Of all the risks facing banks, reputational risk is the most difficult to anticipate, measure and manage. However, failure to do so can cause more significant long-term damage than any other threat. Trust, after all, is the bedrock on which banking is built. Without trust, banks and banking cannot exist. It takes years and constant attention to build and maintain a reputation that instills trust and confidence. However, it only takes a day for that trust to vanish.

The Wells Fargo fake-account-opening scandal is the most recent example of a total management breakdown that resulted in severe negative consequences to a bank’s image and brand. While the monetary fines were significant, the costs associated with lost business and attempts to rebuild customer confidence were likely higher than the actual regulatory fines. Worse, evidence suggests that it could take years to repair the company’s brand.

There are many lessons to be learned from the Wells Fargo scandal. For example, a number of banks have focused on the specific sales and sales management issues in the Wells case to determine if they face similar risks. While this is important, there’s something that matters more: exploring how Wells Fargo’s management failed to recognize, understand and address the reputational risk issues early and effectively. The failure by the San Francisco bank compounded the impact and reinforced many people’s perceptions of large banks as arrogant, uncaring and downright crooked.

The response to Wells Fargo’s participating in the financing for Dakota Access Pipeline illustrates a new type of reputational risk for banks in the heated political climate. Bloomberg News

While it is difficult to anticipate all the things that could damage a bank’s reputation, it is possible to identify potentially high-risk areas, including a new threat that requires thoughtful attention as it has nothing to do with whether or not a bank is violating regulatory requirements or ethical norms. Rather, this risk arises out of the extreme polarization throughout the country and the significant increase in political and social activism.

There has always been the risk that ordinary and rational business decisions could upset one group or another. However, these risks were relatively easy to identify and mitigate. Now, there are early indications that this is changing and changing significantly in a heated political environment. Unfortunately, Wells Fargo also provides the most recent example of this reputational threat.

When Wells made the decision to participate in the financing for the Dakota Access Pipeline, we can assume that the bank did so after a thorough evaluation of the typical risks and an understanding of the political controversy surrounding the project. We can also assume that the bank made a rational decision after balancing the financial returns with the risk of losing business from parties opposed to the pipeline. However, it is probably a good bet that Wells Fargo did not factor in the possibility that the Seattle City Council — which has no discernible stake in the project — would vote 9-0 not to renew its contract with Wells to provide banking services, or the accompanying publicity. The vote stemmed in part from the bank’s involvement in the pipeline project.

It is unknown how significant the loss of the Seattle business will be to the overall performance of the company, but it will probably be minimal. The more significant risk is that large numbers of Seattle consumers and businesses — as well as those around the country who share their views — will follow the city’s lead and discontinue their relationships with the bank as well.

To be sure, banks should not necessarily make decisions based solely on whether or not they are politically popular. However, it is incumbent upon management and boards of directors to understand the potential reputational risks of seemingly normal business decisions at a deeper level than previously considered. This is becoming increasingly difficult. Issues such as immigration, gender identity and equality, health care and many others are creating significant divisions among the populace. Decisions that have the potential to touch any one of these issues can create significant reputational risk.

A more thorough, upfront assessment of a broader range of potential consequences will help management make more informed business decisions. It will also help management identify possible risks and ways to mitigate any potential damage to the bank’s reputation and brand.

Historically, banks have avoided taking public positions on broader political or social issues. Instead, they have focused their political activity on those issues that directly impact the bank or the industry. The reasons are straightforward. Most banks serve a broad, politically diverse customer base, and have an equally diverse group of employees. As a result, most banks have tried to take a middle road on politically sensitive or controversial issues. However, that road is getting increasingly narrow and harder to navigate.

Rolland Johannsen

Rolland Johannsen

Rolland Johannsen is senior consulting associate at the Capital Performance Group.

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