A fall from grace

TOP1000:A bad reputation can be impossible to recover from in today's volatile market, so what can be done to protect your good name?

A good reputation is something most of us aspire to, whether in our private or our professional lives. We are all familiar with the concept of building a good reputation but in truth we know more about measuring reputation than we do about creating and maintaining it. At a time when the reputations of individuals and businesses are increasingly coming under fire, it may be worth looking at reputation in a little more detail.

The most widely used definition of reputation in business today is the one developed in 1996 by Charles Fombrun, founder of the Reputation Institute in the US. He said corporate reputation is “a perceptual representation of a company’s past actions and future prospects that describes the firms overall appeal to all of its key constituents when compared with leading rivals”.

There are three important things to note with this definition. The first is that reputation is “a perceptual construct”, that is, it is measured on the basis of perception or attitude. Secondly, reputation is an aggregate of views across a number of variables so you could be great at one thing but not at another, but the overall score is what counts. Thirdly, reputation is comparative in that most measures are rankings that compare one firm to another. These three aspects are subtle but important and form the basis for most of the management advice relating to reputation.

The origin of reputation as it relates to companies and markets can be found in the theories associated with the economics of information. Michael Spence, who, along with George Akerloff and Joseph Stiglitz, won the Nobel Prize for Economics in 2001, admitted to a journalist after the ceremony that yes it was possible to win the Nobel Prize by stating the blindingly obvious: "sellers know more than buyers".

Spence was referring to the fact that markets are inefficient and characterised by information asymmetry, where the seller knows more than the buyer.

To bridge this information gap – and in so doing induce the buyer to pay a premium for a product or service – sellers have to use a range of signals to get their message across. One of the most popular signals is the use of reputation. According to Spence: "Informed agents [the seller] may have the incentive to take observable and costly actions [ie build a reputation] to credibly signal their private information to the uninformed [the buyer] to improve the outcome [ie get a higher price]."

If you think of reputation in this way – as a method of transferring information about the quality of your product or service so you get a better outcome – you begin to see the weakness of many of the popular measures of reputation.

Currently, most if not all measures of reputation, such as Fortune's Most Admired Company list, involve asking a selected sample of business people to rank companies across a number of variables.

The most common variables used include quality of management and product or services; innovativeness; long-term investment value and financial soundness; ability to attract, develop and keep talented people; responsibility to the community and the environment; and wise use of corporate assets. These are considered the key drivers of a company's reputation and as such most of the managerial advice on how to build a great reputation is based on these variables.

Going back to the definition of reputation, it is the perception of your performance on these variables that counts, and that depends on who is doing the perceiving. No matter how well you score on any one variable it is the aggregate score that counts. And finally, it is how you stack up against others that will drive the perception.

There are many other criticisms of these measures. Those surveyed are usually an "insider group" and not representative of the population as a whole; there is a "halo" effect from the financial variables so that a good financial performance counts for more; and the surveys are done only once a year – a lot can happen in 12 months.

There are two more important criticisms. Firstly, despite what the theory tells us, companies are no longer in control of their own reputation. This is known as reputational inter-dependence: a concept all too familiar to the many Irish companies who have found their reputations impacted by the actions of their peers or their sector.

Secondly, reputations can now be both created and destroyed in days, if not hours, in online forums. The reputational timeframe has altered completely. Firms can no longer hope to score across Fortune's eight variables and rank well in the annual survey.

Reputation, as a signal of the quality of a company and its product or service, only works if it is believed and belief is based on one very simple word: trust.

Trust is essential to creating or restoring reputations. The good news is, it is probably easier to restore trust than it is to score a perfect 10 on the eight variables listed earlier.

So where do we start? One possible solution comes from the online world of e-commerce. Think back to the idea of information asymmetry where the seller knows more than the buyers. To overcome what first appeared as insurmountable obstacles, online companies such as eBay and Amazon and networking sites such as Facebook and LinkedIn developed their own proprietary methods of measuring and ranking reputations in real time.

Instead of surveying a select group of people across a list of variables once a year, Ebay and Amazon have developed simple dynamic ranking and rating systems. The buyer rates the seller as follows: plus one for a good experience, zero for a neutral and minus one for a bad. If a seller get more than minus four they are banned from the site.

These systems have offline advantages. They are simple, timely, transparent and democratic.

Each interaction, each transaction, is a signal, an opportunity for the buyer to rate you, and the aggregate of all the scores decides your overall reputation.The more often you score a plus one, the more likely you are to earn a good reputation. This is the discipline of continuous dealings. Go on, try it.

Fiona Ross is a member of the Doctoral Research Programme at UCD Michael Smurfit Graduate Business School and a consultant on investor relations, governance and reputation issues