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Nynex Corp. Nynex Regains Moral Footing

June 1, 1996
Related Topics: Ethics, Featured Article
The telecommunications, entertainment and computer industries are currently undergoing a period of historic change—one rich in new opportunities and unprecedented challenges. Technological advances have taken us to the brink of an information revolution that promises to change not only the way we communicate, but also the way we work, the way we learn and the way we spend our leisure time. The business world has responded to these technological advances and their resultant regulatory changes with a mind-numbing series of mega-mergers and corporate transformations.

The early ’90s were a time of reengineering, especially in telecommunications. Flatter organizations were created and, though profits were up, layoffs were nevertheless widespread. Now, like a "Paul Bunyanesque" square dance, corporate giants have begun pairing up, switching partners, then swinging this way and that. Among the most energetic dancers are Disney, Microsoft, Time Warner, Westinghouse, TCI, Intel, Viacom, News Corp., Seagrams, Sony, ABC/Capital Cities, Turner Broadcasting, General Electric, IBM, Lotus and the list goes on. With every do-si-do and promenade, the economic landscape rumbles and shakes.

Will the changes result in more competition, more innovation and better services for customers? It depends on whom you ask. No one, however, will deny that the stakes are high in this information revolution. One hundred years ago the public debated the wisdom of industrialization policies. The commodities in question at that time were material: oil and steel. Now, as we approach the 21st century, the commodities at issue are less tangible but more important.

The information revolution is all about the creation, control and distribution of ideas and images. Who will own and control newspapers, magazines, networks, music and film studios, cable franchises, TV and radio stations, online services and software manufacturers? How will information, ideas and images be delivered to us, and who will create and control their intent? During the last decade we’ve seen—especially among the MTV generation—the power of the media and entertainment industry to affect both the form and content of political debate. They have altered the way consumers view themselves and the world around them. The information revolution will have an effect on how we think as well as on what we think about.

Larry Ellison, president and CEO of Redwood Shores, California-based Oracle Corp. says, "The sheer impact of this revolution will rival that of the electric light, the telephone, or, perhaps, printing itself. We won’t just talk or shop on the information highway; we will live on it. In twenty years our world will be so transformed by this highway that people will scarcely be able to remember what life was like before it."

Given the high stakes, it’s important that corporate players have a clear sense of values, a commitment to public service and an understanding of the importance of ethics. Unfortunately, two of the three industries involved in this revolution are among the laggards—ethically speaking. With a few notable exceptions (Digital Equipment and Texas Instruments, for example), the computer and entertainment industries have done little in the area of organizational ethics. Fortunately, however, the third industry in this revolution, telecommunications, has been a leader in business ethics. And no telecommunications company has done more in this area than NYNEX Corp., based in White Plains, New York.

To quote NYNEX Chairman and CEO Ivan Seidenberg, "We’re transforming the core of our business, deploying leading-edge technology in our wireline and wirefree networks, and making the transition from a communications company to a communications-entertainment-information company. As we redefine and expand our business, we must continuously strive for the highest levels of integrity and trust."

NYNEX, and the Bell companies in general, have held a long-standing commitment to business ethics. In the 1960s, they were among the first companies to issue corporate codes of ethics. It took a series of unusual events in the 1980s, though, to push NYNEX, and other industry leaders, to a higher standard.

The rules of the game had changed.
The 1984 court-ordered divestiture at AT&T was the beginning of six difficult years for NYNEX. Following divestiture, NYNEX and the other regional Bell companies found themselves in a strange new world. They had to learn to cope with a host of changing rules and regulations being created to deal with the new environment. Customers and markets that were once familiar and established were gone. In their place was a new competitive industry.

The external changes triggered a cultural upheaval for NYNEX’s employees. Change is always unsettling, and this was change on a massive scale. Craig Dreilinger, a business ethics consultant and president of the Dreiford Group in Bethesda, Maryland, has helped many companies deal with change. He has noted that there are significant problems that organizations must cope with when they are going through change. None, he says, is more potentially damaging than the growth of cynicism.

Cynicism greatly increases during periods of ambiguity. With change, it’s expected that some employees will begin to lose trust in their organizations, their managers and even their colleagues. Under these conditions, cynics thrive. The complaints of the cynic are part of a vicious cycle: Change breeds cynicism, cynics spread their beliefs, and their beliefs make it difficult for the organization to cope with change. NYNEX in the mid-1980s understood this and its executives tried to break the cycle.

Then on August 6, 1989, things got worse. All of NYNEX’s union-represented employees began a bitter 17-week strike that further polarized the organization. The main issue was health care, but, as is often the case, the strike brought to light other problems that had been just below the surface. As the strike was ending, NYNEX announced a $43.7 million loss in the fourth quarter of 1989, the first ever for one of the "baby bells." At about the same time, accusations of rate-payer overcharges began to surface.

