1. No. 108/2010
Risk, crisis, organizational errors: concepts and case
studies – II part
di Carlo Pezzoli
UNICREDIT BANCA
In this paper I will focus on the analysis of some cases that have had a major impact on public
opinion, so as to learn valid lessons in Corporate Responsibility.

2. Carlo Pezzoli
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CASE STUDIES
September 30, 1982: in Chicago, seven people including a girl of 12 years, die
after ingesting Extra Strength Tylenol tablets, a popular painkiller manufactured by
McNeil Consumer Products, a subsidiary of Johnson & Johnson. The case gained
enormous resonance in the mass media: 140 thousand articles. However, J & J
sustains a very good business philosophy (“Our responsibility is first to our
consumers, then towards our employees, to the communities where we live and
work and, finally, to shareholders”). This philosophy is endorsed by the entire
management and the company applies tested procedures for crisis management.
Jim Burke, CEO of J & J, immediately set up a crisis division to inform the public,
broadcasting more than 450,000 radio and TV messages regarding the possible
side-effects of Tylenol. In these messages consumers were requested to return any
medicines in their possession.
After just five days the company was able to withdraw 31 million packs from the
market. Six weeks after the crisis, J & J had launched on the market a new pack of
Tylenol with a tamper-resistant seal.
Thanks to this praiseworthy approach, in the space of six months, J & J recovered
85% of its pre-crisis turnover (which during the Tylenol incident had fallen to 13%).
After a few years the percentage of recovered turnover reached 98%.
In conclusion, the company recognized the need for short-term sacrifice (the
withdrawal of all the products from the market had a cost of 100 million dollars),
but in the long-term this led to a significantly positive response.
February 2, 1990: the Boston FDA informed the local subsidiary of Perrier, the
world-wide leader in the mineral water market (with production of around 1,200
million liters), that traces of benzene in some of its bottles had been detected.
After one week, on February 9, a company spokesman announced that the source
of Vergèze, France, was absolutely pure, attributing the problem to human error
during bottling.
The U.S. distributors were not happy with the superficial approach of the French
management, so they decided to immediately suspend the distribution of bottles to
the American market, pending further investigations.
On February 10, Gustave Leven, CEO of Perrier, announced the withdrawal of the
entire stock from the U.S. market. At this point another error was committed.
Leven thought that he could handle the benzene incident on a local scale, but he
was wrong. If the contamination had occurred at the French source, it should have
been clear that the US market was not the only one to have been affected. So why
restrict the suspension of sales only to that country? The predicament began to
escalate.
On February 12, Perrier was requested to take similar measures in Canada to those
taken in the US; February 13, Japan suspended distribution; February 14, in
Germany and Denmark similar measures were taken. Finally, on the evening of
February 14, Leven decided to suspend sales around the world and announced the
destruction of the entire existing stock (a total of 161 million units, amounting to a
loss of 23 million euros in terms of lost sales) .
Perrier shares dropped by 15% on the Paris Stock Exchange.
January 17, 1995: the Japanese city of Kobe was struck by an earthquake that
reached 7.2 on the Richter scale, the worst earthquake ever to hit Japan since
1923. The earthquake resulted in 6,425 casualties and an overall economic loss
estimated at more than 100 billion dollars.

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The reaction in financial markets was profound, although not immediate: that day
the Tokyo Stock Exchange saw only a slight fall, while the rates of building firms
rose, reflecting an expectation of increased demand in the sector.
The financial crisis occurred a week later.
On January 23, the Nikkei index fell by 5.6%, apparently without any connection to
one specific news item, if not to the gradual revelation of the many reports on the
damage caused by the earthquake. In the next ten days, the Nikkei lost more than
8% of its value.
One might wonder what occurred in the minds of investors in the space of those ten
days after the earthquake: in reality there is no way to know with precision.
Probably the impact of the mass media, which at that time focused only on the
earthquake, fired discussion about the probability that such an event might also
implicate Tokyo.
Also interesting was the direct effect of the Kobe earthquake on foreign stock
markets: in the same day when the Nikkei lost 5.6%, in London the FT-SE index fell
by 1.4%, in Paris the CAC-40 lost 2.2% and Germany's DAX was down 1.4%.
The best interpretation of the effects of the Kobe earthquake on stock markets
abroad comes from the fact that the reports of the earthquake and the dwindling
stock markets shifted the attention of investors, bringing to the forefront an
outlook of pessimism.
February 1, 2003: at 18 seconds after 9am, the space shuttle Columbia, returning
to the atmosphere after a space mission lasting 16 days, disintegrated above the
skies of Texas. On board were seven astronauts, five men and two women: Rick
Husband, William McCool, Michael Anderson, David Brown, Kalpana Chawla, Laurel
Clark, Ilan Ramon. Only two hours after the accident an inquiry committee was
established in order to clarify the details of the accident. The “Columbia Accident
Investigation Board” (CAIB)1
was composed of 13 experts, employed a staff of 120
people and was supported by over 400 engineers at NASA. The investigation lasted
seven months and amounted to a total of 1,500 hours of work. During this time
30,000 documents were examined, 200 people interviewed, and 84,000 pieces of
shuttle spread across seven states were collected. On August 26 the final report
was published. The Commission identified the cause of the accident as a technical
malfunction of the “thermal protection system” in the leading edge of the left wing.
At the same time two questions also had to be answered: why had NASA continued
to fly the Shuttle even though they had been aware of problems associated with
pieces of insulating foam becoming detached from the area of contact between the
shuttle and the external tank? Why, in the days immediately after takeoff, had
NASA management decided that the impact of these fragments did not constitute a
danger to the safety of the mission despite the concerns of engineers?
NASA was depicted in the final report as a politicized and vulnerable agency,
heavily influenced by ambitious targets whilst coping with major cuts in the budget.
In a frantic quest for efficiency and the meeting of targets, NASA had strayed from
their mission: to send men and women on a safe exploration of space.
Due to the reasons described above, cultural characteristics and organizational
practices developed within NASA in such a way that led to the safety of space
missions being severely compromised. Established engineering procedures were
replaced by a sentiment of overconfidence that led to the normalization of deviance
and anomalies. The absence of an independent and influential Safety System for
each of the various parts of the programme was equally decisive.
1
www.caib.us.

