Group 3 (Salomon Case study) By DAVID CHANEY JOSE H. ESPINOZA COURTNEY HUMPHREY SHANE TURK ASHLEY TWYMAN
A Paper Presented in Partial Fulfillment Of the Requirements of LEAD505 Organizational Leadership & Ethics August 16, 2009
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16 August 2009 Leadership Styles & Theories DB – LEAD 505 Dr. Jenni McRay Group 3 Analysis Paper The case Forging the New Salomon, displays how it quickly becomes evident through both action and words how the leaders define ethical behavior within the organization. Salomon – a Wall Street financial company – dived deeply into crisis in August of 1991 after the company announced in a press release there were “irregularities and rule violations.” These rule violations and the actions of the leaders after the violations were announced define the ethical behavior by the leaders (Sims et. al, 2002). Within this analysis, we will collectively discuss and examine the ethical behavior of the leaders within the company. In addition to this, we will evaluate how the ethical standards were maintained and how the emphasis on ethics affected the organization and its members. We also look at the August disclosures that triggered the crisis at Salomon, how management handled the situation, and the primary concerns of the new CEO. Then, we scrutinize how the matter concluded for the company and/or if there were major consequences; the new ethical strategy of management; how Schein’s five primary mechanisms are affected and compared to other strategies in regard to leadership and ethics; and if this model is applicable and useful for others to evaluate their ethical state within their organization. Lastly, we will look at the concepts/ideas we learned from this case, how we will utilize the knowledge & information from this case, and whether we have experienced similar situations in our workplaces or organizations. We first must examine how the company’s leaders defined ethical behavior. In the journal cases for Salomon, there were two ‘definitions’ or perceptions as to what ethical behavior was considered. If you are discussing the position from John Gutfreund and his top executives, ethical behavior is a “win-at-all-costs” climate focused on short-term profits with
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16 August 2009 Leadership Styles & Theories DB – LEAD 505 Dr. Jenni McRay no regard for long-term implications, legal transgressions and preservation of position at any cost, and leading by example with secret deals and business practices (Sims et. al, 2002, p 33536). If you are discussing ethical behavior from Warren Buffet’s and Deryck Maughan’s position, you portray a nice, down-to-earth, “Mr. Clean” guy that has the integrity and fortitude others strive to emulate. They focused on long-term goals/results for the organization in order to establish and maintain a culture with a strong ethical framework accountable for all the organization’s actions and focused on promoting paramount systems for the organization’s ethical culture (Sims, 2000). While these are some of the “defining” characteristics and portrayals of how the leaders perceived ethical behavior we must look at the paths of the different leaders while at the helm of Salomon in order to capture the ethical behavior aspect. From the course of the company’s investigations it was discovered that Salomon CEO John H. Gutfreund, President Thomas W. Strauss, and vice chairman in charge of the government-trading desk John W. Meriwether were aware of an illegal practice in which the government trading office purchased government bonds from auction in amounts that exceeded government limitations. The executives were aware of the illegal behavior four months before the crisis was announced through a series of press releases, but they did nothing until August. Illegal activity by any organization threatens the success and welfare towards achieving longterm growth. Such unethical activity, when discovered by company leaders, should be confronted immediately. However, when Salomon executives learned of the activity they did nothing. Company leaders defined ethical behavior incorrectly because they did nothing to address the unethical activity from within their company after it was discovered. Gutfreund
