The Inside Counsel Revolution:

Resolving the Partner-Guardian Tension

Ben W. Heineman,Jr.

January, 2017

Basic Themes

• What it means to be a great corporation

• What it means to be a great lawyer inside a corporation

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Structure of Argument

1. The Revolution

2. The Framework Ideals: Mission of Corporation: Lawyer-Statesman; Partner-Guardian; Culture.

3. Key Issues: Performance, Compliance; Ethics, Risk; Governance; Citizenship.

4. Global Leadership: Legal Organization; Law Firms—And Alternatives

5. Future: Problems and Possibilities

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The Revolution: Inside the Company

• GCs and Inside Counsel have become more sophisticated,

capable and influential, transforming law and business in two important ways.

1) Inside the Company

--Primary Counselor to CEO/Board: Replace Senior Partner

--Member of Senior Management on both Law and Business; Both Decisions and Execution; Both Risks and Opportunities

--Lead Corporate Units Beyond Law: e.g. Taxes, Trade, EHS, Public Affairs/Gov’t Relations, Security etc.

--Comparable in Importance to CFO Due to Increased Global Complexity/Rising Importance of Business in Society Issues.

--Dramatic Change: Skill, Experience, Breadth, Compensation

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The Revolution: Outside the Company

2) Shift of Power from Outside to Inside

--Control over Matters: outstanding inside generalists and specialists set strategy on important matters.

--Control over Money: in age of global competition, constantly driven by CEO diktat: more with less. Segment matters/choose among different kinds of vendors not just firms

--Public Role Outside the Company: CEO delegates to GC important outside public and private relationships: advocate, negotiator, representative of the company etc.—from major legislation to major deals to major stakeholders.

Began in Mid-80s:

Inside Counsel Revolution Important Change in Profession

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Causes of the Revolution

• 70s: pioneering GCs push-back v. firm arrogance/one line bills --ACC ‘82

• 70s/80s: accelerating globalization/regs/suits/big deals:

--Need for inside domain expertise/speed

• 80s/90s: Benefits of inside positions/able to attract top talent: become client, part of business, set agenda, hiring power, handle broad issues, no time sheets, compensation etc etc.

Example: GE Partnership. 30 direct reports from top of profession in 3 yrs: generalists and specialists; Mkt rates.

• 90s: Boards/CEOs get it: start to upgrade: snowball effect

• 2000 On: Huge scandals. GCs of stature to prevent/handle.

Accelerating Global Pressure Today for Enhanced GC Role: commercial complexity, regulation, geopolitical risk etc

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Framework Idea: Mission of the Global Corporation--Fusing High Performance With High Integrity and Sound Risk Mgt

• High Performance

– Strong, sustained economic growth

– Based on superior, high quality goods and services

– Balances Risk Taking (innovation/creativity) with Risk Management (financial and operational discipline).

– Provides durable benefits to shareholders and other stakeholders: not just maximize shareholder value---optimize stakeholder interests over short, medium and long term. Not formulaic

• High Integrity

– Robust adherence to Spirit and Letter of formal financial/legal rules

– Voluntary adoption of global ethical standards that bind company and its employees and public policy that balances private and public interests

– Employee commitment to core values of honesty, candor, fairness, reliability and trustworthiness

Creates Trust that Sustains Corporation

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CEO’s Demonstrate Committed And Consistent Leadership

1) CEO/Business Leaders, Not Staff, Must Lead

2) Putting Integrity First: Fundamental CEO Message to Senior Leaders

• Corporation built on reputation – performance with integrity is the

foundation

• Each senior leader will be held personally accountable

• No cutting of corners for commercial reasons – integrity must never be

compromised to make the numbers

• One strike and your out. You can miss the numbers and survive. You

cannot miss on integrity

3) Give The Message Meaning Through Tough Discipline Of Generals Not Just

Troops: High Standards For Employees Demand High Standards For Senior

Leaders

• Commission: direct failure

• Omissions: Failure to create culture. Israel and Japan

– Beginning---And End---Of Performance With Integrity Culture Is

Unyielding Commitment Of Leaders And Seamless Consistency Between

Personal Traits, Public And Private Words, Direct And Indirect Acts__

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Demonstrate Committed And Consistent Leadership Cont.

4) Communicate Hard Decisions Candidly

– Top executives: 600 in January

– But also messaging through Chairman’s Awards

5) Embody Values

– Organizations exquisitely attuned to hypocrisy

– Winks/nods, bad personal actions, disparagement of law/ethics send

powerful negative messages

– Every meeting with employees (except inner circle) is a “public

meeting.”

