THE BLOG
07/14/2010 11:40 am ET | Updated May 25, 2011

Why Code of Ethics "Safety Valves" Are Big Mistakes

From time to time, the firm may waive certain provisions of this Code...

Imagine Moses descending from Mount Sinai bearing two tablets inscribed with the 10 founding values of his people, plus a clause that says, "From time to time certain provisions such as 'Thou shalt not murder, steal, adulter, bear false witness, etc.' will be waived."

Last month the investment website The Motley Fool published an article entitled "Goldman Sachs: Ethics Optional" noting that Goldman and other companies such as ExxonMobil, Citigroup and Altria had waiver clauses embedded in their corporate Ethical Codes of Conduct. I recently spoke about these waivers with Kai Ryssdal on his Marketplace NPR radio show and I thought it would be worthwhile to expand on the discussion here.

Waiver clauses leave the door open for companies to violate their own code of ethics if executives and the board decide it's a "good" idea. In effect, waivers are a "code of ethics safety valve," the metaphorical opposite of a blow-out preventer. Why have them? Waivers will just cause problems -- a corporate code of ethics is created and designed to limit management decision options to only ethical choices. Usually it's not a problem, but ethics can sometimes impinge on profits. Corporations and their shareholders don't like to miss out on profits, so the safety valve allows them to sacrifice their ethics if the price pressure is high enough.

History shows this is a bad idea. Just ask former Enron CFO Andy Fastow who is currently serving a six-year prison sentence. When the debt load on Enron's books was impinging on profit opportunities, Fastow recommended creating off-balance sheet "special purpose entities" to acquire Enron's bad debt. The board liked the idea. The only problem was that the Enron Code of Ethics prohibited such self-dealing by corporate officers. The solution to this ethical conflict? The board waived the code of ethics, and by doing so, set in motion the catastrophic collapse of Enron.

Companies often feel compelled to have these waivers. Why? The real business world is full of corrupt political and business leaders. Those who puritanically hold on to ethics in a messy global economy are naive. While there is growing evidence that the profitability of the "when in Rome" approach to ethics is substantially overestimated, there are more important reasons to hold corporate ethics and values in higher esteem.

The real reason ethics waiver clauses are a mistake has to do with the challenges of creating a culture of ethics and integrity within an organization. The modern corporate code of ethics is really a creature of legislation. The U.S. sentencing guidelines, which set out the penalties for ethical transgressions, allow companies with an ethics code and compliance program to receive a lesser sentence if convicted. In the absence of an ethical code, the court could assume the violation was willful and throw the book at them.

This history means most companies have treated ethics as a compliance issue. Make sure all the t's are crossed and i's are dotted so we are protected when the SEC investigators raid the corporate offices. But this is a mistake. To be valuable, leaders have to make sure the code of corporate ethics is more than just words on paper. A code gains power when it becomes embodied in the corporate culture and the values of the organization.

Business value and organizational strength in a culture of integrity often tie back to the principles of the company's founders. For instance, Herman Miller's culture of responsibility reaches back to the founder D. J. DePree. These leaders instilled a respect for corporate values that foster pride in the workforce and organizational strength in times of crises.

Succeeding in business without compromising your values is hard, but eminently possible. It demands the best from company managers and proactive foresight by corporate leadership. And you don't get this kind of dedication by embracing waivers and putting your values up for sale.

Cross-posted from Forbes