Application: The Strategic Planning Process Revisited

The Limits of Strategic Rationality: Ethics,

Enterprise Risk Management,

and Governance David Weitzner

James Darroch

ABSTRACT. This article explores the links between

strategic goals, enterprise risk management, and ethics. We

offer a typology of managerial attitudes toward strategic

goals and rationality and explore the interaction between

strategic and ethical decision making. In so doing, we offer

a practical framework for managers to approach ethical

dilemmas in the highly complex, volatile, and risky

economy that we currently find ourselves in.

KEY WORDS: decision-making, enterprise risk man-

agement, ethics, strategic management

Introduction

There has been considerable debate among both

academics and managers concerning the purpose or

goals of the firm which contrast the more narrow

economic demands of shareholders to maximize the

value of the firm with meeting demands for ethical

behavior and/or the public good, often discussed in

terms of stakeholders. There has also emerged an

intriguing middle ground that demonstrates how

managing for the public good can lead to enhanced

shareholder value. Paradoxically, we believe that all

the above accurately reflects different aspects of

modern managerial reality and attitudes. 1

We believe

that while there is much discussion about the issues

and conflicts, there has been less effort put into con-

sidering the meta-context in which the debate is

taking place. This is unfortunate because it has the

effect of forcing a complex debate into a binary con-

text which is far too limiting to be of theoretical

interest to academics or pragmatic interest to practi-

tioners. We will argue that basic managerial decisions

force a consideration of ethical values and in many

cases cannot be resolved without explicitly adopting

an ethical stance.

Greater attention needs to be paid to the issues

of strategic goals, risk assessments related to stake-

holders, boundaries between public and private

concerns, and managerial decisions. More specifically,

researchers need to explore under what circumstances

an ethically sound and/or socially conscious strategy

might deliver superior economic results and under

what circumstances are ethical or social goals in

conflict with economic rationality. In our view, this

fundamentally leads to an understanding of the atti-

tudes toward goals and rationality. The issues facing

modern managers are highly complex, volatile, and

risky. 2

We believe that most practicing managers are

all too aware of issues of corporate social responsibility

(CSR) and ethics, but have not received sufficient

guidance from theoreticians on how to discuss or

explore the issues, let alone solve them. This article

explores the links between strategic goals, enterprise

risk management, and ethics. We offer a typology of

managerial attitudes toward strategic goals and ratio-

nality and explore the interaction between strategic

and ethical decision making. In so doing, we offer a

practical framework for managers to approach ethical

dilemmas.

A typology of managerial attitudes toward

ethical and CSR issues

In the academic literature, there is considerable

discussion over the role of managers in increasing

shareholder value, and there can be no doubt that

most managers in public firms feel considerable

pressure to increase shareholder value. 3

Recent

Journal of Business Ethics (2010) 92:361–372 � Springer 2009 DOI 10.1007/s10551-009-0159-0

corporate scandals ranging from Enron to Parmalat

have changed the expectations of not only share-

holders, but also key stakeholders ranging from

public policy makers to (potential) customers and

suppliers. Clearly, all firms living in the Sarbanes-

Oxley (SOX) world confront the new realities, but

not all have recognized the strategic importance of

the shift in expectations and the reasons behind the

shift. In order to understand the realities facing

organizations – both public and private – we need to

understand the linkage between goals and rationality

as shown in Figure 1.

We would like to tie these attitudes to how both

shareholders and stakeholders can assess ex ante the

reaction of these firms to challenging situations. We

will start our discussion with the relatively classic

position of Cell 1, and then move to Cell 2 to fur-

ther our analysis of the implications for the single

goal firm or organization. We will then move on to

a more complex consideration of the world of Cell 3

in which we will examine more deeply the align-

ment of strategy and ethics in which ethics pays

before elaborating how a process of enterprise risk

management is needed to implement this strategy.

We will then move on to how the limitations of

economic rationality is revealed by the practice of

ERM and set the stage for managing in Cell 4.

Cell 1 is the classic financial economic position

recently presented by Sundaram and Inkpen. 4

This

position has a long history and has grounded a great

deal of important academic work with its stress on

the singular goal of the firm matched with the power

of a singular economic rationality. As with many

powerful, albeit simplistic, frameworks it also leaves

us problems in terms of practicalities, such as

‘‘externalities.’’ The classic response to the issue of

externalities which may be closely linked to CSR in

areas such as emissions and climate change is to

define rigidly the boundaries between the responsi-

bilities of civil society and those of the firm. Milton

Friedman 5

perhaps captured this best. However, it

should be noted that the corollary of Friedman’s

position is that social decisions are too complex to be

left to businesses and that it is the role of civil society

to establish the conditions under which businesses

operate. This position has a certain pragmatic appeal

because it lets capitalists focus upon what they do

best while still achieving a just society. While we

recognize that there are practical problems remain-

ing with the power of firms to impact civil society,

dealing with this important yet very complex issue

needs to be left for another time.

Cell 2 is the realm of the Advocate who has a

clearly articulated position on a specific set of issues.

