MISSION INTANGIBLE

M:I Products

MISSION:INTANGIBLE, the blog of the Intangible Asset Finance Society, offers critical comments on intangible asset, corporate reputation, and finance; supplemented by quantitative reputation metrics. Intangible assets include business processes, patents, trademarks; reputations for ethics and integrity; quality, safety, sustainability, security, and resilience; and comprise 70% of the average company's value. MISSION:INTANGIBLE is a registered trademark of the Intangible Asset Finance Society.

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Sovereign risk: City culture edition

C. HUYGENS - Friday, July 06, 2012
Sodom and Gomorrah had a reputation. Las Vegas is its heir apparent, lite. But London?

Bloomberg reports today (Kevin Crowley and Ambereen Choudhury - Jul 6, 2012) that “London risks losing its status as the world’s top financial center as the $360 trillion interest-rate fixing probe follows a series of market abuses by banks that eroded trust in a city already shrinking faster than rivals.”

AIG, Lehman Brothers and Bear Stearns & Co. all traded swaps in London that led to their bankruptcies or bailouts. JP Morgan Chase’s whale traded from London.

Said Bank of England Governor Mervyn King last month, “Everyone now understands that something went very wrong with the U.K. banking industry. From excessive levels of compensation, to shoddy treatment of customers, to a deceitful manipulation of one of the most important interest rates, we can see that we need a real change in the culture of the industry.”

Culture drives the business processes that underpin the impressions stakeholders understand as reputation. Of the six major business processes underpinning reputation, those that foster an ethical environment appear to have been tested and found wanting.

Reputation: Top BOD concern

C. HUYGENS - Tuesday, May 08, 2012
The accounting firm Eisner Amper published their third annual survey, Concerns About Risks Confronting Boards. Based on the opinion of 193 corporate directors, the data show that excluding financial risk, 66% believe that reputational risks are the most concerning currently. The top three reputational risks of 2012 were quality (30%), ethics/integrity (24%), and “public perception” (16%). Security was #4 at 12%. These three named risks, along with innovation, safety, and sustainability (8%), comprise the six major sources of reputational risk according to research published by the Society in the 2010 book, Mission: Intangible.

Walmart: By the numbers

C. HUYGENS - Saturday, April 28, 2012
For those who spent the past week off the grid, among the reputation-linked news stories was this one involving Walmart best summarized in the explosive Forbes magazine headline (26 April, Hartung) "WalMart's Mexican Bribery Scandal Will Sink It Like an Iceberg Sank the Titanic."

We've looked at Walmart (NYSE:WMT) quantitatively before, usually in the context of the age-old rivalry with Target (NYSE:TGT), and with less sophisticated metrics. We turn to the improved Steel City Re corporate reputation ranking metrics and benchmarking tools today in search of quantitative evidence of reputational damage.



The peer group comprises 127 companies in the retail trade, and they are sampled from the 7447 companies ranked according to their reputation metrics as of 26 April 2012. Relative to this peer group, Walmart's reputation ranking was at the 72nd percentile. Other vital signs indicate this is an unstable value as the current reputational value volatility is at the 48th percentile relative to a historic volatility in the 26th percentile, and the forecast stability of the firm's reputation is now just below the median at the 49th percentile. Looking at the time series of data, the most recent reputational ranking drop which occurred this past week moving Walmart from the 85th to the 72 percentile is the second this calendar year. The first major drop occurred the week of 16 February when Walmart's reputation slipped from the 92nd to the 82nd percentile relative to this peer group. Other time series metrics show a steady negative reputational ranking velocity, recently accelerated, a steadily negative reputational vector, and what appears to be a second spike in volatility.

Looking at a snapshot of Walmart relative to its peers as of Thursday, all four indicators show negative trends which tend to be leading indicators of losses in enterprise value. Walmart's current return on equity is in the 70th percentile relative to its peer group. We expect this metric to drop in the weeks to come as the inevitable pile on of regulators, litigators and mommy bloggers affirms the deterioration of reputational value.

Reputation concern spurs fraud reporting

C. HUYGENS - Friday, April 06, 2012
CFO magazine (Johnson, 29 March) reports that fraud tips have hit an all-time high as employees are increasingly coming forward with suspicions. According to a new study by The Network Inc. and BDO Consulting, employees may be spurred to use hotlines when they see other businesses’ reputations harmed by fraud — a more frequent occurrence with regulators increasing their enforcement activity under such laws as the Foreign Corrupt Practices Act.

