Paper submitted to the 12th International conference of the International Society for Third Sector

Research, Ersta Sköndal University College, Stockholm, Sweden, June 28 - July 1, 2016

The emerging third sector corporate governance

landscape – how can understanding organisational

ethical climate help? An Australian perspective. .

Donna Dark DBA Candidate School of Management and Marketing Faculty of Business University of Wollongong Australia dld980@uowmail.edu.au PH: 61+400 754 333 www.uow.edu.au

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ABSTRACT

This paper provides an overview of the changing governance landscape for not for profit aged care

organisations in Australia. Through review of ethical climate theory literature and related empirical

studies, it explores how understanding differences in ethical climates of not for profit organisations

can improve their corporate governance frameworks for now and the future.

For the first time in history, not for profit aged care organisations in Australia are experiencing a dual

reform agenda. A new not for profit national regulator was introduced in 2012 with a focus on

increasing transparency and accountability via a consumer focused website, annual reporting of all

registered charities and commencement of enforcement action against non-compliant organisations.

The Australian Federal Government has also commenced a transformation of the aged care sector

through the Living Longer Living Better reforms. Changes include transparent comparison of all

organisations for consumers (including fee schedules and compliance history), flexibility of

accommodation fees payment for residential care, and a shift to a consumer directed model in

community based services. In addition, there is also increased for profit activity in the sector leading

to increased competition for government funds and consumer loyalty.

With significant disruption to existing business models, corporate governance frameworks are

emerging as a critical factor to mitigate risk in times of uncertainty. This paper argues that before an

organisation reviews its corporate governance framework, it needs to understand the existing ethical

climate.

Ethical climate research, through the seminal work of Bart Victor and John Cullen, has made an

important contribution over the last 25 years to a new understanding of corporate governance and

corporate responsibility. An ethical climate can be described as the shared perception of employees or

members of an organisation regarding its norms, values and behaviour.

An ethical climate provides a reference point for organisation members to determine the correct thing

to do in different situations they may face (Cullen et al 1989).

Ethical climates are a subset of an organisation’s culture and are influenced by what the organisation

does, its history, external threats, internal influences, regulatory and professional requirements, and

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the decision making structures or ethical frameworks that individual employees operate within. This

paper argues that the external environment in Australia for not for profit aged care organisations will

impact on their ethical climate now and in the future, and this will influence their members’ decision

making.

Research exploring ethical climates in not for profit organisations is limited, but what has been

identified so far is interesting and challenging. A key difference between is that the types of ethical

climates found in not for profits place less emphasis on complying with organisational rules or

structures when making decisions than for profit organisations. This finding may not be a surprise to

practitioners and academics in the third sector, but has implications for organisations considering a

corporate governance framework that is reliant on adherence to formal organisational policies and a

code of conduct (Malloy and Agarwal, 2010).

This paper also identifies further directions for future research.

Key words: corporate governance, ethical climate, not for profit, aged care, regulatory reform

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INTRODUCTION

Accountability and transparency are key themes for this conference. It is no coincidence that both

terms are central to corporate governance principles outlined by The Organisation for Economic Co-

operation and Development (OECD, 2015) and reflected in various country’s corporate governance

codes. In most developed countries, these codes focus on improving corporate governance in for

profit organisations, particularly those listed on the stock exchange. However, principles of good

corporate governance are essential for all organisations, including not for profits.

The OECD (p 9, 2015) define corporate governance as … “a set of relationships between a company’s

management, its board, its shareholders and other stakeholders. Corporate governance also provides

the structure through which the objectives of the company are set, and the means of attaining those

objectives and monitoring performance are determined.”

As Christine Mallin (2013) and Bob Tricker (2012) observe, reviews of corporate governance codes

tend to occur following an event or scandal exposing a lack of adherence by organisations (or in the

case of the Global Financial Crisis, the financial sector) to sound corporate governance principles. To

address potential agency issues, numerous controls have been implemented by organisations to ensure

people behave ethically, including ethics training, implementing codes of conduct and the

implementation of modification of existing internal controls. Governments have also responded by

applying external controls such as increased regulatory action or compliance reporting, but these

events continue to occur (Tricker, 2012).

However, not all governance issues occur from major lapses in unethical behaviour. Sometimes, what

was the right thing to do at a particular point in time may change due to external factors such as

industry maturity, aggressive competition, increasing consumer sophistication and subsequent

regulatory reform. Corporate governance structures that worked 10 years ago may no longer be

effective to address the new world of consumer engagement and transparent reporting.

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The changing governance landscape for not for profit aged care organisations in Australia is

becoming increasingly complex. A dual regulatory reform process is underway in the not for profit

and aged care sectors. This is unprecedented and challenging, particularly for long term aged care

organisations who may be transitioning from the relatively unsophisticated ‘cottage’ industry model

which was prevalent in the Australian aged care sector up until the mid - 2000s (Productivity

Commission, 2011).

This paper argues that understanding an organisations ethical climate is a key aspect of developing

corporate governance systems that can adapt to the changing business environment being experienced

by not for profit and aged care organisations in Australia.

In order to understand the situation of reform in Australia, relevant background to these reforms and

the current situation of both sectors is provided.

An overview of the development of ethical climate theory, with specific focus on the seminal work of

Bart Victor and John Cullen, along with a brief history of the development of the Ethical Climate

Questionnaire (ECQ) and its use in empirical studies via a literature review. The paper then focuses

on not for profit studies conducted using the ECQ since the 1990s, with assistance of the literature

review conducted by Dark and Rix (2015).