One could think the Body Shop or Stefan Marbury’s

Starbury basketball shoes which retail for $14.95

compared to $250.00 for some Nike shoes. While

this position may also be profitable, the strategic

logic is not driven by economics, but rather some

other goal. The stance taken by these firms forces

them to recognize the existence, if not the legiti-

macy of competing rationalities and goals. This

would generally be tied to a niche or differentiated

strategy where the firm’s values can be readily

identified by prospective market segments. One

could equate this position with ethical positions

driven by metaphysical, religious, or ideological

concerns. There are no doubts here only certainty.

The tie to a niche strategy immediately leads us to an

issue with this position. Since there are many pos-

sible niche strategies, clearly the values are not uni-

versal and will find themselves in conflict with

someone, somewhere, some time. This cell can lead

to an interesting dialog with Cell 1 because while

there may be issues with profit maximization, the

potential for significant profits exist and because of

the clarity (transparency) in communicating the

strategic vision the firm may find willing share-

holders, as the growth of ethical funds clearly dem-

onstrates. On the other hand, in some cases, the

refusal to maximize may mean that the firm or

G oa

ls

Multiple

3. Economic Rationalist – “Ethics Pays”

4. “Good Citizen” - Undecidable

Singular 1. Shareholder value

Maximization 2. Advocate

Singular (Economic) Multiple

Rationality

Figure 1. Managerial attitudes toward goals and ratio-

nality.

362 David Weitzner and James Darroch

organization will seek niche investors, e.g., family or

private equity, to accomplish its goals. If this is the

case, then we should be concerned about the gen-

eralizability of managerial behavior presented by

researchers in the tradition of Cell 1.

Cell 3 presents the rationalist who recognizes the

existence of multiple goals related to CSR and

ethics, but holds that a more enlightened or inclusive

economic calculation or rationality reconciles strat-

egy, profit maximization, CSR, and ethics. The

rationalist is a more sophisticated or worldly version

of Cell 1 and has been the focus of those in the

‘‘ethics pays’’ camp, e.g., Husted and Salazar, Porter,

and Davis. 6

All organizations are based upon a value

proposition which attracts customers and employees

and implicit in this value proposition is a stance

toward ethics. ERM is a necessary process for firms

trying to pursue this strategy since if the strategy

maximizes value, then the risk return structure of the

strategy needs to be assessed. That is the risks need to

be identified, measured, and priced. For that reason,

let us turn to the process of ERM.

Strategy, enterprise risk management

(ERM), governance, and ethics

ERM as a process of stakeholder management has

not received adequate consideration in recent dis-

cussions of the goals of the firm. Assessing the

performance of firms on a risk-adjusted basis has

primarily focused upon Bowman’s risk-return para-

dox. 7

While in the past, there may have been an

attitude that shareholders can diversify away risk,

recent corporate scandals and collapses have height-

ened the importance for sell-side analysts of being

able to assess the risk management capabilities of the

firm. 8

There can be no question that managers are

concerned with managing both the volatility of

earnings and value of their firms, if for no other

reason than to maximize their own stock options.

This has placed increased pressures on firms to dis-

close their risk appetites and profiles. Appropriate

disclosure is neither possible nor credible without

the appropriate ERM functions being performed

within the company. Disclosure also helps to alle-

viate, but clearly not resolve, another ethical prob-

lem raised by the combination of the single

economic goal and hegemonic economic rationality,

the harm created to employees, suppliers, customers,

and others who cannot diversify their risks. At least

with better information, those stakeholders can

make informed decisions.

The coupling of ERM with its holistic approach

to aggregating and integrating risks has become a

necessary complement to the strategic planning

process and the one that is the most appropriate for

calculating the risk/return structure of strategic

decisions. At the risk of caricature, if we take strategy

formulation to have the domain of identifying the

entrepreneurial growth opportunities for the firm,

we can then take enterprise risk management as the

discipline which is concerned with properly pricing

the risk associated with those entrepreneurial activ-

ities. While we recognize that modern risk managers

are well aware of the art of their craft as well as the

science, 9

for the moment let us stay with the science

within the bounds of financial economic rationality.

It is important to clarify our use of ‘‘risk,’’ given

its varied meanings. ‘‘Risk’’ is ‘‘variation from

the expected outcome over time’’ and ERM as

‘‘a decision-making process that manages variation

from Company objectives.’’ The likelihoods and

consequences of this ‘‘variability’’ are not only the

traditional losses but also the potential favorable

outcomes and opportunities. 10

We would emphasize

the proactive nature of ERM; ERM is fundamen-

tally about preparing for the future more than cre-

ating a crisis response capability. In a business sense,

ERM is about pricing products in such a way to

protect the company from expected losses while

having a capital structure that takes into account

unexpected losses that drive the Costs of Financial

Distress (COFD) without unduly punishing ROE.

While this sounds straightforward in theory, the

challenges facing CEOs, CFOs, and CROs is to find

the balance point. Markets will not allow you to

price in greater expected losses than your competi-

tors and will punish firms that seek to hold excess

capital in reserve against management mistakes.

