The reputational costs of deceit

Sales of Volkswagen fell by some 20% year-on-year in November in the United Kingdom, according to data released this week from the Society of Motor Manufacturers & Traders Show.  In a separate move, the firm was thrown out of the FTSE ‘ethical’ index.   

The latest developments following the remarkable news from September when Volkswagen’s board admitted that the firm had installed sophisticated software in the electronic control module of diesel vehicles which was able to rig pollution tests in America. At least 11 million cars worldwide are said to be concerned.

What shocked public opinion the most is not the fact that diesel is significantly more polluting than many assumed. But the efforts Volkswagen displayed to lie to both authorities and the public.

Key lessons can be learned from what appears to be the biggest corporate scandal of the year.

First of all, the Volkswagen case is a striking example of the increasing tension organisations have to face between environmental norms and the demand of consumers for the lowest possible price. On one side, shareholders demand constant improvement in the financial performance, while, stakeholders expect socially responsible corporate behaviours.

What makes this an even more difficult issue for firms to address is that ethical behaviour does not necessarily lead to increased sales. A study by Carrigan and Attalla, for instance, demonstrated that although consumers are now generally more sophisticated nowadays, this does not automatically translate into behaviours which favour ethical firms and punishes unethical ones.

Milton Friedman’s view that the social responsibility of business is to increase profits might now be viewed as significantly outdated, but the necessity to maximise returns to shareholders still remains. Although this certainly does not excuse the deceit by Volkswagen, it is important to remain realistic about the difficult and often cross-pressured challenges large companies have to face – the tension between ethical behaviour and profit being at the heart of many of these strategic decisions.

This latest episode in corporate misbehaviour raises a pressing question of whether deceit can ever be the best decision a corporation can make? The answer is an emphatic ‘no’.

There is no infallible form of deceit, lies are a scaffold on stilts which can collapse at any moment. And Volkswagen is currently paying a high price for this, as have others in the past, including Enron.

To be sure, the tension between ethics and profit may always exist, at least in the short-term. However, long-term value and performance is ultimately driven by honesty and ethics being fully integrated and embedded into business strategy.

This is underlined by the still-unfolding scandal at Volkwagen which has lost more than 40% of its stock market value and is potentially facing US fines of up to 37500 US dollars per vehicle. Just as Sanlu’s milk scandal in 2008 led to a sharp decline of dairy product sales in China, demand for Volkswagen’s cars will assuredly be impacted too, as the latest UK figures underline.

Most onerous of all, perhaps, will be the damage to the company’s reputation and to other German firms, especially in the automobile sector. The German stereotype of über-efficiency is deeply rooted worldwide, and Max Weber’s theory according to which Northern Europe is more efficient and virtuous than Southern countries, which he developed in 1904 in the Protestant Ethic and the Spirit of Capitalism, has been used as a marketing argument by a significant number of corporations.

This crisis will therefore have broader consequences, on other German automakers first, but also on other industries which have used the “Made in Germany” as a key element of their communication and wider business strategy.

Moreover, the particular situation of Volkswagen, with 20% of the company owned by the lander of Lower Saxony, and the fact that it is a symbol of national pride and of industrial success in Germany, indicates consequences on the perceptions of Germany itself. Such consequences are already observable, with Chancellor Angela Merkel’s government being accused by some stakeholders of deliberately ignoring European Union demands to outlaw the kind of car computer software used by the German firm.

Taken overall, the Volkswagen case, as with numerous other corporate scandals of recent years, is a stark reminder of the pressing necessity for companies to embrace Socrates’s vision: the way to gain a good reputation is to endeavour to be what you desire to appear. Corporations which recognise the relationship between ethical failures and reputational harm, and pro-actively act upon this, are the ones which are most likely to prosper in the long-run. 

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