Finally, implications of the findings and their relevance for future research in the not for profit sector

are identified and discussed.

BACKGROUND

The not for profit sector in Australia

Approximately 600,000 not for profit organisations exist in Australia. The not for profit sector

employs over 1 million people and has over 3.4 million volunteers, who in 2012-2013 contributed 521

million hours with a wage equivalent estimated to be $17.3 billion (ABS, 2013).

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Activities in the sector include human service delivery (health and welfare), the arts, the environment,

emergency relief in Australia and overseas, research, and grant-making (Productivity Commission,

2010).

The not for profit sector in Australia is large, and growing. Current growth of the sector is shown at

11 per cent, almost double that of Canada, (6.4 per cent) and the United States (5.5 per cent)

(McGregor-Lowndes, p5 2014).

Not for profits make a considerable economic contribution to society in Australia. The Gross

Domestic Product (GDP) for not for profits was $57.7 million in 2012-13 (3.8 per cent of the total),

growing from revised GDP figures for 2006-07 of $34.6 million (ABS, 2013; McGregor-Lowndes,

2014).

Myles McGregor-Lowndes, (p 5, 2014) using the United Nations Non-Profit Institutions Handbook

measure, estimates Australia’s not for profit economic contribution of GDP at 3.8 per cent is behind

Canada (7.1 per cent), the United States (5.5 per cent), and ahead of New Zealand (2.8 per cent).

The direct value that not for profits add to the Australian economy is by the measure Gross Value

Added (GVA). This measures the value of goods and services produced, less the cost of goods and

services used in production processes. In 2012-13, GVA was $54.8 million, an increase of 68 percent

from 2006-07, and an increase of 42 percent after inflation adjustments (ABS, 2013, McGregor-

Lowndes, 2014).

It is important to compare the GVA value of not for profits to understand the economic impact of the

not for profit sector in Australia. The 2012-13 not for profit GVA is more than twice as large as the

entire economic contribution of the Australian state of Tasmania. At 3.9 percent it is also larger than

the Australian agricultural, forestry and fishing industries (2.4 per cent) and the information, media

and telecommunications and media industries (3 per cent) (ABS, 2013, McGregor-Lowndes, 2014).

The Australian Charities and Not for Profits Commission (ACNC) reports that there over 53,000

charitable organisations (charities) throughout the country, or approximately 9% of the total of the not

for profit sector (ACNC, 2016). However, the contribution is of this small group is significant.

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Cortis, Lee, Powell, Simnett and Reeve (2015) found that in 2014, the combined income of charities

was $103 billion. Further to this, 5 percent of charities make up 80 percent of the sector’s income.

Charities classified as ‘large’ by the ACNC can be generating income from $1 million to $100 million

in income (Cortis et al, 2015).

The highest proportion of income for charities is derived from self- generated revenue (sales, member

fees and user fees) at $54.5 billion, followed by government grants at $42 billion and $6.8 billion in

donations and bequests. Of note, 41 percent of large charities received more than half of their total

income from government, compared with less than 9 percent of small charities (Cortis et al, 2015).

The not for profit sector in Australia has the primary role of delivering on social policy objectives.

Just like countries including the United States, Canada, New Zealand, the United Kingdom and Japan,

Australian not for profit organisations are expected to provide critical services to vulnerable members

of society in a more efficient and effective way than the government can (Larratta, 2010).

At first, it might seem absurd to compare not for profit organisations to the public and private sector

when discussing ethical behaviour. The non-distribution of profit to shareholders and/or the Board

and management is assumed by many to address the key concern of Agency theory; that is self-

interested behaviour exhibited by board members (typically unpaid volunteers) and executive

management (Laratta, 2010; Malloy and Agarwal, 2001, 2008).

However, when considering the services the sector provides to vulnerable people such as children, the

aged, socially disadvantaged, disabled and indigenous people, coupled with the significant sums of

money involved in government grants, user/member fees and donations, one could argue that ethical

behavior in this sector is deserving of more scrutiny than other sectors. If there is a misuse of

government funding or public donations, apart from the financial loss there could be a significant

human cost — those in the most need may miss out, and may not be in a position to be able to speak

out (Dede, 2009).

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Reform in the Australian Not for Profit Sector

In Australia, the sector recently completed the first stage of significant regulatory reform, including

the encouragement of more formalised governance structures. The first not for profit national

regulator, the Australian Charities and Not for Profits Commission (ACNC) commenced in 2012

through an act of Parliament led by the Federal Labor Prime Minister (Australian Charities and Not-

for-profits Commission Act 2012 (Cth)). This follows a series of reports on the not for profit sector

over the previous decade, culminating in the Productivity Commission’s Contribution of the Not for

Profit Sector Report (2010).

One of the first actions following the implementation of the ACNC was to define what it meant to be

a charity in Australia, previously only defined by the 1601 statute, a legacy of common law, and

derived from Australia’s ties to the United Kingdom. The new act modernises the definition of a

charity, stating that to be a charity an organisation must be not for profit, have only charitable

purposes that are for the public benefit, not have a disqualifying purpose, and not be an individual, a

political party or a government agency. The definition was also expanded to specifically include

health promotion and research to reflect contemporary approaches to registered charities. Although

work continues at state level to align all relevant laws and regulations with this new definition, the

definition and act were an important milestone for many organisations to have certainty regarding

alignment of their mission, particularly as registration as a charity allows for significant tax

concessions, which charities rely on to maintain a balanced budget (Ernst and Young, 2014).

