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Why is compliance[1] so important in business operations?

Ted Sugiyama
Executive Officer, Senior Vice President Legal and Compliance, Kao Corporation

This work was supported by JSPS KAKENHI Grant Number 15K03220. (Public Relations Office)

Prologue

Whenever I give a lecture on compliance to a Kao Group company, I start by asking the audience “why is compliance so important in our business operations?” Although no employee ever denies the importance of compliance, I also rarely get answers that are clear and precise. When I do get responses, they are usually along the vein of “illegal acts by the company are prohibited” and “[noncompliance means] the possibility of administrative sanctions, large fines, criminal penalties and loss of reputation.”

An almost universally known traffic rule is to “Stop on red.” However, when I ask the audience why it is important to stop on red, I again do not get a very clear response. Usually, the comments are “because I have been told to do so since my childhood” “it’s just the rule” or “it’s common knowledge.”

To train and enlighten those employees who stayed silent or provided the answers above is the most challenging, as it is necessary to change such persons’ perspective. My response to the question concerning the purpose of compliance is that it is ultimately for your own benefit. It allows you to work with peace of mind and security. As for the red light, traffic laws forbid crossing on red to maintain traffic safety and to avoid collisions. For this reason, “green is for go” and “red is for stop” and, as a result, we can cross the street or go through an intersection safely without worry. The reason why I use the analogy of a traffic signal is that traffic safety is something that is easy to relate to and is highly persuasive – with perpetrators and victims of traffic accidents telling very vivid stories of their painful experiences. Point 1: I urge you to think about the important of compliance by treating compliance as your own responsibility.

Compliance doesn’t have to be difficult. You do not have to memorize long and detailed legal provisions. Rather, you would be able to take the proper steps in 99% of situations just by understand why laws and rules exist and the purpose behind such laws and rules. Point 2: I urge you to understand the reason why laws and rules exist and the true spirit behind such laws and rules.

Driving to increase corporate value

Let’ go back to the traffic signal analogy. What if one day people decided to ignore traffic signals and started to enter intersections from every which direction. Not only would multiple traffic accidents occur, but it would cause a massive traffic jam. By following traffic signals, not only does it allow for safe and worry-free driving, but it also allows for smooth and more efficient transportation free from unnecessary traffic jams. In a corporate setting, this translates into efficiency in business operations and enhancement of corporate value. Point 3: Making clear and appropriate rules and compliance therewith helps increase corporate value by improving efficiency and by allowing the company to avoid reputational risks.

A well designed computer program can provide us the correct answer in an efficient manner, provided that we input the correct data. However, is it possible to develop a computer program that anticipates all situations?

One day I was driving over a bridge and entered the lane for on-coming traffic in order to pass a car that was in front of mine despite the fact that it was a no-passing zone. As a result, a police car drew up along my car and signaled for me to pull over. The policeman let me go without any ticket or penalty after I had explained the reason why I had passed the car. The reason that I gave was that the car in front of mine stopped suddenly. I had pulled into the lane for on-coming traffic as an emergency measure. Please remember the purpose behind traffic laws -- it is to make driving safe and to avoid accidents. As my action was in keeping with the purpose of traffic laws, the police officer made the reasonable determination that I should not be ticketed. Similarly, firemen were allowed to destroy houses near fires to prevent the spread thereof. Point 4: In order to comply with the spirit of laws and rules, in certain cases it may be necessary for you to think and make a reasonable judgment not to comply with operational laws and rules. About months ago it was reported that a driver was killed in a self-driving car. There are situations that are unexpected where a computer cannot respond appropriately. In such cases, it is necessary for a person to think and take action.

Cultivate corporate culture for growth

I attended a global compliance and ethics summit that was held this spring in New York City sponsored by a US think tank specializing in corporate ethics.[2] Most of all the speakers stressed the importance of both top down and bottom up approaches: a strong commitment by top executives and appropriate educational and training programs relating to the code of conduct for all employees and implementation and operation of compliance hotlines for receiving reports. You may have heard of the Broken Windows Theory, the theory that preventing small crimes helps to create an atmosphere of law and order, thereby deterring more serious crimes. A famous example of this is when Professor George L. Kelling of Rutgers University proposed removing all graffiti in the New York subway to deter violent crimes. During a five year period along with removal of graffiti, the rate of increase of violent crimes slowed and eventually reversed. In our compliance promotion activities, a top management with a strong commitment should be responsible to establish and maintain a compliance culture in the company and to establish an environment where each employee can participate in compliance activities. It is the most efficient scenario that all employees shall be responsible for improving compliance culture.

Establishment of a rule and system, such as a code of conduct and compliance hotlines, are effective ways of compliance promotion. However, I believe what is most important is to cultivate and maintain a good work environment, which is possible only when there is motivation, a sustainable corporate culture, good results and appropriate salary and benefits. Point 5: In other words, a corporate culture where each employee develops and prospers in line with the company’s growth is most important for compliance promotion.

Verification and PDCA cycle (Plan Do Check Analysis)

Point 6. As the effect of compliance activities cannot be measured using numbers, it is important that some method of periodically evaluating the effect of compliance activities is adopted. It is necessary for our evaluation to receive feedback of our compliance promotion activities from top management (top down) and from our employees (bottom up). Specifically, what I mean is that there needs to be 1) reporting on compliance promotion activities to top management on a regular basis and 2) feedback from employees on compliance promotion activities through the use of questionnaires. At Kao, compliance related topics are reported annually to Kao’s Board of Directors, including information on relevant social trends, analysis of inquiries and reports to the hotlines, update on educational activities, progress on the annual plan, disciplinary actions taken and violations of laws and regulations. The Board of Directors provides feedback regarding any gaps between their expectations and the current status of Kao’s compliance related activities. Kao also receives feedback from employees through periodical questionnaires and roundtable discussions. In addition to those self-evaluations, we also go through the evaluation process for the annual World's Most Ethical Companies award. We carefully respond to the questions in the questionnaires and analyze the feedback received from the Ethisphere Institute, the think tank responsible for the award. Through this process of evaluation, feedback and subsequent improvement, Kao is able to remain innovative in its compliance activities.

