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Dealing with the Honest Majority and the Dishonest Minority: Tales from the auto industry

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This is a guest-post by Matti Kurvinen, a former Accenture partner, now an independent consultant focusing on service strategy and operations and warranty management. We welcome him to Trust Matters.

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This blog has recently addressed what to do when someone abuses your trust. Of course, most of our business partners are fully honest and trustworthy. Still, if you don’t know which one is which – how can you trust your partners?

The issue is not hard to frame for individuals. But what about at scale? How can you establish systemic trust-based business relationships, when you can’t directly assess the trustworthiness of every relationship at all times?

The Case of Automotive Warranty Service

A case in point is manufacturers who outsource their warranty service to external service agents – for example, automotive dealers. An automotive OEM rightfully sees dealer productivity as a key route to effective end-customer service, and dealer satisfaction as a route to end-customer satisfaction. As the OEMs put it, “It is our role to support our dealers in serving our customers and not burden them with unnecessary controls.” (The same applies to white goods, IT, mobile devices and consumer electronics in relation with their authorized service vendors).

The problem is, an OEM with thousands of service agents globally will quite likely have tens – maybe even hundreds – who will take advantage of any holes the OEM has in its warranty control.

Hence the dilemma: how to enforce trust, positive incentives, support and frictionless procedures with the honest majority of your business partners, while at the same time having adequate control and discipline to deal with the few dishonest exceptions?

The Ugly Truth about Warranty Fraud

Warranty cost is a significant factor for manufacturing companies, typically ranging from 1 to 4 % of company sales, and 5 to 25 % of company profits (sometimes enough to make the difference between profit and loss).

Most companies see warranty costs as driven mainly by product quality, and secondarily by service network efficiency. However, there is another factor to be considered  – warranty fraud. This kind of fraud ranges from opportunistic small-scale overbilling to industrial-scale fraud perpetrated by organized crime. Estimates suggest that from 3 to 15% of warranty billing is fraudulent, making it a billion-dollar issue in the USA alone.

The warranty chain is no different from any other field of life or business. For some small fraction of people and companies, the opportunity for financial gain, weighed against the likelihood and consequences of getting caught, is a calculus that leads them to take advantage of loopholes in warranty control.

Some companies take this very seriously; others are not even aware of it. Still others believe it may be an issue, but “not for us.”  Stanford professor and trust scholar Roderick Kramer states in his HBR Article Rethinking Trust: “… people underestimate the likelihood that bad things will happen to them, and detecting the cheaters among us is not as easy as one might think.”

I have witnessed this several times, with comments like, ”Yes, the numbers from this dealer look really peculiar – but I can’t just go and accuse them of being dishonest, now, can I?”

Most participants in the warranty chain are honest – but not all

The good news is that most participants in the warranty service chain are normal, honest people and companies. But this makes fraud control tricky; how to have control and discipline for the dishonest minority, while enhancing trust, positive incentives, support and frictionless procedures with the honest majority?

The same issue, of course, can be found in many other areas: think on-line commerce, credit cards, mobile payments. The challenge is to make processes fast and easy for the honest people, yet still have adequate controls and fraud prevention processes.

Both false positives and negatives are undesirable. It’s inconvenient to have your credit card refused because of a false alarm. But it’s at least as troublesome to see payments go through with stolen credit cards or identities.

Enforcing trust while managing the dishonest minority

In my experience, there is no single silver-bullet solution. However, by applying the following five principles to your business, you’ll improve the odds considerably.

  1. Trust your partners by default. The business relationship between the OEM and the service agent must be based on mutual trust. The OEM assumes that the service agent doesn’t do warranty fraud, and the OEM accepts that the service agent is entitled to earn a share of the profits for serving the end-customer. The alternative – a default assumption that the service agents are dishonest – is corrosive of all trust. Even good service agents can turn bad if you consistently suspect them of being so.
  2. Set a culture and expectation of high integrity and honest work. This should be enforced and communicated upfront – along with clear consequences of breaking the rules.

Some of our clients have been puzzled when catching fraudulent vendors – “What do we do now?” One leading automotive OEM sends a very clear message to their dealers: “We trust you, but if you violate that trust, you are out!”

This is consistent with Kramer’s advice of sending strong signals on willingness to trust others, coupled with strong promises to strike back if that trust is abused. This not only attracts other desirable trusters, but also deters potential predators, who can sniff out easy victims who send out weak and inconsistent cues.

