Corruption in India: Multinationals Join the AccusedPublished: January 31, 2013 in India Knowledge@Wharton
Subhinder Singh Prem headed Reebok's operations in India for several years. In 2005, German sports apparel company Adidas took over its U.K.-based rival, Reebok. Soon, Prem was put in charge of the combined entity in India. Last year, Adidas management accused Prem and some of his senior colleagues of defrauding the company of US$169 million. Amid a lot of mud-slinging and speculation that the Adidas brass knew of the problem earlier and was trying to resolve it internally, the German company filed a criminal complaint against former senior executives Prem and chief operating officer Vishnu Bhagat. The two men are still in judicial custody, though several others arrested in connection with the case have been released on bail.
Walmart has also been in the news in India because it was perceived as one of the principal beneficiaries of the contentious new foreign direct investment (FDI) policy in multi-brand retail. Then the company revealed that its joint venture in India -- Bharti Walmart -- had suspended its chief financial officer and some members of its legal team after an anti-corruption probe.
The scrutiny facing Walmart intensified when newspapers claimed that the company had been lobbying in India to woo Members of Parliament to its side in the FDI vote. The Lok Sabha (the lower house of Parliament) was totally paralyzed for a couple of days and, on January 24, the government appointed a one-man panel to probe the charges. Walmart says the lobbying was done in Washington, where it is legal, and not in New Delhi, where it is not.
Also in January, tax officials raided the Nokia India factory in Chennai. Company officials say they don't know what the raid was about and that the firm is fully cooperating with the authorities. Indian officials have also raided the offices of Vodafone India, a subsidiary of Vodafone Plc of the U.K., in connection with the irregularities in 2G spectrum allocation and following close on the heels of a renewed US$2.54 billion tax demand on the company. (There were simultaneous raids on India's leading telecom services company, Bharti Airtel.)
The government is investigating allegations of excise evasion by Cadbury India. Cadbury India is now in the process of becoming Mondelez International, a name it acquired after being taken over by Kraft and the restructuring of the latter. There was a time when the Cadbury name was synonymous with good corporate governance thanks to the Cadbury report -- the report of the Committee on the Financial Aspects of Corporate Governance -- prepared for the London Stock Exchange under the chairmanship of Cadbury Schweppes chairman Sir Adrian Cadbury.
Finally, "U.S. drinks giant Beam Inc., makers of Jim Beam bourbon and Teacher's scotch whisky, has initiated investigations into whistleblower allegations of financial misdemeanors at its India unit," The Times of India reported. "The world's fourth largest premium spirits company has asked the local senior management, including managing director Harish Moolchandani, to keep away from work pending investigations." Internet portal Rediff.com quotes a Beam Inc. spokesperson as saying, "based on a routine internal audit of operations in India, we are taking a closer look at the actions of certain individuals and practices in the India business."
New Regulatory Climate?
Before this becomes a laundry list of burgeoning multinational scandals -- there are many more, though not so high-profile examples -- it is worth looking for reasons for this rash of wrongdoers. Is there a new ethical or regulatory climate? S. Raghunath, dean of administration and professor of corporate strategy and policy at the Indian Institute of Management Bangalore thinks so. "The increased attention to enforcement of the U.S. Foreign Corrupt Practices Act (FCPA) by the Securities and Exchange Commission (SEC) as well as the Department of Justice has brought cases into public focus," he says. "There is growing intolerance to corruption, as well as business growth in countries of the world where bribes are part of accepted business practice."
Wharton management professor Saikat Chaudhuri has a different perception. "At the moment, there is so much general attention on corruption in India, with one scam after the other being uncovered for various reasons and by various parties, that I think the Western companies' role in them is a casualty of that process," he notes. "I believe that is why there is increased focus, as opposed to the enhanced scrutiny or application of U.S. or other foreign acts."
The FCPA dates back to 1977, so there should be no reason for it to have provoked the current scrutiny of corruption. Besides, companies from other countries are involved, too. Wharton management professor Peter Cappelli, who is also director of the school's Center for Human Resources, agrees with Chaudhuri that the FCPA has little to do with corruption issues becoming top of mind.
"The FCPA has not suddenly sprung new teeth," adds Dev Kar, lead economist at Washington-based Global Financial Integrity and the author of a report titled 'Illicit Financial Flows from Developing Countries 2001-2010'. "Whenever U.S. companies that are subject to FCPA operate in developing countries where the state of overall governance is weak, charges about bribery, kickbacks and other infractions are bound to arise," he notes. "Walmart was also implicated in bribery deals in Mexico. In an era of increasing globalization and investigative media collaborating across borders, transgressions are easier to track and report on."
Tracing the Roots of the Problem
The Walmart inquiry started from a New York Times report about bribery by the retail giant in Mexico. Further investigation uncovered that the corruption charges spread to India, China and Brazil. Another feature of the investigations involving Walmart, Reebok and Beam is that they started at the home office of each firm; local authorities in India came into the picture much later.
While Kar is clear that the FCPA has not changed, Clark Gascoigne,a spokesman of Global Financial Integrity suggests that the environment may have. "The FCPA was updated in the 1990s," he says. "Companies were given time to begin complying with the law. They have had ample time to adjust to the FCPA and have no excuse for being in gross violation of the law." The SEC and Justice have become more active. "That explains the increase in FCPA cases over the past few years," Clark Gascoigne adds.
"It is also important to note that eight out of the 10 biggest FCPA settlements were actually with non-U.S. companies," he continues. "The FCPA gives the Justice Department and the SEC the ability to go after companies for bribing foreign officials if the company has any connection to the U.S, such as having a subsidiary doing business in the country. One of the most notable FCPA cases was brought against Siemens, a German company."
