10 Predictions for 2023: No. 5 - A Coming Wave of Corporate Scandals
A historically large number of private companies, poor and outdated governance structures, and the first prolonged recession in more than a decade will reveal widespread corporate malfeasance in 2023.
(I’m making 10 predictions for 2023. Find the links to my others at the bottom of this post.👇🏿 )
In 2023, a new wave of corporate scandals will begin, as the US’s first white-collar recession reveals more than a decade of hidden fraud.
A few trends have come together:
1) Recessions expose bad corporate behavior.
If many of the economic forecasts are correct, next year’s recession will be the first prolonged contraction since the Great Recession of ‘08-’09. The covid-fueled downturn of 2020 was severe but short and largely benefited the knowledge economy, which makes the tools that were mostly unaffected -- even positively affected -- by social distancing. In fact, many over hired during the height of the pandemic.
Some argue that recessions cause fraud, as financial stress on organizations and individuals impairs judgment. I believe that recessions reveal fraud that had previously been there.
Recessions can be sunlight for corporate misdeeds. Economic expansions are rife with capital which is cheap and easy to access. However, the higher interest and tighter capital markets that come from an economic contraction make that capital harder to come by, which makes it harder to cover up poor results, ethical lapses, or outright schemes.
2) Private companies are more significant than ever.
More corporate activity, and more value, than ever is in private companies, which are higher in number, and larger as a share of the overall economy than ever.
These private companies are subject to much less scrutiny from regulators, investors, and the media, which makes them more susceptible to bad behavior and makes that behavior harder to uncover when it has occurred.
3) Corporate governance is outdated.
All corporate scandals are corporate governance failures. The first and foremost role of governance structures, like boards of directors, is to protect against downside risks. 2022's poster child was FTX, previously the world’s second-largest cryptocurrency exchange, which after its collapse was revealed to have no board of directors, and no real financial management practices. In November, I wrote:
FTX raised nearly $2 billion from more than 70 investors and had no board of directors.
Let me repeat -- FTX HAD NO BOARD 🚩🚩🚩🚩🚩🚩🚩🚩🚩🚩🚩
Actually, until the summer of 2021, founder and CEO Sam Bankman Fried was the only board director.
According to The Wall Street Journal, "As part of a summer 2021 funding round in which FTX raised about $1 billion, the company told investors in a letter that it would add two “highly qualified, independent” directors to the board. By the next funding round those directors were in place. FTX appointed Jonathan Cheesman, then an FTX executive, and Arthur Thomas, a lawyer in Antigua whose website lists gaming as his specialty. Mr. Cheesman was succeeded by another FTX employee earlier this year."
For those who are wondering, company employees on the board ARE NOT INDEPENDENT.
Poor corporate governance for private companies is all too common. But no corporate governance is exceptionally bad. 🚩🚩🚩🚩🚩🚩🚩
As I've said publicly, as more capital flows into private companies that are far away from mainstream public scrutiny and under increasing pressure to unjustifiable valuations, there will be more high-profile private-company scandals and collapses.
Boards are especially important because they are often the first line of defense.
Private companies need boards sooner than they think they do.
Those same boards need truly independent directors sooner than they want them.
More broadly, I’ve seen an insidious trend of private company boards controlled by overreaching CEOs or group-thinking insiders. I believe that these “CEO fiefdoms” have increased in number over the dozen years since the financial crisis, as easy access to capital, economic growth, and broad technology innovation and adoption have given private company CEOs leverage over investors.
On top of that, existing governance structures are fundamentally broken. Too many boards are insular groups of c-suite executives, many of whom lack relevant expertise in the businesses they are in charge of stewarding. As I wrote last year:
But corporate America’s boards haven’t evolved much since the 20th century. Too white and too male, they are being forced by social pressure and regulatory mandates to recruit more women and people of color. These boards are also too old and out of touch, rife with industrial-era yes-men who are beholden to their CEOs and ill-equipped for the digital age. Among companies in the S&P 500, the average board director is 63 and trending older, according to research from The Conference Board.
A historically large number of private companies, poor and outdated governance structures, and the first prolonged recession in more than a decade will reveal widespread corporate malfeasance in 2023.
I’m making 10 Predictions for 2023. Read my others below.
I find the balance of having “adults in the room” for private growth companies to be interesting. It’s important to have a board who has been there before, but that demographic has historically been very old, very white, and very male.
There’s a ton of work to do before that demographic naturally becomes more diverse, but there’s never been an excuse for having people unfamiliar with your industry on your board.