Determining an Algorithm for Compliance Aimed at Increasing Corporate Value
Professor, Chuo Law School, Member of Daiichi Tokyo Bar Association
Areas of Specialization: Corporate Compliance, Modern Contract Law, Tort and Compensation Law (traffic accidents, medical malpractice, nuclear accidents, etc.), Domestic Relations Case Procedure Act, Labor Law, Insolvency Proceeding Law, Financial Legal Affairs, Antitrust Law, Personal Information Protection Law, Alternative Dispute Resolution (ADR), Legal Economics
This work was supported by JSPS KAKENHI Grant Number 15K03220. (Public Relations Office)
Section 1: From exhausting compliance Towards invigorating compliance
Corporations seem totally exhausted by compliance regulations for preventing scandals.
Creating detailed rules at workplaces, receiving approvals at meetings, performing routine work that consists of documentation and keeping minutes of meetings, checking to ensure that documents have been prepared properly, requiring employees to attend compliance meetings...it never seems to end.
It is an undeniable fact that compliance fatigue (fatigue of being forced to perform compliance procedures) exists at corporate workplaces where procedures for the sake of procedures are rapidly increasing. Examples include the reduplication of manuals, multiple layers of monitoring, etc.
In response, we formed a study group made possible by a KAKENHI grant and started research activities on April 1, 2015. I serve as research representative for the group, which seeks to overcome exhausting compliance and construct a model for a compliance system aimed at increasing corporate value and invigorates the corporate workplace.
Section 2: Definition of compliance aimed at increasing corporate value (tentative definition)
1. The form of corporate compliance can be considered by dividing it into the categories of risk management compliance and compliance aimed at increasing corporate value.
The main objective of risk management compliance is to ensure that corporations obey laws, etc., and to prevent corporate scandals such as corporate crime, etc. On the other hand, compliance aimed at increasing corporate value goes beyond the main objective of risk management compliance. Specifically, it is an approach in which corporations seek to engage in corporate behavior which responds to the reasonable demands on the company by various stakeholders in order to increase their corporate value.
These two approaches are not in an opposing relationship; instead, it can be said that they are in a relationship of historical expansion and development in corporate compliance.
2. Starting point: Compliance = Observance of laws and regulations
Here, laws and regulations refer to hard laws such as statutes, cabinet orders, regulations, circular notices and by-laws.
In conjunction with the evolution and growth of social conditions and social awareness, the target of compliance expands from laws and regulations to laws and regulations, etc. The latter category spans a broad range that includes internal company rules, contracts, general conditions, corporate ethics, and other types of soft laws.
In this article, the term of risk management compliance shall refer to business management systems with the main purpose of preventing corporate crime and other forms of corporate scandals and avoiding damage/loss to the corporation (avoiding loss of corporate value) by obeying these hard laws and soft laws.
The term of compliance aimed at increasing corporate value shall refer to business management systems which increase the comprehensive value of the corporation through a balanced response to multidimensional reasonable expectations and requests from stakeholders (the desired corporate value).
Section 3: Evolutionary model of compliance (hypothesis)
Our hypothetical evolutionary model of compliance consists of the following three stages: Stage 1) Passive compliance, Stage 2) Active compliance, and Stage 3) Consummate compliance.
This model can be used as a rough estimate for confirming what stage (compliance position) a corporation is in.
|Stage 1||Passive compliance
-Responsibility and sanctions for compliance violations
Once officers and employees fail to implement a compliance framework, they enter the world of penalties. Compliance violations are said to result in four forms of suffering -- criminal sanctions, government sanctions, civil sanctions and social sanctions.
The first step in moving away from scandals is for officers and employees to take these four forms of suffering personally, and to maintain a sense of tension from day to day.
This stage consists of heteronomous compliance that uses sanctions as security, and is therefore named passive compliance.
|Stage 2||Active compliance
-Identification of risks and construction/operation of risk management systems
When implementing compliance systems, it is essential to discover a variety of scandal risks in the workplace and resolve those risks in the workplace on a daily basis.