There are five categories of questions in the World's Most Ethical Companies’ questionnaire that span a total of 94 pages. The categories are: Ethics and Compliance Program; Corporate Citizenship and Responsibility; Culture of Ethics; Governance; and Leadership Innovation and Reputation. A detailed description of topics covered that I have taken directly from the questionnaire, “2016 Ethics QuotientTM Survey” is as follows:

  1. Demographic Questions
  2. Corporate Governance
    This section examines the availability and quality of systems designed to ensure strong corporate governance including oversight, governance principles and risk management. When evaluating a company’s Corporate Governance, company-specific factors such as ownership structure are taken into consideration.
  3. Compliance & Ethics Programhe Compliance & Ethics Program section measures your company’s program across the “hallmarks” of an effective compliance and ethics program as outlined by the Federal Sentencing Guidelines, including:
    ・Program structure, responsibility and resources
    ・Program oversight and the tone at the top
    ・Written standards
    ・Training and communication
    ・Due care
    ・Detection, monitoring and auditing
    ・Enforcement and discipline
  4. Citizenship, Sustainability, and Corporate Responsibility
    This Section reviews a wide range of your company’s performance indicators associated with sustainability, citizenship and social responsibility, including:
    ・Environmental stewardship
    ・Community involvement
    ・Corporate philanthropy
    ・Workplace impact and well-being
    ・Supply chain engagement and oversight
  5. Leadership, Innovation & Reputation
    Leadership, Innovation & Reputation measures a company’s legal compliance, litigation and ethical track record, along with the strength of the company’s ethical reputation in the market place. While we take into account awards and accolades garnered, we also look at some concrete examples of corporate leadership in local, national, industry and/or global initiatives that promote business ethics, responsible and sustainable business practices, environmental stewardship, good governance, transparency, and social responsibility.
    Standard-setting and thought leadership is important, but ultimately what matters most is the quality and innovation of [a] company’s engagement with various stakeholders considered within the context of the company size, industry and performance in comparison to peers.

It is very difficult and time consuming for us to answer the question because we have to ‘translate’ the questions from a US corporate and cultural perspective to a Japanese one. The questions cover a variety angles in the compliance area from the level of contribution and commitment by top management to disclosure policy, system, procedure, etc. As feedback, we receive comparisons between the status of our compliance activities and the average of all award winning companies in each category. We are currently waiting for feedback from the Ethisphere Institute regarding our score in each category. Points to address the following year are the items that we could not answer “yes,” and, as a result, received a lower evaluation or score.[3]

I would like to share with you an example of the type of question we are asked and guidance given by the 2016 Ethics QuotientTM Survey.

“Does your company maintain a third party (e.g., supplier, agent, intermediary, reseller) Code of Conduct?” Yes/No

――Communicating the expectation of ethical business practices with external stakeholders is a clear signal that an organization holds itself – and its partners – to a higher standard and takes its ethics and compliance efforts seriously. Ethisphere has seen a clear trend towards using a third-party code of conduct to set these expectations. With 82 percent of honorees maintaining a third-party code of conduct, the trend continues, as 2016 honorees report a five percentage point increase over the number of honorees that reported the use of a third-party code in 2015.

Closing

 Lastly, please allow me to introduce to you the Value of “Integrity” as described in “The Kao Waynew window” our corporate philosophy.

“One should know that great success in life is not possible without good fortune. Good fortune is given to only those who work diligently and behave with integrity. Be earnest in all your activities -- do not take short cuts or the easy route in doing things.”

This value originates from the message left by Kao’s founder on his deathbed regarding how top management should behave.

  1. ^Unlike the meaning of “compliance” in the English language which means to be compliant with laws and regulations, the meaning of “compliance” in Japanese also incorporates the concept of ethics. In the Kao Business Conduct Guidelinesnew window, Kao’s code of conduct, there are 7 Principles of Corporate Ethics that precede the 11 Fundamental Rules. Article 4 of the Principles of Corporate Ethics states that “[e]ven within the acceptable scope of laws and regulations, we shall take the most exemplary initiatives.” Your decision making and actions will be most ethical if you understand the reason behind the laws and regulations and act accordingly. Please be advised that compliance in this article means both compliance and ethics.
  2. ^ Kao named one of the 'World's Most Ethical Companiesnew window' for ten consecutive years. The award established in 2007. I attended the conference to receive the award.
  3. ^The 2017 World’s Most Ethical Companies process is now open and the 2017 Ethics Quotient Survey is now available. URL address to download the PDFnew window version of the survey is as follows;
Ted Sugiyama
Executive Officer, Senior Vice President Legal and Compliance, Kao Corporationnew window
Born in 1958
Graduated from the Faculty of Law, Chuo University in 1980
Joined with Kao Corporation Legal Department in 1980
Master of law degree “Corporate Law and Finance ”Widener University School of law, Delaware USA in 1996,
Executive Officer, Senior Vice President Legal and Compliance, Kao Corporation since 2012 (current)
A member of Central Council for Education's special Committee on Law school since 2009 (current)
Representative and Chairman of the Board, Association of Corporate Legal Departmentsnew window since 2011 (current)