Business Ethics in Emerging Markets and Investors’ Expectations Standards

George Dallas is Director of Corporate Governance at F&C Investments. This post is based on an article by Mr. Dallas that first appeared in the International Corporate Governance Network’s 2012 Yearbook.

Ethics is in origin the art of recommending to others the sacrifices required for cooperation with oneself.” Bertrand Russell

Since the publication of its Statement and Guidance on Anti-Corruption Practices in 2009, the ICGN has actively advocated the fight against bribery and corruption as a fundamental component of the corporate governance agenda. The Statement and Guidance takes a global perspective, making clear that anticorruption is a priority in all markets.

But is it appropriate to set the same standards for anticorruption in all jurisdictions, particularly in emerging markets, where many underlying conditions are different and where bribery and corruption are particularly acute in both the public and private sectors? This was the question posed as the main discussion point at ICGN’s “Town Hall” meeting on business ethics in its June 2012 conference in Rio de Janeiro. Meeting participants, from a range of developed and emerging markets, expressed a resounding consensus that investors should not compromise their standards on anticorruption in emerging markets, even if corruption may be a more deep-rooted problem. However, while absolute standards on anticorruption should remain undiluted — beginning with a “zero tolerance” position — there may be different anticorruption strategies to apply in emerging markets, reflecting economic, cultural and legal differences.

Rapid growth — and the risk that investors lose out on it

What makes emerging markets exciting for investors? Most fundamentally these markets offer the prospect of significant economic growth that has been estimated by the World Bank to drive around 70% of economic expansion globally. However, what can offset this excitement and make emerging markets frightening for investors is the concern that potential benefits of economic growth can be eclipsed given weak rule of law, pervasive corruption and still inchoate institutional frameworks and regulatory oversight.

Two respected global governance indicators — the World Bank’s Rule of Law indicator and Transparency International’s Corruption Perceptions Index — reflect notable differences between developed and emerging markets. [1] While indicators of this sort might be taken with a pinch of salt, as they represent “perceptions”, they do provide some indication that problems of law enforcement and corruption are more prevalent in the emerging markets.

It may be the case in some emerging markets that corruption is regarded as a prerequisite for doing business, or even as a source of profit and competitive advantage — at least in the near-term. However empirical evidence does suggest that corruption poses a cost on economic growth in emerging markets. [2]

Global standards, local strategies

The investor consensus at the ICGN Rio de Janeiro meeting that standards on corruption should not be comprised in emerging markets is encouraging — and appropriate. However this was also accompanied by a pragmatic sense of realism that realities on the ground are different and that the challenges in these markets may require both greater patience and differing approaches grounded in local insight.

The idiosyncratic nature of corrupt practices in individual emerging markets depends on the unique institutional market, and may take forms that investors in developed markets may not be familiar with. For example, in many emerging markets the boundary of the firm may not always be clear. This boundary can extend to the state on one hand, particularly so for state-owned firms, and can range through to unlisted joint ventures or private firms through which multinational companies operate in many cases. Consequently, investors must recognise that some approaches to anticorruption and business ethics that are typically applied in developed markets may not always be the most appropriate or effective in an emerging markets context.

For example, “whistleblowing” systems are common features of corporate anticorruption procedures in developed markets. However such approaches may carry a stigma in some emerging markets where abusive regimes, past or present, have employed similar methods to repress civil and human rights. Legal protections for whistleblowers in emerging markets may be limited, or non-existent. Moreover, with lax enforcement, and without legal frameworks such as the US Foreign Corrupt Practices Act or the UK Bribery Act, companies in many emerging markets may not face the same legal and regulatory risks for corrupt activity.

In the face of these obstacles, investors in both developed and emerging markets must continue to take a strong and principled stand to address with companies bribery and corruption in emerging markets, so that any perceived near-term benefits do not prevail in the longer-term. The existing ICGN Statement and Guidance on Anti-Corruption Practices continues to be a relevant expression of best practice standards relating to policies procedures and disclosures that investors should call for in emerging markets. However, in addition to this global Guidance statement, particular areas of emphasis for investors in emerging markets can include:

