well as of employees so that the content will tend to be closer to the characteristics of the business, constituting an opportunity to develop a sense of belonging to the company. It is also indispensable that the conduct of managers should be an example to all the workforce, who are therefore more motivated to behave properly.

Secondly, values must be communicated with a clear, simple language, that is direct and comprehensible to everyone to avoid misunderstandings and confusion that might be used by people in bad faith to justify illegal acts. The contents must not be too generic but focused on the specific characteristics of the sector and the company; their organization is in line with the description of the company and also includes the management of possible critical situations.

The method adopted to disseminate the code is also important, and the more it underlines the code’s importance the more this will be respected and taken into consideration. For this reason, a formal method of dissemination that can highlight its value is advisable. The code must be publicized inside and outside the company; inside, by distributing a copy to all new employees who must sign up to it, as a part of a convention, or by posting it in the workplace. And on the outside, by distributing it to the main stakeholders at dedicated encounters, meetings, or training courses30.

Once the values have been accepted, a further condition for the effectiveness of the code lies in the involvement of personnel who need constant ethical training that will teach the individual how to deal with any behavioral problems that he may come up against because of his position.

The final condition is the creation of a control structure and a system that can establish the correct sanction for any illegal deed.