Could a backlash against the excesses that led to the global financial meltdown have something to do with the quest for probity? According to Cappelli, "The fundamental problems that contributed to the financial meltdown are still around: Huge upside gains from success, however it is achieved, and relatively little downside costs for failure. Also, low risks of getting caught in malfeasance. A related issue is that the big companies with global brands and concerns about reputations now outsource much of their business to smaller vendors who do not have those concerns."
Chaudhuri notes that the U.S. "missed a golden opportunity to enact tougher reform during the financial crisis, to avoid the skewed incentive systems and resulting behavior that places risk upon the entire financial system locally and, by ripple effect, globally." He adds that the underlying issue is that the U.S. fundamentally is "an extremely capitalist society, and that is part of its engine -- unethical and immoral behavior is ultimately distinguished from illegal behavior. In fact, many finance scholars still argue that what happened in the financial crisis was the way markets are supposed to work -- they correct themselves." He says that India does not need to follow an identical path to curb corruption; it can follow its own principles.
Adds Raghunath: "Corruption like other forms of entrepreneurship has evolved considerably." A few years after liberalization, Enron admitted to a U.S. Congressional committee that it had spent US$20 million to "educate Indians" on the benefits of its power project in Maharashtra. Today, the money moves more subtly. In telecommunications, for instance, Indian companies acquired licenses at a knock-down price from the government with the aid of corrupt ministers. They then sold stakes in the companies that held these licenses to foreign telecom majors seeking an entry into India. The foreign companies paid several times what the Indian entities had shelled out for the licenses. On paper, they look foolish, but not criminal. All the players would have been happy if the Supreme Court hadn't stepped in and cancelled the process. "The art of graft has advanced fast," says Raghunath.
Business without Corruption?
This leads to the inevitable question: Is it impossible to do business in India without greasing palms? Has corruption become a way of life? The indicators are not very satisfactory.
"In an era rife with globalization, transparent business practices and zero tolerance to fraud and misconduct are key concerns for companies doing business in India," according to a recent KPMG India fraud survey report. The global professional services firm found that top-level executives in India were reluctant to discuss the topics of bribery and corruption. Some 71% of survey respondents felt fraud was an inevitable cost of doing business. A global survey by Ernst & Young is equally blunt about the country: "Seventy percent of India respondents to our survey think that bribery and corruption are widespread in the country."
"No one can really justify corruption, but we need to be pragmatic as to how to tackle it amid the current realities," says Chaudhuri. "The Western companies' view that corruption is a way of functioning in India is probably at least partially correct given the way the bureaucracy works, though the Tata Group provides a staunch counterexample of how one can operate successfully without engaging in it. Hence, both firms and government are to blame, as they are in purely domestic corruption as well. But, fundamentally, I don't think the more basic behavior to influence officials is limited to India, it is just that fundamental human tendencies of this sort are managed differently in the West."
Kar notes that, according to the World Bank, India has a poor rating on business climate. "One of the reasons is related to bribery and corruption," he says. "It is difficult for foreign companies to operate in India without being touched by the issue in some shape or form. The pervasive weakness in governance is bound to increase the risk faced by all companies, domestic and foreign, that they will also be impacted by corrupt practices."
Cappelli adds that there is nothing new about this reasoning given" by Western companies that engage in corrupt practices. "That complaint [about needing to bribe for business] isn't unique to India," he notes. "And it's something that was said back when the FCPA was first debated."
Kar doesn't buy arguments from some that American firms are being made into scapegoats as an offshoot of the 2008-2009 financial crisis. "I don't think there is much truth to the charge that U.S. companies are being unfairly targeted in China, India and Mexico," he says. "After all, the U.S. is the world's largest source of FDI and countries can ill afford to alienate it. What may be happening is that investigative journalism carried out across borders and collaboration among them may be bringing some of these issues to the fore. Once an issue is brought up, then there is a momentum to it, although much of it may also fall by the wayside."
With new scams and scandals vying for attention, the older ones often fall by the wayside. Enron and the Indian politicians involved are history. The politicians shrugged off the allegations and are back in positions of power. Enron imploded, but for reasons that had nothing to do with its project in India.
The Way Forward
So is there a solution? "In my view, the solution to India's corruption woes lies in three parallel and reinforcing approaches," notes Chaudhuri. "The first is to introduce a lobbying system like in the U.S. [Lobbying is currently illegal in India.] This can be considered a legalized and transparent form of buying influence. This helps to also distinguish what might be perceived as unethical or immoral, versus illegal." The second approach India can follow, taking into consideration its status as an emerging economy, he says, is to "align interests of those seeking gratification and those wishing to expedite clearances or access. This might be achieved by introducing reward systems for facilitating maximum gain for the state exchequer or public good. The third approach is to leverage e-governance in every possible process, from issuing birth certifications to conducting auctioning of mines, to create transparency and reduce the power of the middleman."
According to Raghunath, "the long-term solution is based on building upon the local culture rather than seeking to change it… Corruption cannot be eradicated but, with economic and political development, there will be progress."
Is there a role for business schools in all this? Particularly in the U.S., the schools have been accused of putting ethics on the backburner while teaching the art of making money. Cappelli is skeptical. "We certainly tell people not to cheat, lie and steal, but my bet is that most of the parents of those who are [involved in corruption] told those people the same thing," he notes. "One thing the broader community could do better is to celebrate less the making of huge fortunes and more how it was done."
No one is really in a position to be pointing fingers, he adds: "It takes two sides to have corruption."