Archive for May, 2011

Can political instinct be helpful when managing corporate crises? Not always–and here’s why.

Nowhere is effective communication as important as it is in politics. It is therefore not surprising many corporate crisis management and communications experts have earned their credentials in the contact sport of politics, whether in electoral campaigns and as spokespersons for the executive branch or agencies. Naturally, they will apply their political instincts and frameworks to the corporate world. Yet, a simple knowledge transfer can be perilous, especially in a crisis.

Among the many differences, two stand out. First, there is an important difference between the dynamics of attention in a corporate crisis and those in a political crisis. A common tactic for surviving a political crisis is to “wait it out”. In other words, media attention will soon move to a different topic, and by Election Day, voters may have long forgotten about this particular incident. The 2004 Abu Ghraib scandal, for example, played no role in the subsequent U.S. presidential campaign, and was never mentioned during the candidate debates between President Bush and Democratic challenger John Kerry.

“Waiting things out” works in politics for many reasons: Voters only cast ballots every few years, they have fewer choices on the ballot and, most importantly, voting decisions are driven by numerous considerations, including expectations about future policies and conduct. In this choice process, even a significant crisis is only one factor among many, and is perhaps only dimly remembered by voters when they cast their vote. More important, the “wait it out” approach works so well because the public pays constant attention to politicians, especially during a campaign. Since one story quickly follows another, any particular story is less likely to take firm root in the public’s imagination.

This approach does not work equally well in the corporate context because customers rarely pay a consistent, high level of attention to a company’s actions. When they do, however, they do so with heightened focus, so the impact on the company’s reputation can be profound and permanent. Imagine the Abu Ghraib scandal occurring in a prison operated by a private contractor. It is highly unlikely that the CEO would have survived such an incident.

Second, the fundamental experience of political competition is partisanship: government versus opposition, left versus right, Republicans versus Democrats. This experience is most pronounced during a campaign when for weeks and months, the gain of one side is the loss of the other. Thus, any damage to one’s preferred candidate’s public standing is immediately interpreted as the consequence of a negative campaign tactic employed by the other side. Of course, these fears are well-founded as evidenced by the history (and success) of negative campaigning. But the same dynamic is rarely at work in a corporate crisis.

Consider a familiar problem, say a recall of unsafe toys due to lead contamination used by a supplier. In this case, the toy manufacturer can expect hostile media coverage quickly followed by public concern from safety advocates, regulatory and legal action, and congressional oversight hearings. It is natural to feel attacked on all fronts, especially if the company feels it bears little responsibility for the incident. But notice the key difference when you compare this crisis to one during a political campaign: There is no “other side” on the issue. Toy safety is a universally held standard; it is not contested as the work of different political platforms during a campaign. Rather, the issue is whether the company fell short of the standard and, more generally, how toy safety can be improved—an outcome where the general public and, in most cases, the industry benefits. Using the language of game-theory, while political campaigns are zero-sum games, quality issues in an industry rarely are. While the exact trade-offs and welfare implications are complex, they typically are best understood as non-zero sum games.

A particularly tempting type of reputational challenge is an activist campaign, such as when aggressive NGOs such as the Rainforest Action Network or Greenpeace target a company for its alleged irresponsible environmental practices. Senior managers and boards frequently feel singled- out unfairly or misunderstood (and yes, this is usually the case). But even in the most confrontational of reputational challenges—an activist campaign—non-zero sum gains can be found.

One surprising instance is an analysis by my colleague Tim Feddersen and Tom Gilligan, Dean of the McCombs School of Business at the University of Texas, Austin. They argue that in industries with “credence goods,” activists can perform an important function as an information intermediary.  Credence goods, by the way, are characterized by the attributes customers care about, but that cannot be experienced in the act of consumption. Dolphin-safe tuna, fair-trade, child labor and environmental standards all fall into this category.
These attributes may lead customers to switch to competitor products, but they cannot verify such allegations on their own.  Customers need some assurance that buying the product is OK and companies are not always credible sources of such information. Why not? Because providing the standard preferred by concerned customers is typically more expensive. So, profit-maximizing firms have an incentive to conceal the facts of how the product is provided. Even if they tell the truth, they may not be believed. This “profit paradox” creates the need for trusted intermediaries that can be filled by the media and even activists. Feddersen and Gilligan show that the presence of such activist intermediaries can be welfare enhancing.

