Reputation Risk Series – Part 1: Basics of Reputation Risk

by Antonius Alijoyo
Chairperson, ERMA

In a volatile global marketplace, where media coverage is almost simultaneous across the world and where reputation is seen as a key source of competitive advantage, trust and confidence are now understood to be the key business drivers. Reputation is the mirror of company’s trustmark.

However, reputation is subjective and elusive. It is not readily defined. Every time a company sells a product, provides a service, enters into a contract, builds a new facility, invests in research or technology, or enters into litigation, it is making decisions that define its reputation. It is an intangible asset. While it exists primarily in the minds of customers, shareholders and the public, it can have a profound impact on the balance sheet and economic profit of companies.

Given the potential impact of reputation, it is only prudent to manage it judiciously, with all the care given to any other company asset. Indeed, the value of reputation extends over a long period of time. Strong management, authentic human capital, positive customer relations and favourable media coverage can – and do – make tangible and measurable contributions to the company’s resilience and future earnings. Customers and potential buyers, investors and creditors are constantly evaluating these intangibles in their decisions to purchase, invest or lend. Similarly, employees and future recruits are evaluating companies and making choices about where to work.

What is reputation?

Reputation reflects the perception, good or bad, that the different groups of people who interact willingly with or are affected by an organisation – the stakeholders – have of the company. They form their perception based on their evaluation of the organisation’s performance through the available information. It changes all the time, reflecting both the things we say and do and the trends and events that change the way our words and actions are interpreted.

The reputation of any organization of any size is complex. It exists in the minds of both those with whom we interact directly, and in the minds of those who become aware of us as word of our actions circulates.

What is reputation risk?

In a survey of 269 executives, conducted by EIU (Economist Intelligence Unit – 2005: Reputation: Risk of Risks), reputational risks emerged as the most significant threat to business out of a choice of 13 categories of risk. The respondents also felt that risks to their company’s reputation had increased significantly over the past five years.

Whilst there is a long outstanding debate on the categorization of reputation risk – whether reputation risk is an issue on its own right or simply a consequence of other risk (risk of risks) – the followings are some working definitions which can be used (quoted from various sources):

  • Reputation risk is the current and prospective impact on earnings and capital arising from negative public opinion. This affects the organisation’s ability to establish new relationships or services or continue servicing existing relationships. This risk may expose the organisation to litigation, financial loss, or a decline in its customer base. Reputation risk exposure is present throughout the organization and includes the responsibility to exercise an abundance of caution in dealing with its customers and the community.
  • Reputation risk is the impact of third party pressures and influence on the environment in which a company operates. These are the externally imposed limits to an organization’s ability to operate within a particular jurisdiction or regulatory environment.
  • Reputation risk is the risk that a latent reputation problem will become an actual reputation problem.
  • Reputation risk is the risk that negative publicity regarding an organisation’s business practices will lead to a loss of revenue or litigation.
  • Reputation risk may be defined as the current or prospective risk to earnings arising from the adverse perception of the image of the company by clients, counterparties, shareholders or regulators.

Contributed by Antonius Alijoyo

Editor’s note:
The Reputation Risk Series is a three series article on reputation risk. For your reading convenience, we have divided the whole topic into several sub-topics that covers a specific area on reputation risk. To obtain a full understanding on the series focus, we strongly suggest that you read all parts of the series.