6) Not Just Leadership on Vision and Strategy: Embrace Management Role

– Manage complexity = budgets, systems, processes, controls

– Cope with change: inspire and energize through vision

The Revolution Depends on a CEO with Strong Commitment to the

Performance with Integrity Mission

Framework Idea: GC as Lawyer-Statesman

Three Roles

1. Outstanding Expert

2. Wise Counselor

3. Accountable Leader---Legal Organization Plus

Paradox

• CEO at top of hierarchical organization but , GC has key leadership role as either counselor or as leader of corporate units.

• Power of ideas and personality : robust role in helping company focus on what is right---decisions/execution

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GC as Lawyer-Statesman Cont.

• The Essence: First Question: “Is it Legal?” Last Question: “Is it Right?”

• Broad Scope: Law and Business

• Focus: “purpose,” not just “process;” “consequences”, not just “acts;”

“long-term” not just “short-term;”

“strategic” not just “tactical”

• Professional and Citizen Because Problems Have Dimensions Far Beyond Law

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Lawyer-Statesman:Four Ethical Duties

1. To Own Institution: employees/enlightened

self-interest

2. To Clients/Stakeholders: shareholder, creditors, partners, customers, suppliers et

3. To Rule of Law and Administration of Justice

4. To Securing Public Goods Upon Which Society (and Company) Depend and Which Cannot be Attained Through Market Alone

Broad Vision: Broad Knowledge/Skills

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Complementary Competencies • Ask “ought” questions: generate robust

options/balanced recommendations

• Assess variety of risks: but not be afraid of risk

• Understand how to make rules realities: implement

• Build organizations: vision, values, systems, people

• Understand interplay between policy and politics: and how to navigate with purpose and principle

• Global brains/cultural sensitivity

• Variety of communication skills

• In the end: how to define problems properly: cannot solve if miss key issues

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Active, Not Passive

• Not simply do what business leaders request

• Enron, Worldcom, Siemens, etc. Hall of Shame

1. Never: ignore law & try to get away with it; cost-benefit to see if non-compliance ok from economic view; hyper-technical and not credible

2. Analysis before recommendation: Google in China

3. Analysis before advocacy: Israel v. Diamonds

4. An important conscience of the company (but not the conscience).

• Statesman role is insistent questioning about what is “right” per performance, integrity & risk

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Framework Idea: Resolving The Partner-Guardian Tension

• Partner to CEO: Guardian of the Company

• Dilemma: avoid being Inveterate “Nay-Sayer” (excluded) or inveterate “Yea-Sayer”(indicted)

• Critics: GC can’t be independent guardians: citing Enron, back-dating, HP pre-texting, Siemens etc etc.

• Proponents: GC as guardian critical to corporate citizenship, governance, compliance, ethics etc.

Core of GC Role is Guardian: Partner Role Can Never Undercut Guardian Role; But Being An Effective

Partner Makes GC a More Effective Guardian

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The Fusion • Broad scope: business, law, ethics, risk, governance, policy etc

• Broad understanding of business: strategy to budget to operations covering all products, technologies, geographies

• Participate in all planning and decision meetings: as lawyer and as business leader: shape discussion and debate

• Participate in implementing decisions

• Create value through tax, trade, IP, L&E, EHS, M&A, AT etc

• Central role on integrity issues: building into business systems and processes

• Help design proper level of checks and balances.

• Partner in All Dimensions of Corporation Helps Be

• Guardian in All Dimensions of Corporation

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Obstacles

• Negative attitudes about lawyers: top/middle mgt: “only cost center” or “Dr.No” rhetoric.

• Cultural pressures on lawyers to conform: at specific meetings; generally being inside a corp with $$ goal

• Navigating between CEO and board

• Lack of GC/inside lawyer breadth---legal education/limited experience/specialization

• Fear of CEO : being fired; losing benefits;

not receiving more benefits; loss of reputation

• Financial interests lead to biased decisions

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Overcoming Obstacles

1. GC: character (courage, tact, trust); reputation outside the company (creates independence); ability to articulate partner-guardian vision

2. Fiber and culture in legal organization: all inside lawyers must aspire to be partners and guardians

--Must report up to GC on first order problems even if not direct report

--GC must not big-foot: defend/protect

3. Alliance with CFO ,HR, Risk and Compliance

--Nervous system of corporation

--But problems when peers courtiers/sycophants 19

Overcoming Obstacles: The Board

1. Board must share vision: HP/HI, L-S, P-G.

2. GC must be part of board culture (but not on board)

3. Board approve both hiring and firing of GC (tho CEO appt); interview final candidate (s).

4. GC reports regularly on key issues to BoD/Com’s

5. Private meetings 2x p.y. (BoD, Audit, Risk); broader reporting up than law or prof. ethics. Wal-Mart Miss

6. Help board decide when to hire independent outside counsel for top mgt issues. Hurd/Holston

7. Board review GC comp: special integrity incentives; hold-backs/claw-backs

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The CEO

• Can fire clients in firm: hard to fire CEO!!!

