Up at the Peace Bridge crossing that links Canada and the U.S. at Niagara Falls,
they're almost thankful for an economic slowdown. It has helped reduce truck
traffic by some 13% over the past several months. That, combined with a 30%
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reduction in tourism traffic between the two countries, has helped ease the
miles-long lines of trucks waiting for inspections and customs clearance at the
U.S. point of entry–a consequence of the federal crackdown following the Sept.
11 attacks on New York and Washington. That said, the added security efforts at
the Canadian and Mexican borders still have truckers idling their engines and
cooling their heels for hours, while Customs Service officers sift through their
cargo. The trucking industry is asking Congress to approve a tripling in the
number of customs inspectors, but that will take time–and money. Meanwhile,
companies dependent upon plants in Mexico and Canada for components and supplies
are starting to contemplate building up bigger inventories or even shifting to
domestic suppliers. Both potential precautionary measures suggest one thing: The
cost of doing business may rise.
What
makes higher costs and shrinking margins only possibilities is the recession
that began six months before the devastating terrorist attacks against New
York's World Trade Center and the Pentagon. The economic slowdown has put
companies in the position of needing fewer parts anyway. If the assault had
taken place at the height of economic activity–say, in either 1999 or
2000–the costs of new security necessary to keep even somewhat tempered demand
satiated would have almost assuredly been inflationary or at the very least put
pressure on operating margins if prices could not be hiked accordingly.
Bottom
Line Hits
So
there may be a small silver lining to an otherwise jet black cloud. But the
current downturn does not mean that the Sept. 11 tragedy and the subsequent
recognition that more attacks are possible will not eventually affect corporate
bottom lines in ways other than simply exacerbating the recession. Talk to
executives nationwide, and the conclusion is clear: Recession angst may
presently supercede the increasingly distant anguish Americans felt as they
watched two Boeing jumbo jets turn deliberately into the Twin Towers, but
priorities are changing to favor spending on heightened security. It would be
hard to find a company that has not already begun at least investigating what
kinds of security expenditures may ultimately be necessary to protect business
as usual. The unanswered question: When will they start such spending in
earnest, given the current round of corporate belt-tightening. "At the moment,
executives see it as nuisance spending, something that will eat into
productivity," says Abraham Gulkowitz, chief global strategist for Deutsche
Bank. "But eventually security matters will end up as part of the valuation
quotient for companies, just the way good environmental practices are today but
weren't a decade ago."
If
that is the case, then the next question the thoughtful chief financial officer
must ask is: How much security is too much and how much is too little? The
answers are not easy–and corporations have felt burned before by hysterical
warnings about the impending Y2K doom. "On net, over the next year, we think
additional costs for security-related things will run about 1.5% of GDP," says
David Wyss, chief economist at Standard & Poor's. That, of course, is
assuming no further terrorist attacks. "Although about half of that spending
will end up being borne by government–like much of the $15 billion in airline
assistance money–that's still a lot of money that will be spent by
business." Indeed, in a $10-trillion national economy, it represents a roughly
$75-billion security bill for the private sector. And even the government's
share represents an indirect cost to both the individual and corporate taxpayer
in the form of increased taxes, Wyss points out.
'Higher
Perception of Risk'
Wyss
and other economists predict that these higher business security expenditures
will fall essentially into three categories: operating costs for increased
security personnel; capital spending for improved security facilities, such as
changes in buildings, air ducts and scanning equipment; and finally charges from
security-related alterations to operations, such as increased inventory costs,
higher travel and transportation costs and the need for more back-up systems.
Many of these will not be one-off expenses, but will represent higher operating
costs that will continue indefinitely and for the most part will not translate
immediately into increases in productivity. "Over time, if terrorism becomes
more common in the U.S., there will be a heightened perception of risk, and this
will mean higher costs in every transaction we make," says Alberto Abadie, a
scholar at Harvard University's Kennedy School of Government, who recently
completed a study of the terror-plagued Basque region of Spain. He concludes
that there will be a "measurable impact" on GDP as well as on corporate
profits. Peter Navarro, an associate professor of business and government at the
University of California at Irvine's Graduate School of Management, claims
that the costs of terrorism–from loss of business, to cleanup and repair, to
protection against future attacks–will be hundreds of billions of dollars and
could even surpass $1 trillion, depending upon the policy choices that are made
in the coming year. Basing his comments on a just completed study on terrorism
for the Milken Institute, Navarro says the hardest-hit industries will be
advertising, airlines, lodging, tourism and insurance. Just in the immediate
aftermath of the attacks, he notes, the losses to the economy reached close to
$50 billion.
