How Compliance Saved Tyco

It was just a little more than a decade ago that Tyco International took its place in the business Hall of Shame, alongside such toxic corporate criminals as Enron, WorldCom, and Adelphia.

Tales of free-spending executives bleeding away at the company's bottom line filled newspapers in 2002 and 2003. CEO Dennis Kozlowski and CFO Mark Swartz were accused of pilfering millions. There was $150 million in sweetheart loans, nearly $450 million in shady, self-benefitting stock transactions, and extravagant perks for themselves and their inner circle (a $2 million birthday party and $6,000 shower curtain that became fodder for late night comedians). There were trials, multi-billion-dollar class-action suits, and jail sentences. Bankruptcy was all but assured for the company.

Today, Tyco has almost fully recovered from both its financial and reputational woes. The man who helmed that turnaround, former CEO Edward Breen, discussed the sweeping changes that saved the company during a keynote address at the Compliance Week 2013 conference last week in Washington D.C.

Breen, a former Motorola executive, joined Tyco as chairman and CEO in July 2002 and held that post until September 2012. In stark contrast to Kozlowski's legendary malfeasance, in 2009 Breen was named by the Ethisphere Institute—a think tank that advances best practices in business ethics, anti-corruption and sustainability—as one of its “100 Most Influential People in Business Ethics.”

That award was validation for a focus on compliance and ethical business practices Breen saw as necessary to save the company. For those who might take the position that such programs are costly, yet produce little in the way of return on investment, Tyco's reversal of fortune offers a worthy counterargument. As the scandal first unraveled in 2002, the blue chip company shed 80 percent of its stock price, dropping to around $7 a share. Today, its stock has rebounded back to the $40 range.

“The summer I started was total chaos,” Breen recalled. The company was sitting at the brink of bankruptcy, the stock price was in a “death spiral,” and day-by-day, “all the rats started to come out,” said Breen. The full extent of how bad things were emerged as forensic accountants excavated more and more egregious perks. For example, 32 homes were gifted to 32 different people at the company. The company had nine units in the expensive Trump Towers in New York for executive use.

To succeed, Breen first needed to gain the trust of shareholders and employees. “Trust is the secret weapon of a good business leader,” he said. “If you don't have it, you are toast.”

Save, Fix, and Grow

To save the company, and build upon the window of opportunity he had as the new sheriff in town, Breen launched a three-pronged initiative: “save, fix, and grow the company, in that order.”

Immediately, he set to work recruiting new talent. Executive bonuses, which could total $8 million or more for merely meeting minimal expectations, were zeroed out. Breen asked for the resignation of the entire board (although, in a compromise, two directors stayed on, temporarily, as advisers) and nearly 290 people were exorcised from corporate offices. According to Breen, only Rosa, the company receptionist, survived the purge.

With a clean slate and fresh faces, Breen bolstered the compliance function and demanded ethical behavior from everyone beneath him. He required integrity, candor, teamwork, accountability, and “managerial courage” as necessary traits in all employees, overshadowing traditional performance goals during employee reviews.

Pushing out the old board, Breen said, “established with regulators, investors, and employees that this was truly a different company.” A set of new performance metrics further reinforced the message that “we are not putting up with anything.” Being an enforcer, as he saw it, was just as important as being a cheerleader.

“When compliance issues arise, you need to jump on them quickly. You are always going to have issues, it's all about how you deal with them.”

—Edward Breen,

CEO,

Tyco International

Breen said he regrets not tackling one particular problem right at the start of his tenure. Eventually, it became apparent that many of Tyco's problems stemmed from its abundant, freewheeling use of third parties. There was also an institutional addiction to growth via acquisitions. “Every manager woke up every morning planning to buy a company,” he said. It was nearly impossible to keep company culture and tone consistent, and get a handle on risk, given the sprawling and fractured corporate structure.

