Reputation Leadership: It's More Valuable Than You May Think

Nir Kossovsky

Leaders know that reputation matters and that a good reputation brings countless benefits; and yet, most leaders don’t appreciate fully the financial benefits of a good reputation, or the costs of a damaged one.

Since reputation-linked assets account for 70 percent of corporate value, developing and leading a reputation management initiative can yield high quantitative and qualitative returns, and mitigate extraordinary costs.

Recent Case in Point: Toyota

Harmony, honor and a devotion to quality characterized the Toyota Motor Company’s philosophy for half a century. These values were memorialized in a 1962 pact between management and labor that created a uniquely cooperative workplace. Toyota’s team approach enabled them to reduce the costs of defects and waste in accordance with the quality principles of W. Edwards Deming. In 1965, Toyota won the Deming Prize for quality. In 1992, Toyota revised its credo to embrace reputation- linked values such as honor, respect, safety, quality and innovation.

Fast-forward 10 years. In 2002, Toyota set a target to be the world’s top automotive manufacturer. With an aggressive goal that required 50 percent growth, market share trumped less-easily measured intangible values such as honor and respect. This re-prioritization set up Toyota’s fateful 2006 decision to sideline quality concerns that might adversely impact its growth strategy.

In early 2009, Toyota, the world’s No. 1 automobile manufacturer, began to recognize the costs of nine years of reputation risk buildup arising from certain failed processes. Our Corporate Reputation Index records an acute drop in early 2009, safety and quality issues surfaced with increasing frequency. Stock price growth relative to market peers began to slow in late 2009, presaging its acute fall in early 2010. The thing about headline risks and reputation perils is that they can snowball. In 2010, Toyota faces criminal and Congressional probes into its safety problems. Both matters are being outdistanced by the myriad civil lawsuits being filed for claims of personal injury, wrongful death, racketeering and unfair business practices. And insurers are preparing to subrogate past auto accident claims involving Toyota vehicles.

Equity costs to date are in the $25 billion range. Pricing power impact so far is 3 percent. Market share fell another 3 percent for the year, and January 2010 sales fell 16 percent to their lowest level in a decade. Operating costs are difficult to estimate—it was in an effort to control them that risk arose. Adding to future expected operating costs will be regulatory costs, possible fines and penalties, litigation costs, insurance subrogation costs and inferior vendor terms. Credit default swap pricing is up 30 percent, foreshadowing higher credit costs. All told, we estimate the reputational impact, so far, to be a $2 billion cost to earnings and a $25 billion cost to market cap for 2010.

A strategy that generates phenomenal economic returns for seven years, only to create a situation in which everything is given back in one 12-month period, is not desirable. At a time when intangible assets represent 70 percent of the value of public companies, leaders must develop and execute strategies that harness the power of reputation to drive intangible asset value. Superior reputations pay off with: pricing power, lower operating costs, greater earnings multiples, lower beta (stock price volatility) and lower credit costs. When reputation is damaged, these benefits are lost. These lost benefits will cost Toyota $2 billion this year.

Reputation is the collective impression held by stakeholders of how a company manages its intangible assets. The CEO, executive team and board have the primary roles and responsibilities in that management process. Reputation management encompasses the enterprise-wide management of six intangible assets: 1) ensure an ethical work environment; 2) drive innovation; 3) assure quality; 4) uphold safety; 5) promote sustainability; and 6) provide security. These six reputational assets interact with one another in a relationship resembling a Roman arch, where a process failure of any one intangible asset can result in a precipitous loss of value, and can even place the enterprise in peril. Toyota’s 1992 credo incorporates three of the six.

Leadership means fostering conformance with intangible asset management best practices. It means using the latest tools—IT systems, employment incentives, and insurance instruments—to shape behavior. Indeed, it was a failure of leadership and a lapse in managing the key intangible asset of ethics in 2006, motivated by a metric-driven obsession to outperform General Motors, that brought down 73-year-old Toyota’s Roman arch of reputation in less than four years.

Fight Metrics with Metrics

In the face of demands for measurable performance indicators, most executives may feel that they lack the tools to affirm the value of risk and reputation management. Many may have a clear vision of an integrated reputation management solution, yet lack the resources to implement it.

In a business culture that manages what it can measure, we affirm that the value of intangible assets can be measured. As the Toyota case illustrates, intangible asset management affects pricing power, and both operating and capital costs. Our Corporate Reputation Index tracks reputation by capturing market measures of pricing, net income, earnings expectations, and uncertainty, and then reporting near-real time on reputation at the enterprise level.

Directors are likely to be held personally liable for money damages if they breach their duty of oversight, including management of intangible assets and risk. As a reputation leader, your mission intangible is to create enterprise value by understanding the business processes on which your reputation depends, protect them, practice them wisely and communicate your mastery to your stakeholders.

First Published in Leadership Excellence 5/2010