Board directors need to think about their company’s exposure to countries with a weak Rule of Law. If they don’t, they risk a significant loss of value to their business over time.
The risk to value from getting this wrong is substantial. One of the case studies in my recently-published discussion paper for the excellent Bingham Centre for the Rule of Law highlights a backdoor to cyber-attack that some companies opened up through operating in a country with weak Rule of Law. When the cyber-attack came it was one of the costliest in history. At least five major multinationals have each acknowledged losses of hundreds of millions of dollars from the attack; the total cost is estimated at $10 billion. The loss of confidence in affected businesses was on top of these high financial costs. Boards need to be giving this active consideration, or they risk substantial losses of value.
As well as value, the Rule of Law is fairness. By requiring that all, even the most powerful, are subject to the legal system, it ensures that governments and officialdom need to act fairly between parties and not in an arbitrary way. It is the basis on which commerce can happen without weaker parties fearing that they will be exploited by stronger ones in an excessively unfair way. It underpins capitalism by allowing us to believe it is worthwhile to agree contracts and to trust that they will be fairly enforced, and to believe that our property rights will be protected.
The Rule of Law is thus a basic foundation for companies to be confident in doing business in a country. Companies, and their boards, need to work to reinforce and bolster the Rule of Law so that their businesses can flourish. Some seek to sidestep local Rule of Law issues by contracting under the law of other jurisdictions (most usually either England or New York). But even when this is done risk exposures remain, and boards need to understand those risk exposures and to reassure themselves that those risks are understood and managed – and that efforts are in place to minimise them over time. Supply chains extend many companies’ risk exposures into markets where their direct control will be minimal.
My recent paper highlights all of this, and sets out concrete actions that boards can take to deliver on it. Among the tools available within the paper are a set of questions that board directors might ask executive management to gain reassurance and also to influence a greater effort to bolster the Rule of Law by their companies. These questions include:
- Which countries do we operate in where it is most difficult to work according to the standards we aspire to? What can we do to address this and alleviate any risks that arise, reputational or otherwise?
- What countries are we exposed to through our supply chains where the standards are lower than we might expect? What can we do to address this and alleviate any risks that arise, reputational or otherwise?
- What frameworks can we choose to apply in those countries to ensure that we are living up to the standards that we believe are necessary? Who else should we work with to build such frameworks if they do not exist?
- Are our pay and incentive structures right in markets where there is a high perception of corruption risk? How can we be confident that our staff will not be tempted to behave inappropriately?
- Are there any particular cyber security issues that arise from our operations in individual countries? Could our protections be enhanced by better regulations or other standards, and heightened enforcement? What could we do to support such steps?
The Rule of Law is fairness. It underpins good business. Good businesses therefore have a clear interest in reinforcing the Rule of Law. Boards need to include this in their oversight efforts.
See also: The Rule of Law is fairness; Dobbs isn’t
Investor actions to drive value and fairness through the Rule of Law
The Rule of Law and investor approaches to ESG: Discussion paper, Paul Lee, Bingham Centre for the Rule of Law, September 2022
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