  • Disclosures on ethics management. Investors in emerging markets should demand more robust transparency on standards of conduct and policies on bribery and corruption and how these standards are enforced in the company. While disclosures alone are just a starting point, and by no means an indication of a problem solved, this is a critical first step to help investors understand how companies approach ethics management. Over time, a disclosure regime can help to provide a positive discipline on company managements — particularly to the extent it is clear that investors place priority on these disclosures. Greater disclosures on ethics management should feature in 1:1 engagement with companies, as well as in dialogue with regulators and standard setters in individual countries.
  • Audit quality. A company’s auditors are on the frontline of assessing the accuracy and robustness of its financial statements and controls. Auditors are typically better-positioned than investors to detect abnormalities or potential red flags that might signal fraud or corrupt practice. As users of financial statements, investors should expect auditors in emerging markets to demonstrate sensitivity to corruption risks when conducting audits. In particular western audit firms operating in emerging markets through partnerships with local auditors must prioritise the maintenance of consistent auditing standards between emerging and developed markets. While it is beyond the scope of auditors to seek to detect fraud or opine on the effectiveness of anticorruption measures, diligence as to corruption risks can help to raise standards and create greater barriers to prevent corruption.
  • Foreign direct investment. While most institutional investors have portfolio holdings in emerging markets through investment in listed equities, the influence of foreign direct investment can be even greater in terms of providing fresh capital and sources of employment in emerging markets. It is often the case that foreign direct investors themselves are based in developed markets, and are held in the portfolios of institutional investors. Consequently, investor engagement with investee companies active in direct investment in emerging markets should emphasise the important of high ethical standards that direct investors should apply. In no small part this relates to significant potential legal risks for direct investors that are subject to extraterritorial corruption legislation such as the US FCPA and the UK Bribery Act.
  • Creditors. The role that creditors can play is sometimes overlooked in terms of potential influence on emerging market companies. Particularly for closely-held companies where controlling shareholders do not wish to dilute their control through external equity offerings, debt capital can represent an important source of funding for emerging market firms. Creditors can and should leverage this influence through demanding high ethical standards of companies they provide credit to, whether in the form of loans or bonds. Creditors have a natural aversion to the risks of fraud, bribery and corruption, particularly given that this can be difficult to legislate for in traditional credit analysis. Not only is there scope for more attention on the part of bank lenders and fixed income investors in emerging markets, it is also the case that credit rating agencies can pay greater attention to potential ethical risks in their assessments of companies and their management. Rating agencies can play a very influential role in providing companies a “passport” to public debt markets. If companies in emerging markets appreciate that ethical management and anticorruption practices can be a factor affecting its credit rating (particularly if lacking), this can be an important motivator for standards to be raised.
  • Public policy engagement. Governments in emerging markets tend to welcome both portfolio and direct investment flows to provide capital for economic growth and development. Investors that provide this capital to emerging markets therefore hold a strong playing card to call for greater political will and for higher standards of enforcement on bribery and corruption, both in the public and private sectors. Investors need to communicate their concerns to governments about the negative economic effect of corruption on economic development, valuations, the cost of capital — and ultimately access to capital. Established initiatives, such as the Extractive Industries Transparency Initiative and the United Nations Convention Against Corruption provide useful global frameworks for progressing this dialogue in emerging markets.

A newer initiative — the World Forum on Governance (WFG) — housed within the Brookings Institution — focuses on a broad anticorruption agenda, including the tactic of a “road show” by major institutional and foreign direct investors to press the case with senior officials in key emerging markets. ICGN has been involved with helping to shape the agenda of the WFG, and helped to lead a pilot road show with senior Czech government officials following the WFG’s meeting in Prague in December 2012. This could serve as a strategic investor initiative in other jurisdictions to allow for investors to express the urgency of higher anticorruption standards at the most senior levels in key emerging and transition markets globally.

Taking a stand against corruption in emerging markets will not be easy, nor will it offer instant gratification. But given the vast opportunities for growth, economic development and long-term returns for investors in these markets, the stakes are high. This requires a strong, and consistent, message by investors that high business ethics standards should consistently apply to emerging markets as much as they do in the more developed markets — as well as a pragmatic understanding of the challenges faced and the strategies that may have the greatest impact.


[1] See: and
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[2] A recent meta-study on corruption in emerging markets (defined in the study as “low-income countries” or LICs) concluded that the direct and indirect impacts of corruption negatively affect per capita GDP growth by 0.59 percent per year. However this same study concluded that the impact on growth in more developed markets is even greater. The authors noted that “levels of corruption in LICs may be higher than in non-LICs, but the latter stand to gain more from reducing the incidence of corruption”. Ugur M, Dasgupta N (2011) Evidence on the economic growth impacts of corruption in low-income countries and beyond: a systematic review. London: EPPI-Centre, Social Science Research Unit, Institute of Education, University of London.
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One Comment

  1. Paul Wenman
    Posted Saturday, August 22, 2015 at 7:58 am | Permalink

    We monitor media exposure of corporate environmental, social and governance (ESG) incidents across Asia-Pacific. Since 2012 we have seen a quadrupling of the number of risk alerts linked to corruption, fraud and governance in China.

    This coincides with the period of current government’s anti-corruption drive. According to Chinese officials, four out of every five anti-corruption investigations are initiated by whistleblowers. Often these are disgruntled employees, suppliers, distributors, consumers and competitors. There has been a significant trend toward reporting directly to Chinese regulators. Whistleblowers are discovering the power of involving the media and regulatory authorities in China to help them achieve their objectives.

    We would therefore see great potential for reducing corruption in emerging economies via government stimulated exposure on the web. Through the web, civil society constitutes a significant resource which can be applied to corruption and other corporate ESG risks for investors and supply chain managers alike.

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  1. […] the Harvard Law School Forum on Corporate Governance and Financial Regulation has an excellent post on whether it  is “appropriate to set the same standards for anticorruption in all […]

  2. […] the Harvard Law School Forum on Corporate Governance and Financial Regulation has an excellent post on whether it  is “appropriate to set the same standards for anti-corruption in all […]