Experts: News Corp. Structure Led To Scale Of Scandal; Board Backs Murdoch

The unfolding News Corp. hacking scandal is not just about a tabloid allegedly engaging in unethical and illegal behavior, but also about how widespread that behavior was apparently allowed to become within the company. Other News Corp. newspapers have been touched by the News of the World hacking scandal, and there are questions as to whether very senior executives in the company -- like James Murdoch -- participated in covering up the company's misdeeds. The DOJ is also reportedly investigating years-old allegations that a News Corp. advertising company hacked into a competitor's computer system.

For close observers of corporate governance, the fact that News Corp. could let a scandal like this one grow so out of control wasn't a surprise at all. In the midst of countless stories about bribery and hacking, several corporate governance experts have said that this scandal was predictable.

As Fortune senior editor Geoff Colvin explained last week:

Some people aren't at all surprised by the unending scandal at Rupert Murdoch's News Corp. They are the investors, insurers, lawyers, and others who had read the “Governance Analysis” report on the company from The Corporate Library, a research firm. The firm grades companies' governance from A to F, and for the past six years News Corp. has received an F -- “only because there is no lower grade,” says Nell Minow, who co-founded The Corporate Library in 1999 on the premise that governance “can be rated like bonds, from triple-A to junk.”

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News Corp.'s variety of lousy governance is simple -- one man exerts control wildly out of proportion to his stake in the business. As at many companies with bad governance, the mechanism is dual-class stock. News Corp.'s class A shares account for about 70% of the company's market cap (recently $41 billion total) but have no voting power. Only class B shares, which account for the other 30% of the market cap, get to vote, and Rupert Murdoch has almost 40% of the class B shares. Economically he owns just 12% of the company, but he wields total control because he can elect all the directors.

Colvin also noted that Charles Elson, Director of the University of Delaware's John L. Weinberg Center for Corporate Governance, said a structure like News Corp.'s “creates a culture with no accountability,” which certainly seems to be true in this case.

These experts aren't alone. The leader of corporate governance at CalPERS, the largest public pension fund in the nation and an investor in News Corp., has recently called News Corp.'s dual stock system, which gives Murdoch such runaway power, a “corruption of the governance system,” and has called for change at the company. Additionally, the Interfaith Center on Corporate Responsibility (ICCR) has called for Rupert Murdoch's dual roles as Chairman and CEO to be split, among other changes. The ICCR reported that a “significant” number of its members calling for the changes are shareholders in News Corp.

However, while experts point out that News Corp.'s very structure enabled a problem of this magnitude -- and investors are understandably up in arms -- the “independent” board members, who should be protecting the value of investment in the company, are instead covering for Murdoch.

Tom Perkins, one such director, reportedly said the board is “fully supportive of the top management” at News Corp., and director Viet Dinh similarly announced that the independent members of the board are “singularly aligned” in support of the “senior management team” at News Corp.:

“The News Corporation board of directors was shocked and outraged by the allegations concerning the News of the World, and we are united in support of the senior management team to address these issues,” independent director Viet Dinh said in a statement on behalf of the company's independent directors. “In no uncertain terms, the board and management team are singularly aligned and committed to doing the right thing.”

Dinh's statement of support for the management team came just hours after Rupert Murdoch testified that he is not responsible for the hacking scandal, that "perhaps" he “lost sight” of the scandal because it's such a small part of the company, but he will not resign because “he's the best man to clear this up,” -- testimony that caused experts to question his credibility as CEO.

Dinh not only is chairman of News Corp.'s corporate governance committee, but also has been tapped to serve as a go-between for the board of directors and a new management and standards committee responsible for cooperating with external inquiries and conducting internal inquiries “where appropriate.”

Given that News Corp.'s previous internal investigation into the scandal failed to uncover the extent of the hacking, Dinh's offering of public support for Murdoch in the midst of another is even more significant.

So, despite the drop in stock price after the scandal broke and the danger of the S&P placing the company on its “CreditWatch” list, the independent members of the board seem to have decided to protect the very management team that got them into this mess.

It's no wonder, then, that with this “culture with no accountability” at News Corp., the shareholders are taking action. Shareholder Nathan Cummings Foundation has pressed the company for “further action” on “transparency and good governance,” while shareholders have filed three separate lawsuits against the company:

1. Shareholders led by Amalgamated Bank have filed a lawsuit against the company, alleging that Murdoch is “larding the executive ranks of the Company with his offspring,” and that “News Corp.'s behavior has become an egregious collection of nepotism and corporate governance failures, with a board completely unwilling to provide even the slightest level of adult supervision,” all of which they argue allowed the hacking scandal to take place.

2. Holders of non-voting stock have filed a class action lawsuit, alleging that the company “issued materially false and misleading statements regarding the Company's business practices.”

3. The Massachusetts Laborers' Pension and Annuity Funds filed suit against the company, “seeking corporate governance reforms along with recovery of millions in losses caused by a breakdown of internal controls and the company's directors' breaches of fiduciary duty revealed by the scandal.”

The board may be closing ranks, but shareholders are seeking to show that News Corp.'s management can't avoid accountability forever.