A few months later, things went from bad to worse. During the summer of 1990, NYNEX’s New York Telephone unit was trying to gain approval from the New York State Public Service Commission for a $1.4 million rate increase. The average consumer’s bill would rise 36%. In contrast, the State Consumer Protection Board was calling for a half-billion-dollar rate decrease.

The state attorney general said he would oppose raising rates "even one red cent." His reason? Along with the Public Service Commission, his office was investigating reports that a NYNEX subsidiary hosted suppliers at what the press dubbed "pervert conventions" from 1984 to 1988. In the view of the attorney general’s office, "It looks like purchasing was made not on the basis of least cost or best product, but on personal connections and favoritism." It was suspected that NYNEX now was trying to pass on the increased costs to rate payers.

The morning the story of the "conventions" broke, NYNEX stock fell to $77 per share, down $2.75 from the previous day’s close. The more the press and investigators dug, the worse it seemed to be for NYNEX.

NYNEX faces the music.
Following the divestiture of AT&T, NYNEX created a subsidiary to consolidate and gain cost-efficient purchasing for its telephone subsidiaries. The purchasing unit, Material Enterprises Company (MECO), provided New York Telephone more than $1 billion annually in equipment and services. What looked like a simple corporate reorganization turned into a controversy as allegations arose that MECO was purposefully created as an unregulated subsidiary to avoid scrutiny and to increase the parent company’s profits.

First, as an unregulated subsidiary, MECO could earn profits in excess of those allowed to regulated companies. Second, under regulations, New York Telephone’s profits were limited to a certain return on investments. The base for calculating the allowed profit included the company’s costs. As costs rose, so too could its allowed profits. From early on there were allegations that MECO was inflating the costs it was charging New York Telephone, thus, increasing the allowable profit for New York Telephone and for NYNEX, its parent company.

These allegations later seemingly were supported by a 1990 audit conducted by the Federal Communications Commission (FCC). The audit determined that between 1984 and 1988 MECO overcharged the telephone companies $118.5 million. (For perspective: If correct, the overcharges represent approximately 3% of the $3.1 billion in total purchases made by MECO between 1984 and 1988.)

Allegations of inflated costs and other improprieties at MECO first surfaced in 1985. At that time it was alleged that Lawrence Friedman, MECO’s vice president of purchasing, was part-owner of the company doing business with MECO. NYNEX hired an outside law firm to investigate the allegations; the investigation showed that the allegation was false. It further concluded that no ethical or legal problems existed between MECO and its suppliers. Because there was no evidence that NYNEX’s Code of Business Conduct had been violated, the findings of the investigation weren’t turned over to authorities.

Unfortunately, however, the 1985 investigation didn’t go far enough. As William Ferguson, former chairman of NYNEX, later said, "Do I wish the investigation had gone further? Of course I do." If they had pushed further, investigators might have discovered the "pervert conventions" early on, before they got completely out of hand.

Beginning in 1984, MECO employees began gathering annually at the Florida home of a friend of Friedman. The conventions grew, under the direction of Friedman, to as many as 100 people, among them MECO and NYNEX employees and suppliers. The conventions included initiation rites in which newcomers were thrown into the nearby canal. According to one investigator, "It was grown men making fools of themselves ¼ getting plastered and then lying on the beach."

One former NYNEX employee later said that the Florida conventions were a "little window on a larger panorama of procurement abuse, and it’s the big picture that has cost New York Telephone rate payers ¼ " Attendance at the conventions allegedly resulted in favoritism in contract awards. According to one source, vendors who attended the conventions had sales gains with MECO of 67%. Those who didn’t attend had increases of only about 3.5%.

Company representatives said all along there was no correlation between the conventions and vendor favoritism or rate-payer harm. They believed that when all the facts were reviewed, the company would be exonerated. In 1991, the New York Public Service Commission retained an independent auditor to review New York Telephone’s transactions with all of its affiliates between 1984 and 1990. By mid-1995, the final audit report had not yet been released.

It was time to clean house.
The 1985 investigation uncovered nothing. A second investigation in 1988 was more thorough. It determined that eight employees had violated NYNEX’s Code of Business Conduct, which prohibited meetings with suppliers that could be construed as conflicts of interest. In July 1988, Friedman and a supervisor who reported to him were fired. Former NYNEX Chairman Ferguson explained the firings by saying: "The appearance of somebody in a purchasing position going away [to] party with suppliers is not what we can stand, not what we want and not in keeping with our code of ethics."

Unlike the findings of the 1985 investigation, the 1988 findings were turned over to the Public Service Commission and to the FCC. Ferguson announced a corporate reorganization that was designed to bring MECO under regulatory scrutiny. He also expressed concerns that employees who were aware of the wrongdoing apparently didn’t feel safe to report what they knew. Lastly, Ferguson asked for a study of the problem and a review of NYNEX’s internal reporting and auditing systems.