Competitive dynamics and capital efficiency render

the appropriate pricing for risking a challenging

proposition for those firms seeking to either address

strategic issues with ethical dimensions or those who

give primacy to ethical goal(s) in their strategy.

Shareholders and stakeholders are brought together

in interesting ways by the interaction of strategy and

risk. Modern risk management with its emphasis upon

363Limits of Rationality

identifying risk drivers has come to recognize the

importance of stakeholders. 11

The completely rational

risk manager is well aware of the risks that can be

identified, analyzed, and priced through a more

detailed consideration of stakeholders. Unlike many

financial risks, not all risks associated with stakeholders

are not random and hence create the opportunity for

learning and competitive advantage. 12

Just as firms

need to know about stakeholders, clearly shareholders

are also challenged with understanding how CEOs

are identifying and managing the risks associated

with their business. This brings us to the importance of

disclosure policy in evaluating the creation of share-

holder value. Disclosure provides the information that

allows shareholders to assess the progress of CEOs to

create shareholder returns in a risk-adjusted world

and creates the opportunity for dialogs with stake-

holders.

Without even considering the more abstract

conceptual dimensions associated with the discus-

sions, how is it possible to discuss the level of

shareholder value creation without an understanding

of the risks associated with it? Fallout from recent

corporate scandals includes not only the demand for

higher ethical standards from companies, but also

greater skepticism and increased demands for the

information necessary to assess behavior. Even as

legislators may now be backing off on Sarbanes-

Oxley (SOX), the political imperative to restore

public confidence in the markets and restore legiti-

macy to firms should not be forgotten. Conse-

quently, disclosure policies have become more

important and hence can provide the opportunity to

create competitive advantage or become a serious

threat to the future of a company. 13

Ultimately, the

degree of credibility that a company’s disclosure will

have will come down to how credible its statements

are evaluated by different publics.

Some key activities of ERM include policy for-

mulation, integration and aggregation, capital allo-

cation, limit setting, and performance evaluation. Let

us briefly discuss the strategic importance of each.

Policy formulation sets the appropriate standards and

procedures for dealing with the range of strategic

and operational issues facing the firm. There is a

strong centralizing force from ERM. Risk managers

push for ex ante consideration of all external

and internal issues that drive the risk profile of the

firm. ERM aims at being both comprehensive and

holistic. The goal is to identify all the risks that face

the firm and just as importantly how these risks

interact with one another. Recent attention to

reputational risk makes clear how broad, strategic,

and sometimes vague these risks are. As part of the

process of managing to increase shareholder value,

risk managers are involved in the capital allocation

process to ensure that the individual parts of the

business are profitable in a risk-adjusted sense. While

most strategists would view growth as good in and of

itself, the risk perspective is one that stresses balance

in a holistic perspective. The example of Nestle

selling formula in Africa helps to illustrate. In gen-

eral, there seemed to be few problems with selling

formula in the developed world where educational

and infrastructure conditions made the product safe,

if not valuable. However, growing sales in markets

with different economic characteristics without

appropriate safeguards was clearly problematic. This

aspect of ERM demonstrates the close connection of

ERM to both strategy formulation and implemen-

tation. It also demonstrates the non-linear nature of

risk because what Nestle put at risk was not the

incremental sales in Africa, but the entire operation

as home markets responded negatively to Nestle’s

approach to growth in emerging markets. Perfor-

mance evaluation, on the other hand, leads us to

understand how central ERM is to the modern firm.

It is virtually impossible to manage risk without

employing the appropriate assessment tools and

compensation techniques to reward employees on a

risk-adjusted basis. Ultimately, many decisions

affecting risk are decentralized. In fact, decentralized

risk identification leads to a more robust ERM

capability. Leading-edge ERM firms do not cen-

tralize all decision making, but rather seek to balance

the forces of centralization and decentralization with

limit setting and monitoring to allow for both effi-

cient and effective decision making.

Strategy, ethics, and stakeholder alignment

in the rational world

Many observers have commented upon the happy

result when ethical and socially aware corporate

strategies lead to superior strategic performance – the

world where the Economic Rationalist strategist is

364 David Weitzner and James Darroch

both ethical and socially responsible. Figure 2 pro-

vides a matrix presenting alternatives as to how firms

should act in ethically charged situations depending

upon whether the proposed course of action is in

alignment with their key stakeholders. For the

moment, we are only concerned with situations; we

are not concerned with prioritizing stakeholders or

about conflicts with less valued stakeholders.

Cell 4 is where there is no conflict between doing

what is good, what is strategic, and what maximizes

shareholder value. While there is a vast strategic

difference between whether the action is reactive or

proactive, the outcome is a clear win for the firm.