The initial focus of the Australian reform through the ACNC was: the development of governance

structures, including a Governance Charter, updating the definition of a charity, and the

commencement of self-reported annual information statements which largely focuses on financial

reporting (ACNC, 2013). However, the pace of implementation of this focus by the ACNC has been

interrupted in the last two years by a change in Federal government, and ideology.

In March 2016, with the original bill to repeal the ACNC now two years old, and following

consultation with the sector the Coalition Federal Government decided to abandon their decision to

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abolish the regulator, but remain focused on establishing a civil society centre of excellence to

separate improvement and research from the regulator.

The Aged Care Sector in Australia

Up until 15 years ago the aged care sector in Australia was considered a cottage industry, comprised

of informal systems and process, and without national regulation. It was dominated by residential care

and was mostly comprised of not for profit organisations, including charitable community and

religious groups. Other service types included state government managed facilities and for profit

operators (Productivity Commission, 2010) (Chomik and MacLennan, 2014).

Aged care services provided in Australia today range from services provided in a consumer’s home, to

coordinated home care packages. Care and accommodation provided in residential aged care facilities

(Chomik and MacLennan, 2014).

By 30 June 2014, there were 259,788 operational places in Australia with 192,834 in residential care

and less than half of these places (66,954) in community (DSS, p3 2014). Not for profit providers

accounted for 63 percent of these places, 30 percent places were with for profit providers and 7

percent state or local government providers. Not for profit providers out number for profit providers

by 8 to 1 in community services, but in residential care for profits they are not far behind (37 per cent

compared to 57 per cent not for profit) (DSS, p9 2014).

Funding is a mixed model scheme, with care recipients contributing to 7 percent of total funding and

tax payers making up the difference. Home service provides receiving funding through government

grants. Community package and residential care places receive government funding based on each

individual’s assessed care complexity (Chomik and MacLennan, p3 2014).

Public aged care expenditure was at $15 billion in 2014, which includes informal care support. This

expenditure is predicted to rise from 0.8 percent of GDP to between 1.8 and 2 percent by 2050, which

is still below the OECD average (Chomik and MacLennan p 3 2014).

An important contributor to an increase in government expenditure and a driver for comprehensive

reform in this sector is the impact of an increasing ageing population, which is also recognised as a

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global phenomenon. Australia has a significant rate of overall population growth, and within this a

fast growing population of people over 65. Australia’s population has exceeded 24 million (ABS

2016b). The annual population growth rate was 1.3 percent in September 2015 (ABS, 2016a), which

remains one of the fastest population growth rates in the world and among the fastest in OECD

countries (Hugo, p3 2014).

The Productivity Commission released a landmark report in 2013 (An Ageing Australia: Preparing for

the Future) which examined the effect of an ageing population on economic output, and considered

government policy implications. In this report (Productivity Commission, p2 2013) it was predicted

that: Australia's total population will rise to approximately 38 million by 2060; those aged 75 or more

years will rise by 4 million from 2012 to 2060. Australian governments will subsequently face

additional pressures on their budgets (equivalent to around 6 per cent of national GDP by 2060)

through expenditure increases in health, aged care and the Age Pension.

However, a more immediate pressure is the growth in the total number of people over 65 within the

population over the next 15 years, which explains the urgency for reform. Graeme Hugo (2014)

reports that the Australian Bureau of Statistics median projections anticipate that the over 65

population will rise by 84.8 percent from 3.1 million in 2011 to 5.7 million in 2031.

There is some skepticism among researchers and economists regarding the reliability of population

growth projections, but as Hugo (p1, 2014) points out, there is a high degree of certainty regarding

these projections, as those already living in Australia in their 40s and 50s will be the over 65

population in the 2020s and 2030s – that is, the future older population is here and is already known.

People in Australia are ageing, but also living longer than expected. Since World War II, 12.6 years of

life have been added to the life of Australian males and 12.9 years to females. More significantly,

between 1901 and 1970 older Australians life expectancy increased 1.8 years and 4.6 years

respectively for males and females. Between 1970 and 2011 there was a dramatic increase of 8.8 and

7.3 years respectively. These changes were not predicted by the population demographics calculated

in the 1970s (Hugo, 2014).

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These dramatic changes in life expectancy, influenced by medical breakthroughs and lifestyle

improvements, mean that older Australians are not only surviving to older age, but also having an

extended retirement period.

The ageing population presents both a threat and opportunity for the aged care sector. Potential

customer growth is virtually guaranteed, but the baby boomer generation in Australia differs in many

ways to the previous post war generation, and others preceding it. Hugo (p17 2014) notes that the

baby boomer market is more segmented, and the previous standard goods and services approach may

not work.

A number of differences between the baby boomer and previous generation are noted. A higher

proportion of baby boomer older women have not had children. Twice as many baby boomers live

alone than the previous generation. Significantly more of the baby boomer generation have completed

secondary education (43 percent compared to 6 percent) (Hugo, p19 2014). The number of overseas-

born baby boomer Australians is 10 percent higher than the previous generation. From an asset

perspective, there is a higher proportion of baby boomers renting, or who will still have a mortgage

debt when they retire from the workforce.

Implications of these differences include the potential need for increased day to day assistance with

the absence of family to assist, an increased need for cultural diversity in services offered, and the

potential that a higher number of older Australians will not have any assets available to pay for

accommodation in residential care if needed (Hugo, p19 2014).

