Study into the Effect of Organization Reputation on Business Failure



The reasons for business failures today is not only because of a poor financial performance but could be caused by a reputational damage. Reputation is what attracts the customers, investors, and employees to a company. Reputation is what makes an organization trustworthy to its stakeholders. Reputation is an intangible important asset in organizations today and it is of great importance that reputation is protected in order to achieve the objective of the organization as a whole because damage to reputation could lead to the overall failure of a business.

Objective of study

This study aims to achieve a thorough understanding of the following:

The importance of reputation to organization

The impact of reputation on organizations

The risk of reputational damage

How organizations can manage reputational risk

1. Reputation

The value of many organizations is measured not only by their overall financial performance but also by their intangible assets like Goodwill, Reputation, Brand image and Expertise as stated by Blackburn et al (2004). Reputation is therefore an important factor that determines a firm's success and survival in the business world as claimed by Cai and Obara (2009). Reputation is a business asset that organizations must strive to achieve in order to gain d competitive edge in its industry, attract investors, attract highly skilled employees and remain successful in the long run. According to Botelho as cited by Sim (2009), "Reputation is an important corporate asset in terms of satisfying not only investors, but also employees and the general public''

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Reputation as defined by Fombrun & Gardberg (2000) "is the net perception of a company's ability to meet the expectation of all its stakeholders". "Reputation has been defined as the public information on the hitherto trustworthiness of an actor" Einwiller (2001). The "actor" in this case being the organization.

Scholz (2008) says "Reputation is built on public perceptions of the company being a good employer, a quality provider, reliable and dependable, trustworthy, dynamic and a benefit to the community". The perception of a company by its stakeholders could be birth by various ways. Barnett et al cited by Sim (2009) says it could be as a result of beliefs people have about an organization through word of mouth or the mass media and it could be based upon their past experience with the organization.

Reputations emerge as a result of social network effects, when information on an organization's behavior spreads to others through an information network. (Granovetter cited by Einwiller, 2001)

Walker information carried out a survey in 1997 on how customers and key stakeholders got information about a company. The result of the study revealed four sources of information which includes reading articles about the company, watching the companies television adverts, communicating with friends and colleagues about the company and interacting directly with the company. Saxton (1998)

1.1 Effect of good reputation on organizations

Good reputation has various impacts on the organization as a whole. According to Fomburn & Gardberg (2000), companies can be profitable in other aspects that encompass social, emotional, organizational and financial features of a company by having good reputation. He says a strong reputation is expected to enable companies command premium prices on their products, to lower marketing cost and to help attract the best employee talent. Organizations with good reputation lead their industries above their competitors and have been able to put a premium price on their products.

Researchers have shown that reputation is linked to various key out comes including return to investors, lower cost of capital, stock price and success with alliances (Saxton,1998).

Investors want to minimize their cost of capital and maximize their returns. A good reputation enables the organization satisfy its shareholders wants because it attracts investors to an organization thereby increasing its market price at a low cost.

Significant advantages of a solid reputation as stated by Kartalia (2000) includes

superior share valuation

improved access to capital markets

reduced marketing costs

premium pricing capability

attracting the best employees and their continued retention

increased productivity and employee morale

loyal (repeat) customers

higher level of respect and deference from the press, politicians

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preferred relations with advocacy and special interest groups

easier crisis management response

The Coca-Cola Company is an example of a company with good reputation. It is the world's largest beverage company producing soft drinks like Coke, Diet Coke, Fanta, and Sprite. Coca-Cola is said to be the most-recognized trademark. The company has always made customers satisfaction the main objective of the business and has continuously made a strategic decision that has led to customers' satisfaction by improving its products and services. This has contributed to the company's strong reputation over the past years. Coca-cola occupies a market position which its competitors like Pepsi have not been able to imitate over the years and it is able to command a premium price for its products due to its reputation. (Brain, 2010)

2. Reputational risk

Reputation has been revealed to be 1 of the most 2 important risk confronted by business today (Kartalia, 2000). Reputational risk is now considered the single greatest threat to businesses today as noted by Murray (2003). Murray stated that risk to reputation may arise from financial and product performance, legal and regulatory standards, ethical behavior, environmental impact, human right and equitable treatment of staff, awareness and respect for local customs and tradition.

2.1 Risk of Adverse publicity

According to Hopkin (2010) for reputational risk, the most likely benchmark test for its significance will be based on adverse publicity and a fall in share price that would result if the risk materializes. The risk of adverse publicity could bring down organization as a whole and eventually lead to a fall in share price.The media is important because most stakeholders rely on print and visual media to get information about a company. (Saxton,1998)

Overbay (2004) stated that in a recent survey by hill and knowlton,a Canadian public affairs and public relations company,CEO's from the United State, Canada and the United Kingdom were asked what they felt were the biggest threat to corporate organizations. They cited print media criticism of their respective companies or products as the singular most concerning threat to corporate reputation. According to Greenwald (2010), it is critical that companies monitor and, if called for, address what is being said about them in social media to avoid reputational damage.