This may be Unilever in Indonesia or in a more

developed market, HP actively campaigning to

promote take back and recycling laws for the com-

puter/home electronics industry. Not only is this a

good thing in and of itself, but it also creates com-

petitive advantage for HP over rivals whose value and

logistic chains are not as well constructed to deliver in

this dimension. 14

If the world always looked like Cell

4, the ethical or CSR conflicts facing business would

not be as pressing and in fact would create as many

opportunities as threats. The superior strategist would

shape the markets based upon solid information in

ways that were socially and ethically desirable. This is

the cell in which the actions of the Economic

Rationalist, the Advocate, and the Shareholder-

Value Maximizer may coincide. It is ideally the

world of the Good Citizen whose strategic com-

mitments are unfettered by ideological commitment

or doubts about the complexity of the future. This

cell is the world of the visionary and those committed

to disruptive change: the fuel cell maker Ballard, not

Toyota the hybrid maker.

However, it is unclear to us how many situations

truly resemble Cell 4. Cell 4 provides the dream

situation for the economics-based strategist – the

risks are identifiable, the costs are calculable, and the

rewards greatly exceed the risks. This is the market

situation that allows for extraordinary profits. While

we dream of this situation, our suspicion is that the

actual situation facing managers is more likely to be

Cell 3. In this cell, we are trying to capture the firms

that consciously develop a calculated strategy basing

competitive advantage upon a superior ethical or

CSR approach and accept that this approach will

resonate with some market segments and impose

costs that will limit the potential market share. Here,

we might consider a restaurant that freely chooses to

prohibit smoking to attract customers that value this.

If this is in line with general social moves, this move

could easily pay off big and render it a Cell 4 out-

come. Our point is that we cannot envision a point

that commonly offers such high returns in a risk-

adjusted sense that would go unnoticed by most

competitors. Clearly, it is the actions of firms that see

the opportunities and close these market imperfec-

tions, but our suspicion is that they are far fewer and

rarer than we would like or hope.

Cell 3 is also where the firm makes a clear choice

to offer a value proposition in which it believes but

one that leads to a product that will have features that

make it less desirable to the broad market. One might

think about Volvo’s long-standing commitment to

safety and how safety features may add to the cost of

production, complexity of maintenance, and even an

unattractive skin. For Volvo, insofar as safety is the

dominant concern of an ethical car manufacturer,

then safety concerns must dominate aesthetic con-

cerns. This is not to say that aesthetic concerns are

not important to Volvo, but rather to say that if a

conflict exists, the safety concern will dominate.

Over time, if the superiority of these features

becomes apparent to the mass market (think of

Suburu’s advertisements featuring 4 wheel-drive),

then the market will demand the feature and the firm

will find itself well positioned for the happy world of

Cell 4. In general, we believe that this is a more

realistic strategic description of the way to achieve a

leadership position, as the firm builds the capabilities

and competencies needed to transform the market.

The world of Cell 2 is fairly straightforward in a

world of strategic rationalists. The action may simply

E th

ic al

S it

u at

io n

Act

3. Price of Differentiation

4. Responding to/Shaping the Market

Don’t Act

1. Waiting For External Push

2. Missed Opportunity

No Yes

Aligned with Key Stakeholders

Figure 2. Strategic and ethical situations.

365Limits of Rationality

be outside what the strategy has set as its risk

parameters. Or, the inaction may result from either

inadequately understanding the potential returns

from the situation or assessing the riskiness of the

action as too high, that is, a strategic error. In fairness

to these firms, it should be clear that the risk facing

different firms is not the same as different compe-

tencies and risk capabilities alter not only the per-

ception, but also the reality of risk. 15

This situation

may arise because the firm is out of touch with its

environment and is headed for failure.

Cell 1 in some respects may resemble Cell 2,

except that there is no strategic urgency and there

may be clear conflicts for either the Advocate or the

Economic Rationalist. Unfortunately, the timetable

that determines urgency is generally not under the

control of the firm. The firm is putting itself at risk as

it seeks to buy time and wait for external events to

clarify. In general, we see this as a reactive position

that may be rooted in causes ranging from perfectly

legitimate concerns to lack of decisiveness. We

believe that managers must remain aware of these

situations and monitor them to be aware of when

the situation morphs into Cell 2 where action be-

comes imperative. An obvious strategic tactic here is

to employ real options to manage the risk return

situation.

Strategy, ethics, and stakeholder alignment

in the real world

The above section describes the world where the

strategist can clearly calculate the risk and return

of specific actions. Since March and Simon, it is clear

that this is not the real world where managers

have bounded rationality and ‘‘satisfice’’ rather than

maximize. 16

We would like to make two points here

before moving on. First, risk managers recognize the

limitations to their approaches and hence make

contingency plans for the unexpected. While they

are highly rational, they understand that the quest for

completeness would be an impossibility – this

despite rigorously applying stress testing and scenario

planning to come as close as is pragmatically possible.

Consequently, risk managers try to anticipate the

consequences of their limitations and put in con-

tingency plans, business recovery plans, etc., to limit

the adverse affects of the ‘‘unexpected.’’ We also

wonder if managers schooled to understand that they

can only ‘‘satisfice’’ rather than ‘‘maximize’’ might

find themselves falling even further from the frontier

than March and Simon anticipated. As theory makes

explicit what was once implicit, researchers need to

be cognizant of how behavior might change.