4. Carlo Pezzoli
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Beset by bureaucracy, NASA management overlooked the important insights of
engineers outside the Space Shuttle Program, trusting only in strict procedures and
the chain of command.
Organizational barriers thus undermined the effective flow of information that
proved critical in terms of safety.
Finally, the more recent structural changes in the space program have created
confusion in the roles and responsibilities of NASA internally and with respect to
external suppliers. Even the frequent conflicts of interest and objectives have been
damaging.
April 2009: Domino's Pizza, the American food chain with a turnover of 1,400
million dollars, faced a sudden crisis in reputation. Two employees uploaded a
video on You Tube in which they performed repulsive acts in the kitchen of a
Domino's pizza restaurant in Conover, a small town in North Carolina.
The file was seen millions of times and the news spread quickly on Twitter and
other blogs.
The damage was immense, but Domino's reacted immediately.
Responding via email to the blog “Good as You” that had warned the company
about the footage from the film, the Communications Manager, Tom McIntire,
dissociated the company and its 125,000 employees from the behavior of what he
called “two idiots”. He immediately launched an investigation into locating the
implicated restaurant.
In record time, McIntire identified the restaurant, fired the two operators, reserved
further legal action against them and initiated a thorough hygienic treatment of the
room. All of this was given great emphasis on all media channels. In addition, a
specific account was opened on Twitter, the popular microblogging service, in which
information related to the company’s follow-up was posted.
Finally, Patrick Doyle, CEO of Domino's, published a video on You Tube where he
apologized to all customers and thanked the virtual community for their timely
intervention.
CONCLUSIONS
As we have seen, the effect that a crisis may have in financial terms, or in terms of
the value of company shares, can be very serious.
An analysis of the problem, conducted by Deborah Pretty by Oxford Metrica, on a
cross-section of multinational companies that had faced the consequences of a
crisis/accident, made it possible to identify two basic categories of organizations:
those that, in the medium term, were able to recover the pre-crisis value of shares
(so-called “recoverers”); and those that proved unable to do so (so-called “non
recoverers”).
The two types of categories bore the following characteristics: a) all the affected
companies, in the days following the event, suffered on average an initial 8%
decline in the share price (with a low of 35% following the accident at Bhopal); b)
the number of exchanges in the early days of the event increased fourfold,
returning to normal, on average, within one month; c) the volatility of the securities
was initially significant, to settle back down shortly thereafter, both for recoverers
and for non recoverers; d) within 50 days of bargaining, the recoverers were
generally able to recover the initial value; non recoverers continued to see a
negative trend up to a year later.

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It is also true that in recent years, a phenomenon of "dematerialization" has
emerged with respect to the value of companies. For companies on the S&P 500
index, the weight of “intangible assets” rose from 16.8% in 1975 to 79.7% in 2005.
In this context, “reputation” has become an important component of “intangible
assets” and of the value of the enterprise.
0
10
20
30
40
50
60
70
80
90
1975 1985 1995 2005
Tangible A.
Intangible A.
FIGURE 1 - S & P 500 Components of Market Value (www.luiginorsa.com)
An appropriate system of Corporate Governance, aimed at ensuring the reliability of
management and the balance between its power and the interests of its
stakeholders, should include: a risk management system that is also able to cope
with reputational risks, a crisis management system based on an audit of the
potential areas of vulnerability, a clear identification of roles and responsibilities in
the event of crises, a plan for emergencies and business continuity, and finally, a
programme for maintaining the level of competencies through training and
simulations.
It is the specific responsibility of senior management to guarantee shareholders and
stakeholders the existence of an effective and efficient crisis management system,
protecting investments and the company's ability to achieve its business objectives in
the medium and long term, even in the face of unexpected adverse events.

6. Carlo Pezzoli
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