Unsocial Networks

C. HUYGENS - Saturday, January 28, 2012
In introductory remarks for the release of the 2012 Edelman Trust Barometer results, Richard Edelman provided background for the pan-institutional deterioration of trust. “In 2008-2009, in the wake of a recession that saw large, global companies such as Lehman Brothers and AIG collapse, trust in business imploded. Government stepped in with bailouts and new regulations. But in 2011, government became paralyzed by the politics of extremism and endless haggling – and the public lost confidence.”

Gideon Rachman, writing for the Financial Times, calls it the age of indignation. “This was a year of global indignation, from the Occupy Wall Street movement to the Moscow election protests and China’s village revolts. It was popular protests on either side of the Mediterranean – in Tahrir Square in Cairo and Syntagma Square in Athens – that set the tone for 2011.” Social networks linked by social media are now the sources of trust and media of choice.

Ever alert, the Willy Suttons of the world are  working these trusted environments. This week’s Economist () introduces the notion of ‘affinity fraud.’ “The term refers to scams in which the perpetrator uses personal contacts to swindle a specific group, such as a church congregation, a rotary club, a professional circle or an ethnic community. Once the scammer gains their trust, his scam spreads like smallpox. Most affinity frauds are Ponzi schemes, in which money from new investors is used to repay old ones, or is siphoned off by the promoters.’ Here’s the rub. According to the Economist, “Mistrust of mainstream finance helps the scammers. The big guys on Wall Street have shown they can’t be trusted, they say; better to go with someone you know.”

Out of the pan and into the fire?

Penn State University: Not so happy valley

C. HUYGENS - Saturday, November 12, 2011
The Financial Times (November 11, Bullock) focused on it right away: "'Higher education is first and foremost a business that is driven by reputation,' said John Nelson, head of higher education research at Moody’s. 'Student demand, the attraction of faculty and the ability to draw donations are all based on reputation.' Moody’s said it will evaluate 'the potential scope of the reputational and financial risk' arising from the allegations, including potential lawsuits and settlements, weaker student demand or philanthropic support, changes in the university’s relationship with the state and significant management or governance changes."

The Washington Post's (November 12, AP Wire) headline was blunt: "Moody’s warns Penn State’s bond rating could be downgraded because of sex abuse scandal."

Reputation is an epiphenomenon. It is a product of how an entity executes one or more of six core functions: ethics, quality, innovation, safety, sustainability, and security. Three of these have been called into question by the Penn State University sexual abuse scandal. The Pennsylvania attorney-general has filed criminal charges involving child sexual abuse against Jerry Sandusky, a former assistant football coach, as well as perjury and failure to report charges against two senior university officials, including the chief financial officer.

In our current culture, the path to reputation restoration includes rolling heads. Swift retribution is demanded, and and innocent blood may be part of the cost to save the many. The reign of terror had its merits, but it was not necessarily the best path towards a just and democratic system. We can only hope that the lessons taken from this latest reputational crisis are that better preventative processes are preferable to the guillotine.

Meanwhile, in Happy Valley Pennsylvania, a normalcy is already returning.

Ethics: Hedging

C. HUYGENS - Thursday, August 04, 2011
According to the National Association of Corporate Directors' NACD Daily (4 Aug), companies are counterbalancing perceived social wrongs with an alternative set of socially responsible actions.

One of the propositions behind socially responsible investing is that companies do "well" by doing "good." But according to the Wall Street Journal (Aug. 1, Lahart), economists Matt Kotchen of Yale University and Jon Jungbien Moon of Korea University suggest that an important reason companies do good is to paper over their errors. The two economists measured Corporate Social Irresponsibility (CSI) and Corporate Social Responsibility (CSR) using a database that monitors companies on about 80 measures of social responsibility, and they found that companies offset their bad behavior by engaging in CSR.


There may be PR benefits to hedging bad with good; but to the extent that the "bad" acts set the stage for a reputational crisis, ethical hedging may prove itself as effective in a moral liquidity crisis as financial hedging turned out to be during the great financial liquidity crisis.

