[Part 1 includes links to President Clinton's comments on a number of topics; Part 2 was focused on his comments on Greece, the Euro and the financial crisis in Europe; Part 2A and Part 2B were focused on food security - the role of commodity market speculation & corn-ethanol conversion on food prices and sustainable agriculture]
The focus of this post is President Clinton's observations on the role of shared value vs. shareholder value when it comes to corporations, their impact on society and job creation.
The key takeaways from this post are the following:
a) President Clinton strongly endorsed the need for U.S. businesses to focus on shared value as opposed to merely shareholder value, in order to be successful in the long-term and create more jobs in the US. According to Michael Porter and Mark Kramer, the "principle of shared value...involves creating economic value in a way that also creates value for society by addressing its needs and challenges." [Section 1]
b) Shared value does not refer to "corporate social responsibility" but a very different way to shape and run a business which recognizes that societal and environmental impact should not be viewed as externalities for firms but rather as key factors that shape business strategy and practices. As Porter and Kramer have illustrated with examples, if this is done correctly, perceived "harms and constraints [do] not necessarily raise costs for firms, because they can innovate through using new technologies, operating methods, and management approaches—and as a result, increase their productivity and expand their markets." [Section 2]
c) There are many examples of firms that are achieving great success by focusing first on key stakeholders other than shareholders, e.g., Apple, which has become one of the most successful companies in the world with a focus first on customers, rather than shareholders. [Section 2]
d) There is growing recognition, as was particularly evident from some of the CGI panel discussions [Section 3], that:
- Corporations should focus on creating shared value and be given the legal flexibility to operate as such - e.g., via the creation of a new corporate legal entity called a benefit corporation
- A pure focus on profit is not necessarily likely to lead to long-term success or profitability - e.g., the massive collapse of financial companies worldwide recently, given financial companies perhaps more than any other class of companies, are ostensibly focused solely on financial profitability
- Free market principles by themselves do not allow for optimal outcomes at the level of individual countries; country-level strategies require the cooperation of public, private and non-profit entities.
In the following sections, I'll explore the above points in greater detail.
Given the political situation here, there are a couple of themes with CGI which I’d like to ask you about. One was, one was the general theme of public-private partnerships to create jobs. The other one was this interesting panel yesterday on the notion of impact investing and the creation of B-Corps or Benefit Corporations….if I may, I’d like to set the context for my question. Given the political situation and the difficulty in having government really get involved in stimulating the economy in any meaningful way to create jobs, companies, I think are sort of in a situation where, you have some companies that are looking at a weak economy and saying well I don’t want to take a chance and erode profits by hiring people, there are others who, even if they would like to hire, they’re faced with ‘hey, what if my competitor doesn’t hire, they’re more profitable, and investors go to them’, and increasingly, you have a lot of companies, and particularly in the tech sector which I work in, have very strong competition in Asia. Highly skilled workers, who can do just about everything that workers here can do, it’s no longer just hey, low skilled workers are going, you know jobs are going there, it’s even highly skilled workers. So, in that environment, do you see the ability of CGI and the efforts that you’re driving, to push companies in both ways. One is encourage more and more, especially CGI members, to go in the direction of B-corps, where they’re not just focused on profits, but also social good, and number two, where you have local governments that are more sympathetic to public good and investment, find targeted ways to get some of these companies engaged with them more on these public-private partnerships.
Here are the key points in President Clinton's response. I've emphasized some portions in bold and the sections where my recording was either unclear or ambiguous are shown with [???]:
President Clinton: On the social impact investing, if I run a company that’s mine or I run it on behalf of five investors, I can make a decision that it’s OK with me to net out an annual return of 5% because it’s not costing me anything to run this company and I didn’t do it to get rich, I did it to create common [good ???]…I can make that decision. If you run a publicly-held company, you can, you have to be more sophisticated about it, because of all the things you understand very well, the pressures of quarterly returns etc. I recommend to all of you an article that was the lead article in the Harvard Business Journal [President Clinton appears to be referring to this article in Harvard Business Review] sometime in the last three months by Prof. Michael Porter and another colleague of his [Mark Kramer]. It says we should change the business model not just for privately held companies but for publicly-held ones away from quick increases in stock valuation to creating long-term shared value, that in other words, impact investing instead of being called corporate social responsibility should be integrated into the business strategy. And basically what they’re calling for is going back to the concept of the corporation which governed everybody’s law school and business school education from the Great Depression till about the mid-70s which was that corporations should be run for the benefit of their stakeholders, they [don’t get ???] special breaks from the government and they owe an obligation to the stakeholders – their shareholders and their employees, their customers and the communities of which they’re a part of. It’s only been for the last 30 years, at the same time we went into this anti-Government [???] that we’ve developed an idea that corporations only owed something to the shareholders. Keep in mind, given the technology which also made your work possible, the necessary consequence of that was to give the greatest influence over corporations’ decision-making to the group which had the smallest interest in its long-term success and its biggest interest in its short-term profitability. So, what you are saying, the real answer to your question sir, is that...society is groaning and groping around for a way to not abandon the profit model - and not to say that the government is always right - if you look at the Solyndra thing, the real thing there is the tax credits and the...clean energy standards and things like carbon taxes or cap-and-trade or anything that sets and defines the market, is easier to make work, than one where I say you get a loan guarantee or you don’t, even though I completely understand what happened.