We just explored the situation where the rational

decision maker simply cannot get sufficient infor-

mation to make a decision and believe that key

drivers of the uncertainty will clarify with time.

Real-options strategy provides a robust strategic tool

to manage in this situation. Now we want to address

the situation where a rational decision is impossible

because a single rational decision criterion does not

exist and in fact the criteria are in conflict – this is

the world of Cell 4 in Figure 1. This is very different

from the limitations to rationality discussed by

March and Simon. We would like to situate this in

the very old tradition of logical sophisms and para-

doxes that emerge when rationality is pushed to the

extreme. Buridan’s ass is the entirely rational donkey

that is placed equidistant between two identical bales

of hay. 17

Given the donkey’s ultimate commitment

to the value of rational thought, he/she is precluded

from making a decision – the classis analysis paralysis

– and ultimately starves to death although it is clearly

in his interests to eat. While inaction may be the

result of timidity, lack of decisiveness, etc., we also

need to be aware of the dangers of purely rational

thought when action is demanded. While the situ-

ation demands action, pure rationality alone cannot

always provide the criterion. The donkey that

‘‘irrationally’’ attaches an additional value – survival

– is the one that survives and prospers. We now

return to Figure 2, but accept that there is an

imperative to act, but a decision cannot be reached

on purely rational grounds.

Let us start with Cell 4 again and reconsider HP

and its CSR campaign but consider that the infor-

mation needed to calculate the risk and return

structure is not available, although the opportunity

has been clearly identified. In order to make this

more realistic, let us add that the key focus here is on

sustainable competitive advantage and that HP

realizes that its actions will be copied by its com-

petitors in fairly rapid fashion and may ultimately

lead to further demands that may increase HP’s costs

and lower margins. The Economic Rationalist

will probably now make a different decision as

366 David Weitzner and James Darroch

uncertainty raises the riskiness, while competitive

response reduces the returns. However, the Good

Citizen and the Advocate will pursue this course

because the decision is driven by values, not by

calculation. These strategists clearly focus on the

long term and recognize that ultimately the reputa-

tion of the firm that promotes ethics and CSR will

eventually be challenged to make decisions that are

costly at least in the near term.

The consideration of Cell 3 does not change

much because the focus here was on firms that were

value driven. What does change is that the degree of

uncertainty makes it impossible for the firms to

calculate whether the strategy is viable. 18

The only

firms that benefit long term from differentiation

strategy based upon values are the ones that clearly

hold to those values. The important lesson from

Johnson & Johnson and the Tylenol crisis was that

consumers believed that Johnson & Johnson acted

out of principle, not because they had calculated the

best course of action. 19

In fact, if our presentation of

the situation is correct, firms that act out of conve-

nience on ethical and CSR issues face significant

reputational risk when they are confronted with

similar situations with unattractive payoffs. If the

strategy is to be based upon credible actions, then the

firm must be careful how it presents its strategy.

Clearly, if the firm presents itself as opportunity

driven to meet specific market demands, it would

not face the same reputational issues. However, nor

would it harvest much wanted positive publicity.

Let us return to the question that the skeptical

consumer can ask of Volvo. Does Volvo value safety

as the paramount value or does it become secondary

to manufacturing an affordable car? Pragmatically,

we realize that there has to be a trade-off, and we

believe that this takes us into the realm of intent.

Does Volvo consistently try to make the safest pos-

sible car within pragmatically determined parameters

or does it seek to exploit higher profitability from its

positioning as would be suggested in the normal

strategy of differentiation? The perception of Volvo

in the market place as either an ethically driven

safety conscious company or one that is superior in

recognizing and calculating the risk/return possibil-

ities from an unserved market’s demands for safer

cars will be an important determinant of how its

decisions are evaluated by different stakeholders.

While we may applaud companies profiting from

‘‘smart’’ strategies, are they perceived as ethical

companies or smart business people? Does it matter?

We contend that firms that base their strategy upon

values have to consciously articulate what issues they

are compelled to comment upon. Volvo’s stance of

safety and CSR would seem to compel it to have a

position on all auto safety issues and many green

ones. The question then emerges how broad is the

scope of the green issues that need to be publicly

addressed. For example, is it imperative to embrace

standards beyond Kyoto? Is it imperative to become

involved in partisan politics not only in the home

country but also in areas where you sell your

product? Once you have crossed the line into areas

of public policy, what criteria determine the

boundaries between legitimate areas of concern and

those that can be excluded.