St Joe: Bedeviled

C. HUYGENS - Thursday, July 07, 2011
Advisen, the insurance industry newsletter, headlined the story this way. St. Joe Getting Killed As Company Reveals SEC Is Probing Financial Reports. According to Advisen, the SEC has started a formal investigation of St. Joe and Fairholme Capital, the company's largest shareholder. Bruce Berkowitz, the founder of Fairholme, is also the Chairman of St. Joe (NYSE:JOE) which is the largest landowner in the state of Florida.

The Financial Times (July 6, McCrum) observes that that St. Joe was a pulp and paper company formed in the 1930s that became a property investor and then housebuilder. St Joe was forced to halt most of its property development in the wake of the housing bust. However the Watersound-based company has largely refused to write down the value of its real estate, on the basis that last year’s opening of the Northwest Florida Beaches International Airport in the centre of St Joe’s forest land will spur commercial development.

St. Joe is no stranger to litigation and intrigue. Huygen's noted earlier this year that St. Joe distinguished itself by achieving the rare reputation ranking of zero among its peer group. The Securities and Exchange Commission is investigating how St Joe, a US property investor, accounts for the value of its almost 600,000 acres of land in north-west Florida.

Turning to current metrics, St. Joe is demonstrating ongoing depressed reputation metrics according to the Steel City Re Corporate Reputation Index. Over the trailing twelve months, the company's ranking rose from the 1st to the 5th percentile rank among the 139 firms comprising the Real Estate Development sector. To be clear, only 132 firms outranked it reputationally which may explain why it has been underperforming its peer group by 45%. Uncertainty is in the air. The reputation vector has been up and down quite a bit lately measuring in this past week at 44%.





Its market value is in excess of 50% intangible while the mean of its peer group is less than 10%. It is therefore curious that shortseller David Einhorn feels that the shares are overvalued owing to the excessive book value of the real estate assets. Undervalued intangibles vs. overvalued tangibles; a classic question of ethics and innovation vs. accounting. Or optimist vs. short seller: a curious battle indeed.

Walmart: Not out of the woods yet

C. HUYGENS - Friday, June 24, 2011
Earlier this week, the Supreme Court of the United States (SCOTUS) addressed an issue that has been a persistent thorn in Walmart's reputation - allegations of gender bias. The firm, which has reportedly shed up to 10% of its market capitalization over the years due to stakeholder unease with a range of labor practices, breathed a sigh of relief. According to the newsletter of the National Association of Corporate Directors (21 June):

"The Supreme Court threw out a sweeping sex-discrimination lawsuit against Wal-Mart Stores Inc.," the Wall Street Journal (June 21, Bravin, Zimmerman) confirms, "ruling Monday that the 1.6 million women allegedly victimized had too little in common to form a single class of plaintiffs." The court ruled 5-4 along its ideological divide, concluding the allegations against the retailer were too vague and the evidence too weak to establish the common injury essential to encompass all females employed since 1998 in the nearly 3,400 U.S. Wal-Mart stores. "The decision is sure to reverberate in other employment class actions," the Journal states. Attorney John Fox says the impact of the ruling on other cases will depend in part on companies' personnel policies.

With this decision, the New York Times (June 21, Greenhouse) reasons, the Supreme Court has significantly tightened the rules for how a large group of individuals can join together to sue a corporation for alleged harm done to them. "The court's decision will not just make it harder to bring big, ambitious employment class-action cases asserting discrimination based on sex, race or other factors," the Times reasons. "The court set higher barriers for bringing several types of nationwide class actions against a large company with many branches." Robin S. Conrad, executive vice president of the U.S. Chamber of Commerce's National Chamber Litigation Center, applauded the high court for affirming that mega-class actions are inconsistent with federal law. He added, "Too often the class-action device is twisted and abused to force businesses to choose between settling meritless lawsuits or potentially facing financial ruin."

The Montgomery Advertiser (June 21, D'Innocenzio) concludes that despite the legal victory, Wal-Mart has taken steps to address the issues raised in the suit. "Since the sex-bias lawsuit was given class action status in 2004 on behalf of 1.6 million women," the newspaper points out, "Wal-Mart Stores Inc. has set up a women's council that represents each of the overseas markets and focused training and other efforts on advancing women into management roles. As a result, Wal-Mart says the percentage of entry and midlevel women managers has increased over the past five years from 38.8 percent to 41.2 percent." Gisel Ruiz, executive vice president of people at Wal-Mart's U.S. stores, confirms that she has definitely seen the advancement opportunities grow for women. Specifically, she noted that Wal-Mart has created a series of training and mentoring programs to help prepare women for opportunities at all levels of the company.