At that point President Clinton talked a bit about the solar industry, Chinese stimulus and silicon prices before returning to make these final points:
President Clinton: But the larger point is...it’s always going to be easier for government to make markets, to pick winners and losers, but I think that part of the markets making, to go back to your impact investment, should be designed to create more a mentality of shared value, instead of just shareholder value. Shared value is much more sustainable and it will over time tend to limit some of the short-termism. Now, one final point. An 83-year old man, who is a Republican, named John Bogle, who developed the indexed mutual fund, wrote a book last year; he’s a friend of mine…full disclosure [???]…I was so excited I wrote the introduction to his book…Bogle’s made all this money, he’s a Republican guy, he says – this is crazy, we’re taking too much out, putting too much in, finance is an intermediary function, you can never have finance grow more than the underlying economy and what we should do is to set up systems where people who do what I did all my life: make money by contributing more to long-term growth and less to short-term stock swap. I urge you to look at it, you can read this book in an hour. [The book he was referring to appears to be "Enough: True Measures of Money, Business, and Life" which has a foreword by President Clinton.]
To better understand the notion of shared value, we first turn to the Michael Porter/Mark Kramer piece in HBR titled "Creating Shared Value":
A big part of the problem lies with companies themselves, which remain trapped in an outdated approach to value creation that has emerged over the past few decades. They continue to view value creation narrowly, optimizing short-term financial performance in a bubble while missing the most important customer needs and ignoring the broader influences that determine their longer-term success. How else could companies overlook the well-being of their customers, the depletion of natural resources vital to their businesses, the viability of key suppliers, or the economic distress of the communities in which they produce and sell? How else could companies think that simply shifting activities to locations with ever lower wages was a sustainable “solution” to competitive challenges? Government and civil society have often exacerbated the problem by attempting to address social weaknesses at the expense of business. The presumed trade-offs between economic efficiency and social progress have been institutionalized in decades of policy choices.
Companies must take the lead in bringing business and society back together. The recognition is there among sophisticated business and thought leaders, and promising elements of a new model are emerging. Yet we still lack an overall framework for guiding these efforts, and most companies remain stuck in a “social responsibility” mind-set in which societal issues are at the periphery, not the core.
The solution lies in the principle of shared value, which involves creating economic value in a way that also creates value for society by addressing its needs and challenges. Businesses must reconnect company success with social progress. Shared value is not social responsibility, philanthropy, or even sustainability, but a new way to achieve economic success. It is not on the margin of what companies do but at the center. We believe that it can give rise to the next major transformation of business thinking.
...Yet our recognition of the transformative power of shared value is still in its genesis. Realizing it will require leaders and managers to develop new skills and knowledge—such as a far deeper appreciation of societal needs, a greater understanding of the true bases of company productivity, and the ability to collaborate across profit/nonprofit boundaries. And government must learn how to regulate in ways that enable shared value rather than work against it.
The purpose of the corporation must be redefined as creating shared value, not just profit per se. This will drive the next wave of innovation and productivity growth in the global economy. It will also reshape capitalism and its relationship to society.
Porter and Kramer identify how societal impacts and externalities have often been relegated to governments/NGOs and companies therefore keep looking for ways to avoid tackling those issues:
Business and society have been pitted against each other for too long. That is in part because economists have legitimized the idea that to provide societal benefits, companies must temper their economic success. In neoclassical thinking, a requirement for social improvement—such as safety or hiring the disabled—imposes a constraint on the corporation. Adding a constraint to a firm that is already maximizing profits, says the theory, will inevitably raise costs and reduce those profits.
A related concept, with the same conclusion, is the notion of externalities. Externalities arise when firms create social costs that they do not have to bear, such as pollution. Thus, society must impose taxes, regulations, and penalties so that firms “internalize” these externalities—a belief influencing many government policy decisions.
