, Volume 40, Issue 3, pp 275-299

"I Didn't Know" and "I Was Only Doing My Job": Has Corporate Governance Careened Out of Control? A Case Study of Enron's Information Myopia

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Abstract

This paper discusses internal dynamics of the firm that contribute to the failure of knowledge conditions, using the Enron scandal as a case study. Ability of the board to effectively monitor conduct at operational levels includes various dynamics: senior management being isolated from those at operational levels; individuals pursuing subgoals that are contrary to overall corporate goals; information flow along a narrow linear channel that effectively forecloses adverse information from getting to senior management; a corporate culture of intimidation, discouraging open expressions of doubt or skepticism, resulting in reluctance to challenge senior officials, and pushing the limits of ethics and the law.

Elements of information blockage in the corporation include: the "law of diminishing control"; deliberate concealment of information by officers; motivation to report to the boss what one perceives the boss wants to hear; theory of "bounded rationality" that explains surprising role of irrationality in decisionmaking – unconscious emotions and motivations. Discussion of behavioralist studies of cognitive dissonance, belief perseverance, confirmatory bias, entity effect, motivated reasoning, group cohesion or "groupthink," and the false consensus effect. Problem of overoptimism – tendency of many people to overrate their own abilities, contributions and talents – and tendency toward puffery and dismissal of risks in formulating disclosures and press releases.

Imposing liability on directors for failure of oversight is extremely difficult to sustain in a court of law. Directors are likely to face much greater demands of accountability in the wake of Enron. Solutions to enhance flow of information include programs to encourage employees to expose wrongdoing without fear of retribution; devising of communication system that enables important information to move upward to the proper decisionmaker without getting distorted; restructuring of audit committees, providing adequate training for new directors, expanding the number of independent directors on the board. In the wake of Enron, corporations may simply have no choice but to meet increased demands by workers, shareholders, customers and the government for greater accountability.

Appendix to paper discusses the history of the corporation, moral dilemmas of the shareholder-centric model, and whether important social goods sometimes trump the notion of profit-maximization.