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Reputability are thought leaders in the field of reputational risk and its root causes, behavioural risk and organisational risk. Our book 'Rethinking Reputational Risk' received excellent reviews: see www.rethinkingreputationalrisk.com. Anthony Fitzsimmons, one of its authors, is an authority and accomplished speaker on reputational risks and their drivers. Reputability helps business leaders to find these widespread but hidden risks that regularly cause reputational disasters. We also teach leaders and risk teams about these risks. Here are our thoughts, and the thoughts of our guest bloggers, on some recent stories which have captured our attention. We are always interested to know what you think too.

Tuesday, 18 June 2019

'Why We Get the Wrong Politicians' - Book Review

When the UK Parliament's select committees dig to discover why a large organisation has failed, they regularly find systemic weaknesses that have been there for years, widely recognised but not by leaders, a time-bomb ticking ’til luck runs out. These canny committees expose leaders who, unchallenged, managed those systems whilst lacking the skill, knowledge and experience required, often pin-pointing character weaknesses, culture and incentives as deeper causes of failure.
When the bomb explodes, most leaders are stunned to discover what outsiders had long been expecting. They don’t miss the warning signs because they are bad but because we humans are wired that way. Cognitive biases lead us to believe that we are better than we really are and cognitive dissonance leaves us unreceptive to news that contradicts our world view.
The UK's politicians seem stuck in that cognitive limbo. We are experiencing the worst failure of government and opposition in living memory. This is not like the departmental disasters described by the Public Accounts Committee. It is far worse. It is the failure of our political system.
In Why We Get the Wrong Politicians, political journalist Isabel Hardman corrals evidence of what is going wrong in a book that should be compulsory reading for every aspiring and elected politician and civil servant. It is eerie to find so many parallels with my own research into corporate failures. But this is no surprise because all organisational systems are ultimately run by humans. 
Why We Get the Wrong Politicians (Paperback)Analysing MPs’ backgrounds, Hardman finds that few have the knowledge or expertise they need to be effective: “The place is weirdly full of career politicians”. Far fewer have been educated in law, a bizarre weakness in a legislature. Fewer still are well educated in the science and technology that drives the modern world. MPs receive no training on how to navigate the byzantine parliamentary system and its processes. The huge cost of becoming an MP must also reduce diversity of background and perspective.
Hardman describes parliament as “unprofessional”; one MP she interviewed called it “dysfunctional”. She quotes a 2004 pamphlet by Andrew Tyrie: “The executive has succeeded in frustrating parliament… Executive obstructionism and parliamentary weakness threaten to erode trust in politics and politicians, leaving our system of government the biggest casualty.”These traits ensure a blinkered world view and functional incompetence even before the mind-warping Westminster bubble.
Everyone knows that MPs bawl at each other across the floor of the Commons but I was surprised to learn how actively this hubbub is orchestrated. MPs who do not demonstrate unquestioning support for their party find paths towards prestige and power blocked. As to “troublemakers”, the whips reportedly “seek dirt on backbenchers in order to compile as weighty a dossier as possible” against them.
Keeping MPs ignorant, powerless and afraid suits ministers because it shields them from effective challenge. But it is disastrous for democracy and the country.
Just as banks became attractive to people who were driven by the love of money, a culture like this is likely to attract and advance arrogant, amoral egotists with a primal thirst for power more than those with an ethos of diligent public service. 
Competence determines what we can do, but character determines what we will do. With MPs selected and rewarded for character traits and behaviour that make them slippery, sycophantic and self-centred, it is no surprise that the public trusts politicians’ truthfulness less than anyone else bar advertising executives. Tyrie’s prediction is now the electorate’s perception.
There is no select committee to force politicians to see their competence, culture, behaviour and mores as others do. The question is: do politicians have the self-awareness to reform themselves before reform is thrust upon them?

Anthony Fitzsimmons
Reputabliity LLP
London

This piece was first published in Civil Service World

Thursday, 28 March 2019

Ben Graham's Insights into Audit

The first edition of Benjamin Graham’s ‘The Intelligent Investor’ devoted 30 pages to “The Investor as Business Owner”.  Two insights remain relevant today.

Graham contrasted the theory of shareholder rights with reality.   Shareholders are notionally “king”, he wrote, with the power to “hire and fire managements and bend them completely to their will”.  In practice Graham saw them as “a complete washout”.   “As a class they show neither intelligence nor alertness.  They vote in sheep-like fashion for whatever management recommends and no matter how poor the management’s record of accomplishment may be. ”

The ability of ultimate shareholders to influence management has diminished.  Most individually owned shares are held through nominee accounts that, in practice, disenfranchise shareholders.  Managers of collective investments provide patchy stewardship.

Private shareholders could easily be re-enfranchised by legislation and technology.  A resurgence of individual shareholders at AGMs would help boards to focus on public perceptions and the penetrating questions that astute shareholders ask.

As to collective investments, the UK Stewardship Code is inadequate because it is voluntary and has limited scope.  The Financial Conduct Authority should develop robust rules that force institutional investors’ incentives and behaviour into alignment with the interests of their ultimate clients, such as retail investors and future pensioners most of whom seek steady long-term growth.  To support this, legislation, not just the UK Corporate Governance Code, should make it the unambiguous primary duty of directors to promote long term sustainable success.  With this as a national policy, there is logic in aligning voting power with duration of shareholding, giving full voting power only to long term investors.

But that leaves a fundamental question: how can good stewards get the information they need to do their job properly?

The answer ought to be informative company reports.  The FRC has made good progress on company reporting requirements but the scope and quality of information provided in Annual Reports depends on management openness.  These often seem to be in proportion to management competence.

Extending the scope of audit to the whole annual report will help ensure the accuracy of information provided.  But it will not solve the problem of inadequate or absent information.

For those who can see through corporate spin and market groupthink, it is not difficult to identify companies from which more information is needed.  Graham suggested investigating those whose return or profit margin has persistently lagged their peers and those who have lost market share.  He also highlighted the importance of management competence.  This is a crucial tell-tale of future failure, along with leadership characteristics such as CEO arrogance, hubris and dominance and boards that are inadequate to appoint and manage a CEO. 

Graham’s second insight is relevant here.  He proposed that shareholders of “underperforming” companies should be able to “call in outside business engineers to pass upon the policies and competence of the management”.  These outside experts would be “selected by an independent committee of stockholders” with the report “submitted directly to stockholders” and the cost borne by the company. 

Auditors could fill much of this role.  The Big Four’s move away  from calling the firms they audit 'clients' is a start but cosmetic because their appointment and tenure depend on the auditee’s board.  They have powerful incentives not to rock the board’s boat.  The parallel move, away from providing other services to audit clients, is helpful but too modest.  We should follow the direction recommended by Graham.

The auditor’s relationship with larger and quoted companies should become arm’s length.  Legislation should create independent Shareholders’ Committees to appoint the auditor, to direct the audit and the investigation of any murky corners (including leadership competence), and to receive reports on behalf of shareholders.  Boards will still prepare the accounts and annual report but they will be audited by an entity that owes allegiance only to shareholders.

This will remove the perverse incentives under which the audit profession has laboured for too long, allowing auditors to use their professional skills and judgement to the full.  It should also help stem the steady stream of predictable, avoidable corporate failures.


Anthony Fitzsimmons is Chairman of Reputability LLP and author of “Rethinking Reputational Risk: How to Manage the Risks that can Ruin Your Business, Your Reputation and You