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16 August 2009 Leadership Styles & Theories DB – LEAD 505 Dr. Jenni McRay solidified his lack of ethical values by stating, “No apologies to anyone for anything. Apologies are bull—“(Sims et. al, 2002). Buffet best summarized the leadership’s new definition of ethical behavior best when he said all 9,000 Salomon employees are to, “be guided by a test that goes beyond rules. Contemplating any business act, an employee should ask himself whether he would be willing to see it immediately described by an informed and critical reporter on the front page of his local paper. There to be read by his spouse, children and friends; at Salomon, we simply want no part of any activities that pass legal tests but that we, as citizens, would find offensive” (Paine, 1994, p. 131). Beyond the perspective of the leader’s ethical behaviors, we must also look at how the ethical standards are maintained now and during the August crisis. We also examine how effectively they managed the crisis. Salomon’s ethical standards were greatly challenged after August 1991, when two press releases announced the company uncovered irregularities and rule violations. The company’s reputation quickly became jeopardized. For example, Salomon was one of only 39 primary dealers who could place bids for customers as well as when the Federal Reserve Bank of New York conducted auctions. After the news broke, the Federal Reserve notified CEO John Gutfreund that the future of Salomon’s high status was at risk. Credit lines were cut and Salomon’s credit rating was downgraded on Wall Street (Sims et. al, 2002). A few high level executives instigated the intense challenge to Salomon’s ethical integrity. By mid-August, the three executives responsible for allowing the unethical activity to go uncorrected were terminated. Warren Buffet, outside director and shareholder, was named interim chairman to fill Gutfreund’s role. On Warren Buffet’s side was Deryck C. Maughan, co-
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16 August 2009 Leadership Styles & Theories DB – LEAD 505 Dr. Jenni McRay head of Investment Banking, and John G. MacFarlane, III, treasurer. These leaders defined ethical behavior, through their actions and words, quite differently than the three ousted executives. For example, Maughan criticized Gutfreund’s first press release as an attempt to protect the CEO, not the organization (Sims et. al, 2002). Warren and Maughan worked ethically to clean up the company to the best of their ability. Maughan said, “Our working philosophy was that we had better just follow the facts wherever they led and get them out.” He also pledged “an absolute insistence on the correct moral as well as legal behavior.” Buffett added to this by saying, “In the end we must have people to match our principles, not reverse” (Sims et. al, 2002). Thankfully, the majority of employees were not as burdened by unethical decisions. To this extent, Buffet and Maughan were able to get to through all facts and address every problem head on. A number of initiatives spearheaded this rational turn towards accountability. One such initiative was a requirement for all departments to participate in a daily conference call so that Maughan and Buffet could be aware of all issues threatening the company’s ability to recover (Sims et. al, 2002). The August disclosures triggered a crisis because it brought forth the improper and unethical actions Salomon Brothers were using in their business practices with John Gutfreund as the CEO. His unethical behaviors at this point and previously during his tenure displayed the culture he developed and engrained in the Salomon community. According to Sims (2000), in the summer of 1991 Gutfreund admitted to placing illegal bids in 30 of the 240 auctions of government securities they participated in since 1986 (p. 65). The scandal included assuming up to 94 percent of one auction which was over the legal limit of 35 percent for any one dealer in
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16 August 2009 Leadership Styles & Theories DB – LEAD 505 Dr. Jenni McRay order to avoid monopolizing and influencing the T-bill interest rate (as cited in Sims et. al, 2002, p. 332). When Gutfreund was at the helm during the beginning of this crisis, he did everything possible to place blame elsewhere and maintain control of his position, which was the culture of the organization to display and portray unethical conduct. Maughan and Buffet handled the crisis differently because they did not shy away from the blame, but rather, they embraced the wrongdoings and unethical practices of Salomon Brothers and worked to implement a cultural change and ethical turnaround by focusing on Schein’s mechanisms in order to influence change. If we were Maughan, some of our primary concerns would be to focus on the instigators (leaders) of this crisis, their followers, and the customers affected. First off, the leaders that behaved badly and ultimately did nothing to divert this crisis need to be released from the organization. Additionally, the likelihood of their respective followers’ continued employment should be evaluated. The customers and their needs would have to be addressed because their trust in the company would or could be broken which could cause a further loss in funds if they take their business to our competitors. Building trust in our customers and anyone else that we do business with would have to be addressed as well after the betrayal of their confidence in the organization. Another concern we would address would be to set a different culture by “walking the walk” and “talking the talk.” Holding people accountable is also necessary so that the personnel on the team know what is expected of them and they can see firsthand the ethical values we display and want to instill. While we examined some of the irregularities that led to this crisis,
