Not Building Reputation Squanders Shareholder Value

I have suggested on several occasions in these blog posts that reputation is and should be a differentiator of value. In fact, reputation, which is comprised of intangible assets, the primary source of value of an organization, can build disproportionate value for the organization. This means that one organization can take value that might otherwise go to another.

Our branding, which is the communications of our corporate and/or product attributes, associations and symbols, is designed to enhance perceived value. In doing so, our communications activities make promises, which create expectations. Reputation is based on the expectation of value that a stakeholder has of the organization vis-à-vis its peers and competitors. Reputation is not normative. It is industry and stakeholder specific. We know that reputation is built and enhanced through actions, not just words. This means that reputation is built and maintained throughout the organization’s value chain. Sustainable reputations come not just by talking about value, but more so from an organization’s ability to produce value that meets or exceeds stakeholder expectations.

One of the problems in talking to some CEOs about reputation is that they see it as something “soft”, a diversion from their interest in building shareholder value. Corporate communications should be able to utilize key metrics to show the value of reputation. Reputation may be an intangible, but it is not soft. It has direct, measurable benefits that should be the focus on discussions between the CMO or CCO and the CEO. So, I would like to offer a framework for talking about reputation that is more in tune with the interests of CEOs and the rest of the C-Suite.

Let’s start with cost of capital, a primarily issue for every board and CEO. If an organization sat on its capital and did not deploy it, the organization would not be damaging or building shareholder value. However, most shareholders would likely take their money out of such a company and put it into the bank where they could at least get some value for their investment. So, the deployment of capital increases risk, but it also increases the chance of reward. Each organization and industry sector has their own volatility or risk tolerance, which finance experts call their “beta” (ß).

If the expectations of risk are set and the organization’s performance falls below those expectations, we heighten risk that could lead to a crisis. In contrast, if we meet or exceed expectations better than our competitors, we increase our reputation, and with it our value to our various stakeholders. Interestingly, Fombrun and Van Riel (2004) found that highly reputable companies outperformed those with poor reputations on every financial measure in one year and over a five-year period. Their analysis also found that the beta for the highly reputable companies was higher than that of the less reputable companies. Reputation building is a form of risk, just like the deployment of any asset, but it clearly has a reward that can be calculated in terms of lowering cost of capital, increasing the ability to acquire and retain talent at lower overall costs, etc.

We should be talking about reputation similarly. Nir Kossovsky, CEO of Steel City Re and Executive Secretary of the Intangible Asset Finance Society, has found that “enterprise value describes how successfully a company manages its core business. The extent to which a company outperforms its peers describes how successfully a company manages its reputation”.

This is a very important finding, because in every industry sector, there is just so much value available in terms of talent and capital. That is, potential employees and investors make choices of where to join or invest within an industry sector. For example, within pharmaceuticals, there is a pool of talent and invested capital that is fairly consistent–it moves within the industry sector. We hear this acknowledged anecdotally when a CEO like Lloyd Blankfein of Goldman Sachs argues that executives must be paid highly to maintain talent that might go to another company in the financial services sector. We also see it in the efforts of investor relations to differentiate against competitors because we know that the financial analyst is making a determination of the relative value of companies within the sector.

If an organization sits on reputation, it is akin to sitting on money that is not invested. It seems risk free, but it wastes shareholder value. As the Fombrun and Van Reel study showed, such firms would have a low beta for reputation capital, but also a low return, which their shareholders would likely not view too positively. If, on the other hand, it builds reputation, it is building shareholder value, creating barriers to competition, minimizing risk, and—importantly–it is taking value that might otherwise go to another company in the sector. That is, it denies a competitor talent and invested capital and makes it more expensive for them to acquire or retain that talent and capital, since it will flow to those with higher reputations. If you want to find the one measure that will get a CEO’s attention on this, show them the cost of capital for highly reputable versus less reputable companies.

The executive coach Marshall Goldsmith notes that virtually every CEO is competitive by nature. We need to start presenting reputation in competitive terms. Explain it in terms of what it does not cost of capital and value formation. Explain that it lowers the hurdle to value creation. Let’s explain how reputation can build disproportionate value for the organization and bring huge rewards to the CEO.

Elliot S. Schreiber, Ph.D.
Clinical Professor & Executive Director
Center for Corporate Reputation Management
Drexel University
LeBow College of Business