REPUTATION RISK must be taken seriously as a part of good corporate governance if the financial services sector is to regain trust after a series of damaging investigations globally, according to the chairman of Lloyd’s of London.
Speaking in Philadelphia, Lord Levine said investigations into practices in investment banking, mutual funds and now New York attorney general Eliot Spitzer’s probe of insurance market practices, had left the financial services industry with a battered image. “It [the financial services sector] has been left with a tarnished image in the minds of consumers, regulators and commentators,” Levine said. “But as a sector, our very business is based on trust, and we can no longer be in doubt that governance and proper conduct must take their place at the top of the agenda.”
He added that corporate reputation has never been more important. According to Levine, a one point change on US magazine Fortune’s “most admired companies” list makes an average difference of US$107 million to the company’s market value.
“Some argue that we what are witnessing is part of a widespread breakdown in trust between all organisations and their consumers, investors and regulators,” Levine said. “Whether or not you believe that, loss of reputation is now perceived as the second biggest threat to organisations after business interruption — not surprising when today’s brands are worth billions. Where reputation was in the past seen as intangible and difficult to price, few leaders today would argue about its financial importance — just ask shareholders of Enron or Andersen.”
However, there is much that influential executives in the financial services sector can do to repair the damage, Levine said. Conflicts of interest, such as those being probed by Spitzer, should be eliminated. This can be achieved by fostering increased transparency. “In the case of the insurance investigation, it’s the issue of the broker receiving payment from both the client and the insurance carrier,” he said. “In the banking sector, it was the analyst giving false stock information to investors in order to get access to lucrative investment banking business.
“Suddenly the question of who is working for whom is blurred and confusing. But if we are to retain the confidence of the key player in all of this — the customer — we need full disclosure and complete transparency about who is doing what exactly, for whom, on what terms and at precisely what cost. Indeed, without it, you simply do not have the economics on which to base accurate, efficient management decisions.”
Moreover, the financial services industry must communicate more effective with those outside its auspices. The three investigations highlighted practices that the outside world did not understand, he said. While the insurance investigation unearthed illegal bid rigging, the mutual fund investigation and the insurance investigation highlighted practices that were long standing and legal, but questionable nonetheless.
“Whatever our industry, we need to understand that, when something goes wrong, the reputation of the entire sector is tarnished, not just the few bad apples in the barrel,” Levine said. “Society at large does not — usually — differentiate between one organisation and another. We must recognise too that governments often cannot resist the call to intervene wherever they see market failure.
“The lesson is that by communicating better in the first place — and where appropriate working collectively with our peers where we have common interest — we lessen the need to spend lurching from crisis to crisis. In other words, more time communicating and building relationships with consumers, politicians and economic leaders in the first place means less time fire-fighting later down the line.”
Levine added that to avoid further knee-jerk regulatory responses to corporate problems, the financial services industry must develop greater dialogue with regulators on ethics. Globally, heightened regulatory oversight has tended to follow spectacular problems. In the US, the collapse of Enron was swiftly followed by the Sarbanes-Oxley Act, while in Australia, the collapse of HIH Insurance continues to be the root of regulatory reform.
More rules will not lessen the chances of bad behaviour, Levine said. “Rules generate loopholes, and loopholes lead to malfeasance,” he said. “But if introducing more rules won’t work, developing principles of behaviour just might, especially if backed by clear guidance to minimise compliance costs. Ethics has finally become sexy, but you cannot legislate good ethics. We need to move away from a strictly rule-book mentality, avoiding the creation of yet more paperwork and bureaucracy. And in its place, we can work with our regulators to develop and require adoption of ethical principles of behaviour.”
Stuart Fagg is the Editor of Risk Management magazine, Lawyers Weekly’s sister publication