Interconnected stakeholders multiply the impact to both Sustainability & Reputation risk on earnings and marketcap

In an interconnected world Sustainability and Reputation risks are inseparable. It’s been nearly 18 months since the industry certification body, the Roundtable on Sustainable Palm Oil (RSPO) suspended the palm oil producer, IOI Corporation Berhard, for illegally clearing 11,750 hectares of forests and peatland in Indonesia. The problems for IOI started when an NGO, Aidenvironment, alleged that the company’s subsidiaries in West Kalimantan, Indonesia, had illegaly deforested 11,750 hectares including a 1,300 hectares plot inside the Manis Mata Production Forest, a conservation area. In most cases Aidenvironment, alleged that the required government permits were lacking.

ÏOI was then quickly suspended from RSPO. Promptly, as Ceres pointed out, 27 of IOI’s largest customers, including ADM, Colgate-Palmolive, Johnson & Johnson, Kellogg Company, Nestle, Procter & Gamble, Reckitt Benckiser and Unilever, suspended procurement contracts. Next, as Valuewalk’s Gabriel Thoumi assessed in a case study, “IOI reported a net income available to common shareholders of negative MYR 59 million in Q2 2016 compared to MYR 113 million gain in Q2 2015.”

The impact on both market capitalisation and credit ratings was swift to follow. As Thoumi points out, “IOI’s market capitalization dropped 17 percent, or MYR 3.2 billion. Two months into the suspension, on May 10, 2016, Moody’s stated it “expects IOI’s earnings and profitability will deteriorate…if the suspension is not resolved swiftly.” Moody’s reaffirmed its Negative Outlook on IOI August 11, 2016. By August 2016, IOI returned to RSPO with plans to improve its sustainability record, and the suspension was lifted. IOI’s shares rallied 5 percent to MYR 4.45 August 5, 2016 on the news… In September 2017, IOI announced it had sold its Loders Croklaan –and Loders’ high-value palm oil products – to Bunge for $946 million.”

What compounded the reputation issue for IOI was that the company in response to the RSPO suspension chose to file a lawsuit against the body, which it subsequently had to withdraw. While the company has promised substantial changes in its operations and customers have largely resumed buying based on this assurance, the damage to the company’s reputation and the consequent impact on both operations and stock price looks likely to stay for a while longer.

Reputation risk as the “risk of risks”

Traditional definitions of Reputation risk argue that it arises from other risks inherent in an organization’s activities. Yet, these traditional definitions tend to identify the stakeholders fairly narrowly as “inter alia, existing and potential customers, investors, suppliers, and supervisors”. In IOI’s case the danger to reputation had its source in the action of an NGO, Aidenvironment, that first brought the case to notice. The huge impact on IOI is a classic case of why reputation risks should be recognised as the “risk of risks”.

And what has to be understood is that Sustainability is a huge part of the Reputation equation. Negative sentiments on Sustainability impact not just the company itself but every part of both its own value chain and other value chains that it is a part of—suppliers, customers, et al. The impact on operations, earnings and thereby marketcap is tangible and Reputation no longer subject only to an old fashioned “brand” valuation, though that itself will come in at a later stage. 

Clearly, the source of reputation risk today extends to a wider ambit of stakeholders who, irrespective of whether they are directly materially impacted or not, still have a stake in the game, even if only as self, or otherwise, appointed watchdogs. Organisations, whether NGOs or others, are now no longer merely collecting data and then agitating through traditional mainstream media or other PR. They’re now creating inter-connected networks that work on a mutual basis or in a public domain. The need for corporates today is, therefore, to not merely assess operational risks to understand the threats and risks that emerge from across far wider elements in the networked world itself.

If power, legitimacy and urgency, remain the core of stakeholder risk analysis for corporates, the need to cast the net wider to external stakeholders, who may or may not traditionally have been thought to have skin in the game, is vital. Inter-connectedness creates networks of power, legitimacy arises from the networks ability to influence stakeholders like customers and shareholders, urgency comes from the speed and appropriateness of response to the risk posed. Understanding how the risks could arise and then critically and objectively analysing their impact is crucial. It comes down to three key issues:

1.      Research and Identify even more rigorously with a net cast wider to take into account the power of interconnected networks

2.      Manage the process by attempting to identify concerns early and analyse if business operations need to be fine-tuned to reduce risks.

3.      Understand the short-term and long-term consequences of each risk and prioritise carefully. Communicate early and precisely.

Businesses now need to clearly understand the danger posed by inter-connected networks that have rendered obsolete traditional business ecosystems. The stakeholder is now embedded in not merely a traditional Porter value chain but a much, much wider chain that has a core and a periphery whose information needs and connections make risks far more difficult and hard-hitting than ever before. Sustainability and Reputation now go hand-in-hand.