Pardon me if I am not one of those who would rush to thank and congratulate Jamie Dimon and his other 180 CEO buddies of the Business Roundtable (BR) for having redefined the purpose of the corporation to recognize other stakeholders besides shareholders. My note to them would instead read: “What took you so long? Didn’t you learn anything in the august business schools where you got your MBAs?”
Okay, I admit we should not sneer when we see a good thing no matter how slow its coming has been. But the August 19, 2019 new statement on the purpose of the corporation adopted by 181 CEOs, members of the Business Roundtable, needs a lot of perspective. Echoing my own reaction to the statement, the letters to the editor of the NYT were highly critical, even cynical, of this belated change of heart by America’s corporate chieftains. So was WSJ’s opinion.
Why the BR statement is belated. The stakeholder theory (the idea that firms can attain better value for their shareholders by also serving their creditors, employees, customers, suppliers and community) is at least 30 years old. Theory and empirical evidence have made convincing arguments for its validity. Recent surveys have shown wide-spread acceptance among investors for environmental, social and governance (ESG) sustainability. Large institutional investors, in the US and abroad, have already embraced sustainable investment criteria. According to a Morgan Stanley paper, investors can now select socially responsible investments from assets worth $23 trillion globally! As of last year, 1,715 institutional investors (aka shareholders) that managed $81.7 trillion worth of assets had signed on the United Nations Principles for Responsible Investing. As a matter of fact, the main concern and effort of investors, as well as of corporate executives committed to responsible management, is to persuade all corporate managers to jump on the sustainability bandwagon. I would submit that instead of celebrating the BR statement as a moment of unique enlightenment, we should see it as a welcome, albeit belated, response to the pressure from investors, responsible CEOs, civic movements and politicians.
Why shareholder profits and sustainability are not incompatible. Multiple studies have found that business profits and sustainability goals are not a zero-sum choice. For example, a Harvard Business Review study found that over a 20-year period investing in firms with social sustainability policies would produce twice the profit the same amount would generate in firms without social sustainability policies. Another academic study found that firms with ESG sustainability policies achieved a 3% higher return on their stocks per year versus firms without such policies over a 20-year horizon. A large review of studies revealed that 80% of them had found a positive relationship between sustainability and business profits. Thus, the BR statement invites CEOs to do the right thing by their shareholders and the other stakeholders!
Why it is value and not profits that matter. Despite all the talk about maximizing short-term shareholder profits as the main goal of firms, academics and successful executives and investors recognize that the right goal is value, not profits. Value is built on the profits (and their uncertainty) a firm is expected to produce over the long run. Therefore, cutting corners with, say, employee benefits or protection of the environment for a short-term boost of profits does not fool the market. If short-term profits were the only thing that mattered, we would not have the billions of dollars poured into new business ideas – many with negative profitability for several years. Consider Genentech (an early biotech firm), Amazon, pharmaceutical start-ups and many more. Sustainability of all the stakeholders of a firm can produce long-term value even when implementing responsible policies may entail short-term costs. The bulk of invested capital is held by pension funds, insurance firms and index funds, all of which have long-term value objectives and are disinterested in the daily gyrations of the market for stocks and bonds. That’s another reason why these expansive and influential investors favor sustainability policies.
Why corporate governance can be at stake. Although welcome, the Business Roundtable statement can turn out to be problematic if CEOs abuse its intent. Disguising and misrepresenting subpar business performance to look like the result of pursuing the interests of other stakeholders could very easily weaken shareholder rights and CEO accountability. That’s why the Council of Institutional Investors gave the statement a cool reception and commented that “Accountability to everyone means accountability to no one.” In other words, our concern ought to be whether CEOs abuse their new sense of the purpose of the corporation to ignore long-term value creation as in the good old days of American managerialism. We should not be fooled in believing that CEOs are the victims of the demand for shareholder profits that supposedly denies them the means to be socially responsible. The evidence I cited shows that executives can run firms which are both profitable and socially responsible. And many do exactly that. Let’s remember that the excesses around 2001-2002 (Adelphia, Tyco, Enron, Worldcom, etc.) were caused by the greed of executives which destroyed value and whole firms laying waste to the investments and livelihoods of countless shareholders, creditors and employees who had no active role in these criminal or unethical decisions. Similarly, the debacle of 2008 had little to do with long-run shareholder value and a lot with imprudent executive decisions and perverse incentives that emphasized immediate gains and ignored risks. To run a firm with a ratio of $33 dollars of debt for each dollar of equity, as Lehman Bros. and other financial firms did, was not a sustainable policy that favored the shareholders.
What was omitted from the statement. The new statement of the BR would carry more credibility if it were not silent on various major issues of our times. It should have shown concern for the absurdly high ratios of CEO compensation to median employee salaries; the persistent aversion to labor unions; the resistance to a livable minimum wage; the disappearance of adequate pension systems. The BR CEOs should also call for the restructuring of America’s corporate boards by decoupling the roles of CEO and chairman of the board that places inordinate power and control in the CEO’s hands.
Finally, as I have written in previous posts, the responsibility of steering corporations toward socially beneficial goals rests primarily on us. The marketplace gives us the opportunity and power to entrust our savings and investments with wealth managers that follow ESG sustainability criteria and to patronize firms whose operations reflect our values. Politicians can do a lot through laws and regulations but it is ultimately the citizens’ responsibility to set the course toward a responsible and socially fair economic and business environment.
Below I provide links to some related posts you can find on my blog:
https://lets-reason.com/2019/01/19/managers-and-shareholder-culture-part-i/
https://lets-reason.com/2019/01/25/the-purpose-of-the-firm-confusion-and-challenges/
https://lets-reason.com/2019/04/12/business-ethics-markets-and-personal-responsibility/
Let's Reason 