CONTENTS
I. Introduction 3
II. The Real Reasons of GSK Corruption Controversy 5
(a) Corruption is intrinsic to the elite Chinese business circles 5
(b) The mechanisms of Internal Audit were Not Adequate 7
III. The Response of GSK to the Allegations of Corruption 8
IV. The Nature of GSK Alleged Guilt 8
V. Avoiding the Mistakes of GSK China 9
VI. Lessons Learned 10
References 12
Introduction
Doing business in China has never been an easy task. The country has extremely entangled legal framework, intense competition between the domestic and international goods producers, not to mention that this communist country has very rigorous compliance and anti-trust regulations (Wedeman, 2012). Nevertheless, many commentators view China as one of the most lucrative markets for their goods because (a) buying capacity of the Chinese citizens is comparatively high and (b) western goods have been traditionally popular in China (Rogers, Zhu & Fang, 2014). Thus, whenever a western company gets a foothold in the People’s Republic of China, high profits may be taken for granted. The most illustrative examples include Hershey with 7% of annual growth, Prada, which lost 44% of its annual earnings, but still keeps afloat, and Nestle with 11% of annual growth are among the best examples showing that doing business in China is both profitable and safe. With 1,600 locations now and another 400 in the pipeline for 2016 in China Starbucks has demonstrated that American business culture is very appealing to the Chinese community (Starbucks, 2015).
In the meantime, 2013 was marked by one of the hugest corruption controversies in the country. One of the leading British pharmaceutical companies GlaxoSmithKline was found guilty of corruption business practices in China. Among other charges, the investigators found out that starting from the first quarter of 2007 the company had funneled approximately US$ 4 billion in different grafts (Quelch & Rodrigues, 2013). The company officials used those kickbacks to exercise undue influence over the managers of stately and privately owned hospitals, private and public medical practitioners, managers of the pharmacies and other important stakeholders in the pharmaceutical segment of the market (Quelch & Rodrigues, 2013). Allegedly, the Chinese department of the firm created the network of more than 750 consulting and travel companies used to launder money for the corruption purposes (Rogers, Zhu & Fang, 2014).
As a result of the investigation, the Chinese authorities have arrested four high-ranked officials of the firm and their eighteen advisors. The court has found the company guilty of corruption, and imposed a fine in the amount of US$ 490 million. The head of the Chinese operations in GB Mark Reilly was dismissed from his positions and received a three-year suspended prison sentence in the People’s Republic of China (Queltch & Rodrigues, 2013).
Considering the impact inflicted to the company reputations and operations in China, several essential lessons may be elicited from this case. Thus, the primary objectives of this report are:
Firstly, this report seeks to understand how GSK, as a company with one of the most robust policies on ethics found itself in such a predicament. In particular, this part of the paper analyzes different internal and external reasons, which, together combined, resulted in this corruption scandal, and attempts to identify the most important one.
Secondly, this report evaluates the effectiveness of GSK’s response to the allegations made by the investigators. In particular, the paper investigates whether the response activities were sufficient to protect company reputation and assets, or further actions were necessary.
Thirdly, the research explains that the action brought by the Chinese authorities was completely justified, and the GSK should not argue that ‘everyone does it, but we were the unfortunate ones, who had been caught red-handed”.
The fourth part of the paper proposes a course of action to avoid similar situations while doing business in China, and explains how the company may make the policies prescribed by the US Foreign Corruption Practices Act harmonious with the traditional expectations of bribes from the local officials.
The final part of the paper summarizes the main findings of this research, and explains what strategic and operational lessons can be derived from this analysis.
The Real Reasons of GSK Corruption Controversy
Despite the fact that GlaxoSmithKline has one of the most sophisticated systems of transnational internal audit, the results of the 2012 year internal investigation in China revealed that company performance in China was fully consistent with the internal ethical policies, as well as with the applicable UK, US, international and Chinese legislation. Yet, in less than a year, the company was accused of making illegal payments to the Chinese medical practitioners and healthcare managers billions of dollars. Thus, it is important to understand not only why this situation happened, but how the team of internal auditors has failed to figure out the real state of events in China.
In the light of the impeccable reputation of the firm on the European and the United States market, it is reasonable to believe that the top-management was neither informed of, not it approved such operations (Daniels, Radebaugh & Sullivan, 2015). Thus, assuming the fact that no one in the United Kingdom office was aware of the dubious company operations in China, it is inferable that the two primary reasons of this corruption scandal were (a) ingrained corruption among the Chinese political and business elite and (b) inadequate mechanisms of internal control and auditing.