As the population ages, the workforce (and funding from taxes) will decrease. To make things more

complex, the Australian aged care workforce is ageing at a higher rate than the total workforce. Just

over 27 percent of these mostly female workers are aged 55 years, which is 10 percent more than the

overall Australian workforce for all sectors (DSS, p24 2014).

Not only are providers facing competition for consumers. They may also be competing for sufficient

staff to meet demand as a significant number of workers move to retirement age over the next 10 or

more years.

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Reform in the Aged Care Sector

In 2008, work commenced to transfer policy and funding responsibility for aged care from the states

to the Commonwealth (Federal Government) so as to achieve standardisation of services nationally

(Chomik and MacLennan, 2014).

The latest reforms arise from recommendations from the Productivity Commissions report, ‘Caring

for Older Australians’ (2010). The subsequent response, the ‘Living Longer, Living Better’ reforms

(Australian Government, 2012) discussed the need for alternate, consumer generated funding sources

for aged care services that promote independence, choice and transparency of information for

consumers. These reforms were first announced in April 2012. They include changes in the methods

of funding low and high care residential and community aged care places, an increase in available

places (although at this time it remains tightly controlled), revised co-contributions, and a shift from

provider-led to funder-led system, with the goal of moving to a consumer or person led system. There

is a greater emphasis on choice and wellbring, and an increased requirement for consumer information

quality and transparency (Chomik and MacLennan, 2014).

A new national regulator was introduced, at arms length from the government, which combines

accreditation oversight for both the residential and community care sectors. Up until this time

residential aged care and community care services were accredited and monitored separately.

There has been a concerted effort by the government to streamline access to and information about the

aged care system for consumers via a national, central referral and information service (My Aged

Care), which commenced in 2015. This gateway provides consumers and their families with a single

referral point for services, access to information regarding organisational service quality and it

highlights any current compliance issues for providers, all accessible from one website (Australian

Government, 2016).

Up until these latest reforms, state and federal Australian governments shared responsibility for

funding a number of other community services for older people over 65, indigenous people over 50,

and young disabled people under the agency of Ageing, Disability and Home Care services (ADAC).

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In May 2013, both levels of government determined that these services would be split, with the

federal government taking responsibility for funding and management of aged services and the state

governments assuming responsibility for services for younger people until the new National Disability

Insurance Scheme (NDIS) is in full operation. The NDIS scheme is rolling out at various stages across

the country with full implementation in all states expected by the end of 2019 (NDIS, 2016). The

reform of the disability sector in Australia is beyond the scope of this paper, but it is important to

acknowledge that there is crossover between aged care and disability sectors and that the disability

sector itself, comprising many not for profit organisations, is also undergoing significant reform.

The increasing move to community based aged care services reflects changes in consumer wants and

needs. The government expects that providing choice to consumers will result in increased efficiency

by service providers and less demand for residential care. As other OECD countries’ policy makers

recognise, residential aged care is expensive to build and operate. The consumer directed care

philosophy underlying the community aged care reforms, (and moving into the residential care) places

a higher emphasis on prevention and enablement, which is also expected to mitigate some pressure off

the health system (Hugo, 2014; Chomik and MacLennan, 2014).

This background information highlights a number of external factors impacting on not for profit

organisations, and in particular aged care organisations. Deciding what is the right thing to do

becomes potentially more difficult as control is effectively provided to the consumer, but management

of the outcome (and the regulatory requirements) remain with the organisation. As organisations grow

and the workforce becomes more community based and remote, controls that may have been effective

in guiding decision making in the past may not work. It is timely that not for profit aged care

organisations consider what they believe to be ethically correct behaviour now, and for the future.

UNDERSTANDING ORGANISATIONAL ETHICAL CLIMATE

Dark and Rix (2015) summarised the definition of an ethical climate in an organisation as the shared

perception of its employees or ‘members’ regarding its norms, values and behaviour. Members of an

organisation are defined as the Board (or equivalent governing body), management and employees. In

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the case of not for profits, this will also include volunteers. The shared perception of the organisation

defines how ethical issues should be be managed and what is considered as ethically correct behaviour

(Cullen, et al. 1989).

Ethical climates are a reflection of factors including an individual organisation’s history, external

threats, internal influences, regulatory and professional requirements, its decision making structures or

ethical frameworks that employees operate within, and individual employee factors (such as age,

gender and ethical education) (Cullen, et al. 1989; Deshpande, 1996; Malloy and Agarwal, 2001).

Ethical climate differs from organisational culture in that it has a psychological construct and has been

typically measured quantitatively, whereas organisational culture is an anthropological construct, and

is typically measured both quantitatively and qualitatively at different levels of the organisation.

Ethical climate is often described as the result, or outcome of organisational culture but perhaps a

better description is that it is a subset of organisational culture (Agarwal et al 1999; Simha and Cullen

2012).

Much like organisational culture, there is usually one dominant ethical climate in an organisation but

other ethical climates can also exist (Victor and Cullen 1988).

This paper will now explore ethical climate theory as developed by Victor and Cullen and the

empirical studies relating to the ethical climate questionnaire.

Ethical Climate Theory

Ethical climate research, through the seminal work of Bart Victor and John Cullen, has made an

important contribution over the last 25 years to a new understanding of corporate governance and

corporate responsibility.