This perspective has also shaped the strategies of firms themselves, which have largely excluded social and environmental considerations from their economic thinking. Firms have taken the broader context in which they do business as a given and resisted regulatory standards as invariably contrary to their interests. Solving social problems has been ceded to governments and to NGOs. Corporate responsibility programs—a reaction to external pressure—have emerged largely to improve firms’ reputations and are treated as a necessary expense. Anything more is seen by many as an irresponsible use of shareholders’ money. Governments, for their part, have often regulated in a way that makes shared value more difficult to achieve. Implicitly, each side has assumed that the other is an obstacle to pursuing its goals and acted accordingly.
They provide examples to illustrate what they mean by shared value:
The concept of shared value, in contrast, recognizes that societal needs, not just conventional economic needs, define markets. It also recognizes that social harms or weaknesses frequently create internal costs for firms—such as wasted energy or raw materials, costly accidents, and the need for remedial training to compensate for inadequacies in education. And addressing societal harms and constraints does not necessarily raise costs for firms, because they can innovate through using new technologies, operating methods, and management approaches—and as a result, increase their productivity and expand their markets.
Shared value, then, is not about personal values. Nor is it about “sharing” the value already created by firms—a redistribution approach. Instead, it is about expanding the total pool of economic and social value. A good example of this difference in perspective is the fair trade movement in purchasing. Fair trade aims to increase the proportion of revenue that goes to poor farmers by paying them higher prices for the same crops. Though this may be a noble sentiment, fair trade is mostly about redistribution rather than expanding the overall amount of value created. A shared value perspective, instead, focuses on improving growing techniques and strengthening the local cluster of supporting suppliers and other institutions in order to increase farmers’ efficiency, yields, product quality, and sustainability. This leads to a bigger pie of revenue and profits that benefits both farmers and the companies that buy from them. Early studies of cocoa farmers in the Côte d’Ivoire, for instance, suggest that while fair trade can increase farmers’ incomes by 10% to 20%, shared value investments can raise their incomes by more than 300%.
[NOTE: The above example ties in well to the topic of sustainable food production that I discussed in an earlier post.]
The authors then discuss how that the current view of corporations and their fiduciary responsibility to shareholders is a recent phenomenon:
In the old, narrow view of capitalism, business contributes to society by making a profit, which supports employment, wages, purchases, investments, and taxes. Conducting business as usual is sufficient social benefit. A firm is largely a self-contained entity, and social or community issues fall outside its proper scope. (This is the argument advanced persuasively by Milton Friedman in his critique of the whole notion of corporate social responsibility.)
This perspective has permeated management thinking for the past two decades. Firms focused on enticing consumers to buy more and more of their products. Facing growing competition and shorter-term performance pressures from shareholders, managers resorted to waves of restructuring, personnel reductions, and relocation to lower-cost regions, while leveraging balance sheets to return capital to investors. The results were often commoditization, price competition, little true innovation, slow organic growth, and no clear competitive advantage.
In this kind of competition, the communities in which companies operate perceive little benefit even as profits rise. Instead, they perceive that profits come at their expense, an impression that has become even stronger in the current economic recovery, in which rising earnings have done little to offset high unemployment, local business distress, and severe pressures on community services.
It was not always this way. The best companies once took on a broad range of roles in meeting the needs of workers, communities, and supporting businesses. As other social institutions appeared on the scene, however, these roles fell away or were delegated. Shortening investor time horizons began to narrow thinking about appropriate investments. As the vertically integrated firm gave way to greater reliance on outside vendors, outsourcing and offshoring weakened the connection between firms and their communities. As firms moved disparate activities to more and more locations, they often lost touch with any location. Indeed, many companies no longer recognize a home—but see themselves as “global” companies.
These transformations drove major progress in economic efficiency. However, something profoundly important was lost in the process, as more-fundamental opportunities for value creation were missed. The scope of strategic thinking contracted.
They also examine in some detail how companies can implement a focus on shared value. For instance:
For a company, the starting point for creating this kind of shared value is to identify all the societal needs, benefits, and harms that are or could be embodied in the firm’s products. The opportunities are not static; they change constantly as technology evolves, economies develop, and societal priorities shift. An ongoing exploration of societal needs will lead companies to discover new opportunities for differentiation and repositioning in traditional markets, and to recognize the potential of new markets they previously overlooked.
Meeting needs in underserved markets often requires redesigned products or different distribution methods. These requirements can trigger fundamental innovations that also have application in traditional markets.
Their entire article is worth reading as they explore various aspects of how to drive shared value as a business.