Internal Factors
Corruption is inherent to the Chinese Culture
As a result of the raid made by the Chinese police on June 27, 2013, four high-ranked officials of GSK were arrested. They were:
Liang Hong – the vice-president and operations manager
Zhang Guowei – human resources supervisor
Zhao Hongyan – supervisor of the legal affairs
Huang Hong – general manager of business development (Quelch & Rodrigues, 2013)
Thus, all four most senior executive officers, who plotted the scheme, were the Chinese nationals. The research shows that the people with Chinese origin have much higher propensity to giving and receiving bribes than their European counterparts (Cohen, 2012). Despite the fact that in 2012 the government of China announced a large-scale anti-corruption campaign, the company remains on beneath the 100 least corruption states in the world, according to the recent corruption report of Transparency International (Wedeman, 2012).
Corruption in China derives its roots in Confucian philosophy, which articulates that all relations between the humans should be based on mutual propriety and trust. Thus, for quite a long period, financial relations in the public sector were not institutionalized, and all attempts to regulate them were faced with fierce resistance. Even when the communist regime was established in China, obliterating corruption happened to be an impossible task (Wedeman, 2012). The community is just accustomed to it, and even prescribing death penalty for this crime was a vain attempt.
Moreover, the attitudes towards corruption in China and in the Western world are dramatically different. Specifically, in a typical western community a corporate official will use bribe as the solution of last resort under extreme circumstances. A typical Western business practitioner will exhaust all other means before referring to bribing. He will regard his act as disreputable and shameful, and will do his best to hide it from the public (Daniels, Radebaugh & Sullivan, 2015).
In contrast, a corporate official in China will use bribe as the number one solution to deal with a difficult situation. In 2006, the sales of GSK in China dropped on 5%. Thus, the Chinese management should somehow restore confidence of the UK headquarters by increasing profits. Acting in a ‘westernized’ way – increasing advertising budgets, bringing creativity and enhancing quality characteristics of the product by investing in R&D activities was a precarious and risky alternative. The fact that the Chinese managers decided to employ a locally traditional and the most effective approach is therefore not surprising.
The mechanisms of Internal Audit were Not Adequate to Reveal Corruption Schemes in the Organization
Legally, GSK China was a separate legal entity from the GSK in the UK. Thus, all corporate governance structures of the firm in China have broad autonomy in terms of operational and strategic management issues. Having appointed the locals because they were supposed to know the market better than their British colleagues did, the founders of GSK China allowed the top executives to appoint whomever they liked on the middle and junior positions. This system eventually resulted in a ‘poisonous tree’ for GSK in China, when almost everyone in the sales department was aware of these questionable practices, but no one respected company ethics and contacted the headquarters in the UK (just one call took place during the five years).
English headquarters confined their intervention to annual inspections, which perfunctorily examined the operations in China. The auditors failed to make an in-depth analysis of the company marketing approaches in China, as well as all their activities were more focused on analyzing business-related issues only. Ethical and local legal concerns were totally neglected.
External Factors
The Chinese society is highly susceptible to corruption. As discussed in the previous sections of this research, many health practitioners in the country work for the government, and are seriously underpaid. Thus, a significant percentage of them demand unlawful payments from the companies to prescribe the drugs to the patients, even if this medication was the best medical alternative for the patient.
The Response of GSK to the Allegations of Corruption
The natural response of GSK was the launch of international investigation of the matter (the findings were later given to the Chinese investigators and led to another series of arrests), publishing a letter of apology on the company web-site, dismissing Mark Reilly in 2014 from his post, and hiring new management for the Chinese branch.
Although such measures were reasonable and justified under those circumstances, the UK management had multiple other options to handle the problem, mitigate risks and minimize the impacts.
As such, if I were Mark Reilly, would start immediate legal action, questions the results of investigation. In particular, the GSK has one the best legal teams in the world (Cohen, 2012). It could have easily appeal the results of the disciovery, and attempt ‘moving away’ from the compromised executives. It could have demonstrated that those executives flagrantly and purposefully exceeded their mandate and should be criminally persecuted, but the company has nothing to do with that and should be exculpated.
The Nature of GSK Alleged Guilt
Although the GSK was the only company caught by the Chinese authorities in 2013, while many other blue-chip international corporations use corruption as a marketing and management tool, it does not signify that the firm was unfortunate. In other words, the fact that many other companies, including GSK competitors, resort to bribing in order to win contracts does not justify unethical conduct of the company (Jenner & Block, 2015). Many commentators agreed on the fact that there is no legitimate cause to justify corruption under any circumstances, however difficult the business climate of a particular country may be (Cohen, 2012).