The ethical climate theory construct developed by Bart Victor and John Cullen in the 1980s is derived

from psychological, philosophical and sociological theory. Nine ethical climates were identified in the

framework, with the vertical axis representing the ethical reasoning systems, and the horizontal axis

representing the frame of reference for decision making, or locus of analysis. Dark and Rix (2015)

describe this as a matrix. This matrix is represented in Figure I (Appendix).

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Ethical theory criteria are based on the refined individual moral development theory of Kohlberg. This

theory in turn reflects what Kohlberg views as the three major classes of ethical theory – egoism,

benevolence, and deontology (also described as self-interest, caring or abstract principle). The original

theory was later expanded to include individual and community moral judgement by Rest, a student of

Kohlberg (Rest et al, 1969; Rest et al 2000; Cullen et al, 1989).

In interpreting possible ethical climates for organisations, Victor and Cullen (1988) propose that an

organisation with a benevolent climate would most likely display a consideration toward the

wellbeing of others as the dominant ethical reasoning system. A principled climate would use the

application and interpretation of law for ethical reasoning whereas egotistic climate would find self–

interest as the dominant system (Victor and Cullen, 1988).

The horizontal axis is the locus of analysis, derived from sociological theory relating to the

application of roles and reference groups, with a particular focus on the work of Gouldner (1957).

For the individual locus, the individual engages with their own personal ethical framework. The local

locus finds that ethical reasoning happens within the organisation at the level of the team, business

unit or other such work group. At a cosmopolitan locus, members of the organisation move outside

the organisation for their ethical reasoning, such as relying on a professional organisation’s code of

ethics Victor and Cullen, 1988).

By mapping the loci of analysis against each ethical reasoning system, the relationships of each

criterion create a different dynamic, or context. For example, when egoism is applied to the individual

loci of analysis, this criterion (self-interest) is defined as the individual considering their own needs

and preferences for their own benefit, or to protect themselves. At the local loci, considerations would

be given to what is in the best interests of the organisation (for example profit, or competitive

advantage). The cosmopolitan locus of analysis defines considerations at a system level of interest

(for example efficiency of a particular business system or perhaps the industry it operates within)

(Victor and Cullen, 1988).

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MEASUREMENTS OF ETHICAL CLIMATE

The Ethical Climate Questionnaire (ECQ)

The ethical climate theory framework as outlined above provides the blueprint for the Ethical Climate

Questionnaire (ECQ) developed by Victor and Cullen (1988). The items represent each of the nine

theoretical ethical climate types, which were refined from the original study. The scale used is a six

point Likert scale, with the responses recorded as: false (0) mostly false (1), somewhat false (2),

somewhat true (3), mostly true (4) and completely true (5).

Respondents are asked to complete the survey by responding to how it “really is” in the organisation

as they see it, rather than how they would prefer it to be. A key assumption is that responders can be

objective in describing the organisation’s ethical climate to others. To account for any individual

filters distorting the climate perceptions for the organisation, the authors have attempted to emphasise

descriptions rather than feelings, and deliberately do not focus on the individual respondent’s

behaviour (and whether this is ethical or not) (Victor and Cullen ,1988).

Empirical testing of the ECQ

The nine theoretical ethical climate types, were never envisaged by the authors to be equally likely to

occur. Empirically, five types of ethical climates have occurred most frequently: (1) Caring; (2) Law

and Code; (3) Rules; (4) Instrumental; and (5) Independence (Martin and Cullen, 2006; Bulutlar and

Oz, 2009; Huang, et al, 2012).

These empirically identified climates are illustrated in Figure II (Appendix) and originate from the

nine theoretical types, but sit across more than one loci of analysis (Simha and Cullen, 2012).

Caring climates have a benevolence construct. Employees operating in a caring climate perceive that

their decisions are and should be based on an overarching concern for the wellbeing of others. This

type of climate is found to encourage behaviours which attempt to find a positive outcome for the

greatest number of those impacted (Simha and Cullen, 2012).

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The law and code ethical climate is also associated with the principle construct but has the

cosmopolitan locus of analysis as its reference. Employees are found to make principled decisions

based on what they perceive a higher cause, such as the law, a religious text, or perhaps professional

standards (or professional codes of conduct) (Simha and Cullen, 2012).

Rules climates are associated with the principle construct and the local locus of analysis. Employees

in this type of climate see that organisational decisions are guided by local rules and standards, such

as codes of conduct, with these codes having a powerful influence on decisions and behaviour (Martin

and Cullen, 2005, Simha and Cullen, 2012).

An Instrumental climate falls within the egoism construct (left hand column) and the individual and

local loci of analysis (right hand columns). Employees working within instrumental ethical climates

perceive the norms and expectations of their organisational unit as encouraging an egoist perspective.

This focus could be self-interest and/or company profit. Behaviour promoting self-interest is the usual

observed behaviour, even if it is at the expense of others (Victor and Cullen, 1998, Simha and Cullen,

2012).

Independence climates are associated with the principle construct and individual locus of analysis. In

this type of climate, employees believe they can act on their own and often hold very strong personal

convictions about making ethical decisions. Their moral beliefs are held in the highest regard, with

external influences having minimal impact (Simha and Cullen, 2012).

EMPIRICAL STUDIES USING THE ECQ

Since its development, the ECQ tool has been tested empirically by the authors in various

organisations and utilised in many studies in the for profit sector. Arnaud (2010) estimates that the

tool has been used in 75% of ethical climate research since its inception.