Talking of shared vs. shareholder value and the role of corporations, there are a number of other articles from HBR worth a look.
a) David Weinberger's response in "Shared Value vs. Don't Be Evil" is worth reading as well.
b) In "Steve Jobs and the Purpose of the Corporation" Ben Heineman Jr. points out the deleterious impact of short-termism and uses the example of Apple to point out that Apple's #1 focus under Steve Jobs was the customer, not shareholders per se:
And, of course, Steve Jobs. Without repeating the hundreds of thousands of words written about Jobs and Apple since his death, there can be no question that his deep commitment was to make innovative, robust and beautiful products that delighted customers. He took the time necessary to meet his own exacting standards. He spent extra funds to ensure that the product was right (replacing plastic with glass on the iPhone, for example). He believed deeply in his own capacity to define new products that customers didn't even know they wanted, in the process overturning other real markets in, for example, personal computers, music, cell phones, tablet computing and animated movies.
At least in my view, there can also be no question that Jobs was not focused on shareholders or taking short-cuts or short-term actions to maximize shareholder value. Apple has paid no dividends since 1995. It hasn't used leverage. It holds $76 billion in cash with nary a thought of a buy-back. It is hard to argue that fundamental business decisions were driven by stock options (although there is the issue of options back-dating in the debit column).
Obviously, Apple shareholders have done just fine, with Apple and ExxonMobil today changing places back and forth as the U.S. company with the highest market cap. Yet this has been a long process of product design, introduction and success.
c) In his book "Employees First, Customers Second", CEO of HCL Technologies argues that putting employees first is essential to the success of customers and the business. This is a theme that is also in Kenneth Freeman's piece in HBR titled "To Create Long-term Shareholder Value, Start with Employees"
d) HBR's CEO Forum has a number of other articles focused on shared value and long-term shareholder value. Many of these are worth reading - in particular:
- Heerad Sabeti's post "To Reform Capitalism, CEOs Should Champion Structural Reforms" which includes discussion on benefit corporations
- Starbucks CEO Howard Schultz article "Invest in Communities to Advance Capitalism"
- Roger Martin on "CEOs Must Model the Behavior for Creating Societal Value"
For additional context on the topic of shared value, it's worth watching some of the CGI 2011 sessions. For instance:
- "Sustainable Consumption: Redefining Business As Usual" - the participants were Gro Harlem Brundtland (Former PM of Norway), Bob Diamond (CEO of Barclays), Viviane Victorine Kinyaga (Director, Desert Research Foundation of Namibia), Indra Nooyi (Chairman and CEO of PepsiCo) and Paul Polman (CEO of Unilever).
- "Game-changing Innovation: Technologies for Building Social and Economic Value" - the participants were John Chambers (Chairman and CEO of Cisco), Tarja K. Halonen (President of Finland), Andrew Liveris (Chairman and CEO of Dow Chemical), Bob McDonald (Chairman & CEO of Procter & Gamble), Judith Rodin (President of The Rockefeller Foundation) and Wale Tinubu (CEO and Managing Director of the Oando PLC Group).
- "Financing Inclusive Jobs: Impact Investing and the Triple Bottom Line" - the participants were Sanjiv Ahuja (Chairman and CEO of LightSquared), Adam Davidson (Co-founder and Co-host of NPR's Planet Money), Cheryl Dorsey (President of Echoing Green), Andrew Kassoy (Co-founder of B Lab), and Christina Leijonhufvud (Head of Social Finance at JPMorgan Chase).
The session on Financing Inclusive Jobs was perhaps the most interesting since Adam Davidson played the role of a very skeptical moderator, challenging the notion that a company founded on principles other than maximizing profitability is likely to be successful long-term in the marketplace, where they compete with others focused on profit maximization. Andrew Kassoy of B-Lab was perhaps the most vocal in rebutting this conventional wisdom by pointing out that financial companies essentially destroyed themselves and the world economy, killing trillions of dollars of value in the process quite recently and they were prime examples of companies focused primarily on maximizing profit - i.e., short-term profit. The message was that a pure focus on profits does not necessarily result in long-term profitability or success. Another comment during the panel discussion was that many businesses reach a steady state or "equilibrium" of profitability where further revenue and profit growth is not necessarily required for continued success - and that one should be able to run a business with broader goals that allow profitability to be one of the key objectives but not the only one. Thirdly, it was noted that there is a continuum between a pure non-profit (philanthropic organization) and a traditional for-profit corporation and there's no reason not to have the flexibility to create entities that sit somewhere in between - and can do so legally, without being constrained with a fiduciary requirement of focusing solely on maximizing profit. It is precisely that kind of intermediate entity that B-Lab and others are pioneering - called a Benefit Corporation or B-Corp. You can find quite a bit of information on B-Lab's website, but here are some salient points they call out regarding the entity called Benefit Corporation:
What is a Benefit Corporation?