Accordingly, the starting point is for officers and employees to work together to calmly and specifically identify a variety of scandal risks within the corporation.
The next step is to construct and operate effective and efficient management systems for the identified scandal risks.
These steps are easy to define but difficult to implement. It requires outstanding leadership from officers.
This stage is the same as constructing an internal control system. Since it results in increased autonomy, this stage is named active compliance.
|Stage 3||Consummate compliance
-Balancing an increase in corporate value and resolution of scandal risks by formulating and implementing a corporate vision
Compliance has a negative image in terms of being expensive, not leading to profit, being troublesome, interfering with work, being tedious, etc.
However, true compliance systems are an intangible asset that creates a vibrant workplace environment (interactive environment) with an open atmosphere of communication and fosters productive business activities.
In order to create this intangible asset, executives must demonstrate a clear management vision both inside and outside the corporation, and must instill that vision both inside and outside the corporation.
This stage is called consummate compliance.
Section 4: Design frame (diagram) for compliance systems aimed at increasing corporate value
This design frame is supported by the two pillars of cooperation among behavioral economics, jurisprudence and business administration and an interactive compliance method.
Corporate activities are individual and group activities by people. Compliance systems affect all of those human behaviors. Therefore, essential elements are knowledge in behavioral economics and interactive dialogue that is the basis for human relationships among stakeholders of the corporation.
Section 5: Big businesses and small businesses
Big businesses have sufficient capital and staff (internal controls department, legal department, in-house lawyers, etc.) for creating compliance systems. However, small businesses lack sufficient resources; in some cases, they may have none at all.
In many cases, ownership and management is the same for small business. As a result, when compared to big businesses, the business sensibility and business philosophy of "manager = owner" are deeply reflected in corporate systems for business and management. Therefore, it is easier to perform human governance instead of system governance.
Although there is a support services market (where providers are auditing firms, consulting firms, attorneys, CPAs, tax accountants, etc.) for creating compliance systems aimed at big business customers, there is a need for further expansion of related markets for small businesses.
Big businesses are often subject to public monitoring and guidance by government agencies, stock markets, etc. However, small businesses lack such opportunities.
When big businesses are exposed to the risk of business failure due to scandals, it is easy for them to receive social aid because allowing a big business to fail would have a negative impact on society. However, in the case of small businesses, there is a high possibility that they will go bankrupt.
At small businesses, the personality of managers tends to be reflected in the corporate climate and culture. Small businesses also lack sufficient capital and personnel. However, the overwhelming majority of companies in Japan are small- and medium-sized companies. The creation of compliance systems for these businesses is related to the continued existence and growth of these businesses, and is an important issue in Japan.
An effective method there is to receive assistance from professional occupations such as attorneys (total compliance), tax accountants (tax compliance), social security consultants (labor compliance), etc.
Section 6: Usefulness of analyzing hypotheticals in reports by third party committees
When a corporate scandal attracts the attention of society, a third party committee composed of outside members is almost always established. These committees investigate/analyze the background, cause, countermeasures, responsibilities, etc., related to the scandal, and publish reports on the results.
From among the committee activities listed above, the priority is to clarify the cause. A well-known analysis tool is the Fraud Triangle (proposed by Donald R. Cressey, former professor of criminal law at Indiana University in the USA).
The three causal factors of white-collar crime are listed below.
(1) Pressure towards engaging in scandal (pressure)
(2) Environment which makes it easy for scandals to occur (opportunity)
(3) Rationalization for having engaged in the scandal (rationalization)
I use this triangle as the base and add the following causal factor at the apex.
(4) The person engaging in the scandal has a personality in which he/she cannot hold their ground (personality)
The result of my proposals is Toyama's Pyramid!
In particular, there are many lessons that can be learned if other companies in the same industry and in similar industries use these reports as educational materials for holding internal workshops for review and discussion of hypotheticals.