In this context, Wal-Mart is an extremely inter-

esting company. As the world’s largest retailer and

the largest employer in the US, it seems to have

recently accepted that it must play a role in certain

public debates, in particular, the environment and

health care. Wal-Mart has recently embraced the

green challenge with respect to packaging and is

working with or demanding that its suppliers adapt

new approaches in line with a greener strategy. 20

Perhaps more interesting is the role that Wal-Mart is

playing in the health care debate in the US. 21

As one

of the US’s largest employers Wal-Mart has been

subjected to significant levels of criticism for its

approach to health care, especially by the Service

Employees International Union for its compensation

and benefits policies. Recently, however, Wal-Mart

has joined with the Union in calling for affordable

health care for all Americans by 2012. Wal-Mart’s

CEO. H. Lee Scott entrance into the debate and his

position is extremely interesting: ‘‘Our current

system hurts America’s competitiveness and leaves

too many people uninsured. We put aside dis-

agreements to move this debate forward’’ 22

The real

question here is what is the shape of the debate – or

who is responsible for which aspects of health care,

the private sector or the public sector. Perhaps, more

correctly, what is the balance point between public

and private responsibility. There is an intriguing

dynamic to this debate to which we will return

later – the fundamental point is that while there is

logic on both sides about what should be done,

Wal-Mart is compelled to act and not the least

367Limits of Rationality

because of charges leveled against it. George Miller

(D-CA) issued a report that claimed the following:

‘‘one 200-person Wal-Mart store may result in a cost

to federal taxpayers of $420,750 per year – about

$2,103 per employee.’’ 23

This leads us into a discussion of the dynamics of

Cells 1 and 2. The health care issue is a challenging

one because all agree that there is a problem, but the

question is who is responsible. For Wal-Mart, the

stakes are high, and it does not want to be in Cell 1

where an external push will force it to provide health

care to its employees. If ultimately, it is decided that

this is and should remain a private sector issue, then

Wal-Mart may have missed an opportunity to lead

the way for the private sector. The question for Wal-

Mart is what will be the effect on future store

locations, ability to hire the best employees, and

possibly intangibles around its reputations as a leader.

Wal-Mart clearly has stressed its leadership position

and now that it has grown to the size it has, has

it inadvertently inherited responsibilities beyond

what its original business strategy considered? The

demands from the public make clear that in the

minds of some stakeholders it has. The question for

Wal-Mart is to identify the challenges it must

respond to maintain its desired reputation. Will the

issue emerge that how can customers expect fair

treatment from a company that does not treat its

own employees fairly? We do not believe that the

case for public health care in the US is decidable on

strictly rational criteria – as the length and severity of

the dispute suggest. However, we also do believe

that the issues compels firms to act, and hence to

make a decision. However, if we cannot decide

solely on a rational basis, on what basis can we base

our decision?

Ethics and the rationally undecidable issues

We can hear pragmatic managers arguing that there

are no rationally ‘‘undecidable’’ issues so for that

reason, we would like to expand upon what we

mean by this term and explain how it links to the

typology of observed behavior. For the Advocate,

those guided by ideological or metaphysical norms

(including religion), there are probably no important

undecidable issues either. However, for those

theoreticians and managers who live in the world of

Cell 4, there is a profound difficulty with being a

‘‘Good Citizen’’ and that is the boundaries in which

they seek to be a good citizen because the boundary

conditions between business and ethics or business

and CSR are complex, fluid and may be situation

specific.

Our approach is based on undecidability 24

and

action which clearly separates us from a number of

other researchers who would argue that either

metaphysically grounded norms or consensus-based

values based in a social contract would make all

situations ‘‘decidable.’’ We would also argue that this

oversimplifies the reality facing managers and the

choices that they must/should make. Moreover, we

argue that selecting one metaphysically based norm

or one consensus-based social contract denies the

collision of norms that is taking place both in liberal

western democracies – pro-life versus pro-choice –

and between the liberal west and more religiously

based regions – secular versus religious, e.g., free

speech versus cartoons of the prophet Muhammed.

While there may be many issues that are ‘‘unde-

cidable,’’ we are especially concerned with situations

that are both undecidable and strategic, because it is

in this realm that managers must decide (act) and

there are probable links to competitive advantage.

Many managers in fact would stress that choosing

the ‘‘right’’ norm is strategic, ‘‘undecidable,’’ and

imperative for many firms. We will argue that

understanding why your decision is the right one is

imperative in these situations since opposition will

be inevitable and well founded.

Our approach to strategy and ethics leads to the

following matrix shown in Figure 3 below which

provides a schema for looking at the interactions

between strategy and decidability and where the

interesting issues are:

Let us discuss some real-life examples that popu-

late Cell 4. There are important debates concerning

what are matters of personal choice and what are

matters of public concern. The divide between those

espousing individual versus community-based values

is real and of strategic importance. Whether the issue

be smoking and second-hand smoke or the pro-

choice versus pro-life debate, many companies are

forced to choose between two positions that are

irreconcilable and claiming to be ethically correct.

Roughly 16 years ago, the Bank of Montreal was

368 David Weitzner and James Darroch

approached to become involved with an Affinity

Master Card for a fundraising program for LifeCa-

nada – a pro-life group. The bank eventually

canceled the program and created considerable

unwanted publicity when a Conservative MP,

Maurice Vellacott, called for a boycott of the bank.

The press release on lifesite.net clearly displays the

dilemma facing the bank.

