The Economist's Schumpeter column recently contained a commentary on corporate reputations and reputation consultants, giving three reasons why firms should worry less about their reputation. First, it is unclear exactly what a reputation is: firms do so many things that people have opinions on that there isn’t a good way to add them up to a single object and call it reputation. Even if they can be added up, a manager would need to split them back up in order to make a specific decision. Second, it is not clear that reputations are any good. While we know many high reputation firms that are also profitable, low-reputation firms are too. For example, the tobacco industry is not widely admired, even by its customers, but with low costs and a sales pitch that includes addiction, it is highly profitable. Third, it is not clear that attention and actions to improve reputations actually have that effect. Firms are rewarded for products that perform reliably, for good service experiences, and for service and care in operations. These produce reputation, but are so obviously good things that a manager ought to see their merit without having reputations in mind.
So far the argument from the Economist. Can research help justify all the attention toward reputations? Actually there are some reasons to pay attention to reputations, but they differ from what you might hear from a PR firm. First, reputations spread. Problems in one firm will reduce reputations of other firms that are similar to it, even if they are innocent. I have shown this effect in research with coauthors Stefan Jonsson and Takako Fujiwara-Greve. This has some surprising implications. I wrote earlier about how the Carnival CEO kept quiet when their subsidiary Costa Cruises dealt with the aftermath of the Costa Concordia shipwreck. Surprising as this stance may seem, it is actually an effective way to avoid the negative reputation from spreading, because the connections between these firms are not so well known now, but would become obvious if Carnival made comments on the Costa Concordia shipwreck.
Second, reputations linger, and continue to hurt the firm even after they have recovered from the problem that caused the reputation drop. What’s more, we know less about how quickly a reputation recovers, and why, than we do about how actual quality covers. On the latter, there is already good evidence that reputation-harming events spur learning and improvement, as in the work by Haunschild and Rhee cited below. One could calculate the cost of events such as car recalls based on their findings except for one thing: they show the actual quality changes, but in addition to that there is a (probably lagging) change in the perceived quality. We would all like to know about that effect, because it could be one more reason for firms to pay close attention to quality, reliability, and safety.
Haunschild, P. R. & Rhee, M. 2004. The role of volition in organizational learning: The case of automotiveproduct recalls. Management Science, 50(11): 1545-1560.
Jonsson, S., Greve, H. R., & Fujiwara-Greve, T. 2009. Undeserved loss: The spread of legitimacy loss toinnocent organizations in response to reported deviance. Administrative Science Quarterly, 56(June): 195-228.
Schumpeter: What's in a Name? The Economist, April 21st 2012: 73.