At
the company level, Navarro says financial executives will need to face what he
calls "the productive capital versus protective capital trade-off issue." In
other words, "remember as you drive down risks to zero, the costs go to
infinity," he explains. "You have to find the point where the risks and the
costs are acceptable, while also meeting your legal liability–which adds to
the difficulty of the decision."
The
Spending Begins
At
Microsoft Corp.–no doubt, a relatively visible potential target–the spending
on increased security has already begun in earnest. According to CFO John
Connors, the Internet and software giant will commit as much as $15 million in
the current fiscal year, which ends on June 30. On the list of expenditures:
increased security coverage for Microsoft facilities in general with a
particular emphasis on operations at and near the Redmond, Wash., headquarters;
expanded protection for the company's top executives, plus a widening of
coverage to less senior managers and creation of a centralized mail facility
that now monitors and actually opens every piece of mail directed to Microsoft
or a Microsoft employee.
"Basically
in the post-9/11 period, we have established a small working group led by the
CIO," Connors says. "He presented a set of recommendations to the president,
who notified the whole company. We have invested in disaster recovery plans and
a detailed communication program for reaching all our employees. And we have
really tried to heighten awareness of the responsibility our employees have,
individually and in groups, to have a more pervasive mentality about recognizing
risk."
Dangers
of Nickle-And-Diming
Microsoft
is in a select group that has responded with substantial action instead of just
talk. To date, most companies have only committed to what Navarro calls stop-gap
measures, such as hiring more security guards or more intense monitoring of
employee IDs.
But
not all precautions need be costly. Take Kindred Healthcare, a hospital and
nursing home operator. "We've always been very security conscious," says
Leo Hauber, director of corporate facilities. "What we've done differently
since 9/11 and the anthrax letters is to install an OEanthrax button.' This
ties into a management control system, and by itself can shut down the entire
air control system." The company has also stepped up monitoring of its loading
dock area, a vulnerable part of most buildings, which the company had ignored in
the past.
For
now, the 9/11 assaults have put the nation's business leaders on edge, hence
the episodic nature of spending so far. "Executives have not yet made up their
minds what they're going to do in the long run," agrees Howard Kunreuther, a
professor of financial management at the University of Pennsylvania's Wharton
School of Business. "So far, they've just been putting out fires."
Cautions S&P's Wyss: "My biggest concern is that companies will
nickel-and-dime this." In fact, some companies are already paying for a
penny-wise, pound-foolish approach to risk. Robert Hartwig, an economist with
the Insurance Information Institute, notes that an industry survey shows that
12% of the businesses hit by the shutdown of lower Manhattan after Sept. 11 had
no insurance coverage. Even of the 88% of businesses that had insurance, he
says, many were caught short. "Some had property insurance, but not inventory
insurance, or they had liability insurance, but not business continuity
insurance." He says that in view of the terrorist attacks, insurance
costs–calculated broadly to include premiums, deductibles, co-insurance and
self-insurance–will rise 30% to 35%. That's a cost that will then continue
in the years to come. "The impact of that increase," he says, "will be to
reduce S&P net income by 2% to 2.5%." Of course, that's if companies can
get insurance. The insurance industry has been balking at providing terrorism
protection after seeing what terrorists are capable of doing, and even if the
government mandates such protection and provides caps and guarantees to the
industry, the premium costs could prove astronomical for some firms.
Rethinking
Just-In-Time
Meanwhile,
companies are also considering ways operations should be altered to protect
against business interruption. Reliance on just-in-time inventory–a major
factor in American business's drive to remain competitive in a global
economy–is now a problem, says Awi Federgruen, senior vice dean of the
Columbia University Business School and a professor of management.