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16 August 2009 Leadership Styles & Theories DB – LEAD 505 Dr. Jenni McRay the unethical practices, and how the standards were maintained, we must also look at when the treasury auction matter ended and what major consequences were involved. The treasury auction matter loomed over Salomon beyond the end of 1992, although the Justice Department determined it would not bring criminal charges against the company in May of 1992. Settlement with the “leaders” involved in the crisis occurred in the fall of 1992. The largest consequences were the censure of two months of trading with the Federal Reserve Bank starting in the summer of 1992 and the continued investigation of the government’s security market for the next three years (Paine et. al, 1994, p. 139). We believe the process Buffet and Maughan followed in regards to not pleading guilty to conclude the treasury auction matter was the right course of action at the time. We state this because during their reform period, they were able to show everyone that had a stake in the organization they were serious about developing and implementing a new ethical culture people could adhere to in order to end the bad business practices during the Gutfreund tenure. We feel the new strategy by management was appropriate for the situation and it laid a foundation for the organization to establish the necessary culture and ethics needed to regain trust and implement change to avoid crises like the Treasure auction crisis. The culture forced a change in personnel so the organization and its personnel would understand unethical practices would not be tolerated for Salomon any longer. With a new ethical strategy and management, the emphasis they placed on ethics and its affect on the organization and its members must be looked at in order to assess effectiveness. When we first looked at the Solomon case, we saw a gap in ethical judgment that caused quite a catastrophe for upper management which resulted in many to resign or face termination.
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16 August 2009 Leadership Styles & Theories DB – LEAD 505 Dr. Jenni McRay We can also guess other employees were affected by the bad decisions. In fact, the introduction to the case comments on the fact the trading floor on August 18, 1991 was “eerily quiet” (Paine et. al, 1994). During the time of transition for the company, employees were uncertain of the company’s future, not to mention their jobs! “No one knew the full extent of the firm’s misconduct; creditor, customers, employees, Salomon’s insurers, and the markets were all waiting to see what management would say and do” (Paine et. al, 1994, p. 113). The unreported rule violations even impacted members of the Solomon team in other areas of the world, and presented a drastic diminish in the business it gained in London, England. Stephen J.D. Posford, co-head of the London division was quoted in saying, “appalling behavior which flouts the whole integrity of your relationship with clients” (Paine et. al, 1994, p. 116). As Posford expressed, the actions of company management put both the company and its employees at risk, and their unethical decisions became a poor reflection of employees who served as the face of the company. When dealing with these clients it was not upper management or Gutfreund who had to settle the fears of uneasy customers, it was the front line employees, which hardly seems fair for them. As Denise Cumby explained, “Customers transpose the violations of others onto you personally. You try to defend the firm, but there is always doubt in the customer’s mind” (Paine et. al, 1994, p. 123). The employees found themselves in a catch twenty-two, they wanted to do their job well by building up the credibility of the firm, while in their own minds they were concerned themselves for the firm and, in turn, their own employment. Beyond this, the entire company was forced to work tirelessly in order to retain clients because of the bad publicity Solomon was receiving on this issue, “Maintaining client relationships severely tested the mettle of managers through the firm” (Paine et. al, 1994, p. 123).
