Trust in Business

[steven lloyd]

Why CEOs Need to Care about Trust in Business
Capitalism depends on public trust for its legitimacy. When trust in business is low, governments and regulators act.

Why is trust building hard? Because the public will always have incomplete information, be quick to judge, have naïve assumptions, and reach illogical conclusions about the facts. There are also negative stereotypes from the press, social media, and popular culture that feed negative attitudes toward business, particularly among young people. Ignoring this trust gap will not make it go away.

Actions to Alter the Perception of a Rigged System

In October 2013, The Conference Board Governance Center convened a meeting on trust in business that asked a group of thought leaders to consider the following question: “What standards for conduct beyond compliance with the law would engender trust in business and enhance the functioning of capital markets?” Participants included directors of leading companies and investors, business journalists who have written books on the topic, and other interested professionals. They generally rejected creating another standard of conduct for business—many good ones have already been created and new standards are not needed. However, there was consensus that CEOs should: • have their own company-specific standards; • measure compliance with the standards; • publicly report compliance and do it consistently over time; and • have real consequences for violating standards. The assembled experts concluded that the belief that the system is rigged in favor of the powerful and the government is powerless to address the problem (except through penalties) is a critical business trust issue.

What can business leaders do to help? Suggestions from the members of the roundtable included:
• Be visible doing something in the public interest that is not in your own self-interest.
• Adopt a personal standard of radical transparency. • Stop lobbying against things that are good for society but that may not have that great of a downside for business. Be thoughtful about what public policies you do and do not support.
• Be a good citizen and pay fair taxes—don’t push tax planning to the extreme.
• Bring back responsible owners of public companies to encourage ownership behavior by management, boards, and investors.
• Focus on employees as citizens and members of the public as well as the ultimate investors in public companies and consumers of their products.
• Be willing to be an advocate for business.

Why CEOs Need To Care

After the accounting scandals and the collapse of the dot. com bubble, the US federal government took sweeping action to improve perceived lapses in corporate governance by, among other steps, increasing the independence of directors from management. In a similar manner, the financial crisis of 2007–2009 prompted further federal action to give investors a larger oversight role in director accountability. While some may debate the efficacy of these legislative actions, it is clear that government intervention was undertaken in a politically charged environment in which the public expected, if not demanded, that board room behavior be constrained by rules-based mandates. One unintended consequence of rules-based mandates is the tendency of those subject to complex rules to focus on the “letter of the law” and compliance as mandated instead of doing what is right in the eyes of the public. This response can cause a downward spiral in which the public continues to distrust business because it only does what is required, but not necessarily what the public deems to be “right.” These suspicions lead the government to respond with more rules-based mandates, inspiring more behavior based on compliance but not on values, which engenders more distrust

Business leaders who take actions that may be legal but wrong in the eyes of the public damage trust in business as measured by public perception. For example, the September 2013 edition of the Consumer Confidence Survey asked respondents, “Do you think it is okay for trading firms and other private parties to have access to information that may affect stock/bond/commodity prices before the general public has access, if they pay to receive this information early?” Ninety-five percent of respondents said no. Yet a whole industry has developed around early access to market moving information that, while it may not violate existing securities laws, is clearly seen as wrong in the eyes of the public. So how should the business community—and society at large—deal with business actions that are legal but perceived as wrong by the public? What standards for conduct, beyond compliance with the law, would engender trust in business and enhance the functioning of capital markets?

One thing is clear: Business needs to move beyond simple regulatory compliance to begin altering public perception. In 2013, The Conference Board directly confronted the issue of whether releasing market moving information ahead of its dissemination to the general public undermines trust in the market. The Conference Board examined ways it might generate revenue from its closely followed economic indexes, but quickly rejected the idea of selling early access to high-speed traders. As a nonprofit organization dedicated to improving business and society, The Conference Board decided it should not be engaging in any activity that might undermine confidence in the market.

Not all organizations share this approach. Under a business arrangement that reportedly earned the University of Michigan $1 million per year, the University of Michigan Consumer Sentiment Index was released early to Thomson Reuters, which permitted high-speed traders to have access to the information two seconds before other clients of Thomson Reuters, who received it five minutes before the public. While the sale of private data under these circumstances would not violate Securities and Exchange Commission regulations as currently interpreted, New York Attorney General Eric T. Schneiderman investigated this practice and was able to reach an agreement with Thomson Reuters to eliminate the two second advantage given to high speed traders. The attorney general described his motivation to engage this issue as being driven by a concern about trust in the capital market system.