  1. Keep core operations simple and effective. In daily operations and service vendor management activities there should be no excessive control points; the focus should be on smooth operations and minimal administrative burden for the service agent. You trust the service agent enough to let them be the interface with your end-customer – let that trust also be visible in the back-office, and help them to serve customers with maximal productivity.
  2. Use analytics and audits to support warranty control and rule-based claim validation. Use extensive analytics to detect service agents with suspicious or fraudulent behavior. But analytics alone are not enough; they should be augmented by regular operational reviews and more detailed audits – executed randomly, or as a follow-up based on the analytics findings.

It’s important to keep the human touch and judgment alongside the analytics. Beware of taking drastic actions before you are sure of the findings, and don’t settle for anomalies or suspicious cases where you don’t understand the underlying reasons. 

  1. When necessary, take determined action. Occasional sloppiness and over-charging is best dealt with directly with the service agent, with a clear expectation of corrective actions. In the case if direct fraud or several suspicious elements, take determined action according to the upfront stated policies, such as:
    • Enforcing tighter process controls. You might require additional process control points from service agents with suspicious cases or too many cases in the gray area. Be very clear about this.
    • Claiming back the over-charges. Typically, it is easier to prevent over-charges than claim them back. The circumstances and time-frames for that should be stated in the service contract.
    • Do you still feel you can trust your business partner in the future? What are your other options for warranty (and non-warranty) service? Consider having a case for contract termination or even going to court.
    • Companies are often reluctant to let others know they’ve been a victim of fraud. However, communicating the issue and the consequences enforces the message that your control processes work and you don’t tolerate wrongful behavior.

In many cases we hear clients say, “We don’t have warranty fraud, we know our service agents and we trust them,” or “We are the market leaders, our dealers don’t have the guts to cheat us.” Still, we have seen the whole spectrum from occasional sloppy procedures and over-charging to systemic criminal activities and truly large-scale fraud.

Those who dismiss this as a non-issue typically have a very expensive issue about which they are just wishfully ignorant. Those who have a clear approach without overly burdening their service agents can save a lot of money and simultaneously have a more satisfied and effective service network.

 

The SEC Chose Wisely in Goldman Case

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The SEC earlier today announced a civil suit against Goldman Sachs.  This act was the talk of Wall Street—the DJIA dropped 125 points, Goldman’s stock lost 12.6%, and CNBC broadcast a special evening show called “Fraud on the Street.”

The suit charges Goldman with not disclosing information. I won’t bother with the detail, you can read that in the above links—the point is, the charge is non-disclosure.

Now, that’s an interesting charge. It amounts to some form of misrepresentation. In the non-legal world, that’s generally known as lying. In that same world, the teenager defense of “I didn’t actually tell a lie, I just let you think what you thought” is considered a distinction without a difference.

The point is, the SEC chose to charge Goldman with something that’s not only illegal, but resonates easily with Main Street as also being unethical. Since the gap between the illegal and the unethical is one of the main casualties of the recent financial debacle, this is a welcome sign—a charge that re-unites the legal and the ethical.

The Spin–Red Herring Issues

Goldman itself responded that the charges are “completely unfounded in law and fact.” Look for a splitting hairs defense a la “it depends on what the meaning of the word ‘is’ is.”

Goldman and others make several arguments that are pointedly red herrings. One is that they didn’t do this transaction to short the market (non-responsive). Another is that the buyers of the CDOs were big boys, and should know what they were getting into (ditto). Another (by Goldman) is that they themselves lost money on the deal (again…).

The pro-Wall Streeters are not alone. NBC News led with “if the government is right, people all across the country are still paying the price for schemes like this that we’re only learning about this now.” Their commentator presented the charge as betting against a carefully constructed product; not the SEC charge. Lisa Myers said, “essentially Goldman Sachs is accused of helping rig the game against investors.” And Robert Reich said the real crime is not what was done illegally, but what was done legally. Fair point, but not a commentary on the crime. CNBC’s Erin Burnett tried to get commentators to say it was suspicious timing, to buttress financial legislation in Congress or to deflect press attention from the SEC’s shortcomings in the Stanford case. Again—not on point.

What the SEC Did Right

I’m no lawyer, but I’m guessing the SEC could have pursued many other charges. It chose to pursue this one—the legal equivalent of what laymen call ‘lying.’ Lying is the most trust-corroding thing that can be done. It not only ruins credibility, it casts motives into doubt. Lying kills trust.

A charge of failure to disclose is exactly the kind of charge a responsible regulator should be pursuing. It reunites the legal and the ethical—a casualty of Wall Street’s actions—and aims at restoring trust.

Greed is not illegal, though it may be unethical; ditto for fleecing one’s customers. But misrepresentation—or the near-equivalent of selective disclosure—is both.

Good for the SEC for taking this route.