Toyota is a company that has been known for its good reputation over the years. Toyota announced on January 21st 2010 apart from the recall it made in November 2009 that it was recalling around 2.3 million vehicles because of accelerator pedals that are at risk of becoming stuck (Bradford, 2010). Customers of the Toyota Company have filed approximately 41 law suits against Toyota. Toyota faces at least 13 individual lawsuits claiming deaths or injuries caused by unwanted acceleration of vehicles.(Business, 2010)

The pedal issues, which led to the latest recall of some of their products is very expensive to fix.. Toyota estimates its losses will reach $2bn (£1.23bn) in costs and lost sales of its vehicles having the pedal problem. The losses could increase if the trust and reputation the company built up over a period of decades has been destroyed due to the problem. New investors are no longer attracted to the company and most of their investors are leaving. The share price of Toyota is falling drastically because no one knows the extent to which the reputational damage would destroy the company. (Madslien, 2010).

3 Management of Reputational Risk

The institute of risk management defines risk as the process which aims to help organizations understand, evaluate and take actions on all their risk with a view to increasing the probability of success and reducing the likelihood of failure.

Sims as noted earlier in this text, proposed his single-loop actions and double-loop actions to manage reputational risk. The Double-loop actions attempt to create lasting change in the organization and thus are proactive steps that organizations can take to avoid negative perceptions or continued damage to corporate reputation. These include fixing

the outcome, rewarding positive behaviors, training, proactive decoupling, and implementing new policies.

Fixing the outcome: In fixing the outcome, the organization begins to rebuild its damaged reputation by accepting responsibility and doing all that is necessary in order to gain reputation again.

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Rewarding positive behaviors: Organizations may decide to recognize employees publicly for portraying ethical behavior and complying with the code and conduct of the organization

Employee training: Engaging in continuous training of employees and making them aware of the ethical code and conducts of the organization

Implement new policies: Organizations could implement new policies in order to maintain its reputation and to prevent future scandals. These policies could serve as internal control measures to reduce the risk of reputational damages. These policies should be reviewed from time to time.

In order to successfully manage risk, risk has to be identified, controlled and a continuous reporting or feedback system should be in place so those charged with governance can be updated on the progress of the success of the organization.

Rayner as cited by shackleford (2010) says "identifying potential sources of reputation risk require people to think outside the box and pose challenging "what if" questions about to envisage scenarios and combination of events that could give rise to problems as reputation damage often stems from a lack of congruence between an organization's avowed aims and values and the expectation of it's stakeholders. Techniques such as stakeholders analysis, SWOT and PESTLE can prove useful"

According to Botelho as cited by Sim (2009), "Reputation is an important corporate asset in terms of satisfying not only investors, but also employees and the general public''

Since reputational risk arises from stakeholders' unsatisfaction with the organizations operations, it is important to analyze the external environment for threats of risk using PESTLE and SWOT analysis.

The SWOT analysis can be used to identify and manage risk by analysis the organizations internal and external environment by evaluating its strength, weaknesses in it's internal environment and its opportunities and threats in its external environment.

PESTLE involves the analysis of the political, economical, social, technological, legal,

and socio-cultural environment that might threatens the reputation of the organization..

A structure for identifying risk facing organizations is important in order to manage risk successfully. Hopkin, (2010) provides the following risk classification system. The FIRM risk scorecard and PESTLE among others. The FIRM risk scorecard is concerned with financial, infrastructural, reputational and marketplace success of organizations. Control mechanisms listed for reputational risk include marketing, advertising and reputation protection.

3.1 Control of Reputational Risk

The 4t's of hazard management suggest 4 ways of controlling risk.

The risk matrix and 4t's of hazard management.

Impact Transfer Terminate

The risk to another party the activity generating the risk

Tolerate Treat

the risk and it's likely impact the risk to reduce the likely

impact or exposure.


(Hopkin, 2010)

Blackburn (2004) explains the 4t's as follows

Treat the risk: Action is taken to reduce the probability or impact of reputational risk .Internal controls could be put in place to manage risk within the organizations, external controls to manage external risk that may damage reputation.

Transfer: Risk could be transferred by outsourcing the risk or the department associated with the risk, sharing the risk to reduce its impact by going into a joint venture, insuring against risk.

Terminate: Organizations should terminate the activity if risk cannot be tolerated, transferred or treated or where the cost of treatment or transfer out weighs.

Tolerate: Organizations should tolerate risk where the risk can not be controlled, where the risk impact and likelihood is low or where controls have reduced the risk to a tolerable level.