Yet, it is important to underscore that corruption is a popular practice in the developing countries, and China is not an exception in this context. The practice demonstrates that in the most profitable and therefore the most competitive industries in China are infected with endemic and incurable corruption (Wedeman, 2012). Doing business there in ‘a clean way’ is not only unprofitable, but in some cases virtually impossible. Therefore, the charges against GSK China should be construed in the light of these realities of the Chinese economy. The management and Mark Reilly in particular, have done their best to keep the company successful there. Provided that the company had used all legitimate methods of competition there, the managers were forced to use the marketing means of questionable probity. Feeling pressed by the head office in London, the Chinese branch eventually complied with its most fundamental corporate duty – to stay profitable. After all, some commentators argue that it is always better to pay fines, then to lose market share (Wedeman, 2012). Moreover, the consumers in pharmaceutical sector rarely focus on reputational issues while making their choices. Therefore, in a purely business purview, the GSK China should not be held responsible at all.
Considering the arguments outlined above, it can be concluded that there is not guilty of the GSK officials in China. The managers acted in accordance with the established business practice, where corruption is rampant. In the present scenario, it is highly possible that they did not have any other alternative to keep the company profitable, but to start giving kickbacks. Thus, the activities of GSK in China are entirely justified.
Avoiding the Mistakes of GSK China
The research demonstrates that despite serious punishments under the Chinese penal code, corruption remains imprescriptible element of the Chinese business environment (Rogers, Radebaugh & Sullivan, 2015). Therefore, in order to stay competitive in the Chinese market, the company has to reconcile its marketing methods with the provisions of the US Foreign Corrupt Practices Act and the local legislation.
The first step in this regard is to conduct a thorough analysis of the market segment, in which the company intends to be engaged in China. This study should analyze the scope of graft there, and answer one research question: is it possible to launch an effective marketing campaign, and find distribution channels without giving bribes to the local officials.
If the answer is negative, but the economic prospects of doing business there are majestic, the company may disguise its questionable practices. At the same time, this operation requires a very careful approach, because reputational and financial risks are proportional to the reaped profits. The company should seek advice of the best local lawyers to understand how the bribes may be masqueraded as legitimate payments, e.g. by sending money to the offshore accounts, or to friends or relatives. Yet, the company should take into consideration that this approach runs afoul of the Foreign Corrupt Practices Act, and if the USA or local investigators find this out, the local and the USA law enforcement machines will turn against the company, and the fines will be inevitable.
Lessons Learned
The corruption case of GSK China is a cumulative deposit of the best practices guidelines on how to do business in a corrupted, but profitable Chinese business environment. A company willing to gain strong foothold in China, and remain compliant with the law, should obey the following rules:
If the company is headquartered overseas, regular inspections without prior notifications are necessary. The firm should train its main office lawyers on local legislation to make these audits, or hire an international auditing company with impeccable reputation, such as PWC or DLA Piper.
Cooperating with the local officials is the foundation of long-term growth in China. The local authorities are very cooperative to foreign companies, and continual cooperation is a useful preemptive strategy.
The company should be exceptionally selective in hiring local top-management and sales personnel. Their prior records should be carefully checked, and the candidates with predilection for corruption should be dismissed.
Finally, if the firm concludes that it is impossible to conduct business in China without paying bribes, while putting off the project is impossible, the firm should carefully re-consider its decision to enter the Chinese market. If the decision cannot be postponed, a team of advisors, skilled in disguising graft operations should be hired to assist the marketers.
Provided that all these guidelines are diligently followed, the company is likely to operate in China without facing any serious obstacles and contravening the law.
Conclusions
Furthermore, the response of GSK to the activities of the government was hardly the most effective strategy in this regard. While the company had many opportunities to challenge these decisions of the government, the lawyers of GSK failed to bring a single lawsuit challenging actions of the authorities. If timely and comprehensive responsive action was taken, the company would have seriously mitigated the impact of investigation.
Lastly, although the business climate in China is slowly, but confidently improving. The number of bribes taken and given is decreasing annually. Therefore, although the case of GSK led to far-reaching repercussions on international business in China, foreign companies should not opt out of marketing their products in this country.
References
Cohen, N. (2012). Informal payments for healthcare – The phenomenon and its context. Journal of Health Economics, Policy and Law, 7 (3): 285–308.
Daniels, J.D., Radebaugh, L.H. and Sullivan, D.P. (2015). International business: environments and operations. 15th ed. New Jersey: Pearson Prentice Hall
Jenner & Block, LLP. Foreign Corrupt Practices Act (FCPA) Business Guide 2015, available at: https://jenner.com/system/assets/publications/13836/original/FCPABusinessGuideWeb.pdf
Quelch, J. A. & Rodrigues, M. L. (2013). GlaxoSmithKline in China, available at https://cb.hbsp.harvard.edu/cbmp/access/42502182
Rogers, M., Zhu, B. C. & Fang, J. (2014). GSK: A case study. China Law & Practice, available at: http://ezproxy.umuc.edu/login?url=http://search.proquest.com/docview/1559934804?accountid=14580
Starbucks (2015). Starbucks 2014 Annual Report.
Wedeman, A. (2012). Double Paradox. Rapid Growth and Rising Corruption in China. Cornell University Press, Ithaca, New York State.