This
is particularly so with many major industries–most notably automotive
companies–dependent upon cross-border suppliers. "A lot of things are being
considered," Federgruen says. "It's hard to say how many companies will
end up opting for larger inventories, and how many will shift their outsourcing
to domestic suppliers, but either way the costs will be enormous." The
implications of such changes, he warns, could be profound. "Just-in-time
inventory management has, for many companies, meant the difference between being
profitable and not being profitable."
To
cut cross-border trade costs for business and government, Federgruen expects to
see the development of an extensive computer-based system of point-of-origin
monitoring of international shipments "where every item on a truck or ship is
tracked in real time, the way they do at Federal Express." He says that such a
system, if it allowed shippers to get waved through at border crossings, would
become a business imperative to remain competitive.
Positive
Contribution
Ultimately,
some economists and security experts foresee a day when security-related
spending by companies may come to be seen in the U.S. as a positive contributor
to its overall corporate valuation, much in the same way the thinking has been
revised about the importance of spending on worker safety, environmental
protection and even health benefits in recent years. "Back in the 1970s and
early 1980s, safety, for instance, was seen as just a business overhead
expense," says John McCarthy, senior manager of risk discovery services at
KMPG. "Now, most savvy business executives have done a 180-degree turn and say
safety is a good business investment that should be built into the system up
front. Security should be the same."
McCarthy
adds that finance and treasury executives will play a key role in any such
paradigm shift. "Finance and treasury are the two parts of a business where
risk is understood," he explains. "The guys who handle money and business
intelligence have always had to deal with risk, and so that's where you find
good controls. What 9/11 has done is provide a leave to focus on the risks to
other parts of the business."
Of
course, the entire equation changes with another sizable terrorist attack,
particularly involving biological or chemical weapons, which some experts say is
a distinct possibility. "If that happens, expect to see the dithering and
talking turn into major spending," says L. Paul Bremer, CEO of Marsh Crisis
Consulting and former ambassador for counter-terrorism. At that point, experts
like Bremer say it would be important for risk managers to think clearly about
what is needed and what isn't. "I think the way for executives to figure out
what is worth doing is to contemplate what the potential downside is of doing
nothing." And he says that can get personal. "What is at stake in a crisis
and how a company handles it is the brand of the company–and the brand of the
CEO."
HEIGHTENED
SECURITY MAKES BIOMETRIC IDS LESS OF A LUXURY
Imagine
this: You go to the airport for a business trip. At the check-in counter, the
clerk has you look into a digital retina scanner. Then, as you head for your
gate, you are waved through while dozens of other people are lined up at the
security checkpoint.
Science
fiction? If DataTreasury Corp., a Melville, N.Y.-based biometrics firm, has its
way, digital identification–and tracking–of people will become commonplace
at airports, railway stations and corporate offices in a new security-conscious
world. Such IDs can rely on retina scans, more conventional fingerprint checks
and even facial recognition. Talk about being in the right place at the right
time! Since it was founded in 1998, DataTreasury, primarily working in the check
fraud business, has been trying to sell companies and government organizations
on the idea of a global identity management system, but with little success.
"People just weren't interested," says Claudio Ballard, chairman and CEO
of DataTreasury. "But now security is at the top of people's agenda."
Cheaper
Than Smart Cards
Ballard
says that his firm's patented global identity monitoring system, which
provides for a centralized encrypted computer record of each identified
subscriber, could provide a secure identification for each employee in a company
at a cost of about $5 per month per employee. "That's a lot cheaper than
paying for thousands of smart cards or ID cards, and having guards at every
entrance to your buildings," he says. He notes that the cost of a biometric
reader is just $1,000 to $2,000 per location.
The
company has several corporate customers already and hopes to secure contracts
with several airports in 2002. In December, DataTreasury put on a public
demonstration of its system at MacArthur-Islip Airport on Long Island, N.Y.
"People have suggested that security concerns will fall off over time,"
Ballard says. "But the impact of 9/11 was so profound, I don't think it will
happen.
-D.L.
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