• Flash points: GC disagree, go to BoD, lose trust

• CEO can make life hell: exclude, denigrate, limit scope. So….

1. Shared Vision of Partner-Guardian

--Between CEO-GC: Earn Trust as Partner!!

--In Company: must be seen as enjoying CEO confidence

2. Front-End: Due Diligence

3. Back-End: Going in must be prepared to resign, lose $$$

Case 1: good board, good CEO. Still can be tension

Case 2: good board, bad CEO. Either CEO or GC leaves

Case 3: bad board, bad CEO. GC leaves

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The Board and the CEO: Will They Adopt Statesperson and Partner-Guardian Ideas?

• Yes: not because of nice theory but because of hard necessity.

• Sophisticated boards and CEOs will understand the importance of sophisticated GCs/inside lawyers in dealing with core corporate issues, especially in age of increasing commercial complexity/competition that is influenced heavily by “business in society” issues.

• GC seen as vital member of team on fundamentals : culture, performance, compliance, ethics, risk, governance, citizenship and organization.

But: Contingency---and Risk---in All Relationships.

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Framework Idea: The Integrity Culture

• Defined: the shared principles (the values, the policies and the attitudes) and the shared practices (the norms, systems and processes) that influence how people feel, think and behave, from the top to the bottom, all across the globe.

• In The Corporation: A culture of High Performance with

high integrity and with sound risk management

--negative: rules, violations, sanctions

--affirmative: aspirations and incentives

Benefits: In the company, in the marketplace and in society. Ultimately, the trust that sustains a great company.

Gerstner: “culture isn’t just one aspect of the game—it is the game.”

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Pressures for Corruption at Core of Capitalism

• Internal: make the numbers for comp and promotion; harsh biz leaders; culture in acquired companies.

• External: corruption, weak rule of law, conflicts of interest, use of third parties.

• Case studies across industries:

--Automotive: GM defective ignition

--Energy: Enron

--Heavy industrial: Siemens global bribery

--Retail: Wal-Mart global bribery

--Financial Services: JPMorgan multiple problems

--Communications: News of the World

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Creating the Culture Across the Company 1. Leaders: the written word; the spoken word; living it.

” No cutting of corners for biz reasons ; you can miss the numbers and survive; you miss on integrity, one strike and you’re out..”

2. Discipline: No balancing test – violation of first order principle and your gone. Sends huge message.

--Commision: 3rd party distribution in China

--Omission: falsification of data to govt in Japan

3. Compensation: Pay for performance with integrity and sound risk management: measure and build into annual and deferred compensation.

--“Compensation Recovery” policies: hold-back and claw back. JP Morgan $100 million for London “Whale”.

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Creating the Culture Continued 4. Integrity Talent and Resources. Must have business leadership/commitment. Equal to commercial functions

5. Education and Training: “3Rs”: risk assess, risk training, retention testing; in person case teaching; “why”not just “what.” --Face into cultural differences (e.g. Gestapo and Stasi for hotlines).

6. Employee Voice: Counter Culture of Silence.

--Hotline/Ombuds System---duty to report/duty not to retaliate/investigate without fear or favor/detects and deters.

--Also: bottoms up reviews, compliance auditing, legal and finance channels. Enron: failure long before Watkins.

• Multiple elements. Applied across all major issues.

• Leadership(Vision) & Management(Complexity) : Embedding Systems and Processes in Biz Ops

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Apply Framework Ideas Across Essential Issues

• Performance: broad knowledge of products, markets, competitors

--e.g. country risk for new plant in SE Asia?

--e.g. robust due diligence for old plant: China

• Compliance: Prevent/Detect/Respond

--e.g. complexity of what is law ?

--e.g. Function not form in organization

• Ethics: Voluntary choice: Prudential (self-interest) and Moral (duties to others)

--e.g. sourcing at third party suppliers

--e.g. China ultra-sound for sex selection abortion 27

Essential Issues Cont.

• Risk: Organization Principles, Key Questions

--e.g. debating catastrophic risk:Fukushima

• Governance: Board and Management

--e.g. six essential tasks

• Citizenship: All biz, integrity and risk issues

--e.g. public policy substance and process.

• Leading Global Organization: Inside/Outside

e.g. hire, retain and promote the best; segmentation/alternative vendors

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