In 2009, senior management teams restructured departments and business units, and in many cases dramatically reduced the size of their companies. Upset by these changes, employees became cynical about their companies' ethical cultures and the integrity of the people who work with them. That cynicism translated directly into a rise in serious instances of fraud and misconduct.  

In 2008, as the economy worsened, misconduct rose by 20% during the second half of the year. In 2009, by contrast, overall misconduct levels reportedly declined from the first half of the year to the second half.

But a survey conducted by the Corporate Executive Board's Compliance & Ethics Leadership Council (CELC), provides compelling evidence for why this finding does not tell the whole story. 

According to the results from more than 300,000 employees in over 75 countries, this "decline" in misconduct during 2009 is actually misleading, as it pertains to less severe and risky behaviors such as the misuse of company resources or other "inappropriate behavior."

In fact, the real story in 2009 was that more serious types of misconduct (e.g., conflicts of interest, insider trading and improper payments) rose during the year. Observations of bribery and corruption were up more than 100%, and observations of insider trading were up 300%. At a time when regulators are on the warpath for precisely these kinds of violations, such behaviors tremendously increased risk for companies.

Consistent with this trend, and with the ongoing recession, CELC research found that the number of highly disengaged employees increased in 2009. At the beginning of the year, the proportion of such employees was one in ten. But by the end of 2009, it rose to one in five. (The data is based on the attitudes and work habits of thousands of employees.) Based on CEB's productivity models, this widespread disengagement not only created fertile ground for misconduct, but also decreased employee output by about 5%.

The fact is that while many have reported that overall misconduct was on the decline, the most troubling types of misconduct are actually on the rise. And they have increased to a staggering degree. Companies must not just be on guard, but learn how to prevent employees from wanting to skirt the rules-or even the law-in the first place. Prevention starts from within.

The Culprit: Employee Perceptions of Culture

Misconduct levels were shown to reveal themselves in employee perceptions of culture. Business units with the weakest ethical cultures had the highest levels of misconduct-in 2009, these units experienced five times more misconduct than those with the strongest ethical cultures. When employees perceive a weak ethical culture, misconduct does not just increase-it multiplies.  

In contrast to popular opinion, CELC research also found that misconduct does not vary by region. Europe and North America, for example, have nearly identical overall levels. That said, different business units in different locations within a company often do show varying levels of misconduct. But this disparity is not a national culture issue-it is a business culture issue. Weak business units within an otherwise average company can have sky-high misconduct levels.

Perhaps more disconcerting is that misconduct is rarely reported. This means that companies need to be diligent, creative and persistent in their efforts to detect and mitigate serious compliance risks and uncover information about employee misconduct.

A companywide assessment is a good place to start. By comparing business units' performance on such ethical culture measures as clarity of expectations, tone at the top, comfort speaking up, and levels of observed misconduct, companies can pinpoint business units that present a cultural risk to the company. 

When it comes to perceptions of ethical culture, employees can generally be divided into four ethical risk groups: "Integrity Champions," who are most positive about the culture, and present the least risk; "Casual Supporters," who are somewhat positive about the culture and present minimal cultural risk; "Agnostics," who are on the fence about their company's ethical culture and present a cultural risk to the company; and "Disaffected," who have the most negative perceptions of the culture at their company and thus present the greatest cultural risk. 

Agnostics and Casual Supporters, in particular, report greater levels of uncertainty about observing instances of misconduct than other employees, and also report the misconduct that they do observe at much lower rates than do Integrity Champions. Their lack of certainty about what they are observing, and their possible negativity about their firm's ethical culture, suggests that awareness and education are the keys to reaching these Agnostic and Casual employees. Targeted communication and training can greatly impact the reporting rates for this segment of a company's population.

Organizational Justice for a Culture of Integrity

So how can executives restore a strong culture of integrity? Looking at the best-performing business units, it is clear that the key to a strong culture of integrity is an element called organizational justice. Organizational justice has two parts: (1) the belief among employees that the company does not tolerate unethical behavior, and (2) the belief that management responds quickly and consistently to unethical behavior when it occurs.

In other words, organizational justice is strong when employees believe that their company will take action on its policies and values. And it encapsulates the maxim that actions speak louder than words.

Organizational justice is singularly powerful in driving a culture of integrity throughout the company. When employees believe that the company has strong organizational justice, the company's integrity index (an overall measure of integrity) rises, and misconduct drops significantly. And while every aspect of culture affects employees' perceptions of corporate integrity, organizational justice is by far the most powerful single factor-accounting for more index movement than all other cultural factors combined.

How can management teams enhance organizational justice? The key is for the organization to visibly enforce the company's ethical commitments. This is no small task. Many management teams are either unwilling to do this or just do not know what to do. 

For those firms willing to do what is necessary, there are three key steps: (1) equip managers to decisively deal with unethical behavior, (2) show the whole employee population-using real instances from within the company-that the company deals decisively with misconduct, and (3) close the loop with employees who report misconduct so that they know that appropriate actions were taken. 

Companies need to be accountable, consistent and transparent when taking action on misconduct. These efforts should focus on the top and middle leadership of the organization. Employees who believe that their senior leaders have high integrity feel more connected to the values of the company. Viewing it at another level, an employee who believes that his or her manager behaves ethically and demonstrates corporate values will consistently show better performance in the workplace-including working harder and longer hours.

Corporate values in action lead to a more ethical work environment, and possibly even better corporate performance. With some hard data in hand, we now know with precision how corporate integrity, corporate misconduct and corporate performance relates to one another. These connections are clear, and they are too strong to be ignored.  

Written by Dan Currell and Tracy Davis Bradley.

Dan Currell is managing director of the Compliance and Ethics Council at the Corporate Executive Board. Tracy Davis Bradley, Ph.D., is senior director of the council at CEB.

The above article is reprinted from the April 2010 edition of Risk Management Magazine.