978-0077862213 Chapter 3 Case Hewlett Packard

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Case 3-4

Hewlett-Packard1

Legal Settlement

On December 8, 2006, California’s attorney general announced a settlement with Hewlett-Packard (HP) over its

corporate spying scandal. The civil settlement involved a lawsuit the state filed against the computer giant in Santa

Clara County Superior Court. Under the agreement, HP will pay $13.5 million to create a “privacy and piracy” fund

to help state and local law enforcement fight privacy and intellectual property violations. The rest of the money will

go to damages and to pay for the investigation.

The scandal broke in September when HP acknowledged in an SEC filing that investigators probing internal HP

leaks to the media had gained access to board members’ personal phone records by impersonating the board

members, a practice known as “pretexting.” HP’s investigators also conducted physical and electronic surveillance

of board members and reporters, according to HP documents.

Pretexting violates a California criminal law banning the use of “false and fraudulent pretenses” to obtain

confidential information from a phone company, stated Attorney General Bill Lockyer. California civil law also

considers criminal acts unlawful business practices, which was the basis of the state’s civil action.

Mark V. Hurd, HP’s chair and chief executive, hailed the deal. “We are pleased to settle this matter with the

attorney general and are committed to ensuring that HP regains its standing as a global leader in corporate ethics and

responsibility,” he said.

The HP Investigation

An article in January 2006, by CNET reporter, Dawn Kawamoto, discussed confidential information available only

to HP’s Board. The CNET article reignited the leak investigation. Recognizing the potential legal problems that

board-level leaks could pose for HP, Chairwoman Patricia Dunn immediately initiated a new investigation of the

leak and expressed her urgency to HP’s general counsel, Ann Baskins. The second and far more intrusive

investigation extended from January through March and included the following:

1The case is The 1199 SEIU Greater New York Pension Fund, et al. v. Patricia C. Dunn, et al., CA No. 06-071186,

Santa Clara County Superior Court (San Jose).

Reviewing the company email accounts, company phone records

and computer hard drives of every member of HP’s “Executive

Council”;

Hiring a private investigation firm, which in turn subcontracted out

the job of obtaining private telephone records of select Board

members and nine journalists, including Dawn Kawamoto, the

CNET reporter who had written the January 2006 article;

Surreptitiously following Kawamoto and suspected Board members

in public (and apparently searching through their trash);

Setting up a “sting” in which investigators sent Kawamoto an email

containing fake tips about HP and an attachment whose tracking

software would trace the email’s path after it reached Kawamoto’s

computer.

Insider Trading

HP investors sued some of the computer maker’s directors, claiming they sold $38 million in company stock shortly

before publicly acknowledging an internal probe into boardroom leaks. The directors, including CEO Mark Hurd,

exercised options and sold shares during a 2 1/2-week period beginning August 21, 2006. HP began its internal

investigation after boardroom discussions about ex-CEO Carly Fiorina were quoted in news stories.

The flap over the probe cost Chairwoman Dunn and two HP executives their jobs and sparked investigations by

U.S. regulators. The company said on November 16 that the SEC stepped up its examination of the company’s

tactics and the Federal Communications Commission had requested documents related to the leak probe.

California prosecutors had charged Dunn, HP’s former CEO, with conspiracy and fraud for directing the

boardroom spying. They also charged Kevin Hunsaker, an in-house lawyer and former director of ethics, as well as

three private investigators who participated in the probe.

Board members, worried about negative publicity over the leak probe, took steps to protect the company’s stock

by approving a $6 billion share buyback program less than a month before the spying became public. That brought

the amount of shares HP was authorized to buy back to $11.7 billion, according to the complaint. The investors

alleged that the share buybacks were prompted by defendants’ illegal misconduct.

Ethics Compliance Officer

Having a chief ethics officer didn’t help HP. Chairwoman Dunn lost her job after hiring private investigators to

find leakers on HP’s board. The spying scandal that ensued led to Dunn’s indictment and an investigation by the

House Energy and Commerce Committee. Even CEO Mark Hurd, who had replaced Dunn as chair, has been

implicated in the scandal. And it all happened under the watch of Kevin Hunsaker, HP’s senior counsel and chief

ethics officer. He resigned in September 2006.

