Corporate scandals can be costly to investors in the immediate term, but employees who blow the whistle on wrongdoing help their companies become more profitable in the long run, according to a new study.
In a detailed analysis written by Kyle Welch of George Washington University and Stephen Stubben of the University of Utah, companies that provide employees with channels through which they can disclose unethical activity earn a greater return on assets than firms with underdeveloped whistleblowing platforms.
The report, titled "Evidence on the Use and Efficacy of Internal Whistleblowing Systems," analysed over 10 years' worth of records from NAVEX Global, which monitors whistleblowing and incident reporting for 8,500 companies. The study's criteria covered a range of categories, including financial reporting, sexual harassment and workplace safety, among others.
According to the author's findings, whistleblowers play a key role in cleaning up a company's financial and corporate culture, and even help them achieve profitability goals. Firms that are more active users of internal hotline systems for compliance achieve a higher return on assets, the study found.
The names of the companies used in the study have been withheld by the authors, in an effort to preserve confidentiality.
Whistleblowing has been key to forcing cultural change and exposing corruption. In the early 2000s, key employees helped to exposed a wave accounting scandals of the early 2000s. More recently, whistleblowing at tech giants like Uber, Google and Tesla have unearthed cultural and management issues those companies have been forced to address publicly.
Still, the whistleblowing study found that many companies either ignore or mishandle internal compliance complaints, and often don't know what to do with derogatory information that comes to light. However, the researchers found that the more employees call out bad corporate behavior, the less likely companies are to face legal action that results in big payouts of settlements and other legal fees.
The authors found that internal whistleblowing resulted in 6.9 percent fewer pending lawsuits against companies. Those that actively encouraged disclosure of problems saw 20.4 percent less in settlement costs than those with subpar reporting procedures.
"The more [whistleblowing] reports you have, the more accurate the firm is on monitoring the reports [and] the fewer material lawsuits you have in the future," Welch told CNBC in a recent interview.
Welch characterized companies without a whistleblowing culture as having a "cockroach situation," in which serious problems fester in the dark without being addressed. When those problems come to light, they become more damaging, and often spark a backlash against management.
Many companies now educate their employees on whistleblowing, building a culture where reporting misconduct is acceptable. Some businesses even offer bonuses to employees who bring forth issues that could indicate more significant problems, NAVEX CEO Bob Conlin said.
"Trending up is non-anonymous reporting," Conlin told CNBC. "Employees are feeling more comfortable bringing issues to [human resources] and not worrying about retaliation."
The report points out that internal problems have become more transparent in the wake of the passage of the Dodd-Frank Act, which offers monetary rewards for any employee who reports original information that results in the company paying sanctions $1 million. Welch pointed out there's an incentive for employees to keep it in house, at least at first.
"Whistleblowers, if they go to a regulator [externally], are given a better reward if they use the system internally first," Welch said. Allegations within a company are likelier to be taken seriously by the Securities and Exchanges Commission – if they are first investigated by the company's management, and if the whistleblower has tangible proof to accompany the accusations, Welch added.
Pursuing problems internally is sometimes more preferable to employees, who may want to be loyal to the organization and want to help resolve problems without outsiders, Welch added. However, that path is sometimes less effective, as studies show between 30 and 40 percent actively discourage whistleblowing.
And when management ignores, dismisses, or mishandles whistleblowing, Welch conceded that the integrity of whistleblowing channels can be compromised.
Still, NAVEX's Conlin believed that whistleblowers as a whole are feeling more empowered to speak up without fear of repression.
"The Me Too Movement has had a substantial impact culturally," Conlin said. "People [are] recognizing around the world that speaking up and speaking out is necessary."