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Home > Business Strategy Best Practice > Governance and Reputation Risk

Business Strategy Best Practice

Governance and Reputation Risk

by Andrew Tucker

This Chapter Covers

  • Why governance is a key reputation risk.

  • Governance beyond the boardroom.

  • Aligning culture and strategy.

  • A practical way forward.

  • Summary and further steps.1

Introduction: Why Governance Is a Key Reputation Risk

Reputation risk is diminished when corporate culture and strategy are closely aligned but heightened when they are divergent.2 In this context, the role of corporate governance is to produce and enforce rules and structures to align a firm’s operating procedures and strategy to produce superior performance. Therefore, ensuring that corporate governance arrangements are optimum are a key aspect of managing reputation risk.

However, in recent years corporate governance thinking has not kept pace with developments in the corporate world. The result can be seen in the number of catastrophic failures of corporate governance that have been found behind recent major corporate reputation crises. From the Royal Bank of Scotland’s subservient board—which provided little oversight to the CEO’s debt-fueled expansionist plans—to warning signs from mid-management being ignored at Northern Rock and HBOS, corporate governance rules and regulations were followed but stretched far beyond their intended purpose. Yet, as the Organisation for Economic Co-operation and Development (OECD) concluded in 2009, “the financial crisis can be to an important extent attributed to failures and weaknesses in corporate governance arrangements.”3

Outside the banking sector, the 2010 Gulf of Mexico oil spill exposed BP’s weak governance of safety arrangements, the 2008 bribery scandal at Siemens came from bribes being perceived by mid-management as common business practice in winning contracts, and the ongoing phone-hacking scandal at News International provides mounting evidence of an absence of governance oversight by the parent company and an absence of governance practice by the News of the World’s management (see Case Study). Again, these firms claimed that corporate governance rules and regulations were followed and expressed surprise at the subsequent reputation damage they suffered.

These examples all show how the firms’ corporate governance arrangements failed to align operating procedures with strategy and resulted in massive reputation damage. The Royal Bank of Scotland pursued an aggressive expansion strategy in its global footprint but claimed that its loan book strategy was actually conservative to counterbalance risks elsewhere in the business. However, senior managers (with the tacit acceptance of major shareholders) actively withdrew the counterbalancing checks by promoting risk-taking investment bankers to board positions that required a wider view of the firm’s reputation risks. According to BP executives, they had learned the lessons from the 2005 Texas City refinery explosion and had put in place safety arrangements across the firm. However, this safety consciousness did not extend to the group’s aggressive strategy of deepwater exploration. As a result, a safety culture with clear awareness and appreciation of safety concerns did not permeate the operating procedures that were drawn up by BP’s commercial partners in the Gulf of Mexico.4

What is missing from these examples is an understanding of the role of corporate governance beyond a bureaucratic box-ticking exercise—senior executives interviewed at the Royal Bank of Scotland and BP after their respective crises claimed that their organizations had “ticked all the boxes.”5 Corporate governance is taken less as “how we do things around here” and more as “the minimum bureaucracy required.” As a result, governance rules and structures are designed not to impede strategy rather than to help deliver it. This, in turn, increases reputation risk because corporate governance is not seen as an effective means and method of exerting operational control.

Reputation Risk and Corporate Governance

Can reputation damage be avoided by focusing on corporate governance issues? Whereas a reputation crisis can strike seemingly without notice, failures of corporate governance take years to build and establish the corporate culture within which reputationally risky behavior becomes the norm. In other words, corporate governance is a leading indicator of reputation risk. Given the abruptness of reputation crises and the enormous resources required to deal with them, it therefore makes operational sense to monitor developments in corporate governance for warning signs of impending reputation damage.

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Further reading

Article:

Reports:

  • Ashby, Simon. “The 2007–2009 financial crisis: Learning the risk management lessons.” Financial Services Research Forum, University of Nottingham, January 2010. Online at: tinyurl.com/6gq4e9x
  • Ashby, Simon. “Picking up the pieces: Risk management in a post crisis world.” Financial Services Research Forum, University of Nottingham, and Financial Services Knowledge Transfer Network, 2011.
  • Basel Committee on Banking Supervision. “Principles for enhancing corporate governance.” Bank for International Settlements, October 2010. Online at: www.bis.org/publ/bcbs176.htm
  • Committee on the Financial Aspects of Corporate Governance. “Report of the Committee on the Financial Aspects of Corporate Governance” (Cadbury Report). London: Gee, December 1, 1992. Online at: www.ecgi.org/codes/documents/cadbury.pdf
  • Financial Reporting Council. “The UK corporate governance code.” June 2010a. Online at: www.frc.org.uk/corporate/ukcgcode.cfm
  • Financial Reporting Council. “The UK stewardship code.” July 2010b. Online at: www.frc.org.uk/corporate/investorgovernance.cfm
  • Sants, Hector. “Do regulators have a role to play in judging culture and ethics?” Speech to Chartered Institute of Securities and Investments Conference, London, June 2010. Online at: tinyurl.com/369s2ry
  • Sants, Hector. “Can culture be regulated?” Speech to Mansion House Conference on Values and Trust, London, October 2010. Online at: tinyurl.com/4ycclz7
  • Senior Supervisors Group. “Risk management lessons from the global banking crisis of 2008.”
  • October 21, 2009. Online at: tinyurl.com/3ebc7n5 [PDF].
  • Walker, David. “A review of corporate governance in UK banks and other financial industry entities: Final recommendations” (Walker Review). HM Treasury, November 26, 2009. Online at: www.hm-treasury.gov.uk/d/walker_review_261109.pdf

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