Weber’s (1998) seminal work found a number of ethical sub climates within a single organisation. It

is interesting to note that the repeat study by Weber and Seger (2002) did not find ethical sub

climates. Cullen, Parboteeah Victor’s 2003 study assessed the effect of various organisational ethical

climates on organisational commitment. Peterson’s (2002) study explored unethical behaviour of

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employees and its relationship with the nine climates (as outlined in Victor and Cullen’s original

ethical climate framework) and compared this with the five dimensions previously empirically

identified. More recently, Lemmergaard and Lauridsen (2008) empirically tested Victor and Cullen’s

ethical theoretical framework on a sample of Danish firms. Their findings confirmed the strength of

the original empirical model, with some suggestions around separation within a climate and further

strengthening the model with an additional dimension (autonomy).

STUDIES IN THE NOT FOR PROFIT SECTOR USING THE ECQ

Dark and Rix (2015) conducted a literature review seeking empirical studies using the ethical climate

questionnaire conducted in the not for profit sector since the development of the ECQ tool in 1989 to

2014. Six studies were identified and these are summarised in Table I (Appendix).

Deshpande’s seminal empirical study (1996) used Victor and Cullen’s ethical questionnaire to assess

the ethical climate in a not for profit company in the United States, and to compare this to a

measurement of ‘ethical optimism’ so as to assess the nature and range of behaviour by successful

managers that was regarded as ethical. The study also examined the influence of different ethical

climate dimensions on the ethical practices of successful managers. Deshpande’s findings supported

the work of Victor and Cullen (1988) — that a single organisation can have various ethical climates

co-existing within the organisation. Only four different climate types were identified — professional,

rules, caring and instrumental.

This was different to what had been reported in studies conducted in for profit organisations by

Cullen, Parboteeah and Victor (2003), where additional ethical climates of efficiency and

independence were found. In Deshpande’s study, managers perceived a strong relationship between

ethics and success when they also observed a greater level of caring and lower levels of

instrumentalism (egoism) in decision making. Deshpande recommended that managers should firstly

review the perceived ethical climate within their organisation before developing strategies to change

ethical behaviour of employees.

Agarwal, Malloy and Cruise’s 1999 empirical study of ethical climate in not for profit organisations

draws from Victor and Cullen’s theoretical framework, and examines ethical climate of a provincial

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sport federation in Canada. The researchers applied a slightly modified ethical climate questionnaire

from that used by Deshpande, Joseph and Prasad (2006) and that originally devised by Victor and

Cullen (1988,1989).

Agarwal and Malloy’s analysis found that two distinct climates emerged, that of individual caring and

social caring. This result is different from earlier research by Victor and Cullen (1988) and Cullen et

al (1993) where it had been found that for the benevolent criteria, no difference existed between

individual, local and cosmopolitan loci.

The finding study also found a total absence of the local (organisational) locus of analysis in ethical

climates identified. These findings suggest that individuals may perceive the ethical climate as

supporting individual members to reference their own ethical framework or an external professional

or legal code (such as exists for a nurse, accountant or doctor) rather than the policy, code or rules for

organisation they work in or volunteer for. This finding of individual loci reflects the earlier work by

Deshpande (Deshpande et al 1996).

Brower and Shrader’s 2000 empirical exploratory study examined the difference between moral

reasoning and ethical climate perceptions of board members in seven profit and six not for profit

organisations based in the same Midwestern state within the United States. The authors utilised moral

development theory based on the work of Rest (Rest el al, 2000) and a modified version of the ECQ.

The authors proposed that for-profit and not for profit boards are different in their perceptions of

ethical climate within their individual organisations and that cultural climate (which they have

equated to ethical climate) would impact moral reasoning in different ways when comparing for profit

with not for profit boards.

Brower and Shrader found no significant difference between moral reasoning in for-profit and not for

profit boards, but did identify statistically significant differences between ethical climates. For profit

boards were found to exhibit climates higher in egoism than not for profit boards. Not for profit

boards were more likely to employ benevolence ethical reasoning than the for profit counterparts.

Interchanging cultural climate and ethical climate by Brower and Shrader differs from as other

researchers such as Malloy and Agarwal (2001). Malloy and Agarwal define culture as management’s

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and employees’ shared assumptions about how the organisation does and ought to operate. Climate is

seen as the shared perceptions of all members of the organisations about how the organisation

operates.

Larratta (2009) compared ethical climates across multiple not for profit organisations in the United

Kingdom and Japan, surveying Executive Directors (CEOs, Managing Directors, Associate

Directors), using a modified version of the ECQ. He found an absence of self-interest, and a high

emphasis on caring climates in both countries, which appears to confirm previous findings from the

not for profit sector, particularly that in the work of Agarwal and Malloy (2010).

A key difference was identified in the survey results and confirmed during the interviews. This related

to the use of rules and law (principles) when making decisions. United Kingdom participants

discussed their reliance on their individual moral values and ethical codes with a reduced reliance on

rules and law, a finding that supports Malloy and Agarwal’s work (2001, 2010). However, Japanese

not for profit executive directors strongly identified with law and code when making decisions, but

maintained a benevolent orientation. Laratta claims that this finding refutes Victor and Cullen’s

ethical climate theory and findings in subsequent studies based on it. If Laratta is correct, it suggests

that organisations with an individual or social caring climate can and do apply laws and rules as their

dominant form of reasoning.

However, as Dark and Rix (2015) point out in reviewing Laratta’s application of the ECQ, a number

of the survey statements used asked participants to respond to statements with ‘decision makers

around here’ rather than ‘people around here’ as in earlier studies. This raises the question of whether

Larrata’s research was measuring the organisation’s overall ethical climate (or climates) or just the

ethical climate at the CEO or even manager level.