Over time, Tyco sold off more than 200 of the companies and business units it had acquired over the years. Ultimately, the company would be split into three, industry-specific public companies (Covidien, TE Connectivity, Tyco International), and one private entity (Atkore International). Also, at Breen's command, Tyco's 64,000 third parties around the globe were reduced by 20,000.

Building Accountability

It wasn't just consolidation, however, that solved problems. Tyco created a system to manage third-party relationships in real time and evaluate them for ethical conduct and business risks.

Matthew Tanzer, Tyco's chief compliance and ethics officer, said the multi-step process overseen by his department benefitted from top-level support from Breen, the board, and the audit committee. That buy-in was crucial, he said, because the initiative, at the onset, “wasn't easy, wasn't cheap, and the business people weren't going to like it.”

The initiative entails a multi-step process. First, to improve accountability, every third-party relationship is “owned” by a Tyco employee. “If you don't have any people within the company who are held accountable for what the third parties are doing, you are not going to have any oversight and they will run amok," Tanzer said. “Before our program was in place, we had thousands of third parties and no one had accountability for them. Especially when there was a problem, everyone ran for the hills.

Before the company moves forward with any third-party relationship, sponsors must first detail a business justification for doing so. These needs will be weighed against the inherent risks.

All third parties are also required to fill out a questionnaire of basic information and sign a “compliance certification,” a one-page document that says the company will comply with laws, not pay bribes, and has no conflict of interest with Tyco. “If a third party will not sign that at the onset, its game over,” Tanzer said. “We won't use them.”

Tyco Chairman Edward Breen talks to CW 2013 attendees about Tyco's transformation.

Tyco has also developed a methodology and technology to rank the inherent risk of external partners. For example, geographic risk assessments might grant a low score to a Canadian company, but flag bigger risks  to one based in China. These risk weightings will determine what degree of due diligence is required, ranging from simple background research to the need for a boots-on-the ground, on-location investigation. “The higher the risk, the more qualification steps you have,” explained Donal Sullivan, Tyco's third-party program leader.

Once the reviews and risk assessments are complete, business leaders have the final say on whether to proceed. However, a third party cannot be paid, nor can products be shipped or received, until the compliance function adds it to an “approved” list.

TYCO'S THIRD-PARTY PROGRAM

Below is an excerpt from Tyco's presentation at Compliance Week 2013.

Third-Party Program: Compliance at Every Stage—7-Step Process for Onboarding Third Parties

1. Business Sponsorship

2. Business Justification

3. Questionnaire and Compliance Certification

4. Risk Scoring

5. Due Diligence

6. Contract Documentation

7. Training Controls

Controls—Robust Financial Controls and Auditing

Risk-Based Third-Party Qualification Requirements

Financial Controls

Governance Structure

Internal Audit

Source: Tyco.

Sullivan said that there is also a “do not engage list” that blocks the ability of anyone in the company from conducting business with a third party that the company has deemed too risky. There's “not a very large number” of these, he said, but the list is important because “these are relationships we otherwise would have blindly entered into and we may have dodged a bullet.”

Tanzer said the screening process, and the compliance-led review of contracts, initially received “a lot of resistance internally from business people” who feared that contracts would be refused, partnerships dissolved, and the business hurt.

“Fortunately it turned out that none of those concerns ever materialized,” he said. Business leaders now “don't even see this as a compliance program per se, they see this now as a business process with a compliance element.”

Expensive, but Worth It

Breen, who is still chairman of the company, says it took about three years into his tenure to feel that some of his changes were gaining traction. “It really feels good now people know we mean it,” he says of the commitment to ethics. “It doesn't happen overnight, so you can't get frustrated.  But when compliance issues arise, you need to jump on them quickly. You are always going to have issues; it's all about how you deal with them.

And, yes, Breen does admit that the compliance program he put in place is expensive. “There are certain areas you can't cheap out on—compliance, research and development, and sales,” he said. “Sometimes you just have to spend the money. I don't care if [the compliance program] costs $100 million; it saves you so much more money on other issues.”