NatWest: a company hoist on its own petard
A few months ago in March during the Silicon Valley Bank, Credit Suisse and others bank failures hiatus, we talked in these musings about moral hazard in the context of the absolute necessity of having a bank account and the protection of account holders/depositors. Banks are quasi utilities in the 21st century, access to them being as necessary as electricity or water suppliers for people to be able to function as fully participating members of society. The Coutts/Nigel Farage banking debacle brings a whole new dimension to the debate.
If Coutts Bank thought it risked reputational damage by retaining Farage as a customer, it never in its worst nightmares calculated the reputational risk and consequences of getting rid of him and making an enemy of him. If it did, it would not now be in the position in which it finds itself.
“A relationship bank for a digital world,” according to the front cover of parent bank NatWest’s 2022 Annual Report. As for the bank’s former head, Dame Alison Rose, in her CEO report in the same document, she said, “We champion the potential of the people, families and businesses we serve – when things are going well, and when things are tough. By standing strong and standing together, we can provide the support and security our customers, colleagues, economy and society need.” Warm, inclusive and fluffy sentiments indeed. But if in the opinion of the bank’s moral arbiters you as a customer failed to align with the bank’s own ‘values’, NatWest’s corporate culture of promoting inclusivity, ‘standing together’, meant precisely the opposite, particularly at Coutts: you risked being persona non grata, not just unwelcome but out. Farage was accorded neither support nor security. As for “A relationship bank”? Publicly humiliating your customers is hardly a winning business formula.
Leaving aside the initial cause, that it was left to the Prime Minister and the Chancellor late at night to insist that Rose be fired demonstrated a lead-footed board compounded its offences by not taking control of the situation and acting decisively. It failed quickly and unequivocally to establish the simple, binary answer of whether Rose was the source of the BBC’s report that Farage was cancelled for commercial and not political reasons, and then to take robust remedial action when it was clear she had not only breached client confidentiality but also had not been truthful. In an unfolding story which may not yet have reached its conclusion, the managing director of Coutts has also departed. On every level of policy and governance, NatWest’s is an entirely self-inflicted reputational hit. But there could now be a significant direct financial penalty too: under the General Data Protection Regulation regime, the Information Commissioner’s Office (ICO) is formally involved and has already offered the opinion that “Mr Farage’s trust was betrayed” by NatWest. Should the ICO find NatWest in breach of the data protection principles, the financial sanction is severe: it could be fined up to 4% of its annual global turnover (in 2022, NatWest’s group income was £13.2bn, of which 4% would represent £520 million).
If Coutts Bank thought it risked reputational damage by retaining Farage as a customer, it never in its worst nightmares calculated the reputational risk and consequences of getting rid of him and making an enemy of him. If it did, it would not now be in the position in which it finds itself.
“A relationship bank for a digital world,” according to the front cover of parent bank NatWest’s 2022 Annual Report. As for the bank’s former head, Dame Alison Rose, in her CEO report in the same document, she said, “We champion the potential of the people, families and businesses we serve – when things are going well, and when things are tough. By standing strong and standing together, we can provide the support and security our customers, colleagues, economy and society need.” Warm, inclusive and fluffy sentiments indeed. But if in the opinion of the bank’s moral arbiters you as a customer failed to align with the bank’s own ‘values’, NatWest’s corporate culture of promoting inclusivity, ‘standing together’, meant precisely the opposite, particularly at Coutts: you risked being persona non grata, not just unwelcome but out. Farage was accorded neither support nor security. As for “A relationship bank”? Publicly humiliating your customers is hardly a winning business formula.
Leaving aside the initial cause, that it was left to the Prime Minister and the Chancellor late at night to insist that Rose be fired demonstrated a lead-footed board compounded its offences by not taking control of the situation and acting decisively. It failed quickly and unequivocally to establish the simple, binary answer of whether Rose was the source of the BBC’s report that Farage was cancelled for commercial and not political reasons, and then to take robust remedial action when it was clear she had not only breached client confidentiality but also had not been truthful. In an unfolding story which may not yet have reached its conclusion, the managing director of Coutts has also departed. On every level of policy and governance, NatWest’s is an entirely self-inflicted reputational hit. But there could now be a significant direct financial penalty too: under the General Data Protection Regulation regime, the Information Commissioner’s Office (ICO) is formally involved and has already offered the opinion that “Mr Farage’s trust was betrayed” by NatWest. Should the ICO find NatWest in breach of the data protection principles, the financial sanction is severe: it could be fined up to 4% of its annual global turnover (in 2022, NatWest’s group income was £13.2bn, of which 4% would represent £520 million).
Capitalism and corporate ‘socialism’: uneasy bedfellows
But from an investment perspective, aside from the idiosyncratic impact on the company and its shareholders, the real significance of the NatWest debacle plays to another theme we have discussed before: the broader debate about the rise of ‘stakeholder’ capitalism and whether in its literal sense the increasing ‘socialism’ of business is compatible with capitalist principles. Crudely, are companies there to benefit society first (whatever their own definition of ‘benefit’ might be), or to prioritise shareholders’ interests as the owners of the business and the providers of its permanent capital? Are the two compatible or mutually exclusive?