Section 7: Determining an algorithm for compliance aimed at increasing corporate value
1. First, create the form!
The contents of IDEA BOX－G and IDEA BOX－M in the design frame presented above are almost overflowing as data in market publications, the Internet, etc. Therefore, you should carefully select IDEAs which match or seem likely to match the attributes of your company (scale, business category, industry, etc.).
2. Give substance to the form!
When viewing a corporation as a gathering of people who cooperate to achieve the objective of increasing its corporate value, the true substance is a human relationship network among stakeholders of the corporation.
Furthermore, that human relationship network actually functions through extensive dialogue and smooth/accurate communication among stakeholders.
The best practice is proposed by Professor Tsuneo Osawa: "Thorough and heated discussions (dialogues) that involve young employees and are driven by top management will lead to a change in corporate culture, and will foster a climate that enables each and every employee to fulfill their duties with the bravery to think independently to notice unjust things and make frank objections." "Top management must tell the company's narrative to not only its personnel, but also to a broad range of stakeholders in society, and must constantly update the narrative through dialogues."
- Shinichiro Toyama, Construction Process Theory of the Model for a Compliance System Aimed at Increasing Corporate Value (Introduction), Chuo law review, Vol. 122, No. 9 & 10
- Shinichiro Toyama, Welcome to the World of Compliance Aimed at Increasing Corporate Value, Bijinesu Homu, February 2017 Edition
- Noboru Kashiwagi, Falsification of Product Inspection Data and Compliance at Japanese Corporations, Chuo Law Journal, Vol. 15, No. 3
- Noboru Kashiwagi, Falsification of Product Inspection Data and Compliance at Japanese Corporations--Addendum: Subaru Incident, Chuo Law Journal, Vol. 15, No. 4
- Tsuneo Osawa, Dialog-based Approach Towards Compliance and Corporate Value, Chuo Online
Professor, Chuo Law School, Member of Daiichi Tokyo Bar Association Areas of Specialization: Corporate Compliance, Modern Contract Law, Tort and Compensation Law (traffic accidents, medical malpractice, nuclear accidents, etc.), Domestic Relations Case Procedure Act, Labor Law, Insolvency Proceeding Law, Financial Legal Affairs, Antitrust Law, Personal Information Protection Law, Alternative Dispute Resolution (ADR), Legal Economics
After graduating from the Department of Law in the Chuo University Faculty of Law in 1975, Shinichiro Toyama became a Specially Appointed Professor in the Chuo Law School in 2004. He has served as Professor in the Chuo Law School since 2014 to the present. He lectures on modern contract law at the Business School of Chuo University. His major public positions include a member of a special committee of the Dispute Reconciliation Committee for Nuclear Damage Compensation of the Ministry of Education, Culture, Sports, Science and Technology; a member of a special committee of the Dispute Reconciliation Committee of Construction Work of the Ministry of Land, Infrastructure, Transport and Tourism; a member of the Civil Conciliation Commissioners of the Supreme Court of Japan; a member of the Civil Rehabilitation Committee and the Individual Rehabilitation Committee of the Tokyo District Court; a director of the Japan Center for Settlement of Traffic Accident Disputes; a medical ADR arbitrator for the Tokyo San Bengoshikai and more. He serves as Research Director for the Grants-in-Aid for Scientific Research (JSPS KAKENHI Grant Number 15K03220). His main publications and articles include Antitrust Law Useful for Daily Living, The World of Traffic Accident Civil Liability: Theory and Practice, Resolution of Individual Labor Disputes, Child Welfare and Joint Custody, JA Compliance: Creating a System for Preventing Misconduct, Construction Process Theory of the Model for a Compliance System Aimed at Increasing Corporate Value (Introduction) and more. He is a regular contributor in the Monthly JA (JA-ZENCHU) magazine where his column is entitled How to Survive in a Contractual Society. Other writings include: Introduction to Modern Contract Law (2015), Modern Contract Law in Practice: Techniques of Producing Contracts (2016), Modern Contract Law: Labor Contracts (2017), and Modern Contract Law: Summary of Civil Code (Obligation-Related) Amendments (2018).