Laratta’s second study (2010) used the ECQ to survey the not for profit and government sectors in

Japan to compare ethical climates. A modified version of the ECQ tool was used, and this included a

translation to the Japanese language. In this study, Laratta found that there were a number of

similarities between the ethical climate perceptions for executive directors of not for profits and

20 | P a g e

government officials. Universal laws and rules were perceived as necessary by both sectors. This

reliance had been identified for not for profit executives in Laratta’s previous study (2009).

The primary concern of both groups was the well-being of others and to do what was best for users of

the organisation’s service and the community as a whole. These findings support earlier work by

Malloy and Agarwal (2001) and those of the other not for profit studies reviewed in this paper.

More recently, Malloy and Agarwal (2010) followed up their 1999 study with a comparison of ethical

climates in the government and not for profit sectors of Canada. The authors found shared ethical

climate dimensions between not for profit and government organisations including individual, caring,

independence and efficiency, with caring ethical climates perceived to be particularly relevant across

the two sectors. The researchers asked whether this finding may contribute to successful partnerships

between the two sectors as there is a common perception of benevolence and trust in relationships

based on the interests of the other when making ethical decisions.

Malloy and Agarwal surveyed mid-level managers in government and not for profit organisations in

the health and social sector in one province in Canada. They also used unstructured interviews based

on the ECT framework to explore interpretation of ethical climate. Both groups displayed a lack of

identification with ego, and equal agreement about the most cost effective way not always being the

right way. However not for profits stated they often prioritised cost effectiveness in decision making

due to their perceived need to demonstrate efficient budget management to government stakeholders.

There were considerably different viewpoints between the two groups existed with their perception of

benevolence, with government managers considering what is best for the public to be their focus, and

not for profit managers considering what is best for the individual client being priority over the

broader public. This confirmed earlier work by Agarwal et al (1999).

Another interesting finding related to compliance based behaviour. The public servants interviewed

stated that there was a strong expectation that standards would be followed, which was necessary in

the environment they operate within. However, while not for profit managers were still committed to

following the rules, they viewed this more as an imposition, expressing that those providing services

21 | P a g e

often were required to develop creative ways to meet individual client needs with the resources

available, which might at times require overriding the organisation’s rules and procedures.

FINDINGS AND LIMITATIONS

Commonality in findings between studies include a general lack of egoism, an emphasis on caring,

benevolent climates and the absence of an organisational or local referent, or focus.

Dark and Rix (p SI29, 2015) identified that common findings between studies included a general lack

of egoism, an emphasis on caring, existence of benevolent climates, and the absence of an

organisational or local reference point for ethical decision making. This suggests formal policies and

rules regarding ethical decision making may work in a predominately caring climate type, because

rules and codes may not be as important to organisational members as the wellbeing of others. A

caring ethical climate with an individual or cosmopolitan locus of analysis would tend to place the

welfare of individual care recipients, or even society as a whole first in ethical decision making. This

may cause organisation members to override, overlook, or circumvent existing organisational policies

and rules. However, as Dark and Rix (2015) point out, the extent of this aversion to rules could vary

between countries and according to different cultures, traditions and histories.

Dark and Rix (2015) identified that all of these the studies have shortcomings, including limited

sample size (Agarwal et al 1999, Bower and Shrader (2000); low response rate (Larratta, 2009); and

being limited to a specific management group (Agarwal et al 1999; Brower and Shrader, 2000;

Laratta, 2009, 2010). The most significant limitation is that the majority of the studies focus only on

senior managers, executive and/or board level members of not for profit organisations. Their

perception may not reflect the perception of ethical climate for organisation members at other levels

of the organisation (Dark and Rix, 2015).

Although there are few studies of not for profits and their ethical climates, and there are some

limitations as to their findings, there is a common finding that the ethical climates that exist in not for

profit organisations differ from those found in the for-profit sector (Dark and Rix 2015). The revision

of Victor and Cullen’s ethical climate theoretical framework for not for profits, as proposed by

22 | P a g e

Malloy and Agarwal (2001) aligns well with the findings common to all of the studies. Their revised

model (Figure III, Appendix) provides guidance and a potential starting point for further research

within the sector.

Empirical research has provided insight into ethical climates that exist in organisations and have

focused on what Simha and Cullen (2012) identify as a ‘traditional’ and beneficial organisational

outcomes. These authors observe that during times of change in internal and external environments,

an organisation may want a non-traditional behaviour to counteract these changes or indeed it may

need a different type of ethical climate to manage new challenges. This observation is relevant for the

not for profit and aged care sectors in Australia.

Simha and Cullen (2012) also note a limited amount of empirical studies exploring various

antecedents of ethical climate in various for profit sectors including: the impact of community norms

and values Bourne and Snead (1999); external context and how it affects ethical decision making

Cullen et al (2004); ethical climates and how they change over the life cycle of an enterprise (Bulek

and Mulej, 2009); and the impact of organisational role and environmental uncertainty on ethical

climates in the military (Weber and Gerde, 2011). None of these studies have occurred in the not for

profit sector, and no studies have looked at the impact of regulatory change or sector reform on ethical

climate. This is a potential and timely area of research for the not for profit and aged care sectors in

Australia.