Turning to the reputation metrics, the Steel City Re Corporate Reputation Index shows that Walmart's reputation has been unusually volatile over the trailing 12 months. Of the fourteen companies comprising the Discount Store sector, the company's metrics currently rank it in the 61st percentile thus matching its ranking at the beginning of this period. Walmart did exhibit a small uptick this week thanks to the court ruling. Over the trailing twelve weeks, however, its reputational volatility velocity has been negative at -15% and its vector has been negative at -11% as its exponentially weighted moving average volatility has climbed to 100%. These reputational challenges are associated with an overall economic under performance that is 15.9% below the median of its peer group.

The sector, too, has experienced significant volatility as of late in what is a rather volatile period for the equity markets (risk assets). The variance in reputation ranking metrics among the peer group has been extreme ranging from a low of 10% to a high of 25%. The VIX (S&P 500 Volatility Index) closed June 23 at 19.29 having bounced over the trailing twelve months between 14.27 and 37.58.  None of this is good for Walmart, whose fractional intangible asset value has now slightly dipped below the median of its peer group.

Avon: Ethical calling

C. HUYGENS - Wednesday, May 25, 2011
Several months ago, in the ongoing post-mortem of the BP disaster, John Kay noted in the Financial Times that, “today’s willingness to cut corners is tomorrow’s headline risk.” Were this observation to be appreciated more widely, many reputations might have been saved.

Which brings Huygens to the happy story of Avon Products, Inc. (NYSE:AVP). Under financial pressure, the rumor mills last fall suggested the Company was in the cross hairs of L’Oreal S.A. In early October, the call volume on Avon surged relative to puts giving holders a whopping 18% 3-month return. L’Oreal didn’t take the bait, and Avon moved quickly to cut costs. In mid-October, it announced plans to cut about 400 jobs and to shut down an Ohio manufacturing facility. On early November, it announced that it had agreed to tender its 75% ownership interest in its Avon Japan business to an affiliate of TPG Capital, the global private investment firm. There were a number of intellectual property licenses associated with the deal. The stock priced tumbled.

Yet when faced with a major ethical issue whose resolution could have further impaired cash flows, the Company avoided the temptation to cut corners. In mid April 2011, Avon suspended the president, chief financial officer and top government affairs executive at its China unit and a senior executive in New York who was the company's head of internal audit until the middle of last year. According to Business Ethics (13 April, Connor), in its most recent SEC 10-K filing, Avon said it had voluntarily disclosed to the SEC and the Department of Justice internal investigations and compliance reviews which had “started in China” and focused on “certain expenses and books and records processes, including, but not limited to, travel, entertainment, gifts, and payments to third-party agents and others, in connection with our business dealings, directly or indirectly, with foreign governments and their employees” Avon said in its 10-K filing that the investigation had grown to include “additional countries.”
The Wall Street Journal cited a source as saying those countries were in Latin America, a major source of revenue and earnings for Avon.

With the benefit of a month’s hindsight, we can see how the financial and reputation markets have reacted. Over the trailing twelve months, the Company has underperformed the median of its 41 peers in the Household/Personal Care sector by 19.44%. The big fall off from parity traces back to the actions in the fall of 2010.


The reputational metrics, however, suggest that the Company is on a value-creating path. According to Steel City Re, the Company’s reputation index metrics are unchanged over the trailing twelve months with a most recent ranking at the 70th percentile. The Index’s exponentially weighted moving average volatility has been drifting downward consistently since the fourth quarter and is now at 66% -- a high value for sure, but a trend that is value-creating. The twelve-week reputation index velocity and vector values show recent upward movement s of 19% and 5% respectively suggesting a positive response to the corporate actions and disclosures.


Looking last at enterprise value, the intangible asset fraction of the company is now greater than it was a year ago, affirming that all other things being equal – as Alan Greenspan noted several years ago – “in a market based on trust, reputation has value.”

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