It is a moot point and a philosophical argument. There are no right or wrong answers here; it is an immensely complex subject in which the pendulum of opinion swings to-and-fro. Inevitably, in today’s climate much is political in nature which in turn tends to polarise opinions: Brexit in the UK; gender politics; social inclusion; geopolitics; biodiversity and the environment; climate change itself; all are now important preoccupations in any corporate board room. Many are also the preoccupation of legislators, regulators and central banks.
It is a moot point and a philosophical argument. There are no right or wrong answers here; it is an immensely complex subject in which the pendulum of opinion swings to-and-fro. Inevitably, in today’s climate much is political in nature which in turn tends to polarise opinions: Brexit in the UK; gender politics; social inclusion; geopolitics; biodiversity and the environment; climate change itself; all are now important preoccupations in any corporate board room. Many are also the preoccupation of legislators, regulators and central banks.
The ascendancy of the ‘stakeholder’. But what is a ‘stakeholder’?
“Good” companies, those which are self-confident, should thrive on an open spirit of constructive challenge and criticism both from within and without. They are open to a broad church of ideas and views (known in corporate-speak as “cognitive diversity”, as championed here at Jupiter). Well-run businesses are those which, as well as having goods and services which people want to buy, also respect and nurture their stakeholders as an integral part of the strategy of ensuring business sustainability: customers, suppliers, employees, regulators, their geographic neighbours, locality and the environment and, of course, their shareholders.
Perhaps the insidious and pernicious term ‘stakeholder’ itself is part of the problem: are those groups referred to above all genuine ‘stakeholders’? Shareholders are, certainly: they really do own a stake in the company. But arguably the rest (even employees unless they too are equity holders) are more accurately interested or contracted parties. Looked at that way, it offers a different slant.
Perhaps the insidious and pernicious term ‘stakeholder’ itself is part of the problem: are those groups referred to above all genuine ‘stakeholders’? Shareholders are, certainly: they really do own a stake in the company. But arguably the rest (even employees unless they too are equity holders) are more accurately interested or contracted parties. Looked at that way, it offers a different slant.
Moral hazard: a social good, or losing the plot?
When companies stop listening or tend towards dogma, sermonising or virtue-signalling, they run the risk of significant reputational damage and or ridicule. Coutts’ dossier on Nigel Farage and his political views, presumably never intended to be public and far exceeding what was required in satisfying the regulatory due diligence into Politically Exposed Persons, has proved utterly toxic (far more to the company than to him): in the short-term it has wiped more than £1bn off the company’s market capitalisation and seen the back of its chief executive and another senior member of staff and is under interim management at least for several months. It may yet incur a significant financial penalty from the ICO.
Last year another corporate giant, Unilever, was in the press for all the wrong reasons: virtue-signalling social change by ensuring that every product in its extensive stable of food products and everyday household staple goods must justify its existence through its social purpose; presumably when buying a jar of Marmite and spreading it on their crumpets of an evening in front of the fire, or more mundanely swishing the loo with Domestos it was supposed to make the consumer bask in the company’s reflected glory that they had just made the world a better place thanks to the altruism and high moral standing of Unilever (with the subtext that the consumer would remain attracted to the premium-priced brand and keep buying it). Smart brand management? Cynical? Misguided? Inspirational? Or, as one high-profile shareholder put it, “lost the plot”? Creating its own moral muddle, while its ice cream subsidiary Ben & Jerry’s has very publicly embroiled itself in the morass of Palestinian-Israeli politics, Unilever is estimated still to be selling more than £0.5bn worth of goods a year in Russia since Putin invaded Ukraine, leaving the company open to the charge of hypocrisy about social purpose. These are high profile but far from isolated examples.
Last year another corporate giant, Unilever, was in the press for all the wrong reasons: virtue-signalling social change by ensuring that every product in its extensive stable of food products and everyday household staple goods must justify its existence through its social purpose; presumably when buying a jar of Marmite and spreading it on their crumpets of an evening in front of the fire, or more mundanely swishing the loo with Domestos it was supposed to make the consumer bask in the company’s reflected glory that they had just made the world a better place thanks to the altruism and high moral standing of Unilever (with the subtext that the consumer would remain attracted to the premium-priced brand and keep buying it). Smart brand management? Cynical? Misguided? Inspirational? Or, as one high-profile shareholder put it, “lost the plot”? Creating its own moral muddle, while its ice cream subsidiary Ben & Jerry’s has very publicly embroiled itself in the morass of Palestinian-Israeli politics, Unilever is estimated still to be selling more than £0.5bn worth of goods a year in Russia since Putin invaded Ukraine, leaving the company open to the charge of hypocrisy about social purpose. These are high profile but far from isolated examples.
Does providing capital still equate to traditional capitalism?