‘‘As a financial institution, we really can’t and don’t

want to be involved in decisions that people consider

to be personal and private,’’ claimed BMO spokesman

Ralph Marranca, who said the bank will not be

renewing the 15-year program after its expiry in July.

‘‘We didn’t want to be seen as taking sides in any

way.’’ Marranca admitted in April that only a ‘‘small

number’’ of complaints had been received about the

program.

…

Although Marranca claims the BMO decision is

because abortion is a ‘‘personal and private’’ decision,

the bank obviously does not have a problem with

supporting embryonic stem cell research – the delib-

erate murder of embryonic children for financial

reward. BMO also sponsors the Affinity MasterCard

program for the Juvenile Diabetes Research Founda-

tion which supports embryonic stem cell research.

(http://www.lifesite.net/ldn/2005/jun/05061403.html)

Clearly, the bank was perceived as taking sides by

some segments – there was no neutral position. It is

important to recognize that even if the bank had

turned down both sides, the problem would not

have been resolved because denial would have been

tantamount to a decision against – at least in the

court of public opinion. The bank’s decision to

portray the decision as undecidable was not accepted

by those with normative views, and its actions were

taken as de facto decisions. The conclusion that we

draw from this is that the undecidable must be

decided and that the consequences on the reputation

and the market strategy of organizations are imper-

ative.

A second organization tried to deal with a similar

conflict by noting that it was undecidable and then

attempted to make it invisible. We are of course

talking about the US military and the ‘‘don’t ask,

don’t tell program.’’ This program was created after

President Clinton failed to end the centuries old ban

against gays and lesbians in the military. While

Clinton failed, the result was a law that clearly

specified the privacy rights of those serving in the

military – the hoped for result was that while de jure

gays and lesbians were banned from the military,

de facto they need not be. The point here is not to

blame either the politicians or the army, but to show

that the failure to recognize that the undecidable is

precisely where ethics calls for a decision.

Some may wish to argue that the decision is really

a strategic one and not a strategic and ethical one.

One form of the strategy argument could run that

the Bank of Montreal should decide on the basis

which will satisfy the greatest number of profitable

customers and that the military should seek to

maximize its attractiveness to the right candidates.

We will argue that this is to take an unfortunately

technocratic approach to strategy. All organizations

are based upon a value proposition which attracts

customers and employees and implicit in this value

proposition is a stance toward ethics. The stance

could be purely technocratic and ethical. Alterna-

tively, leaders could weigh whether to take a legal

but albeit unethical position or leaders could see the

importance of making their values explicit as a guide

to decision making not only at the top but also

throughout the organization. If the military is to

defend all Americans, does it not have to decide

upon which values are American. Is it ethical to

create a system which precludes someone asserting

their sexuality? We would hold that the failure to

make the ethical decision has the effect of forcing

others into possibly unethical positions as it forced

gays/lesbians who wished to join the military to

implicitly deny part of their being.

S tr

at eg

ic

Yes

3. Clear Path Forward 4. Strategic/ethical dilemma

No 1. No issue

2. Not urgent – draw out – employ real options, alliances etc

Yes No

Decidable

Figure 3. Interactions of strategic and ethical decisions.

369Limits of Rationality

Second, consider the Bank of Montreal. The

Bank is involved with helping individuals to plan

their lives by way of their involvement of financial

planning. Should I as a customer expect to know

what values the organization may hold because it

could affect investment advice which I will be of-

fered? We argue yes and while an older social par-

adigm may have held that we could be silent on

important issues – ‘‘we don’t talk about religion or

politics’’ – in today’s world how can we truly

understand others if we do not understand the values

which guide their decision making. Admittedly, not

all members of any group slavishly follow its pre-

cepts, but should not the pre-conceptions of others

be made transparent in order to create the possibility

for dialog about ethics.

Another organization makes very clear the inter-

nal dangers to an organization of not clearly articu-

lating the values essential to the identity of the

organization in a global context. The Anglican

Church – presumably an ethical organization – is

facing possible dissolution over the roles of gays/

lesbians and women in the Anglican Communion.

The American Episcopalians (ECUSA) has been

going their independent way since the mid-seventies

when it unilaterally ordained women. The split be-

tween the US church and the global communion

was truly brought to a head by ordaining the openly

gay Gene Robinson bishop in 2003. The Bishop of

Canterbury, the head of the Church, cannot resolve

the issue, and the split is too serious to ignore.

Instead of endlessly trying to paper over the cracks, the

Archbishop suggested on June 27th, the communion

could bread up into a core of ‘‘constituent churches’’

willing to sign a doctrinal covenant on homosexuality

and other thorny issues and ‘‘associated churches’’ who

would do things their own way, opting out of com-

munal decision-making. (Economist July 1, 2006, p. 52)

Some might argue that the issues are decidable,

but we would argue that the split clearly demon-

strates the real-world problems of both metaphysi-

cally based norms and even efforts to develop a social

contract. It is clear that there has been considerable

good will to try and resolve the contentious issues,

but the conflict is too basic to what constitutes ethics

to both sides to compromise. The American church

has to act if it wanted to be ‘‘ethical’’ according to its

views, while the Africans had to act to be true to

their more conservative views. While this geo-

graphic split over-simplifies a complex reality, the

doctrinal split is real and driven by ethical decisions.

