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Penn State scandal sharpens focus on reputational risk

Posted On: Jan. 1, 2012 12:00 AM CST

Penn State scandal sharpens focus on reputational risk

As Pennsylvania State University faces litigation alleging the school failed to prevent a former assistant football coach from sexually abusing children, reputational damage is top of mind for risk managers at educational institutions.

When a college's reputation is damaged, it can adversely affect student recruitment, alumni donations and even federal funding, experts say.

Awareness of educational institution reputational risks has been rekindled as Penn State faces unlimited legal liability in civil litigation. The first civil lawsuit was filed Nov. 30 alleging that the university knew of and failed to prevent former assistant football coach Gerald A. Sandusky's alleged child sexual abuse dating back to the early 1990s (see related story).

Reacting to the allegations, university trustees removed legendary football coach Joe Paterno and President Graham Spanier. Two other officials also stepped down. Mr. Sandusky retired before the scandal broke.

While reputational risks have been a major concern for school risk managers for several years, “I think the awareness of reputation risk is certainly heightened” since the Penn State scandal, said Ellen Shew Holland, director of risk management at the University of Denver in Denver.

“Something like the scandal at Penn State is a huge risk, and it does concern us,” said Larry Stephens, director of risk management at Indiana University in Bloomington, Ind. “Certainly, Penn State has suffered a hit to their reputation,” he said, noting that any revenue loss tied to reputational damage is difficult to quantify.

Moody's Investors Services Inc. was weighing reputational damage in its review of Penn State's bond rating.

In 2011, Penn State's major sources of revenue supporting its $4.5 billion in operations were derived from student tuition, housing and auxiliary fees, and health care operations. Private donations totaled $235 million—among the highest of all U.S. public universities, Moody's said in a statement.

Sources of Penn State's credit risk include the cost of litigation and potential settlements, loss of federal and state funding for research and other programs, weakened student demand, and diminished philanthropic support, among others, Moody's said.

Higher education risk managers can mitigate potential reputational risks using insurance and risk management techniques, which often start with making sure that allegations of misconduct are avoided, experts say.

“The obvious thing is to prevent anything from happening and doing your due diligence to make sure that the university community is informed as to their responsibilities and obligations and what kind of behavior is tolerated and what will not be tolerated,” said Christopher Johnson, director of risk management and safety for Northwestern University in Evanston, Ill.

Industry experts agree that ignoring misconduct allegations can harm a school's reputation quickly.

“People understand and expect that crises are going to happen. It's the cover-up that's optional,” said Gene Grabowski, senior vp at Levick Strategic Communications L.L.C. in Washington.

Universities and colleges should have rules in place not just for conduct but also for procedures to deal with potential misconduct, Mr. Grabowski said. When there is a problem, schools should act swiftly and transparently. Institutions also need to demonstrate to stakeholders that a plan is in place to prevent a repeat of such events, he said.

For many risk managers, managing key reputational risks at their schools can be challenging, but institutions with enterprise risk management programs have embraced the importance of risk managers' role in this area, said Leta Finch, national practice leader for higher education at Aon Risk Solutions in Burlington, Vt.

“In the last three to five years as we have begun to see more colleges and universities embrace enterprise risk management, which is where these types of issues get addressed, risk managers are being asked to participate in the process because of their expertise in managing risk,” Ms. Finch said.

Northwestern's ERM program identifies 40 to 50 of the top perceived risks to the institution and reputational risk is at the top, Mr. Johnson said.

“When you have the stature of an institution like Northwestern, your image to the public is paramount,” he said.

Mr. Johnson's office handles traditional risks such as fires, slips and falls, and workers compensation, “but almost every discussion begins with what's the impact to the reputation of Northwestern University,” he said.

Another best practice is to have business continuity planning in place along with workplace training for faculty with annual updates and reminders on various reporting laws, said the University of Denver's Ms. Shew Holland.

“So while strategic ERM is a tool, it doesn't take the place of building relationships and working with people and having a very open dialogue,” she said.

Most reputational risk insurance provides crisis management services and does not indemnify loss of revenue tied to potential reputational damage, experts say.

“If universities don't have response plans in place and they want a quick solution, the insurance products are basically a turnkey crisis management product in that immediately after learning of an can call up any of the (public relations) firms the insurance companies have contracted with to immediately put them into action,” said Scott Kannry, vp for Aon Risk Solutions' financial services group in New York.

“However, in all cases, the policies must be purchased pre-incident,” He said. “This isn't burning-building insurance.”

The products are intended to be purchased on a stand-alone basis and priced comparably with professional liability policies, which generally start at $10,000 per $1 million of coverage for a regional college, he said. Larger universities may see higher rates, depending on their stature, with large retentions or a percentage of coinsurance.

Efforts to develop coverage specific to this problem already are under way.

Lockton Cos. L.L.C. is working with insurers to develop business interruption insurance coverage resulting from the reputational damage suffered by universities or colleges, said Teena Hostovich, executive vp at Lockton Insurance Brokers L.L.C. in Los Angeles.

“Reputational damage has several different forms,” Ms. Hostovich said, noting that a decrease in student recruitment stemming from reputational damage is a business interruption loss that is very difficult to quantify.

“Most business interruption coverage currently is tied to specific types of losses that are much (easier) to quantify,” she said. “We're working on some language now that might address this type of thing.”