To be passive or pro-active, that’s the question
Ferrari had to recall its latest car
This is a strange title, isn’t it? And the link with the accompanying photograph is even stranger.
Here’s the story. You have heard that Ferrari has recalled the 1200+ exemplars of its latest car, the 458 Italia. But have you an idea what the impact of this recall would be on the share price (assuming that Ferrari would have its own outstanding shares).
The answer to this question is given in a recent study. In an article entitled « Does a Firm’s Product-Recall Strategy Affect Its Financial Value? » three researchers of the University of Arizona revealed that the share price will be more negatively impacted by pro-active recalls than by passive ones.
It may sound strange but the authors explain that shareholders view pro-active behaviours as clues for the seriousness of the problem:
« Although a proactive strategy may have the potential benefits of maintaining consumer confidence and instilling brand loyalty, investors tend to be more concerned about the firm’s ability to maintain a healthy cash flow in the short run and how the recall event may negatively affect product sales. By observing that the firm is moving quickly and early to initiate the recall and is proactively managing it, investors may speculate that the financial consequences are going to be severe and that the firm had no other choice but to act proactively to reduce the potential impact. In other words, the investors are likely to interpret proactive actions as a signal of severe financial loss, which typically includes expenses related to the recall process, potential litigation, liability, and penalty payment for damages to consumers or properties ».
My take:
On the consumer side the picture looks very different of course. Consumers are more likely to trust proactive than passive companies. This study stresses the gap existing between concepts like Customer Equity and Shareholder Equity and confirms that the two can not be managed simultaneously
I’m convinced that in the longer term, both the expectations in terms of customer equity and shareholder equity can be matched, with the only remark that – in most cases – shareholder equity is a typical short term objective, unfortunately. It’s the name of the game.
Well I think that you got a point Christophe.
A recent article by Roger Martin (University of Toronto) shows just that. After Jensen and Meckling’s “theory of the firm: managerial behaviour, agency costs and ownership structure” was published in 1976 firms actually started recruiting professional managers to run family businesses.
What Martin shows is that shareholders earned lower returns since firms adopted the principle of shareholder value.
I do think it is time to harness the customers’ competencies and re-invent customer centricity.
How about Toyota? They had to recall an enormous amount of vehicles recently in. They took the decision although they knew that 99,99% of the vehicles were unaffected by eventual prouction problems. Recent investigations show that there was nothing wrong with the implicated vehicles but that driver’s fault were the root cause of the accidents. However Toyota took one of the toughest decisions they ever had to take, immediately tackling the root cause of the problem and showing the world that quality and security is Toyota number one priority.
What did I read in the newspaper a few weeks after? Toyota has increased its foreseen gross profit figures.
I do not know if the one is related to the other, but according to me it proves that a company that, on the longer term, sticks to its values altough major short term drawbacks, is a company that merrits to be believed in.
certainly a good point Christophe.
Toyota has indeed often followed a proactive strategy.
You mention however that they reviewed their profits forecast shortly thereafter. Keep in mind however that a firm’s forecasts may differ from analysts’ forecasts. The latter tend to have a very short-term impact on shares price although a firm’s forecast will show its effect only when results are published.
Moreover, as you mentioned yourself, the link between the recall and the profits forecast is unsure. Actually I wonder how a recall can positively impact profits forecasts on the short-term except if the issue is so serious that it will avoid casualties and the costs associated. Recalling millions of vehicles is a pure cost which will affect your bottom line on your next income statement. I doubt therefore that a link can be established between the two events.