Money is like water: It's best when clear, and it needs to flow freely or it can stagnate. In order to flow, the money system must be trusted by everyone around the world. Today, that most vital trust is broken. A short while ago money flowed freely, and investors asked few questions other than what their returns would be. Now, it is exceptionally difficult for even rock-solid businesses to finance their daily operations. A lack of transparency led us into this situation, and only an abundance of transparency can deliver us to better times.
Many of the economic challenges we face are the function of a global crisis in confidence. Investors, employees, and analysts have good reason to pause and consider where their efforts and investments will be safe. This lack of confidence is preventing basic, sound business from thriving and is ultimately prolonging the downturn. The complex inventions of investment banks and hedge funds allowed clever financial engineers to hide bad business fundamentals. and allowed risk to be spread and distanced from its original creators. A lack of transparency hid the true exposure of giants like AIG and to the detriment of international stakeholders and the American public.
Nontransparent Financial Tools
Too many in the corporate community have lost their focus on transparency. Nearly every corporation that violated basic governance principles did so by creating a web of complex and confusing rules. Blinded by outsize returns, investors and employees opted for faith over verification. If nontransparent financial tools were the workhorses of the economic downturn, fraudsters rode dressage horses that demonstrated how far blind trust can mislead. The leadership failure at Satyam (SAY) confirms that the problem is global and demonstrates another shortcoming in corporate governance. When auditors and boards fail to get to details of the financials, shareholders lose out.
Capitalism is not broken, but history shows that it cannot be run on autopilot either. The Great Depression of the 1930s was triggered by corporate mismanagement that led the Supreme Court to condemn corporations as "Frankenstein monsters, capable of doing evil." In 1934, public outcry in the U.S. gave rise to the Securities & Exchange Commission, which formally defined corporate ownership and control. But regulators failed to clearly address responsibilities relating to "acceptable behavior" and levels of disclosure for corporations.
These loopholes proved a fertile breeding ground for much corporate malfeasance. During the 1970s, SEC investigations revealed widespread illegal contracting practices, insider trading, deceptive advertising, and savings-and-loan scandals. Over 500 public American companies—including 117 of the then Fortune 500 companies—were charged by the SEC or confessed to corporate misconduct. The governance failures sent regulators back to the drawing board and blue ribbon panels worked to create frameworks for enhancing corporate accountability. The result was a surfeit of good governance codes issued across the globe by securities exchange commissions, stock exchanges, and investor associations.
Unfortunately, these prescriptions were also short-lived and failed to curb financial mismanagement and corporate fraud around the turn of the millennium. Instead, they gave rise to creative accounting and outsize CEO pay packages that drove a wedge between executives and stakeholders. Lessons from Enron, Worldcom, and Tyco delivered Sarbanes-Oxley reforms that changed enforcement priorities from soft encouragement to hard law. A now faces many of the same challenges as our counterparts in the U.S. and Europe in convincing domestic and international investors that the correct regulations are in place to protect stakeholders and promote sustainable growth.
One common theme throughout the evolution of corporate governance is increased transparency. But there is only so much regulators can do, and trying to regulate for every possibility surely will stifle growth. Corporate leaders must seize this opportunity to prioritize openness in their organizations. Promoting transparency not only covers greater disclosure to regulators or the investing public; it also means that risk should be in plain sight to the institution's own management. If exposure to "hidden" risk must exist there should be good, quantitative estimates of that risk and an acknowledgement of what is unknowable.
Infosys (INFY) has staked its past and future success on being as transparent as possible, publishing metrics that go well beyond those required by law. One of our corporate policies is "when in doubt, disclose." In 1999 we became the first company on Nasdaq to produce its balance sheet and income statement according to the generally accepted accounting principles of eight countries. Reminding stakeholders of sound business fundamentals and providing as much information as possible are the best antidotes for fear and uncertainty in the market. Corporations that recognize and embrace the principles of transparency will benefit from a lower cost of capital, the ability to attract talent, and better client relationships. The financial waters are backed up now, but responsible corporate leaders and regulators that prioritize transparency will have the best chance of reassuring skeptical investors and returning prosperity.