Corporate Governance and Ethics Issues

The original lawsuit claimed “breach of fiduciary responsibilities” by HP executives. It alleged that the executives’

spylike tactics to uncover boardroom leaks harmed the company. The suit claimed that the group engaged in insider

trading just before news of the spying incident became public. Specifically, the suit claims that they sold off $41.3

million worth of stock two weeks before the scandal broke. The lawsuit also alleged that the group approved stock

buybacks in the months preceding the scandal in an effort “to keep the company’s stock price propped up while

insiders were selling.”

HP also agreed to strengthen in-house monitoring to ensure that future investigations launched by HP or its –

contractors would comply with legal and ethical standards and protect privacy rights. HP further agreed to hire an

independent director, expand the duties of its chief ethics officer and chief privacy officer, beef up staff ethics

training, and create a compliance council to set policies for ethics programs.

In the lawsuit, Attorney General Bill Lockyer was quoted as saying:

With its governance reforms, this settlement should help guide companies across the country as they seek to

protect confidential business information without violating corporate ethics or privacy rights. The new fund

will help ensure that when businesses cross the legal line they will be held accountable. Fortunately, Hewlett–

Packard is not Enron. I commend the firm for cooperating instead of stonewalling, for taking instead of

shirking responsibility, and for working with my office to expeditiously craft a creative resolution.

The settlement’s corporate governance reforms aimed to strengthen in-house monitoring and oversight to ensure

compliance with legal and ethical standards, and protection of privacy rights, during any investigations launched by

HP or outside firms hired by HP. “This settlement creates a template for other companies seeking to protect

confidential business information without violating corporate ethics or privacy rights,” stated Lockyer.

Major Governance Reforms

The major governance reforms included the following:

• A new independent director will serve as the board’s watchdog on compliance with ethical and legal

requirements. The director will have specific responsibilities in carrying out that oversight function, and report

violations to the board, other responsible HP officials, and the attorney general.

• HP’s chief ethics and compliance officer (CECO) will have expanded oversight and reporting duties. The CECO

will review HP’s investigation practices and make recommendations to the board on how to improve the practices

by July 31, 2007. The CECO, who previously reported only to the general counsel, now also will report to the

board’s audit committee. Additionally, the CECO will have authority to retain independent legal advisors.

• HP will expand the duties and responsibilities of its chief privacy officer to include review of the firm’s

investigation protocols to ensure they protect privacy and comply with ethical requirements.

• HP will establish a new Compliance Council, headed by the CECO and also comprised of the chief privacy

officer, deputy general counsel for compliance, head of internal audit, and ethics and compliance liaisons. The

council will develop and maintain policies and procedures governing HP’s ethics and compliance program, and

provide periodic reports to the CEO, audit committee, and board.

• HP will beef up the ethics and conflict-of-interest components of its training program. The training redesign will

be directed and monitored by the CECO, Compliance Council, independent director, and chief privacy officer. HP

also will create a separate code of conduct, for use by outside investigators that addresses privacy and business

ethics issues.

Video Link: http://www.youtube.com/watch?v=8a2TgJW9Y1s

Questions

1. The original lawsuit filed in the HP case claimed that the executives breached their fiduciary

responsibilities. What are the fiduciary responsibilities of executives and members of the board of directors to

shareholders? How were these obligations violated in the HP case?

It is the fiduciary responsibility of executive and members of the board of directors to act for the sole benefit of the

shareholders in all situations. This includes to exercise due care and loyalty to the interests of the shareholders. The

shareholders rely on and trust their investments with the executives and members of the board. In the HP case these

2. Describe how “ethical fading” influenced the actions taken in the pretexting scandal including those

identified in the HP investigation. Are there similarities between the actions of management in the HP case

and those in the Challenger Shuttle Disaster?

Ethical fading occurs when people are so focused on other aspects of a pending decision that its ethical aspects fade

from view. Like with the Challenger Shuttle Disaster, Patricia Dunn and Ann Baskins became so concerned with

3. Recently, in 2011, Hewlett-Packard Vice President and Chief Ethics and Compliance Officer Jon Hoak

talked about renewing H-P’s commitment to a culture of integrity at a meeting with members of the Business

and Organizational Ethics Partnership at the Markkula Center for Applied Ethics at Santa Clara University.

In his presentation that addressed the pretexting scandal, Hoak said “The people involved were only

concerned about whether pretexting was legal. Nobody asked, ‘Even if it’s legal, is it the right thing to do?'”

What is the relationship between legality and what is the right thing to do in making business decisions?

Laws create a minimum set of standards. Ethical people often go beyond what the law required because the law

cannot cover every situation a person might encounter. Ethical people often do less than is permitted by the law and