- Benefit Corporation is a new class of corporation that 1) has a corporate purpose to create a material positive impact on society and the environment; 2) redefines fiduciary duty to require consideration of non-financial interests when making decision; and 3) reports on its overall social and environmental performance using recognized third party standards.
- Maryland, Vermont, New Jersey, and Virginia are the first four states in the nation to pass Benefit Corp legislation, giving entrepreneurs and investors an additional choice when determining which corporate form is most suitable to achieve their objectives. Legislation is also moving forward in 2011 in New York, Pennsylvania, Michigan, North Carolina, California, and Hawaii. [In another part of their website, they mention the fact that B-Corp style legislation has now passed in California and Hawaii - see, for example AB361 in California]
How would becoming a Benefit Corp benefit my business?
- Provides clarity to directors and officers that their fiduciary duty includes pursuing the creation of a material positive impact on society and the environment, even in liquidity scenarios;
- Offers legal protection to directors and officers to consider the non-financial interests of the workforce, community, and environment when making decisions, even in liquidity scenarios;
- Increases accountability to investors by 1) expanding shareholder rights to enforce this expanded definition of fiduciary duty and standard of consideration; and 2) requiring a 2/3 majority vote of shareholders to remove these higher standards;
- Differentiates the company in a confusing marketplace in which everyone is claiming to be a responsible or green business;
- Makes it easier to become a Certified B Corporation and thus able to benefit from a portfolio of Service Partnerships which are currently saving companies $1MM/year
B-Lab points out that a growing list of small businesses have now incorporated as B-Corporations in the U.S.
A few other related observations from the above CGI panel discussions:
- Unilever CEO Paul Polman, in the discussion on redefining business as usual to drive sustainability, remarked that in today's social media environment, the people in Egypt were able to bring down their government in "17 days" and as consumers could bring Unilever down in "nanoseconds" if, as a company, they are not sensitive to their impacts on society
- Dow Chemical CEO Andrew Liveris, who has been
vocal about the need for a manufacturing renaissance in the U.S., made
several noteworthy comments:
- The need for "inclusive democracy" through a "golden triangle" of public (government), private (business), and non-profit (NGO) partnership
- A world view has finally arrived where we need to value the planet
- It is challenging to run long cycle investments with a focus on public good when - you are measured on a quarter-by-quarter basis, some investors don't fully understand the notion of long-term value, and there is ten times more money going around the world (from an investment standpoint) than you can deal with
- "Poor people are poor, not stupid", i.e., it takes a certain level of creativity to survive when one is poor
Liveris has previously stated that while he is a supporter of free markets, we should recognize that free markets don't naturally allow for strategic decisions at a country level and that public policy and government need to step in to address that - "I would not let free markets rule without also addressing what I want manufacturing to be 20 or 30 years from now". That is very much aligned with what I wrote about a year ago:
What I believe is sorely missing in the US today is any kind of broad strategic thinking or position on the type of manufacturing leadership that we believe the U.S. should continue to have in order to preserve our leadership and security over the next 50 years - and - a vision on how we should concomitantly engage with governments and private enterprises to make that strategy a reality. In the absence of a strategic long-term view and any substantive broad-based dialog with the U.S. business community (not in the vein of political talking points, but in the spirit of driving American leadership through enlightened policy and deep engagement), dreams of re-building US manufacturing leadership will remain out of reach.
[...]I'm not going to be shy here and would go so far as to suggest that President Clinton should use CGI as a platform to initiate and drive a sustained, long-term collaboration with the US government, State governments and American business, labor and community leaders to:
- Establish a strategic framework for areas and functions where the U.S. should seek to have strong private sector leadership and American jobs for decades - in order to preserve long-term American security
- Define short-, medium- and long-term solutions that governments and the private sector will commit to over the next 2-20 years to lay the foundation for American leadership - which in turn will translate to a more robust American jobs market (NOTE: Even when we come out of the current weak economic situation, the long-term prospects for US economic and jobs growth looks pessimistic, as can be seen in this analysis from the Economic Cycle Research Institute)
- Continue an annual strategic dialogue at CGI, accompanied by CGI action networks and progress reports on commitments, such that there is persistent focus on this topic, outside of the traditional political realm
In summary, there is increasing recognition for rethinking the role of corporations and their need to engage all key stakeholders as part of their fiduciary responsibility - and a broader strategic focus within corporations, I believe, will also make it easier for the U.S. government to engage with businesses on strategic plans to drive long-term leadership and jobs in the U.S.