At this point, Ferguson could have tried to rationalize the problem as a perception problem: a good company that was being unfairly berated by the press because of a few bad apples. He also could have given a speech highlighting the positive steps he had taken, extolling the NYNEX code of conduct and values, and promising to be more vigilant. Had he done all this, everyone probably would have accepted it and applauded him.

But, instead, he went much further. And in so doing he put in motion an ethics process at NYNEX that continues today. It has carried NYNEX to a higher standard and created a model for others to emulate.

NYNEX implements the Ethics Process.
One of Ferguson’s first steps was to announce the creation of NYNEX’s Office of Ethics and Business Conduct and to name Graydon Wood, a 30-year NYNEX veteran, as vice president of business conduct. Wood would be responsible for setting objectives, developing and directing ethics programs, and providing oversight and counsel to business unit ethics officers. He would report directly to Ferguson and also to the Audit Committee of the Board of Directors. In addition to Wood, NYNEX’s initial commitment to ethics included three other managers and a staff of a dozen professionals.

Ferguson also established an Ethics Policy Committee made up of officers from various NYNEX business units. This committee served in an advisory capacity to Ferguson and Wood.

The Office of Ethics and Business Conduct (OE&BC) hit the ground running. It began by benchmarking with General Dynamics, Texas Instruments, United Technologies and other corporations that already had established ethics initiatives. From the very beginning, Wood and his staff understood the importance of three key principles that they would need to follow:

  1. Maintain the support of senior management and the Board of Directors.
  2. Integrate the ethics initiatives into day-to-day operations and business planning.
  3. Work continually to earn the trust of all employees.

With these principles in mind, the OE&BC established a list of objectives for its Ethics Process and then proceeded to implement a series of activities to address them. Since the beginning of the ethics initiative in 1990, the OE&BC has periodically surveyed managers to assess their understanding and acceptance of the ethics process; to measure improvement, if any, since 1990; and to obtain specific feedback to improve the programs. In a 1993 survey, 83% of the managers labeled the process at least "moderately effective," and the positive response was much higher if the manager had undergone ethics training or knew firsthand of an ethics investigation. Also encouraging was the finding that 90% said the NYNEX Code of Business Conduct was of use in guiding decisions and actions.

The survey also showed, however, that there was little change over the years when it came to experiencing pressure on the job to act inappropriately and to report misconduct.

In sum, though progress was made on many fronts, there still remains hesitation and mistrust of the system. Other companies have learned that this is by far the toughest obstacle to overcome. The only solution is to continue providing managers and others with firsthand experience of how the reporting and investigatory process actually works. If they come to see it as confidential, efficient and consistently fair, they are more likely to put their trust in it. One botched investigation, or one case that’s perceived to be an example of favoritism (even if it really isn’t) will set back the program months or years.

Has the program been a success?
It’s impossible to know how many scandals never occurred because NYNEX had its ethics initiatives in place. On the other hand, organizations like NYNEX have learned firsthand the price you pay when wrongdoing happens. And in the light of new increased fines under the U.S. Sentencing Guidelines, it’s prudent to build an ethics program and reduce an organization’s risk. NYNEX and others are convinced that ethics programs work for them. Wood believes, "They are a key initiative for building trust with all stakeholders, and trust translates ultimately to market share and business success."

In November 1994, the OE&BC announced that it would be soliciting comments and suggestions to update the original Code of Business Ethics. Though it was only three years old at the time, NYNEX saw the clear advantages in regularly reviewing and updating its contents. Too few organizations do this. Though nearly all large companies have an ethics code, few review it, and fewer still involve employees from throughout the company in the review process. Laws and regulations change. Ethical sensitivity evolves. Codes written as recently as five years ago may not discuss sexual harassment, work and family issues, HIV discrimination, management of derivative risk, workplace violence, or e-mail and Internet policies.

Following Wood’s retirement in the fall of 1995, the ethics process at NYNEX continues, now under the leadership of Jacquelyn Gates. Gates believes "the involvement of a wide range of employees in 1991 was a critical factor for success. In revising our standards, we again have involved close to 500 employees—from hourly workers, to subject experts, to the most senior-level managers." The review process itself, especially if it involves managers and other employees, can be a tremendously effective tool to increase the ethics buy-in. Again, NYNEX has done it right. Its process is a model for others and it is justifiably proud of its updated 1995 Code of Business Ethics.

SOURCE: This article is excerpted from the book, "The Ethical Edge—Tales of Organizations That Have Faced Moral Crises" by Dawn-Marie Driscoll, W. Michael Hoffman and Edward S. Petry. Copyright © 1995 by MasterMedia Limited. Reprinted by permission of the publisher.

Personnel Journal, June 1996, Vol. 75, No. 6, pp. 147-156.

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