However controversial and uncomfortable some of the subjects, this debate is important. Over the past months we have been regularly discussing in these columns the cost of capital. As the debt burden rises for many companies with increased financing costs, one of the financial measures of corporate health is the strength of the company’s balance sheet. Its net assets (the sum of its total assets including tangible assets such as land and buildings and investments; its current assets: debtors, inventories and cash; intangible assets including the value of brands and goodwill; minus its total liabilities including debt, borrowings, current liabilities including creditors and short-term borrowings) equal the total value of the company’s issued share capital and reserves.
That share capital, supported by the reserves which accrue from retained profits, is the company’s only permanent capital, provided by equity investors. It is the financial basis of what banks and other lenders are prepared to lend against with a reasonable prospect of seeing their money again should the company become insolvent. Without equity share capital, there is no business (each of those other ‘stakeholders’ is important to the company’s future, but they have no stake at all if there is no business in which to have an interest the first place). Equity investors commit capital because they think the company has good prospects and they believe on the basis of their analysis of its management, products, competitive positioning, investment in new areas, financial prospects etc that over time they will see the value of their investment grow and that there is a reasonable likelihood of receiving cash dividends (a discretionary distribution of a proportion of the after-tax profits) on the journey. They know too that they may be called upon at any time to subscribe additional capital. Also that in the event the company fails, they are at the bottom of the heap after its creditors have been settled and may never recover any of their investment.
That share capital, supported by the reserves which accrue from retained profits, is the company’s only permanent capital, provided by equity investors. It is the financial basis of what banks and other lenders are prepared to lend against with a reasonable prospect of seeing their money again should the company become insolvent. Without equity share capital, there is no business (each of those other ‘stakeholders’ is important to the company’s future, but they have no stake at all if there is no business in which to have an interest the first place). Equity investors commit capital because they think the company has good prospects and they believe on the basis of their analysis of its management, products, competitive positioning, investment in new areas, financial prospects etc that over time they will see the value of their investment grow and that there is a reasonable likelihood of receiving cash dividends (a discretionary distribution of a proportion of the after-tax profits) on the journey. They know too that they may be called upon at any time to subscribe additional capital. Also that in the event the company fails, they are at the bottom of the heap after its creditors have been settled and may never recover any of their investment.
Investors’ perceptions are changing
One would imagine that this being the case, shareholders would be at least towards the top of the board’s priorities, if not the very top. In law, that used to be so. No longer. As capitalism becomes increasingly ‘socialist’, so shareholders are slipping down the pecking order in favour of those other stakeholders. Managements are being increasingly incentivised by performance measurements not simply focused on shareholder returns. But that in turn reflects the changing attitudes of investors themselves, and their own priorities. Investors as stewards of capital and owners of the business have various ways of expressing their views: engaging with management; voting at the AGM; selling the shares; buying or subscribing for more. Boards, their composition and their strategy reflect what the majority of shareholders are prepared to support.
When the ESG pendulum swings too far
Environmental, Social and Governance (ESG) has been one of the most powerful investment factors of the past half-decade, attracting significant flows and pushing up the valuations of ‘progressive’ companies (on the basic investment premise of buy-low-sell-high, the Jupiter Merlin team has argued that investing in companies with low ESG ratings at the early stages of embracing the ESG culture are a better investment than constantly chasing highly rated companies with little or no room for further material ESG improvement). The ESG premise is simple: companies which in the course of their business make the world a better place stand a better chance of being sustainable. But investors need to beware when the ESG tail begins to wag the corporate dog (i.e. the company’s busy-ness and the focus of its energy are diverted from the business of making widgets or selling services: it “loses the plot”). That is when listed companies lose focus on why they have that listing in the first place: to be able to attract permanent capital with which to be able to expand and develop from a financially secure base and to create wealth.
NatWest provides a timely reminder that even in the new values-driven ‘stakeholder’ environment, treat any one of them with contempt (in this case a section of the customer base), and punishment and reputational damage are swift, including potentially undermining investors’ wealth.
The Jupiter Merlin Portfolios are long-term investments; they are certainly not immune from market volatility, but they are expected to be less volatile over time, commensurate with the risk tolerance of each. With liquidity uppermost in our mind, we seek to invest in funds run by experienced managers with a blend of styles but who share our core philosophy of trying to capture good performance in buoyant markets while minimising as far as possible the risk of losses in more challenging conditions.
NatWest provides a timely reminder that even in the new values-driven ‘stakeholder’ environment, treat any one of them with contempt (in this case a section of the customer base), and punishment and reputational damage are swift, including potentially undermining investors’ wealth.
The Jupiter Merlin Portfolios are long-term investments; they are certainly not immune from market volatility, but they are expected to be less volatile over time, commensurate with the risk tolerance of each. With liquidity uppermost in our mind, we seek to invest in funds run by experienced managers with a blend of styles but who share our core philosophy of trying to capture good performance in buoyant markets while minimising as far as possible the risk of losses in more challenging conditions.
Authors
Investment Manager, Jupiter Independent Funds/Merlin
Investment Manager & ESG Investment Director, Independent Funds/Merlin
The value of active minds – independent thinking
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