Measuring ethical climate risk: the Austin City Auditor's Office found a correlation between a department's ethics and its performance

Internal Auditor, Dec, 2004 by Colleen G. Waring

WHY AUDIT, AN ORGANIZAtion's ethical culture? The key reasons center around requirements to evaluate the control environment. Specifically, audit organizations that comply with Implementation Standard 2130. AI, Assurance Engagement, of The IIA's International Standards for the Professional Practice of Internal Auditing, must "evaluate the design, implementation, and effectiveness of the organization's ethics-related objectives, programs, and activities." Moreover, throughout the world, publicly traded companies increasingly are being required to conduct some form of evaluation of their controls, using an authoritative internal control model. These models--such as The Committee of Sponsoring Organizations of the Treadway Commission's (COSO's) Internal Control-Integrated Framework--include organizational culture as a key element.

In 2000, when the Austin City Auditor's Office, in Texas, audited the city departments' ethical climates, we were able to successfully document the fiscal benefits resulting from a strong organizational commitment to ethical conduct. Overall, the audit found evidence that fiscal and administrative benefits correlate to a stronger departmental ethical climate. Particularly, the audit demonstrated to city management that multiple measures of ethical climate are positively related to specific costs and other performance measures.

THE CITY OF AUSTIN AUDIT

Although a variety of means have been used to audit organizations' ethical cultures, the basic methodologies are similar. All audits use survey data to establish the state of ethics, as indicated by employees, customers, or other stakeholders. Some audits have gone further and triangulated the survey information with hard data.

The City Auditor's Office audit of organizational ethics involved use of existing survey data collected annually by the city's Human Resources Department (stratified by city department), which was statistically correlated to selected fiscal and administrative outcome indicators, such as damage claims, complaints, lost-time injuries, and sick leave usage.

DAMAGE CLAIMS Costs and number of successful damage claims against the city were highest among departments where employees reported greater awareness of unethical conduct. Damage claims--claims paid when the city is at fault in damaging a citizen's property--were used as an indicator of rule-breaking by employees. The theory of the City Auditor's Office was that employees in departments who were following laws and standard operating procedures would be less likely to generate property damage. In the city organization, 57 percent of all damage costs are due to vehicle collisions.

We conducted several statistical correlations, one to correlate each department's claims cost and number to the department's individual average score on the statement, "I'm personally aware of an illegal act or ethical violation by a city employee in the past six months." For a second correlation, we put departments into two groups--those scoring below the mean on the statement, where "disagree" or "strongly disagree" were the most frequent responses (labeled "low awareness"), and those scoring above the mean, where "agree" or "strongly agree" were the most frequently selected (labeled "high awareness"). Each group was correlated to its group's total costs of damage claims (see "Cost of Claims" and "Paid Claims" on this page).

When looking at cost and number of claims, both the individual and the grouped correlations to the awareness statement were statistically significant (i.e., not likely to be due to chance). We also conducted a third test to evaluate the extent to which the observed correlations might be due to other factors, such as the specific department's size or use of vehicles. For this test we used multivariate correlations to examine the strength of the different variables, including the ethical climate indicators. The correlation between the ethical climate indicator and the cost and number of claims continued to be statistically significant, even when controlling for size and vehicle use.

The number of successful damage claims also correlated with a second indicator--the employees' responses to a statement about the extent to which their managers "set a good example by following the laws and policies that apply to their jobs." This correlation was strong for individual departments and also when departments were grouped into two clusters, one that was above the mean ("strong ethical climate") and one that was below the mean ("weak ethical climate"). The correlation held even when controlled for department size and vehicle use.

COMPLAINTS Similarly, the number of complaints by the public was greater in departments where employees reported greater awareness of illegal or unethical behavior by city employees. We conducted correlations similar to those on paid claims, using data from the city's Public Information Office, which tracks complaints received from citizens. Individual departments' average responses to the awareness statement, "I'm personally aware of an illegal act or ethical violation by a city employee in the past six months," were significantly correlated to the number of citizen complaints. Moreover, when we grouped departments into two groups--above and below the mean--the correlation between number of claims and the climate indicator were significant (see "Complaints" on this page). Again, we conducted a multivariate analysis to control for department size and the nature of the work--such as police or regulatory functions--and the relationship continued to be statistically significant.