In a current project with my Kellogg colleague David Besanko and Northwestern economics graduate student Jose Abito we show a different mechanism where activists can create welfare improvements. The idea of the model is to show that companies that have an incentive to invest in their reputation for corporate citizenship will eventually have an incentive to “coast”, i.e. invest less and less as their reputation for social responsibility grows. I will discuss these ideas in a future posting. Stay tuned!

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The Trust Reservoir is Empty

Consumers are becoming less trusting of corporations, causing greater reputational risks. What’s to blame?

In the last year, trust in companies has steadily deteriorated, and this may be indicative of much more than simply an annus horribilis for business. The PR firm Edelman’s 2011 Trust Barometer shows that trust in business in the U.S. is now approaching levels found in Russia. The data in the rest of Europe are not much better.  Only some of the other BRIC counties (China and Brazil) show slightly increased trust. Moreover, NGOs are now trusted more than companies in almost every country, even China.  Business leaders and corporate boards are starting to take notice, but are unsure what to do.

In very recent memory, we’ve seen some of the world’s most recognized companies, all leaders in their industry, battling reputational crises.  And now the world is looking in horror at the Fukushima disaster, which in the words of late night talk show host Jay Leno, may make us look back at the Deepwater Horizon oil spill as the good old days.

But the root causes go deeper. Trust in business has been eroding at a steady pace over the last decade and CEOs are now among the least trusted professionals.  Four main factors are responsible for the increase in reputational risk.

  1. First, media coverage, whether traditional or social, has dramatically increased globally. This increased scrutiny has made it virtually impossible for companies to hide. Transparency is expected, while companies have less control over their messages; once an issue is on the Web, it will likely stay there forever.
  2. The second factor is an unexpected consequence of globalization. The globalization of activist organizations has matched the global reach of companies. NGOs have increasingly succeeded in forcing private regulation: the “voluntary” adoption of rules and standards that constrain certain forms of company conduct without the involvement of public agents. In many cases, the mechanism driving change is the creation of reputational crises for globally operating companies that, when effective, leave the companies with no choice but to change their business practices.
  3. Third is a shift in expectations about corporate conduct, especially among younger population segments. Evidence for these trends can be found in the explosive growth of areas such as corporate social responsibility, sustainability, and socially responsible investing. Some critics have dismissed these trends as passing fads that lack impact, but reputational crises are increasingly being driven by moral outrage, whether over environmental concerns or executive perks.
  4. The final factor is the rise of business models based on trust. To develop unique customer experiences and solutions, companies need to get closer to customers’ unarticulated—perhaps even unconscious—desires and needs. This requires trust.  While this shift has undoubtedly created new opportunities for value creation, even the mere perception of broken trust will lead to a feeling of betrayal, a strong emotion indeed.

How have companies responded to these trends?  Poorly.  Most companies still view stewardship of the company’s reputation as a narrow issue best left to the PR department.  For the most part, the response is an underfunded initiative greeted by nervous questions from the board. Underdeveloped capabilities in the presence of growing reputational risks will lead to an increase in reputational crises. That mismatch is untenable.

Most companies still believe that building a strong reputation is easy and only requires common sense; it is merely a natural consequence of doing right by customers, employees and business partners.  This approach is flawed. Good business practices are important, even necessary, but they are not sufficient for successful reputation management. A company’s reputation needs to be actively managed by the business leaders, led by the CEO as the steward of corporate reputation. While experts such as public relations specialists may play an important role, they should not own the process. The reason is that challenges to a company’s reputation typically arise out of a specific business decision, but reputational risk awareness is not part of the decision process.

Successful reputation management is difficult. It requires a high level of strategic sophistication and mental agility that sometimes runs counter to day-to-day business decisions. A company’s reputation is shaped not just by its direct business partners, customers, and suppliers, but also by external constituencies. Frequently, constituencies that have lain dormant for many years can suddenly spring into action, particularly in the case of reputational crises. Companies need to have a process to identify such risks.

A company’s reputation consists of what others are saying about the company, and not just its business partners and customers. It is essentially public. This necessitates the ability to assume external actors’ perspectives and viewpoints, especially when they are critical or even hostile towards the company.  This requires a strategic rather than defensive approach by business leaders.  Anger or self-pity are not helpful.

A strategic approach requires the emotional fortitude to treat reputational difficulties as understandable — and even predictable — challenges that one should expect in today’s business environment. As a result, companies should handle reputational crises like any other major business challenge: based on principled leadership and supported by sophisticated processes and capabilities that are integrated with the company’s business strategy and culture.

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