The point we would like to emphasize is that

globalization adds a whole new dimension to what is

‘‘undecidable’’ – especially, if western liberal values

are recognized as being as ethnocentric as any other

value system. This is not to say they are wrong,

simply to say that their claim to hegemony will be

increasingly under attack.

Conclusion

The question that organizations such as the Bank of

Montreal and the American Military must pose is

whether their decisions need to be determined by

ethical criteria and whether they will be perceived as

ethical. Both as a theoretical and practical matter, we

assert that these are ethical decisions and the decision

not to decide is equally an ethical one. The issue is

becoming one of increasing importance because

many organizations wish to portray themselves as

‘‘ethical companies’’ in at least some of their inter-

actions. The question that must be posed is can you

be a little bit ethical? By this, we are asking where

are the boundaries – which are the ethical situations

that the firm must decide upon to be considered

ethical and which ones can/should it avoid. Strate-

gically, the firm must choose whether to determine

this for itself or to have criteria thrust upon it by

dissatisfied customer, shareholders, and other stake-

holders. We argue that the firm as a strategic deci-

sion must articulate its own ethical norms and the

scope over which they hold sway and recognize that

this may have to be an ethically based decision, not a

strategically based one. This could also involve set-

ting firm boundaries between what is the role of the

private sector and what is that of civil society or the

public sector.

Rationality cannot ground norms or values, it can

only calculate the consequence of following such

norms. To the amoral strategist, this is fine so long as

the results are calculable, but what if the split is

50/50 or the symbolic price of either side is

extremely high? More typically, what guides action

in situations of high uncertainty that cry out for

action and leadership? We argue that the firm must

select the values that will guide its choice and be able

370 David Weitzner and James Darroch

to articulate its position in light of the kind of firm it

is and wants to be if it is trying to seek any sort of

competitive advantage from its ethics or CSR pol-

icy. If this is right, then ethics trumps strategy in a

world where undecidable positions are a fact of life.

In addition, this means that firms must articulate

their ethics if they are to be credible on issues of

social import.

Notes

1 We are not alone in this observation, see Paine

(2003), or Vogel (2006). 2

See, for example, Gioia (1992). 3

We prefer to talk about ‘‘increasing’’ rather than

maximizing for pragmatic reasons. 4

Sundaram and Inkpen (2004). 5

Friedman (1962). 6

Husted and de Jesus Salazar (2006). Porter and Kra-

mer (2006), Davis (2005a, b), or Bonini et al. (2006). 7

See Andersen et al. (2007). For a discussion of risk

and strategy as opposed to the process of ERM, see

Bromiley et al. (2005). 8

The issue of risk diversification is actually more

complex than this. For a revealing discussion, see Apgar

(2006), Chapter 5, ‘‘Building Networks That Can Adapt

to Risk,’’ pp. 143–181. 9

Samuels (2006). 10

This comes from a presentation by Joanna

Makomaski, Manager, Risk Management, at Enbridge

Energy Distribution, Inc., Canada’s largest natural gas

utility, at 2006 International Risk Management Confer-

ence in Toronto, sponsored by the Conference Board

of Canada and ably constructed by Diana Del Bel

Belluz, a Canadian consultant and reported in ERisk on

February 7, 2006. 11

Clearly, this is only one aspect of governance, but

the one upon which we have chosen to focus. See the

number of references to stakeholders in one of the early

texts on risk management with a management focus,

Lam (2003). 12

This is the key theme of Apgar. 13

This was clearly demonstrated by Progressive Insur-

ance Company who used a new disclosure policy to

prove to markets that it was a superior risk manager. 14

See Woellert (2006). 15

See Apgar. 16

March and Simon (1958) and Cyert and March

(1963). 17

The paradox actually has its roots in Aristotle.

18 See Bromiley et al., op. cit., pp. 260–261. We are

making use of Knight’s distinction between uncertainty

and risk where risk is equated to knowing the probabil-

ity distribution of outcomes while uncertainty means

that the distributions are unknown. In uncertainty, the

rational science of ERM offers no hard answers. 19

Alsop (2004). 20

We are still not certain that Wal-Mart is a green

company, but it is certainly greener than it was. 21

See ‘‘Exchange’’ in The Academy of Management Per-

spectives 20:3 (August 2006), 6–43. 22

Kris Maher, ‘‘Wal-Mart Joins Health-Care Call,’’

Wall Street Journal, Thursday, February 8, 2007, p. A6. 23

Multinational Monitor 25:12 (December 2004). http://

multinationalmonitor.org/mm2004/122004/mokhiber.

html. 24

Author identifying note removed.

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Schulich School of Business,

York University,

Toronto, Canada

E-mail: [email protected]

372 David Weitzner and James Darroch

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