CONCLUSION

Not for profit aged care organisations in Australia are significant economic and social contributors

who face an unprecedented era of change. The aged care and not for profit sectors are growing

significantly and both are challenged by changes in approach from the government, regulators and

consumers. An increased focus on effective use of government funds and transparency of information

about service offerings and performance for consumers means that corporate governance systems

need to respond.

23 | P a g e

Measuring how a not for profit organisation determines the ‘right thing to do’ through the perceptions

of those who know, its employees (and volunteers) can provide a good reference point for not for

profit aged care organisations as they determine what is ‘right’ in the new, dynamic world of

regulatory reform, and new ways of doing business through consumer driven models of service

delivery.

The limited research conducted in the not for profit sector since the 1990s indicates that different

ethical climates exist, with a predominant caring (benevolent) ethical climate. As Simha and Cullen

(2012) point out, the negative side to a well embedded benevolent climate is that it might prevent

organisational leaders making difficult decisions, even if such decisions were necessary. This is a

particularly relevant observation for not for profit aged care organisations in Australia who are in the

middle of making very difficult decisions regarding their organisation’s future direction in a fast

paced environment.

Not for profit studies have also found that organisation members perceive that organisational policy

and rules is not the basis on which ethical decisions are made, with the preference for individual

judgement or reliance on external codes such as professional codes of practice. This is also an

important finding for organisations to consider when relying on members to follow organisational

policy and procedure for ethical decision making.

Understanding ethical climate may assist an organisation determine the appropriate ethical structures

and indeed corporate governance systems required to support the type of ethical climate (or climates)

that it has, as well as what it wants and needs for the future.

There are opportunities for further research to expand knowledge of ethical climates in the sector and

relevance of the ECQ tool as a measurement tool. These including conducting the ECQ survey at

various levels of an organisation, exploring the impact of antecedents to ethical climate such as

regulatory reform, and considering the ethical climate perceived by community based aged care

workers to assist with the development of effective and sustainable corporate governance program to

meet the new challenges of the sector.

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APPENDIX

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Figure I: Theoretical Strata of Ethical Climate (Victor and Cullen 1988)

Ethical Theory

Locus of Analysis Individual

Local Cosmopolitan

Egoism Self -interest

Company Profit Efficiency

Benevolence Friendship

Team Interest Social Responsibility

Principle Personal Morality

Company Rules and Procedures

Laws and Professional codes

Source: Adapted from Simha and Cullen, (Figure 1 p 22 2012)

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Figur

e II:

Five

com

mon

empirical derivatives of ethical climate

Source: Adapted from Simha & Cullen, (Figure 2 p 22 2012)

Ethical Theory

Locus of Analysis Individual

Local Cosmopolitan

Egoism Instrumental Instrumental Benevolence Caring Caring Principle Independence Rules Law and Code

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Figure III: Ethical work climate matrix (not for profit)

Ethical Theory

Locus of Analysis Individual

Local Cosmopolitan

Egoism

Machiavellianism

Benevolence

Individual caring Social caring

Principle

Independence Law and code

Source: Adapted from Malloy and Agarwal (2001, p 42)

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Table I – Empirical studies using the ECQ tool – not for profits Authors Study Details Ethical climates

identified 1.Deshpande 1996

Survey - one not for profit organisation. Also measured ‘ethical optimism’ and the influence of different ethical climate dimensions on the ethical practices of successful managers. Location: United States Sample size and type: 252 mid-level managers in a single charitable organisation 69% response rate.

Professional, rules, caring and instrumental

2. Agarwal Malloy and Cruise 1999

Survey- one single provincial sport federation. Location: Canada. Sample size and type: Executives, Board of Directors and coaches. Sample not provided in paper, noting 37% response rate to survey (148).

Individual caring and social caring.

3. Brower and Shrader 2000

Exploratory study regarding the difference between moral reasoning and ethical climate of different board members for seven profit and six not for profit organisations. Diverse industries including health care, research, manufacturing and charities. Included interviews. Location: United States Sample size and type: 83 (23 for profit; 60 not for profit. Response rate average 62% for- profit, 52% not for profit)

For profit organisations - climates higher in egoism than not for profit organisations. Not for profit - climates higher in benevolence than for profit organisations

5. Laratta 2009

Survey: multiple social services not for profits. Measured relative intensities of ethical climates and included interviews. Location: United Kingdom (7 organisations) and Japan (6 organisations) Sample size and type: Executive Directors. 148 (UK), 134 Japan with a 21.6 and 28.4 % response rate respectively.

Both countries – absence of a self- interest climate. Strong intensity of either individual caring or social caring climates. Law and codes strong climate in Japan, whilst independence strong in the UK.

6. Laratta 2010

Surveyed the not for profit and government sectors to compare ethical climates between the two sectors. Location: Japan Sample size and type: 500 public officials; 512 not for profit executive directors. Net sample of 441 questionnaires (not-for- profit) and 321 questionnaires (for government).

Laws and rules perceived as necessary by both not-for profit and government sectors. Absence of egoism with not for profit executives. Individual caring climate (friendship) or social caring climate (stakeholder orientation) high for both sectors.

3. Malloy and Agarwal 2010

Follow up of their earlier study (1999), but with a comparison of ethical climates in the government and not for profit sectors. Location: Canada Sample size and type: 500 not for profit and 500 for- profit managers with supervisory responsibilities. 30% and 46% response rate respectively across government departments and not for profit organisations (including charities) in two provinces.

Shared ethical climate dimensions for both sectors included individual, caring, independence and efficiency.

Source: Adapted from Dark and Rix (p SI26-27 2015)