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16 August 2009 Leadership Styles & Theories DB – LEAD 505 Dr. Jenni McRay Paul Mozer, another of the major constituent offenders in the Salomon debacle, played a part in the emphasis on ethics that affected the organization and its members. He made a run of mistakes that ended up causing a massive overturn of the management, personnel, and company policies. This change was inevitable, though. Salomon was a runaway train bound to fly off the tracks at some point, whether it was the Treasury trade scandal or something else. As both Maughan and Buffett described, there were many issues threatening the company (Paine et. al, 1994). The changeover of company philosophy needed to happen. Buffet began to break down and rebuild, and some were dramatically in favor of the new regimen Buffet brought with him. Others, however, were not. A senior executive noted, “We were tremendously relieved someone with a good reputation was taking over.” However, some were less enthusiastic and only reluctantly followed the new regimen. (Paine et. al, 1994, p. 114). Buffet met with employees himself, exuding his new ethical way of running the show. He also felt the need to empower his employees, and urged them to take risks, inside the legal guidelines. He created a new environment, issuing his personal office number to employees. He also laid down the law by stating all violations found out must be reported immediately (Paine et. al, 1994). Many employees considered leaving their jobs. As Cumbey remembers, “Basically our lives fell apart. We were wondering if the firm was going to survive. I was thinking about all these people and their jobs and families. Everybody was thinking about leaving, headhunters were calling everybody” (Paine et. al, 1994, p. 124). However, in respect to Buffet’s new outlook, supervisors met with their subordinates to discuss these issues. The communications department administered handouts containing press releases in order to educate employees on
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16 August 2009 Leadership Styles & Theories DB – LEAD 505 Dr. Jenni McRay current events within the firm. A nameless employee recalls that, “The information flow was very open. On Wednesday afternoons, we would meet and Deryck would answer everyone’s questions, even though they were under a lot of pressure from outside the firm, top management was making a real effort to keep everyone in the loop” (Paine et. al, 1994, p. 125). Excellent communication is mandatory during times of uncertainty within a company, because the more educated the employee is, the more comfortable they feel. Buffet recognized this need at all levels of employment within the company structure and mandated this type of information sharing. Of course, throughout the course of the struggle, some good employees were lost and many were terminated. Buffet paid this price in order to recreate an ethical, moral, and successful business unit as previously enjoyed. Many of the changes, especially the compensation, caused a massive exodus of employees from Salomon to their competition (Paine et. al, 1994). Both Buffett and Maughan were openly fine with these changes even though it seemed like all of their talent was leaving in droves. Both men stuck to their guns in saying if these people are the very type that is going to cause this company troubles then they were happy to see them go. Salomon then was free to hire the type of people to reflect the new philosophy the company was setting forth. These changes in personnel paid off: the high-risk high reward people that had caused many of the troubles that led to Salomon’s demise were long gone. We believe Buffet’s inclusion in Salomon was a huge benefit, because he was already well known in the business circuit for his honesty and ethical work values, not to mention his country upbringing, which usually encompasses integrity, ethics and hard working qualities. One securities industry analyst quoted, “He is such a highly credible personality, that his taking over
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16 August 2009 Leadership Styles & Theories DB – LEAD 505 Dr. Jenni McRay should reassure everyone the place is going to be well run” (Paine et. al, 1994, p. 114). Buffet was even able to reverse decisions that suspended internal trade on behalf of the company by simply having a conversation with the appropriate people (Paine et. al, 1994). This man obviously had built an empire founded on ethics and overall good business practices. Buffet once said, “Should you find yourself in a chronically leaking boat, energy devoted to changing vessels is likely to be more productive than energy devoted to patching leaks” (brainyquote.com). In the situation surrounding Salomon and the obvious need to turn the company around, Buffet found it necessary to attempt to change the entire vessel of the company instead of just trying to concentrate on the issue surrounding the three executive officers. He took a real stand against the three by refusing to pay legal expenses, making a clear statement to the rest of the company unethical acts do not pay off. He asked for and received the resignation of other executive leaders within the firm, and brought in people he fully trusted. Buffet is quoted as saying, “It's better to hang out with people better than you; pick out associates whose behavior is better than yours and you'll drift in that direction,” which is exactly what he did with Salomon (brainyquote.com). Most importantly, he led by example, which is something that Salomon brothers previous executives were unable to do. Warren Buffet summed it up when he said, “It takes 20 years to build a reputation and five minutes to ruin it; if you think about that, you'll do things differently” (brainyquote.com). With the emphasis on ethics and how it affected the organization and its members, we also must examine Schein’s model of five primary mechanisms to leadership to see how they apply to this study. Schein’s mechanisms display the necessary steps to implement the type of leadership and ethics needed in today’s business world and society in general. In other pieces of literature