Beyond Compliance

Compliance-focused corporate behavior is not sufficient to restore public trust in business if business leaders take actions that may be legal but are viewed as wrong by the public. A clear example is the case of financial institutions using government bailout funds to pay bonuses to executives during the financial crisis. At a September 2013 Baruch College event to discuss trust in business, participants overwhelmingly agreed (89 percent) it was wrong for financial institutions to pay bonuses to executives using funds from taxpayer bailouts.

Executive Compensation and Trust

In addition to concerns about excessive pay, executive compensation is entangled with one of the principal political issues of the times: how to address increasing degrees of income and wealth inequality. The largest portion of executive compensation today is stock based, which is designed to align executives with the interests of investors.

This objective is not incorrect, but companies may have put an undue emphasis on short-term stock performance. Aligning the interests of management with investors has been reinforced and strengthened with the requirements incorporated into law after the financial crisis that investors provide an advisory vote on executive compensation and corporations demonstrate that they pay for performance. Corporations typically demonstrate that they pay for performance by reference to stock price increases over one to three year periods because advisors to institutional investors focus on stock price performance over those periods. A short-term focus on stock price increases contributes to the public’s lack of trust in business because it is perceived as increasing the wealth of executives and shareholders at the expense of employees, communities, the environment, and the long term sustainability of the enterprise.

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Trust in business is a complex topic that cuts across many different corporate functions. Human resources leaders are conducting employee engagement surveys to measure, among other things, employees’ trust in their organizations and in their management’s leadership. Customer trust is being managed with tools such as the “net promoter score,” which seeks to measure whether customers trust a business enough to recommend it to others. Public relations functions are changing from “propaganda departments” to a critical conduit for senior management to understand what critical stakeholders expect from the corporation and how the corporation can respond in ways that engender trust. It is worth noting that respondents to the CEO Challenge survey list “corporate brand and reputation” (defined as “enhancing the quality of products and processes, and ensuring accountability throughout the organization”) as a critical business issue with obvious links to trust.

How Bad Is the Trust Gap? Pretty Serious

The twenty-first century has been a tough time for trust in business and the capital markets generally. The speculative bubble in dot-com companies burst in 2000, unmasking a lack of discipline in a bedrock institution—the stock market. The collapse of Enron shortly followed these events. In the first few years of the new century, massive frauds by management teams were uncovered at Enron, WorldCom, and Tyco, adding to the erosion of trust in capital markets and in business leaders in particular. From early 2000 to mid-2002, the stock market lost $7 trillion in value and more than 1,000 publicly listed companies disappeared. As a result, workers were laid off and retirees of these companies were left with emptied retirement accounts.

Later in the decade, risk taking by financial institutions led to the financial crisis of 2007–2009. In 2013, economists at the Dallas Federal Reserve estimated that the financial crisis had cost the US economy between $6 trillion and $14 trillion, the equivalent of $50,000 to $120,000 for every US household. Given these events, it is not surprising that trust in business reached a low point in the late 2000s. Gallup has been measuring confidence in institutions since 1973, and, according to their data, confidence in big business reached an all-time low in June 2009. At that time, only 16 percent of respondents had “a great deal” or “quite a lot” of trust in business.

Today, five years after the end of the financial crisis, trust in business remains low. In the September 2013 Consumer Confidence Survey, only 4 percent of respondents stated they had more trust in US corporate management now than before the financial crisis—56 percent reported less trust and 40 percent reported no change. The public apparently does not distinguish between corporate management and financial institutions when evaluating responses to the financial crisis: 88 percent rated US corporate management as “fair,” “poor,” or “very poor” in their responses to the financial crisis, which is about the same as the ratings for financial institutions.

The 2014 Edelman Trust Barometer confirms these results. The Edelman survey, which included 33,000 respondents in 27 countries in 2014, is one of the most widely followed reports on trust. Only 16 percent of the respondents to the 2014 Edelman survey said they trust business “a great deal.”

The results for business leaders are also low. About 80 percent of respondents do not trust business leaders to make ethical or moral decisions; tell the truth, regardless of how complex or unpopular it is; or solve social or societal issues.

More: http://www.conferenceboard.ca/temp/caa3 ... il2014.pdf