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16 August 2009 Leadership Styles & Theories DB – LEAD 505 Dr. Jenni McRay within this class, we have looked at leadership and the styles of leadership to develop personnel and organizations, and we have examined the ethics within organizations to how it affects the culture of a group. Nevertheless, we think this model demonstrates a good plan to build and execute: the mechanisms further empower leaders to embed and reinforce culture and cultural changes in an organization to develop a successful team/organization. We believe this model can be beneficial to any leader that is evaluating the ethical nature/culture of his/her organization. Assessing the organization can empower the leader to address indifferences, focus on the specific aspects affecting the current culture, and allowing implementation of a change to certain parts of the model in order to embed and reinforce the culture change desired. To discuss further, we must introduce the concepts we learned from this case and elaborate on the things we can implement personally and/or professionally, while adding experiences from our past. When assessing and evaluating the concepts we learned from this case, we found that we agreed on many points in general and to a certain extent, we are looking to take this knowledge and implement it both personally and professionally in similar ways. The personal experiences were a bit vague, as most of us have not directly experienced this in our respective workplaces and/or organizations. Some of the more resonating thoughts from our group in regards to the concepts were that, although complicated, it is possible to rebuild a corporation given the appropriate foundation. This case emphasizes the fact that ethics and moral character within a corporate environment are imperative to its success. It shows how a lack of these characteristics within the corporate framework leads to a downfall, but it also gives the promise of hope in the same aspect.
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16 August 2009 Leadership Styles & Theories DB – LEAD 505 Dr. Jenni McRay Another thought was that this case study shows people that they need to be ready to be a good watchdog for their company. If your job is to oversee the happenings and whether something is legal or not, you need to do that without hesitation or from caving to pressure from your team or superiors. One final thought regarding the concepts we learned from this case is that the significance of loyalty and trust increases along the workplace heirarchy. If those in the higher ranks had exhibited a stronger importance for those traits then perhaps the situation could have been avoided. However, we do not think they understood the significance of their oversights, and thus the domino effect occurred. It is good to know that even from a very large-scale catastrophe just as these articles showed that a comeback is possible with the right leadership in place. One individual in our group also noted, “I think that this situation will act as a motivator for me in the years to come, and I will strive to be the Buffett of future professional crises.” While another individual within the group stated, “To me, this case gives a reason to persist even when it seems as though all hope is lost.” Often times it is difficult to continue to see the truth when others around you are looking the wrong way, and this case shows that eventually those people will get what is coming to them and good work and ethics pay off. In our society, we can see that “nice guys finish last,” if you will, but I believe Buffet’s work at Salomon Brothers shows us that “nice guys” concur in the end. While we all had no real experiences we could note at this time similar to the Salomon case, we were able to concur that applying what we have learned and taking this lessons learned would better prepare us for the future trials and endeavors we will face as leaders in our respective organizations.
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16 August 2009 Leadership Styles & Theories DB – LEAD 505 Dr. Jenni McRay References Information and quotes retrieved from the following url on 07 August 2009: http://www.brainyquote.com/quotes/quotes/w/warrenbuff120779.html Paine, L.S., Santoro, M.A. (1994). “Forging the New Salomon”. Harvard Business School. Case 395-046, p. 110-45. Sims, R.R. (2000). “Changing an Organization’s Culture Under New Leadership”. Journal of Business Ethics. May 2000: (25)1, p. 65-78. Sims, R.R., Brinkmann, J. (2002). “Leaders as Moral Role Models: The Case of John Gutfreund at Salomon Brothers”. Journal of Business Ethics. Feb 2002: (35)4, p. 327-39.